Drawing on the right expertise: The key role of NEDs in making M&A pay
May 30, 2018
A combination of the sharp rise in acquisition prices and the increasing ambition of deal strategies is making it more important than ever that Non-Executive Directors (NEDs) are closely involved in M&A from the outset. Where and how should NEDs bring their vital input and influence to bear?
From integrity and emotional intelligence to a keen understanding of today’s fast-changing business environment, the attributes of a good NED are many and varied. Yet, if one thing makes a good NED great it’s the courage to stand up to an energised and single-minded CEO. Even better to make them listen.
This willingness to speak truth to power is no more important than when the CEO is swept up by the urgency and exhilaration of deal-making. Negotiations can quickly move off in multiple directions and discussions between the board and the deal-steering team become exceptionally fraught.
At a forum for NEDs we hosted in May, which focused on their role in securing value from M&A, a highly experienced NED described the tough conversations he faced having just become the chairman of a company that was already in advanced negotiations over a major acquisition. Although the asking price had risen far beyond original expectations, senior executives were determined to press ahead with the deal. Yet, even though the transaction had acquired a seemingly unstoppable momentum and questions about whether it still made sense were poorly received by senior executives, this kind of challenge is exactly what the chairman and NED team should be there to deliver. After much debate, the result was a shelving of the deal, which subsequent market developments proved to be a wise decision.
And this wise counsel can be just as important in a divestment, especially as sellers can often fail to adequately articulate the value or judge the full impact on the retained business. A NED at the forum recalled the pressure executives were under to sell at a price he felt was much too low. He was sufficiently removed from the direct negotiations to press the business to stand its ground and wait for the right offer, which duly came.
Keeping management honest
This experience of transactions that could easily have left substantial value on the table underlines the importance of the NEDs contribution. Rather than simply vetting deals that are already in train, NEDs should be at the centre of these initial discussions, offering both the benefit of their experience and the necessary level of challenge – “keeping management honest” as a forum participant put it.
And the nature of today’s deal market makes this NED input all the more important. With average acquisition multiples having risen by more than a quarter since 2010, the bar for value delivery is now much higher and the margin of error much finer. In markets being opened up by digital disruption and the blurring of industry boundaries, many businesses are also looking beyond straightforward consolidation or bolt-on acquisitions towards genuinely transformational ‘stretch’ M&A. From a financial services business acquiring FinTech capabilities to a consumer goods group looking to buy its way into fast growing and high margin niche segments, the value boost can be considerable, but so can the complexities of valuation, negotiation and post-deal integration. The targets may be recent start-ups with different cultures to the acquiring business and high dependency on a small number of key personnel, for example. In turn, the technology being sought may be untested in a mass market or it may be a long time before it can be made sufficiently scalable.
Realising your ambitions
NEDs can act as the ‘Guardians of Value’ with this fast-moving and often unfamiliar deal landscape – advising on strategy, targeting and execution to ensure the business steers clear of the pitfalls and maximises the return. The foundation is a deal blueprint setting out what capabilities – ‘Value Bridges’ – the business is looking to acquire and how. Key areas of NED challenge would include does this deal fit with our strategic rationale, how will it help to future-proof our business and is the acquisition target or operation being put up for sale valued appropriately? Just as important is determining who is responsible for delivering the value once the deal is agreed and who will oversee execution – the ‘Deal Value Architect’?
The question and answer session during the forum highlighted the practical challenges facing NEDs and how they can help to tackle them:
1. How do you judge a transformative versus an add-on deal?
Add-on deals offer reasonably clear evaluation and tracking criteria in areas such as the identification and realisation of synergy benefits. Stretch deals are generally harder to gauge and have different opportunities and risks. However, as a forum participant noted, there are “known knowns” against which value can be determined. This includes access to key value bridges in areas such as system capabilities and niche market reach. When tracking against targets, it’s also important to focus on the retention of the key people who may be critical to long-term value delivery.
2. How do you challenge executives when they’re fixed on the deal?
A forum participant described this as a potentially “scary”, but essential part of the NED’s M&A role. They key is ensuring that clear “parameters of value”, including the deal rationale and financial targets, are established up front. This anchor helps executives to know where they stand and enables NEDs to challenge the deal if the numbers are recast during negotiations.
3. What is the NED’s role in selecting targets?
NEDs are well placed to scan the market for suitable acquisition targets and potential buyers for divested operations. A forum participant highlighted the value of bringing together a mix of experts in areas such as technology with non-experts who can judge the candidates against overall strategic objectives.
4. How do you prepare for a hostile bid?
The big risk is being caught on the back foot and responding reactively through the process. That’s why it’s so important to articulate and communicate the strategy and value potential of the business on a regular basis. This can not only make the business less of a target for hostile bids, but also help to ensure that if they do come, any price paid is appropriate. NEDs have clear independence requirements once a deal bid is submitted, which heighten the importance of objective, evidence-based evaluations and communications.
5. How do you gauge the success of deals that are geared for the long-term?
As a forum participant highlighted, the value of the deal may not be immediately obvious or may take several years to come through. However, multiples have risen once the deal is agreed and before the benefits are realised thanks to the communication of a clear rationale and financial milestones against which value delivery can be tracked.
We’re currently carrying out a far-reaching study of which deals create value, which fail to and why. We’ll be reporting on the full findings later in the year. But, what’s already clear is how important NEDs are in making M&A pay. Now, more than ever, they should bring their expertise and experience to bear when laying the strategic blueprint for deal value creation and ensure the business remains focused on its core value goals through negotiations and into post-deal integration.
Our M&A report with Mergermarket, Creating value beyond the deal, uncovers how the most successful dealmakers have made M&A pay at every stage of their deal lifecycle. We share detailed insights on what makes an effective value creation approach, the role of people in culture in value planning, as well as insight into the first-hand experiences of executives on both sides of the deal. Download the report.