How do some companies end up significantly outperforming the market? Here’s what our research discovered.
Together with the M&A Research Centre at Cass Business School, City University London we conducted two longitudinal studies of thousands of public companies to investigate two questions:
- Is there a proven relationship between shareholder value creation and M&A activity?
- Can we identify common M&A strategies to consistently outperform their peer group?
The answers we uncovered were clear and significant:
The first part of our research revealed that companies can outperform the market (as well as their competitors) when they apply a strategic approach to M&A portfolio management. These companies can deliver significantly higher adjusted total shareholder returns, or TSR, (compared to the market total return), usually when their program includes at least one acquisition per year and, if the company has been publicly listed for at least three years, 1-2 divestments every three years.
Frequent acquisitions were also key to outperforming the market. It effectively signaled that a company has both inorganic and organic components to their growth strategy. Young, newly listed public companies appear to only outperform the market when they announce a high frequency of acquisitions — six or more acquisitions during their first three years — and no divestments.
Older companies — those listed for more than three years — outperform the market through more frequent acquisitions, from 1 to 3.4 percentage points (p.p.) of adjusted TSR, depending on how many acquisitions they make in any year. Older companies were also found to outperform when making a limited frequency of divestments — by 2.9 p.p. when making 1-2 divestments every three years.
Think of this as pruning the garden occasionally to keep it healthy: Older companies need to adjust their portfolio of assets in order to optimize shareholder value. That can involve occasional divestments of businesses that don’t meet their cost of capital — or may have evolved to be of more value as part of another firm. In the process, this generates funds for more value-creating acquisitions.
(Learn more about Masters of the Deal: Part 1 – download the report here.)
Next, we tried to identify the common strategic attributes that the outperformer firms were using in M&A to maintain their leader position. Our goal was to determine which strategies were statistically significant contributors to their outperformance.
Here’s what we found:
- Bolder M&A strategies with greater execution risk — Thirty-eight percent of the value of all top performers were from cross-border acquisitions —versus 28 percent of the value of all acquisitions by other firms; top performers make four times as many hostile acquisitions as other firms.
- Faster deal completion — Thirty-three percent of all acquisitions and 33 percent of all divestments by top performers are slow to complete, versus 34 percent and 39 percent respectively for other firms.
- Greater engagement with financial sponsors and public companies — Top performers engage in a higher proportion of deals than other firms where the counterparty is a private equity (PE) firm or a public company.
- Greater use of all-cash consideration —Thirty-eight percent of the value of all acquisitions by top performers are all-cash, compared to 30 percent of the value of all acquisitions by other firms.
- Avoiding large, transformational acquisitions by undertaking smaller acquisitions, relative to their own size, than other firms — The average value of acquisitions by top performers is 0.18 times their own sales, versus 0.26 times their own sales for other firms.
- Making significantly more acquisitions than divestments — Top performers make 3.4 times as many acquisitions, by value, than divestments, compared to other firms that make, on average, the same value of acquisitions as divestments.
- Making significant timing adjustments to acquisitions and divestments to align with market conditions and take advantage of valuation opportunities — Top performers reduce the value of acquisitions relative to divestments during periods when M&A markets and valuation levels are increasingly strong, and they significantly increase the value of acquisitions relative to divestments immediately following sharp market downturns.
To gain more insights from the research that can help inform your corporate M&A strategy, download Masters of the Deal: Part 2 here.
How can we interpret these findings?
If you don’t already have a solid M&A strategy for your company, it’s time to get one to avoid underperformance. Once your company’s business portfolio has matured, ensure it remains healthy by considering frequent acquisitions and occasional divestment. Also consider cross-border (and even hostile) acquisitions.
Avoid very large “transformational” acquisitions that pose execution or integration risk, instead focusing on more reasonably sized “strategic” acquisitions that fill product, technology or market gaps in your company’s businesses. Streamline deal processes and maximize your use of resources through technology that can manage multiple acquisition opportunities and help close deals quickly. Intralinks can help here.
A combination of strategic M&A and organic growth can help drive outperformance. But excellence requires both risk and the ability to adjust M&A strategies according to market conditions and valuation opportunities presented by the economic climate at hand.