It’s bad enough when a buyer pays too much for an acquisition. It’s far worse – possibly even fatal to the success of the deal – when the acquiring company goes on a crash diet and winds up overcorrecting for the overpayment. Launching a cost-cutting binge to recoup the excess in the purchase price is a common post-deal scenario, says management consulting firm Right Management Consultants, and it can steer the combination off track, perhaps permanently. By going ballistic, the acquirer upsets the perennial post-acquisition tension between slashing costs and funding growth and denies itself the resources required to meet value-creation objectives. In a recent report on its 2003 survey of company executives involved in m&a, Right Management stated that many respondents believe that overpayment is the main cause of deal failure but that buyers frequently make the discovery too late – after the deal is done. A common reaction is to accelerate ongoing cost reduction or start another round of cuts that may eat into the firm’s operating muscle. “When a company finds it has overpaid, it still faces a need to meet the original projections that justified the acquisition,” Steve Wall, the head of Right Management’s m&a consulting practice, said in a follow-up interview. “In fact, it (additional cost reduction) has the ironic outcome of cutting into the very resources that are needed to sustain the growth that initially justified the deal. So it becomes a downward spiral.” The report described a cycle in which acquirers go gung-ho on cost cutting after detecting an overpayment because of “imperfect information” and react vigorously to justify the price. Wrestling with imperfect information “Financial market expectations create pressure to deliver the over-promised results, which drives irrational behavior, a disproportionate focus on cost cutting, and other decisions that may undermine the organization’s ability to achieve its objectives,” it said. “Buyers may also discover that the perceived value of the soft assets’ – the talent and intellectual property – they acquired is less than they had believed prior to the transaction. This can contribute to a sense of disillusionment and alarm, resulting in some of the same unproductive actions.” There is no magic bullet for combating overpayment in a market geared toward competitive bidding and deal advisers who are rewarded for driving up purchase prices, Wall warns. But he says there are ways buyers can protect themselves, starting with the basic realization that “imperfect information” is common even when the most thorough due diligence is conducted. Perhaps more important is to do deals that make sense financially and are backed by a sound acquisition strategy. “You’ve established at the outset what kind of returns are going to be required in order to justify the acquisition and you set a hurdle rate,” Wall says. You are not going to exceed that hurdle rate because you know that if you do, you’re going to end up not realizing the returns and perhaps, in fact, destroying shareholder wealth. A lot of it starts with the fundamental understanding of why you are making the acquisition and what standards you have established for success.” But even when the buyer is not spooked by overpayment, it typically faces a struggle in getting the right value balance between paring expenses and financing profitable growth. The bias among executives, according to the report, is toward chopping costs because it’s easier to execute and trumpet the results. Cost cutting is an easier exercise Based on responses from 156 corporate executives around the world, 80% reported they succeeded in reaching cost-reduction goals while a much smaller 65% managed to hit their growth targets. On the flip side, only 4% admitted to “completely missing” cost-reduction goals with more than four times as many, 18%, falling short of profitability and/or revenue growth objectives. Right Management’s warning was that even though the stock market usually rewarded cost-cutting achievements and that it could not find a “similar correlation” between market cap and growth, the one-note acquirer risked undermining its “long-term strategic capability.” Attainment of growth targets, it said, was “strongly correlated” with improvement in the firm’s ability to reach the strategic goals of a deal while “no equivalent correlation was found to exist between cost savings and strategic capability.” If growth is the primary deal objective, the firm advised, “overemphasis on cost savings may risk loss of value for the business.” Wall agrees that playing up cost cuts for a usually skeptical investor audience can be compelling, even if it may damage the combined company in the long run. “Pursuing cost reduction to the exclusion of growth objectives is kind of seductive because cost reduction is more readily measurable and it does have to be achieved,” he comments. “It’s tempting to go for that cost savings and not put similar resources and discipline into achieving growth objectives.” A way to achieve the right trade-off between cost cutting and financing growth is to put the new operation into the hands of the general manager who will run the integrated business unit, Wall advises. That executive has dual responsibility – operationally for skippering a business that grows, and financially for ensuring the expansion is satisfactorily profitable. One critical segment that can be mauled by a cost-obsessed acquirer is the sales force, which should comprise the shock troops for the combined company. The success of the deal can be threatened if the sales force is cut too sharply, denied needed funding, or otherwise mismanaged. The report said that the two responses directly related to sales programs drew the lowest scores in the survey. The absolute lowest mark was the aforementioned finding that 35% of respondents did not achieve revenue growth goals. The second-lowest score was in response to a question on whether customer satisfaction improved as a result of the deal. “These findings, together with mediocre ratings on communications, alignment, and change management, point to a critical danger area: neglect of the sales force – a key to revenue growth – and, as a result, neglect of the customer,” the report stated. Damage from mismanaging the sales force Salespeople should be used to both generate increased product or service revenues and sell the deal as a beneficial move for customers. “If the sales force is not managed well, it can play hell with both revenues and customer retention early on,” Wall adds. “When the acquisition is based solely on consolidation, cost cutting may be necessary. But if you don’t manage the sales force proactively, the chances of success are diminished.” Communication with the sales force is critical, Wall says. Sales people often hear about the deal first from customers and competitors. The communication problem is compounded when their own employers are fuzzy about how the deal will affect incentives and income. Also, the partner companies may be throwing two poorly matched sales teams together without training and expecting results they can’t deliver . Copyright 2004 Thomson Media Inc. All Rights Reserved. http://www.thomsonmedia.com http://www.majournal.com

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