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7 Mar 2016

Strategies for Assessing Acquisition Opportunities

Getting value from acquisitions is tough. Part of the reason is that there is no formula. Each one is different. Yet, there are strategies for assessing acquisition opportunities.

These strategies help us assess how tough the acquisition will be. They set realistic expectations. They prepare the organizational culture. They prepare managers and employees.

2 Strategies for Assessing Acquisition Opportunities

Using simple strategies for assessing acquisition opportunities help to minimize human biases that make acquisitions risky.

Understanding some basic strategies for assessing acquisition opportunities help manage risk.

In a broad sense we can boil these strategies for assessing acquisition opportunities down to two. Acquisitions are going to target one or both of these:

  1. Revenue enhancements
  2. Cost savings

Revenue enhancements include such things as cross selling, rounding out product offerings and shoring up weak services. Cost savings include removing duplication and securing needed skills, facilities and technologies which would be more expensive to develop organically.

When it comes to these two strategies for assessing acquisition opportunities, it is simple. The more the acquisition is based on extracting value from revenue enhancements, the riskier it is. The more it is about extracting cost savings, the safer it is.

3 Mistakes When Assessing Acquisition Opportunities

The caveat though is this. Acquisitions are not easy. It does not matter how safe they are. According to McKinsey, only a handful create value. Many mistakes are made. Sydney Finkelstein of the Tuck School of Business has put them into four categories.

Three mistakes give further insight into these strategies for assessing acquisition opportunities:

  1. Overweighting experience with other acquisitions
  2. Overestimating the benefits from both strategies
  3. Underestimating the costs from both strategies

Each acquisition is different. There is no formula for success. Overweighting experience is a natural human bias. We over attribute success to the work we do rather than to outside and unknown factors (fundamental attribution error).

Furthermore, as Finkelstein points out – given how different each acquisition is – one, two or even three successes are too small of a sample to predict success on the next one. Experience yields overconfidence.

When combined with people’s bias to forecast optimistically, overconfidence from experience exacerbates revenue benefits and cost savings. Acquirers routinely underestimate costs for integrating IT systems, manufacturing and servicing processes and business cultures.

Indirect Cost and True Risk

Since each acquisition varies and has unknown elements, strategies for assessing acquisition opportunities need to estimate management time. It is the indirect cost – often ignored – that realizes revenue enhancements and cost savings.

Thus, in short, the riskiest acquisition is the one we think we’ve figured out.

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