Growth Through Acquisitions - Report Example

A report for business growth: Growth through Acquisitions Introduction According to Gaughan p acquisitions are an integral component of the growth strategy of many organisations. The major benefit of acquisitions is that it allows companies to achieve a more rapid growth compared to internal or organic process. However, there are risks that accompany acquisitions, and they are always poorly understood and underestimated. Most analysts and academicians, as well as businesses, consider potential benefits alone while downplaying the risks and disadvantages. In acquisitions, growing companies should consider both the advantages and disadvantages to avoid future pitfalls. Downplaying of risks leads a company to overvalue targets and pay premiums that are too high. However, the baseline is this – acquisitions can accelerate an organisation’s growth more than most of other means of growth. Today, acquisitions are viewed as a respectable, legitimate tool for affecting change (Coffey, Garrow and Holbeche 2012, p. 7). Definition of Acquisition Figure 1 defines an acquisition. Complete takeover Stock acquisition Acquisition Majority Capital injection Asset purchase, Minority Business Transfers Figure 1.Definition of acquisition. Adapted from Nakamura (2005, p. 18) Benefits of Acquisition The dominant logic of acquisitions has been strategic focus. Growing companies are looking at all their operations and reassessing their value in strategic terms. Coffey, Garrow and Holbeche (2012, p. 8) observe that the classic reason for acquiring other businesses include being able to expand rapidly thus achieving greater economies and market reach. They add that a company gains access to new markets and distribution networks. Acquiring companies also capture new product technologies and innovations. Fourthly, acquiring companies wipe out the competition and emerging competitive threats and finally, they provide long-term ownership and control over the value created. Rapid speed of expansion One of the benefits of acquisitions is the speed at which it enables an organisation to achieve growth (Rothberg 2012, p. 1). For example, if an organisation realises £5 million in sales annually, and it acquires another business with £5 million sales annually, it will have doubled its size. Acquisitions enable an organisation to enter new markets quickly and efficiently. Economies of Scale The benefits of expansion through acquisitions are numerous, and they include economies of scale benefits. Gaughan (2013, p. 57) argues that economies of scale benefits occur when organisations expand through acquisitions. He further argues that these benefits can be larger if an organisation acquires another organisation that is not within its line of business. Expansion to another line increases the scope of business because it will have a broader array of products. According to Coffey, Garrow and Holbeche (2012, p. 8), the acquiring company achieves scope. For instance, a domestic gas provider may seek to provide electricity and water to the same customers. However, while these opportunities seem attractive, the acquired assets are also the most fragile and difficult to control since they depend on the goodwill and commitment of people. Many recent acquisitions have been effected after companies’ realisation that a complete product or service line may increase the competitive advantage of the firm or even balance its seasonal and cyclical market trends (Sherman 2011, p. 8). Organisations in retail, hospitality, entertainment, and financial services have realised that the consumer usually demand “one-stop shopping”. The desire to offer customers "one-stop shopping" has driven many organisations in these sectors to acquire companies that deal in products that customers need to purchase in a one-stop outlet. Opportunity to buy an established business Instead of building loyalties, growing companies prefers to buy already established loyalties through acquiring already established businesses. In acquisitions, acquiring companies pay a premium for an intangible asset commonly referred to as goodwill. This goodwill is transferred to the acquiring company, and it adds value to the acquiring firm. Other Benefits The acquired firm also derives some advantages from the acquisition. Minniti et al. (2009, p. 188) outlines these advantages as achieving the economies of scale and scope, access to resources to grow the firm, and broader market access. The acquiring firm provides security and resources for the acquired firm and its employees. Almost all the studies on acquisitions have been focusing on the question of whether acquisitions create value. Most literature materials also place a significant amount of effort to explore the reasons behind acquisitions. Cox (2006) provides a systematic summary of the reasons behind the decision to acquire another business. Acquisitions have been found to play an important role in a firm’s growth. A growing firm that is considering expanding through acquisition has to begin with an acquisition plan that identifies specific objectives of a transaction and criteria to be applied in analysing potential target to avoid falling out of business after acquisition. Overall, an acquisition should offer clear advantages over achieving the same objectives through internal growth. These advantages include lower level of perceived risk, time savings, lower costs, and reduced competition. Disadvantages of Acquisitions Despite the hype about acquisitions, there is a large body of research studies which suggest that acquisitions usually fail to yield their expected financial results. One study found out that 60 percent of acquisitions fail to deliver the expected returns and exceed the cost of annual capital (Rivlin 2000). Hall and Norburn (1987) also conducted a seventeen-year period study and found out that returns to the shareholders are slight, and