The Synergy Solution: How Companies Win the M&A Game. 2022. Mark L. Sirower and Jeffery M. Weirens. Harvard Business Review Press.
“Badly planned and executed takeovers have almost certainly destroyed far more investment value than acts of management fraud.”
Investors who remember big fraud-related wealth destroyers like Enron, HealthSouth and Parmalat might wonder if this statement from The synergy solution: How companies win the M&A game it’s right. Authors Mark L. Sirower and Jeffrey M. Weirens support their claim, however, with examples such as insurer Conseco’s ill-fated 1998 all-stock acquisition of subprime mobile home lender Green Tree Financial. A year after the deal was announced, Conseco shares were down 50%. Four years later, the company filed for what was then the third largest bankruptcy petition in the United States.
Sirower and Weirens, who respectively lead Deloitte’s US mergers and acquisitions (M&A) and global financial advisory businesses, also provide examples of far more successful deals. For example, shares of Avis Budget Group rose 105% in the 12 months after the company announced it would acquire ride-sharing leader Zipcar in an all-cash deal.
For investors, the challenge is how to predict M&A winners and losers. The authors reveal that an important clue is the stock market’s initial response to the announcement of the deal. In the Conseco / Green Tree case, the acquirer’s stock price immediately fell 20%, while Avis Budget Group stock rose 9% on the Zipcar news.
These are not isolated examples. Among his extensive empirical findings, The synergistic solution reports that in their sample of 1,267 M&A transactions over the period 1995-2018, one-year returns for acquiring stocks with initially positive returns averaged +8.4%, compared to –9 .1% of those with initially negative returns. Of the acquirer’s stocks that rose on the deal announcement, 65.2% posted gains in the subsequent 12 months, while 57.1% of those that fell on the announcement still they went down a year later.
In short, the market tends to recognize early on whether a newly announced deal will add or subtract value to the acquirer’s shareholders (and to the acquirer’s shareholders, if the currency of the deal is stock). What explains this prescience? Sirower and Weirens use case studies to make their argument: a win is more likely when the acquirer’s management presents a detailed breakdown of plausible and expected synergies sufficient to justify the premium being paid for the target’s stock ( or the estimated value, in the case of an acquisition of the division to another company).
Conseco / Green Tree exemplified the case of the meter. Conseco had previously generated the highest total shareholder return in the S&P 1500 over a 15-year period through the acquisition of 40 regional insurance companies. Management had mastered the process of immediately reducing back-office costs, making synergies highly predictable. Instead, Conseco vaguely described its diversification into consumer lending with Green Tree as “strategic” and not cost-based. Investors didn’t buy the cross-selling story, and the initial 20 percent price drop turned out to be prologue. (The deal’s heady 83% premium didn’t help.) Conseco’s stock price fell in half within a year, and the company went bankrupt a few years later.
As the word “companies” in the subtitle suggests, the primary target audience for this book is business managers and directors rather than stock analysts. However, the authors provide valuable guidance for assessing from the outside whether a given M&A transaction is likely to create or destroy wealth. To make this determination, The synergistic solution recommends supplementing the discounted cash flow analysis with economic value added methods. Sirower and Weirens show how to look at the acquiree’s GAAP earnings, which are commonly used to justify the premium by multiples paid in comparable transactions. Earnings per share generated for financial reporting purposes could, for example, be overstated due to non-recurring items or headed for a decrease due to upcoming renewals of collective agreements, an issue that is currently growing in importance due to rising inflation. Investment organizations with sufficient resources may also conduct the type of commercial due diligence that the authors prescribe for acquirers, including surveys of participants in the merged company’s key markets.
In the course of providing these pointers, Sirower and Weirens subject traditional analyzes of M&A transactions to well-justified scrutiny. Contrary to the belief that acquisitions are only sound if they increase earnings, the authors note the low correlation between accretion/dilution and market response. Much academic research questions whether acquisitions work best when they are in “related” or “unrelated” firms, or something in between. However, many target companies are engaged in a variety of businesses and consequently tick more than one box. Sirower and Weirens also caution against focusing on the growth rate of the merging companies’ addressable market. The market growth rate ie useful for their combined operations it could be lower.
While cataloging the flaws of acquisitions that are ill-conceived or driven by CEO egos, Sirower and Weirens emphasize their belief in the virtues of properly planned and executed mergers and acquisitions. Investors can improve their chances of separating the wheat from the chaff by using some of the lesser-known tools they describe, such as shareholder value at risk and meeting the premium line. Also useful is the book’s calculation of the comparative performance of the all-stock, cash and combined offers. When considering bets, investors should take advantage of the experience and knowledge they report The synergistic solution.
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All posts are the opinion of the author. Therefore, they should not be construed as investment advice, nor do the views expressed necessarily reflect the views of the CFA Institute or the author’s employer.
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