North American mergers and acquisitions this year will hit their lowest levels since 2003, according to the Institute of Mergers, Acquisitions and Alliances. The Zurich organization’s forecast of around 8,000 business acquisitions and mergers that are worth just over $1.5 trillion is about half the activity of a peak year like 2007.
Experts have many explanations for the M&A drought, including tight capital and lackluster economic growth. But one interesting potential reason is the bad reputation that acquiring seems to have gained.
For years, gurus ranging from academics to bestselling authors have decried business acquisitions as ego-driven indulgences that destroy shareholder value. In 2007, Boston Consulting Group studied more than 4,000 deals over two decades and found they generated a net loss of 1.2 percent.
Still, mergers and acquisitions clearly happen, even if not as frequently as in the past. Part of the reason may be that the critics are wrong. And expert opinions about mergers’ value do vary. One 2008 report on French acquisitions of U.S. firms found that 90 percent were successful.
A Tale Of Two Strategies
Experiences with M&A vary as well, from the super successful to the not-so-great. VivoPools, for instance, has reaped only benefits as it continues to buy other businesses as a key part of its growth strategy. Office Evolution, on the other hand, has sworn off most future acquisitions after a few bad buys.
In the three years since startup, VivoPools has bought 15 other swimming pool maintenance companies. Today, the Monrovia, California-based firm has 90 employees and operations in five states and no plans to stop acquiring. “It’s definitely going to be a big part of our growth going forward,” says Willan Johnson, the company's CEO and co-founder.
The flip side of the acquisition market is visible at Office Evolution, a Broomfield, Colorado-based virtual office space solutions company with eight locations and 25 employees. The decade-old company bought two other executive suite firms in 2008, but by the end of 2009, it had made deals with the firms' former owners to take them back. Now founder and president Mark Hemmeter plans to use franchising as a way to grow. “People think it’s easy to buy a business,” Hemmeter says. “It’s not easy.”
Both VivoPools and Office Evolution are good candidates for growth by acquisition because they operate in fragmented, moderate-growth niches. By combining small players into a larger enterprise, acquirers get access to new markets and can spread costs for technology, marketing and other systems across a bigger revenue base. That, at least, is the theory.
When Things Go Wrong
At Office Evolution, theory ran aground when the company faced problems integrating the technology and culture of the firms it had purchased. Hemmeter blames himself. “We were too cocky,” he says. “We thought we could take another operation and turn it into something it wasn’t. We probably overestimated our abilities in that regard.”
The hard costs of integrating billing systems and the soft costs of integrating people and cultures were both hurdles, Hemmeter notes. Both were tougher than expected, and the second was especially tricky. “Merging divergent cultures is harder,” Hemmeter says. “And it’s not something you can just spend money on and fix like you can with technology.”
Part of the problem, Hemmeter says, was that his company skimped on due diligence because the executives felt they knew how to run an executive suite business better than the people they were buying from. “We’ve learned our lesson,” he says now. “There are some smart people out there, and we’re not necessarily the smartest.”
Office Evolution currently has one franchise open with two more planned to open this year. Hemmeter likes the way franchise locations start from scratch with no need to integrate existing systems. And franchise owners are buying into his vision rather than cashing out on their own. “With franchising, you’re entering into an agreement with somebody to build a business together,” Hemmeter says. “That’s really helpful.”
Making A Splash
At VivoPools, Johnson decided organic growth—opening offices one at a time in new markets with no existing customers—couldn’t support the marketing and other systems he intended to build. “We felt we needed to use acquisitions to fuel our growth,” he says.
But the company did its homework to find other businesses that were a good fit with VivoPools’ strategy, people and corporate culture. “The culture and the people are the primary considerations,” Johnson says. VivoPools addresses a high-quality niche, and it’s critical that new employees and business models suit that level of service, he says.
The company's acquisition strategy involves buying firms in markets where VivoPools lacks a presence and where key cost items like labor and pool chemicals are affordable. Another criterion is moderate marketing costs. This well-thought-out plan led the firm to markets like Tucson, where the company made one of its early acquisitions—one that has since doubled its sales.
Johnson pays a lot of attention to due diligence. Only about one in 10 firms he looks over winds up being acquired. After the deal is done, Johnson focuses on integration, with particular emphasis on respecting the way things have been done at the acquired firm, while also recognizing the need to make some changes to conform with the VivoPools way of doing business.
“We like to find companies where we can keep somebody from the current team at a very senior level,” Johnson adds. “That’s the biggest challenge for us. We might find a company with great profitability that’s doing great, but it’s dependent on one person staying and that person doesn’t want to stay.”
A few of Johnson’s 15 buys have been problematic, usually because of people not fitting in. But he’s used those situations as learning experiences, rather than as warnings to avoid acquisitions. “We’ve quickly seen why some things have failed and then built that into our model so we don’t replicate that failure,” he says.
Although some acquisitions work and some don’t, this growth strategy isn't going away any time soon. In fact, it’s at least even odds that the currently depressed levels of M&A activity simply represent a low point (M&A activity overall has been lower than average for the past several years) and that buying other businesses is going to become more frequent in the not-too-distant future as this growth strategy becomes popular again.
Even twice-burned Office Evolution isn’t ruling it out. Hemmeter says some acquisitions, such as taking over an existing operation from a building owner who doesn’t want to be in that business, could make sense. But any move the company makes will be done very carefully. “When we do acquisitions in the future,” Hemmeter promises, “it’ll be very focused and strategic.”
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