The M&A Litmus Test: Part 5

Published by

We have arrived at the last day of your M&A Litmus test—the most important test of this series. We’ll evaluate your…

…Good Business Sense.

Finally, do your directors really understand your business—and business in general, as in, “I am selling a bolt of cloth, let’s make a deal?”—or are they in compliance mode, focusing on this, that, or the other rule?

Doing a good job in M&A oversight really does come down to good business sense. The late, great J. Fred Weston, a mentor of mine, once boiled reasons for M&A down to ten.  One of them is to increase the size of a company and therefore increase the power and pay of managers—never a good reason for M&A. But the other nine reasons make good common sense. In closing, I’ll share Fred’s list with you now.

Ask yourselves if the merger will:

  • Achieve economies of scale by buying a customer, supplier, or competitor (“operating synergy”)
  • Accomplish strategic goals more quickly and more successfully (“strategic planning”)
  • Realize a return on investment by buying a company with less efficient managers and making them more efficient (“differential efficiency”)
  • Realize a return by buying a company with inefficient managers and replacing them (“inefficient management”)
  • Increase market share (“market power”)
  • Lower the cost of capital by smoothing cash flow and increasing debt capacity (“financial synergy”)
  • Take advantage of a price that is low in comparison to past stock prices and/or estimated future prices, or in relation to the cost the buyer would incur if it built the company from scratch (“undervaluation”)
  • Assert control in an underperforming company with dispersed ownership (“agency problems”)
  • Obtain a more favorable tax status (“tax efficiency”)

All these come down to this: Will this transaction work for our company?

So, with these five items in mind – M&A IQ, Fiduciary Duties, Strategy, Information Flow, and Good Business Sense – let me ask you: Will you pass the M&A Litmus Test?  It’s an important question.  Don’t cram at the eleventh hour. Start studying now!

Shout Out to Sources


  • Thanks, Hans. I stumbled across an interesting phrase in a “tweet” recently. The source said “The problem may not be bad boards, but boards put in an untenable position.” (When I find the source again, I will quote it more properly.) Having been at NACD since 1985 in one way or another, and having seen thousands upon thousands of GOOD directors and boards (well intentioned, well qualified, and hard working), I’ve never bought the “bad board” theory. Boards in the process of improvement, yes, but bad, no. So that leaves the possibility that some boards are in untenable positions. Certainly looking at the board’s role in the corporate system can help. If cybernetics is the right model for increased understanding, so be it. Thank you for your insights. To be continued….

  • Hans Norden says:


    I appreciate your open mind with which you answered my comment. The issue whether my comments should be addressed on a board level or management level is an excellent question of critical importance. I recognize that boards get inundated with minutia and how easy it is to miss seeing the forest for the trees. Be that as it may, I believe that on a board level we need to see more people connecting the dots in an effort to paint the bigger picture perspective. That is, contemplate more abstractions. In that vein, Governance is nothing more nor less that a cycle of Planning, Execution and Control a.k.a. Cybernetics. On might argue that this is a predominantly management responsibility. But, should that preclude board members from informing themselves about how their organization functions? Would it be possible that having a better understanding of cybernetics creates better oversight, provides insight into the nature of management decisions that potentially destroy the business system? New perceptions shape how governance (planning, execution and control) are conducted in order to successfully pursue the vision of the company. Whether this is a TASK for board members is not for me to answer. Should board members have KNOWLEDGE of cybernetics? No doubt in my mind they should!

  • Jerry, I agree with your approach. One can think of it as the three Ss –
    Strategy, Structure, and Synthesis. The Strategy is why you are doing the deal, the Structure is how you are doing the deal, and the Synthesis is the result.
    I would have said Synergy for the third, but I recall the recent words of a prominent corporate director (who may or may not want to be identified here), who said, “When I hear the word synergy, I prepare to say no.” Too many managers have promised synergy and not delivered – partly because they ignored culture.
    Thanks again.
    PS: By the way, I am the FDT type.

  • I am impressed with the debate above including that from my esteemed joint venture partner, Jim Jeffries of M&A Partners.

    Let me enter this dialogue with the observation that Mr. Weston captures the key hard side questions a Board needs to consider in a merger (The M&A Litmus Test: Part 5). I believe, however, he misses framing a question around the cultural integration implications of merger candidates. At M&A Partners we draw the analogy of M&A as a three legged stool consisting of the Strategy, Financial and Cultural elements of the deal. Miss one and your deal is in serious jeopardy. Sometimes the deal is just a bad idea (Strategy Leg); sometimes the numbers are based on nice rational assumptions that have little to do with reality (Financial Leg) and finally, neglect cultural integration factors and you can reasonably bet you will not meet your synergy targets and may implode the deal.
    Quoting from The Hay Group, “Firms prioritising financial and systems due diligence at the expense of the vital, intangible assets critical to a merger process- such as business culture, human capital, company structure and corporate governance… increase the danger of making a wrong acquisition.”
    The Hay Group, Press release, 26 March 2007.

