In the first part of this article, I discussed the importance of due diligence to determine whether a prospective acquiree’s technology will be as valuable going forward as it has been in the past. I would like to present a real world example.
A niche technology manufacturing company in the electronics industry was acquired by a larger firm. The acquired company had a long, successful track record as a market leader in the niches it served. Due diligence did not uncover any issues regarding threats from new technology to its core, cash-producing products.
M&A Failed To Deliver
Shortly after the company was bought, two issues arose, threatening the future of the business, neither of which was uncovered in due diligence.
Issue 1
The core electronics/intellectual property supplied by outside vendor partners was becoming obsolete and would not be available for future product designs.
Issue 2
Competitors were making advances in the area of the company’s core electronics technology, lowering barriers to entry and producing new market entrants whose lower cost alternatives threatened the company’s leadership position. The experience of the R&D personnel of the acquired company was with the older technology. They were struggling to keep up. The company was all of a sudden thrown into turnaround mode. Its response was:
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Cost cutting – because expected revenues and growth were delayed.
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Launching an aggressive search for an outside development team to deliver a “crash” project to develop electronics compatible with the new technology.
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Asking customers to wait and not place orders with competitors until the new products were ready.
Point 2 and 3 are risky. Finding an outsourced engineering and development team with the right specialized skills is not easy—especially under severe time pressure. Asking customers to delay purchases and wait to buy products that don’t yet exist can be a very hard sell.
With great difficulty, the company accomplished a near-term turnaround. Internal personnel were replaced with outsourced talent, a painful experience for all, especially those replaced. Many customers waited to buy the new products and were pleased with them—though this spike due to pent up market demand was short lived. The short term crisis was averted and the acquirer avoided the embarrassment of having to record significant profit write downs. Still, over the longer term the financial justification for making the acquisition failed to materialize. The company was eventually sold.
Learning the Right Lessons
All could have been avoided if the proper analysis and evaluation had been done. What can be learned from this experience includes:
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Especially where an acquisition strategy creates pressure to deliver quarterly results, proper due diligence is absolutely critical to evaluate the likely future financial gain from a given technology.
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The analysis must address the availability of complementary and competitive IP elsewhere in the company’s ecosystem.
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You must have the right R&D talent and know how in-house to identify and license external IP to develop next generation products.
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Firms should complement their internal engineering and product development talent with out-sourced experience. This is especially true of smaller companies that have limited development budgets.
Where an acquisition or merger involves a company whose products incorporate fast changing technology, rigorous due diligence is indispensable. The best decisions can be the ones you choose not to make. Thorough analysis and skeptical evaluation are a necessity before pressing “GO” on a transaction to acquire or merge with a technology-driven middle market company.
About the Author
Mike is an experienced CEO who has a record of achieving sustainable sales and earnings growth with domestic, international, public and private companies, both large and small. Learn more or contact Mike directly here.
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