So the important job of the strategist is to try to determine in advance
if a particular acquisition is one that has high potential for growth and
value creation.
Or if it's an acquisition that is more likely to turn out to be problematic.
Now, at its heart the acquisition analysis Is essentially a cost-benefit analysis.
We're trying to understand if the potential strategic benefits
outweigh the potential costs associated with making that acquisition.
And it might be useful to think about an acquisition analysis essentially
like a math equation.
If we think about it and lay it out like an equation, this might be a way for
us conceptually to think about these different concepts.
So first of all, we can focus on the strategic benefit.
What is the strategic benefit of making this acquisition?
Well that benefit derives from both the independent value of that target firm and
also the value that acquiring that firm would add to the combined organization.
In other words, at the very least, the strategic benefit ought to at the least
be the independent value of the discounted cash flows of that business that we're
thinking of acquiring independent of whether it's acquired or not.
Is it a valuable business?
Is it profitable?
What do we think is working in that organization?
And that's something we can assess independently, but that's not enough.
We need to make sure that there's some additive value,
some integrative value by acquiring that organization.
And that there's some synergy or some complementarity or that there's some
benefit that acquiring them will bring to the combined organization.
In other other words the whole needs to add up
to more than just the sum of the parts.
So we need to think first of all about that strategic benefit,
then we need to think about the cost.
What's the biggest cost associated with an acquisition?
Usually it's the purchase price.
So we need to make sure and
be very careful that we get that purchase price exactly right.
And this is a stumbling block for many acquisitions.
Oftentimes, acquisitions fail primarily because the purchase price is too high,
and the acquiring firm overpays for the target.
And they're just simply never able to recover all of those costs and
get the associated value out of them.
So we have to be really careful about that purchase price,
make sure that it's not too high, make sure we're not over leveraged,
make sure that it fits into sort of our larger strategy.
And one of the important things we need to do as we do that is we need to consider
all of the costs of the acquisition, not just the purchase price, but
the potential future additional costs as well.
What are the costs of integration?
What are the costs of merging the cultures and putting these things together?
And we need to be willing to not only incur those costs in the future, but
we need to also be able to incur the negotiated purchase price that we've
arrived at.
If we're willing to incur all of those costs and we think we can achieve that
value added benefit from the acquisition, then it's worth considering proceeding.
But even that is not enough, the strategic benefit
minus the purchase price needs to add up to more than the opportunity cost.
In other words this is a key idea in business strategy, that we need to make
sure the strategy that we're pursuing is the best strategy we can pursue.
If it's obvious that there are some alternative strategies we could pursue
that have lower costs, lower risks, then we might want to think twice,
in this case about making the acquisition.
We might want to think about that opportunity cost more narrowly.
We might think about it in terms of the specific, strategic goal we have in mind.
Is there another way to achieve that goal?
Let's say we're trying to diversify.
We can do it by acquisition, but maybe we could do it by scaling our existing
operations or expanding our business in some other way to enter that new market.
Michael LenoxSenior Associate Dean and Chief Strategy Officer
Jared HarrisSamuel L. Slover Research Chair in Business Administration