  • Hans, thank you very much for your insights.

    Your thoughtful post raises the issue of the use of expert advisors.

    Management teams already use advisors. Boards sometimes are called upon to approve their use.

    But as the responsibilities of boards have increased, some boards are engaging advisors of their own, particularly in the areas of law and compensation.

    In my personal opinion based on 30 years of service providing information to boards, I honestly believe that boards do not turn often enough to expert advisors to help them with the issues they confront. The Sarbanes-Oxley and Dodd-Frank laws respectively encourage boards to use outside advisors to support the work of the audit and compensation committees.

    The broad challenges you describe may be management rather than board challenges. However, it is important to keep an open mind on such matters.
    There may indeed be times when boards themselves (not just the management teams they oversee and advise) can benefit from the wisdom of a management consultant who can instill the kind of consciousness-raising you describe. Although this type of engagement does not usually appear in the board budget (such as it is) it is not outside the realm of possibility. Certainly more boards are investing in director education. Perhaps boards need to take a broader view of what director education entails. Here at NACD we are adding topics on a daily basis–not all of them in the traditional areas of governance.

    Again, thank you for your post. Feel free to follow up.

  • Hans Norden says:

    Will this transaction work for our company? To work or not to work, that’s the question. What does “work” mean? Is there a definition or a benchmark? Why does the majority of M&A transactions NOT work? Why do companies collapse, that is implode, being destroyed from within? Looking at financial reports can be deceiving because one and the same result can find its origin in many different and distinct causes. The financials might indicate a perfect opportunity but on the process and climate side spell disaster. And that’s exactly the conclusion of the authoritative study in human error; focus on Resoure Management, Organizational Climate and Organizational Process. I believe that we hve far too few executives that truly understand how their business works as a singular, unique and integrated system. That system is getting more and more complex with the never ending additions of another advanced tool or technology. Because organizations lack generalists, people that know how to connect the dots, we have no clue what the system is doing at any given time, nor what it’s capable of doing. Putting an awesome deal together is one thing but integrateing it with your existing business system is quite another.

    Now, you might ask, why do board members and executives need to know about process and climate? Well, because if they don’t have a basic unerstanding of the relationships between means & ends and cause & effects, how can they assess, judge, validate bottom-up proposals for change? In other words, how can they provide executive sponsorship for the design, building, implementation, maintenance and management of the business system that must work WITH the new/foreign business system acquired through the M&A?

    Furthermore, all processes and everything we do IS process, comes in 3 flavors: Planning; Execution; Control. From the articles I read I conclude that decision-makers spend most of their time on Execution and they leave the Planning and especially the Control to chance. Control does not mean looking at the financials because as such they have no meaning. They get meaining from interpreting, not in the sense of forecasting but back-tracking; how did this happen; what has changed? See, cause & effect! THEN, you need to do some diagnostics and giving orders to correct the situation. And THAT is GOVERNANCE as opposed to just making sure you’re in compliance with State and Federal regulations.

    In conclusion, every business should have a vision. This vision is caried out by means of the business system. Any system needs a purpose, which describe the benchmarks for success; those are your values, beliefs, ethics, quality. A deal might make excellent sense on the financial plane but from the Brand or business system’s perspective spell disaster. Which point of view do you prefer?

    I am writing extensively on these topics in my blog I’d love for you to visit and leave your comments. By the way, anticipated outcome is the definition for purpose.

  • Jim, you are right on the money here. M&A expertise is indeed a valuable competency for boards. It may seem like an impossible dream to recruit a board ready for every event in corporate life. But individuals combine competencies, so why not have a long wish list?!

    For example, the nom/gov committee and/or board may want expertise in ten areas: audit, finance, HR, IR, IT, international, law, M&A, ops in the industry, and strategy. Does this mean the board must have exactly ten members, and each must have one strength? Not necessarily, because one person may combine more than one desired competency!

    An M&A pro could actually be a “package deal” for a board. Someone with extensive experience in mergers (whether as a manager or an advisor) is likely to have some knowledge of strategy, some knowledge of management, some knowledge of law and accounting,and so forth. Through the interview process, the board could determine the depth of this expertise and its relevance to the company.

    Again, Jim, great point!

  • Jim Jeffries says:

    Good question.
    Given the probability that growth opportunities over the short term will not be organic, and that growth by acquisitions have historically been problematic for value creation, we might very well be in the era of selecting board members based on their expertise in M&A. The traditional failure of most mergers are due to lack of attention and expertise to integration. “Companies are proficient at closing the deal, but not completing it.”
    If growth by acquisition can actually destroy value, it is imperative that the board have input and oversight in every phase of the M&A process. This cannot be a passive exercise or one that avoids shareholder scrutiny.
    Board members should be considered as having “good business sense” if their experience is well rounded by having successfully grown enterprise value through M&A.