they tend to disappear rapidly and most of the time they are significantly negative. They have cited the case where Royal Bank of Scotland announced its successful bid to take over NatWest. Royal Bank’s shares fell by 14 per cent. One of the disadvantages is that rapid growth presented by an acquisition can be an expensive proposition (Rothberg 2012, p. 1). An organisation can lose control over its business due to the high cost that is brought about by paying for the acquisition. Growing companies may not have large financial base to cater for acquisition, and this may negatively affect the company. Companies normally finance expansion internally through cash flows or externally through borrowing. In a case where a company does not have enough cash flow to finance an acquisition or enough borrowing power, expansion through acquisition may not work for it. Hall and Norburn (1987) study further concluded that acquisitions are unlikely to reduce the risk. Motivations in Acquisitions Sherman (2011, p. 9) outlines various motivations in acquisitions. For the acquiring firm, the key motivators include revenue enhancement, cost reduction, underutilised resources, and growth pressures from investors, vertical and horizontal operational synergies or economies of scale. Other motivations include the acquiring firm’s desire to lock out its competitors by increasing its market share, the desire to gain a foothold in a new geographic market, and the desire to diversify into new products and services. The Way Forward Business strategists often say that it is cheaper to buy a business that to build a business (Sherman 2011, p. 34). However, as it has been discussed earlier in this paper, buying another established business is a challenging and complex task. Buying an established business at the right price is both an art and science. This is where the problem arises because the acquiring company has to develop a sixths sense. The acquiring company has to develop an instinct for the potential problems and opportunities in an acquisition. Successful acquirers use their instincts to mitigate risks and uncover hidden intangible assets. Therefore, an acquisition has to be done carefully in order for it to bring benefits to the acquiring company. Greatest opportunity for success can be achieved through acquiring within the same industry. As its has been discussed earlier in this paper, those companies that acquire outside their industry of operation, increase their market share, allow access to new technology, and add product or service to an existing distribution system. However, the risks of acquiring a business outside one’s area of operation may pose several risks. Acquiring companies that buy from another line of business risk becoming less efficient because the customers of the acquired company may become reluctant to be as dependent on the acquired company after it becomes a subsidiary of a competitor. Therefore, expansion through acquisition carries with it a considerable higher risk of failure. Successful acquisition requires a very sophisticated analysis of existing strengths on which to build. The major opportunity for success is achieved when a company can transfer critical skills. Conclusions Successful acquisitions are determined, by the way, an acquiring company handles all stages of an acquisition. The more effective a company handles an acquisition, the more it will enhance its value in the eyes of the investment community. According to Coffey, Garrow and Holbeche (2012, p. 9), most growing firms start by small-scale acquisitions that allow them to gain experience before engaging in large-scale acquisitions. Acquisitions in the business world are increasingly becoming important especially due to the advent of intense globalisation (Hoang and Lapumnuaypon 2008, p. 3). Companies can derive value from acquisitions if only they understand the critical success factors. Success factors are defined as the objectives that must be achieved in order for the acquisition to be successful (Gardiner 2005, p. 201). Therefore, acquiring companies have to carefully identify the critical success factors. Greatest successes have been realised by companies such as Google, General Electric, and Cisco. Growing companies can draw lessons and inspiration from the mentioned companies which have grown dramatically and built their revenues through aggressive acquisition programmes. References Coffey, J., Garrow, V. and Holbeche,L. 2012. Reaping the Benefits of Mergers and Acquisitions. Oxford: Taylor & Francis. Gardiner, P. 2005. Project Management: A Strategic Planning Approach. New York: Palgrave Macmillan. Gaughan, P. 2013. Maximizing Corporate Value through Mergers and Acquisitions: A Strategic Growth Guide. New Jersey: John Wiley & Sons. Hall, P. and Norburn, D. 1987. The management factor in acquisition performance. Leadership and Organisation Development Journal, 8. Hoang, T. and Lapumnuaypon, K. 2008. Critical Success Factors in Merger & Acquisition Projects: A study from the perspective of advisory firms. Master Thesis. Available http://umu.diva-portal.org/smash/get/diva2:141248/FULLTEXT01.pdf Minniti, J., Zacharakis, A., Spinelli, S., Rice, M. and Habbershon, T. 2006. Entrepreneurship: The Engine of Growth. Westport: Greenwood Publishing. Nakamura, H. 2005. Motives, Partner Selection and Productivity Effects of M&As: The Pattern of Japanese Mergers and Acquisition. Thesis (Ph.D.), Institute of International Business, Stockholm School of Economics. Rivlin, R. 2000. The UK mergers and acquisitions market.In managing mergers and acquisitions performance.IBM Global Service and CBI Guide. Rothberg, A. 2012. Should You Consider Growth Through Acquisition? CFO Edge LLC. Available http://www.cfoedge.com/resources/articles/cfo-edge-should-you-consider-growth-through-acquisition.pdf Sherman, A. 2011. Mergers and Acquisitions from A to Z. New York: AMACON Div American Mgmt Assn. Read More