Transactions (VC/PE investments, M&As, and IPOs) are growing rapidly in India. This is great. The ability to attract capital is essential for India’s economic competitiveness. However, the transaction is not an end in itself. Every transaction has a justification and expectation of financial returns. If these are not consistently met, India’s ability to attract capital will be reduced. The hard work begins after the transaction. Unfortunately, while the media celebrates the transaction, it rarely, if ever, reports on the post-deal performance.
Research and observed reality indicate that most transactions do not produce the expected results. There are several known causes, but our direct observations from multiple associations of post-merger integration (PMI) indicate four primary causes.
First, most pre-acquisition due diligence (commercial, financial and legal) is concentrated in three-four weeks. This period is too short for an acquaintance to develop a deep understanding of the goal. Often, due diligence is done by buy- and sell-side bankers and advisors who have their agenda and incentives. This is especially true in competitive bidding, where artificial time constraints are created to raise the price. As a result, the acquirer faces several post-deal surprises.
Second, given the social structure in which we operate, money equals better intelligence and ability. It conveys an inherent superiority to the acquirer over the target. Leaders who have grown their businesses for decades suddenly need to work under the direction of new investors. This hierarchy goes up if the acquirer is from the “West”.
Third, as a continuation of the second point above, we see that acquaintances very quickly develop a view of target leadership and emphasize changes, including injecting their nominees. This creates significant organizational disturbance in the target and affects operations.
Fourth, the pressure to demonstrate a return on investment forces acquirers to set unrealistic expectations on the target. Often, these are not found. These failures are attributed to target leadership, as highlighted in point three, and the vicious cycle continues.
As a result, the excitement of the transaction, fueled by glossy media coverage, quickly turned into disillusionment. The transaction team, bankers and advisors move on to the next deal, while the operations leadership of both the acquirers and targets are left to clean up the mess.
Our lesson on how to break out of this vicious, price-destructive cycle of transaction, excitement and disillusionment involves four approaches, all contrary to popular wisdom.
First, investors must acknowledge that bankers, lawyers and advisors profit from transactional activity, not from fulfilling the long-term investment logic. All advice from intermediaries should be evaluated through this lens. The industry needs to develop a commercial model where bankers, lawyers and consultants are held accountable for the long-term performance of transactions. For example, we typically charge a small upfront fee with upsides associated with post-transaction milestones.
Second, and most importantly, accept that successful deals take time, before and after a transaction. CEOs understand that delivering successful performance internally is hard, and more difficult with a new team with a different culture. PMI strategies should be considered similar to internal transformation strategies, with built-in additional buffers for additional complications. Haste eventually ruins the long-term value.
Third, accept that no one knows the business earned as well as the current leadership. Designing the incentives associated with the right strategy for acquired leadership is better than changing it. This needs to be done slowly and collaboratively so that the acquired leadership feels valued and not threatened. It is harder to do and takes more time but gives better long term returns as compared to implementing risky substitution.
Finally, focus equally on preserving Target’s existing business and delivering the expected post-deal synergies. Often, we see PMI strategies disproportionately focused on achieving synergy, which is risky and time consuming. Meanwhile, Target’s existing business takes a hit, leading to poor post-deal performance, and only Target’s leadership is held accountable.
The transaction is good, but the enthusiasm is short-lived. After hard work comes. The board, CEO and shareholders benefit only when the justification for the long-term investment is achieved.
Abhishek Mukherjee is the co-founder and director of Octus Advisors.
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