The Big Idea The New M A Playbook. When a CEO wants to boost corporate performance or jump start long term growth, the thought of acquiring another company can be extraordinarily seductive. Indeed, companies spend more than 2 trillion on acquisitions every year. Yet study after study puts the failure rate of mergers and acquisitions somewhere between 7. A lot of researchers have tried to explain those abysmal statistics, usually by analyzing the attributes of deals that worked and those that didnt. Whats lacking, we believe, is a robust theory that identifies the causes of those successes and failures. Here we propose such a theory. In a nutshell, it is this So many acquisitions fall short of expectations because executives incorrectly match candidates to the strategic purpose of the deal, failing to distinguish between deals that might improve current operations and those that could dramatically transform the companys growth prospects. As a result, companies too often pay the wrong price and integrate the acquisition in the wrong way. To state that theory less formally, there are two reasons to acquire a company, which executives often confuse. Exfat Driver Update. The first, most common one is to boost your companys current performanceto help you hold on to a premium position, on the one hand, or to cut costs, on the other. An acquisition that delivers those benefits almost never changes the companys trajectory, in large part because investors anticipate and therefore discount the performance improvements. For this kind of deal, CEOs are often unrealistic about how much of a boost to expect, pay too much for the acquisition, and dont understand how to integrate it. The second, less familiar reason to acquire a company is to reinvent your business model and thereby fundamentally redirect your company. Almost nobody understands how to identify the best targets to achieve that goal, how much to pay for them, and how or whether to integrate them. Yet they are the ones most likely to confound investors and pay off spectacularly. Almost nobody understands how to identify targets that could transform a company, how much to pay for them, and how to integrate them. In this article, we explore the implications of our theory in order to better guide executives in selecting, pricing, and integrating acquisitions and thus dramatically increase their success rate. The first step is to understand at a very basic level what it means for one company to buy another. What Are We AcquiringThe success or failure of an acquisition lies in the nuts and bolts of integration. Html Code Checker Pdf. To foresee how integration will play out, we must be able to describe exactly what we are buying. The best way to do that, weve found, is to think of the target in terms of its business model. As we define it, a business model consists of four interdependent elements that create and deliver value. The first is the customer value proposition an offering that helps customers do an important job more effectively, conveniently, or affordably than the alternatives. Business valuation is a process and a set of procedures used to estimate the economic value of an owners interest in a business. Valuation is used by financial. The second element is the profit formula, made up of a revenue model and a cost structure that specify how the company generates profit and the cash required to sustain operations. The third element is the resourcessuch as employees, customers, technology, products, facilities, and cashcompanies use to deliver the customer value proposition. The fourth is processes such as manufacturing, R D, budgeting, and sales. For more on this business model construct, see Mark W. Johnson, Clayton M. Christensen, and Henning Kagermann, Reinventing Your Business Model, HBR December 2. Shareholder value is a business term, sometimes phrased as shareholder value maximization or as the shareholder value model, which implies that the ultimate measure. Under the right circumstances, one of those elementsresourcescan be extracted from an acquired company and plugged into the parents business model. Thats because resources exist apart from the company the firm could disappear tomorrow, but its resources would still exist. We call such deals leverage my business model LBM acquisitions. A company cant, however, routinely plug other elements of an acquisitions business model into its own, or vice versa. Profit formulas and processes dont exist apart from the organization, and they rarely survive its dissolution. But a company can buy another firms business model, operate it separately, and use it as a platform for transformative growth. We call that a reinvent my business model RBM acquisition. As we shall see, there is far more growth potential in purchasing other companies business models than in purchasing their resources. Executives often believe they can achieve extraordinary returns by acquiring another firms resources and so pay far too much. Alternatively, they walk away from potentially transformative deals in the mistaken belief that the acquisition is overpriced, or they destroy the value of a high growth business model by trying to integrate it into their own. To understand why these mistakes are so common and how to avoid them, lets explore in more detail how acquisitions can achieve the two goals mentioned earlier improving current performancereinventing a business model. Boosting Current Performance. A general managers first task is to deliver the short term results investors expect through the effective operation of the business. Investors rarely reward managers for those results, but they punish stock values ruthlessly if management falls short. So companies turn to LBM acquisitions to improve the output of their profit formulas. A successful LBM acquisition enables the parent either to command higher prices or to reduce costs. That sounds simple enough, but the conditions under which an acquisitions resources can help a company accomplish either goal are remarkably specific. Acquiring resources to command premium prices. The surest way to command a price premium is to improve a product or service thats still developingin other words, one whose customers are willing to pay for better functionality. Companies routinely do this by purchasing improved components that are compatible with their own products. If such components are not available, then acquiring the needed technology and talentusually in the form of intellectual property and the scientists and engineers who are creating itcan be a faster route to product improvement than internal development. Apples 2. 78 million purchase of chip designer P. A. Semi in 2. 00. Apple historically had procured its microprocessors from independent suppliers. But as competition with other mobile device makers increased the competitive importance of battery life, it became difficult to optimize power consumption unless the processors were designed specifically for Apples products. This meant that to sustain its price premium, Apple needed to purchase the technology and talent to develop an in house chip design capabilitya move that made perfect sense. Cisco has relied on acquisitions for similar reasons. Because its proprietary product architectures continue to push the leading edge of performance, the company has acquired small high tech firms and plugged their technologies and engineers into its product development process. See the sidebar Can This Acquisition Help You Command Premium PricesAcquiring resources to lower costs. When announcing an acquisition, executives nearly always promise that it will lower costs. In reality, a resource acquisition accomplishes that in only a few scenariosgenerally, when the acquiring company has high fixed costs, which allow it to scale up profitably.