AI credentials increase in M&A popularity as companies look to strengthen ‘defensibility’

The proliferation of AI is leading to businesses re-evaluating how they futureproof their operations. As ‘AI defensibility’ rises up the corporate agenda, more than two-in-five firms are prioritising AI-enabled targets to strengthen their market position in the coming period.

AI defensibility is the durability of a business’s competitive advantage and economic returns in the face of AI-driven disruption to its industry. Rather than focusing on AI adoption — does the company use AI? — it considers AI’s impact on the company’s long-term market position and enterprise value.

Perceptions of this new force are causing dealmakers to rethink one of the most fundamental assumptions in M&A: what makes a business competitively defensible, and how that defensibility influences enterprise value. According to a new study from KPMG, however, exactly what constitutes the best approach to AI defensibility is up for discussion.

Exploring how private-equity firms are gaining advantage by becoming more sophisticated at assessing “AI defensibility” – or finding durable advantages that AI is unlikely to erode quickly – respondents informed the researchers of several different top-billed items, and this may be also leading to less predictable valuations for technology-forward firms in the future.

Out-of-date diligence

Some 42% of those polled said they were now prioritising AI-enabled targets. But only two characteristics command majority support among dealmakers. Regulatory, dealing with compliance or security barriers were cited by 55%, while handling workflow integration was at 52%. Beyond those two factors, opinions fragment considerably. Domain-specific expertise, proprietary data, AI architectures, switching costs and network effects all receive support, but none emerges as a universally accepted indicator of AI defensibility.

Problematically, though, legacy diligence frameworks and valuation assumptions were not designed to capture AI’s growing influence on a target’s future performance. And with 36% saying these diverse points were influencing their valuation more than target selection, this can lead to a market where pricing volatility makes investment more of a risk – an issue for both buyers and sellers.

KPMG noted, “There is no established approach for incorporating its impact on target defensibility into diligence, valuation and investment thesis development. As AI reshapes the drivers of business value, dealmakers should consider a more structured way to assess whether a target’s competitive advantage can endure.”

Even so, this version defensibility still seems heavily built around the supposed potential of the technology. However, while breathless hype around AI continues to push investors to throw more money into its development, there is still precious little to show in terms of a return on investment. At the same time, corporate leaders often overestimate the impact of their innovation spending, and many have yet to even visualise the boosts of AI into terms rooted in currency and profit. In that context, critics might argue that a valid approach to AI defensibility is simply to do nothing.