UK: GIVING DILIGENCE ITS DUE. - Takeovers can fall because full research is neglected.

Last Updated: 31 Aug 2010

Takeovers can fall because full research is neglected.

Any company that buys another is letting itself in for a long and expensive process of integration. What's more, there's a good chance it will not succeed. Numerous studies have shown that as many as 50% of all takeovers fail in the sense that performance of the combined businesses falls significantly short of expectations. A good number of these unproductive acquisitions are subsequently unwound. One reason is that businesses omit to give proper attention to commercial due diligence. Acquisitions are almost never completed without a process of financial due diligence. Legal and environmental investigations are also increasingly recognised as important in reducing risk. But a surprising number of executives are prepared to commit their companies without consciously studying the target's strengths and weaknesses where they matter most - in the market - with the aim of identifying problem areas and ensuring that there are no skeletons lurking in the cupboard. The process entails making discreet contact with customers, suppliers, competitors, and any others who may be in possession of useful information.

The classic example of neglect in this matter is Ferranti, which in 1987 made the mistake of acquiring International Signal & Control without validating the authenticity of certain claimed major contracts. The outcome was the demise, liquidation and break-up of a once highly respected British company. But the Ferranti case alerted many other companies to the danger.

The engineering group Beauford also suffered from ill-researched acquisitions, as the previous management secured businesses for paper - which helped to conceal realities that cash purchases might have exposed. Losses of £26 million pre-tax have since been turned into profits and, in the wake of capital reorganisation, chief executive Edward Duke is ready to begin making acquisitions again. 'We always undertake commercial due diligence before moving to an indicative offer, and before proceeding with financial due diligence,' he says.

Paul Lester, chief executive of the medical electronics and instrumentation group Graseby is another firm believer in commercial due diligence, and is prepared to commission it from specialists: 'Even in situations where we have a fair bit of market information concerning a prospective target, we will often supplement it with highly-focused third party advice.' Denzil Rankine, chief executive of Acquisition & Marketing Research (AMP), a strategic research consultancy that has been retained by Graseby for this purpose in the past, claims that 'commercial due diligence can make the difference between a successful acquisition and a costly failure - we have helped companies re-negotiate terms once commercial difficulties have been recognised, and we have stopped some potentially disastrous acquisitions from proceeding at all.' Certain businesses have good reason for maintaining that they don't need a detailed understanding of an acquisition's markets. Successful, financially-driven conglomerates like Hanson are content to focus on rigorous financial appraisal, and rely on instilling management disciplines once they have taken control. Nevertheless one former Hanson strategist believes that greater attention is being given to markets these days.

There are clearly occasions when commercial due diligence amounts to overkill: as when management knows the acquisition target intimately from long experience of competing or co-operating. But anything which minimises the risk of mistakes is worth acting upon.

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