Masters in M&A execution generate stronger returns than peers

06 December 2016 Consultancy.uk

Companies with considerable experience in M&A, on both buy and sell side, tend to considerably outperform companies with a one time M&A strategy, a new report finds. While one timer companies are able to derive strong cumulative abnormal returns, following a deal announcement, the long term picture significantly favours companies with considerable M&As under their belt, with a difference of over 5% in average annual five year TSR visible in the market.

According to a recent study, the fundamentals for M&A activity remain in place: credit is cheap, organic growth remains difficult in light of macroeconomic conditions and investors are keen on companies using resources for acquisitions. Given the large scale of M&A transactions of late ($5 trillion last year), questions are being posed about the returns generated through such transactions to acquirers and their investors.

In a new report by The Boston Consulting Group, titled, ‘The 2016 M&A Report: Master of the Corporate Portfolio’, the consultancy firm explores its propriety data base of 54,000 firms dating back to 1990, considering how companies were able to create value through both acquiring and selling companies, as part of their respective M&A strategy.

One-timers achieve the highest announcement returns

Portfolio masters

The report categories three kinds of companies for the research: portfolio masters, strategic shifters and one timers. Portfolio masters as ‘serial dealmakers’, categorised by performing more than five transactions (buy and/or sell) during a five year period. The group of 1,339 companies represents around 6% of the total sample, but were involved in more than 14,000 deals and around 25% of total global deals since 1991 – averaging $933 million per deal. Strategic shifters are categorised on the basis of two to four transaction on a five year basis. 6,354 companies are part of the category, which, across 22,000 deals over 25 years, hit $13 trillion in total value, accounting for around 40% of total volume. The one timer category, just one transaction in a five year period, represents 15,000 companies. This category saw 35% of total deal volume, at close to 19,000 deals.

According to the firm’s research, in the short term one timers tend to be seen the most favourably by the market, as well as generating the highest one year return on their respective deal. The analysts point to two factors underlying the sentiment: on the acquisition side a strong framing as a ‘once in a lifetime deal’ and, on the sale side as a strategic divestment from core assets. Cumulative abnormal return (CAR) stands at 5.5% for deals from one-timers, while positive market sentiment stands at 64%. Strategic shifters come in second in terms of market sentiment, at 57% viewing a transaction positively, while CAR comes in at an average 2%. Portfolio masters are able to both reduce their chances of an average negative return, at -4.1% versus that of one-timer deal negative CAR, at -6.5%, yet also have a much lower average deal CAR of 0.5%. 

Portfolio masters outperform in the medium term

When it comes to the longer term picture, risk adjusted performance measures for deals appear to significantly favour portfolio masters over one-timers. Relative shareholder return, which combines shareholder return compared with its sector index, for portfolio masters one year after the deal stands at 4.1%, while for one-timers it comes in at 3.0%. At the same time, portfolio masters suffer from lower volatility, at 36.4% compared to one-timers at 49.8%. As a result, portfolio masters boast a stronger risk adjusted performance measure, at almost double that of one-timers.

The reason why one-timers face higher risks can, according to the analysis, be broadly explained by the relative experience in costing and understanding the intricacies that comes with deal making and post deal making integration (see also an analysis by McKinsey). Portfolio masters also tend to be better at untangling divestments from their wider operations. 

Portfolio masters outperform most in the long run

The longer-term picture shows that portfolio masters tend to significantly outperform their strategic shifter and one timer peers. Annual average five year TSR for portfolio masters is 10.5%, for strategic shifters it stands at 7.9% and for one timers it comes in at 5.3%. In addition, portfolio masters were shown to have lower volatility in terms of average five year TSR, at 15.9% compared to 24.3% for one-timers.

Mastering portfolios

To find out why portfolio masters outperform their strategic shifter and one timer peers, the firm explored what sets the companies apart. One key factor, which is hard to replicate, is simply experience. Portfolio masters have built up considerable experience, and know where resources and key people need to be invested for the transaction to be a success in the long term.

Portfolio masters pay more for targets

Additionally, BCG's authors note four characteristics that were revealed through analysis of the data. One strategy is that portfolio masters tend to be ‘bold’, they are willing to pay higher EBITDA multiples than their one-timer peers, at 11.9 versus 10.1. They are also willing to pay higher premiums, at 36.7% versus 33.2%. Their willingness to pay higher multiples reflect, according to the firm, a confidence that the deal is in their long-term advantage. 

The research also found that portfolio masters are willing to buy in times of volatility, worrying less about market conditions and more on whether the deal fits in with long term strategy at the time. 

In addition, portfolio masters are keen to buy high-growth companies and divest themselves from low-growth operations – their peers, both strategic shifters and one timers, do the opposite. Median target sale growth in the announcement year for buy side deals stood at 9.7% for portfolio masters compared to 3.9% for one-timers, while sell side, portfolio masters exited companies with growth of 8.6% on average compared to strategic shifters who sold companies with 9.3% growth on average.

Portfolio masters buy high growth rather than margin companies

Finally, portfolio masters tend to move quickly on deals. Portfolio masters were 30 days faster than one timers on average on completing deals, at 72 days for acquisitions and 82 for divestments. Their hitting the ground running strategy, according to the firm, boosts allowing for swifter post-merger integration and earlier carve out execution – both tied to stronger performance.

Jens Kengelbach BCG’s Global Head of M&A and co-author of the report, says, “Portfolio masters use active portfolio management via M&A to boost shareholder return. These companies buy and sell in order to fine-tune, refocus, or diversify their portfolios. They understand that growth is the primary driver of TSR, almost regardless of whether growth is organic or inorganic. They estimate synergies and post-merger integration costs accurately, and they deliver on their projections. They create value.”

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