(Excerpts from The Art of M&A Strategy, Smith & Lajoux, McGraw Hill, New York, 2011, updated)
“You got to know when to hold ’em, know when to fold ’em,
Know when to walk away and know when to run.”
Kenny Rogers - The Gambler
Most companies have to consider acquisitions and divestitures at different stages of development. Ultimately, most companies will also be faced with an opportunity to sell the entire company, and in some cases there will be little choice if shareholders like the premium being offered. Yet, many companies do not consider acquisitions, divestures or, in particular, the ultimate sale of the company as part of strategy development.
How should a company decide to be a buyer or a seller and when? A case in the business press at the time of writing serves to illustrate the importance and difficulty of these questions.
Research in Motion/Blackberry
Research in Motion (RIM), now known as Blackberry, is the company that invented the Blackberry pager. By any measure, the company was hugely successful up to 2010. The very idea of “push” wireless e-mail exchange on handheld devices was new when RIM was founded and launched the Blackberry in 1999.[i] The product quickly became an essential business communications device and was indeed the sole means of communications for thousands in the financial industry two years later during the tragedy of 9/11.
A tech startup from Waterloo, Canada, RIM passed $1 billion in revenue in less than five years and was operating worldwide. Wall Street was so dependent on and comfortable with the Blackberry that even as smartphones added e-mail capabilities at the millennium, the money men preferred to carry two devices on their belts rather than give up their Blackberries. Ultimately, RIM added telephony to the Blackberry, initially with a device that required a headset and then with integrated speaker and microphones in 2003. By 2006, the Blackberry was second to only Nokia in smartphones globally and dominated the US market.[ii]
RIM’s success to this point was in part due to its singular focus on serving the business segment. For example, RIM’s 2006 annual report stated that it provided “software and services to keep mobile professionals globally connected to the people, data and resources that drive their day” (emphasis added).
However, perhaps reluctantly, RIM was drawn in to compete with consumer offerings. In particular, Apple’s iPhone bridged the consumer and business markets and surpassed RIM and Nokia in sales.[iii] Blackberry responded with more consumer-friendly smartphones and a tablet to compete with Apple’s iPad. In the 2010 annual report, the earlier emphasis on the professional is muted, and RIM speaks more of “customers” and “consumers.”[iv]
By the middle of 2011, the market was indicating considerable pessimism about RIM’s future in this new competitive arena. RIM’s valuation fell about 50% from a year earlier,[v] and there was speculation that RIM could be a takeover target. Now, two years later, it has declared a refocus on professionals and laid off thousands of staff, discussions of stock value have turned to the value of patents versus a going concern, and it is desperately seeking a buyer to avoid a continuing death spiral.
This leads to a series of questions about if and when RIM should have sold or found a partner.
Should RIM have sold their patent or their company when they had merely proven the success of the idea? Most tech startups sell early, and the inventors and investors make a few million, perhaps to invest in their next venture. They leave the business-building and its rewards to others. The founders of RIM went on to create billions in value for shareholders by commercializing their invention, ultimately revolutionizing modern business communications.
Should RIM have sold when telephony became an expected feature of PDAs? While somewhat slow to respond, RIM developed telephony capability and became the leading smartphone in the United States for a time. Whether or not it was the intent at that time, the Blackberry smartphone also succeeded in penetrating the high-end consumer market.
Should RIM have sold when it became clear that the business and consumer markets would converge? This forced RIM out of its comfort zone and placed it in direct competition with the consumer tech giants.
Or should RIM have bought or merged? When its stock was a valuable currency, should RIM have sought business combinations in anticipation of the business-consumer market convergence? And if such foresight is unreasonable to expect, should it have acquired simply because it could, and because with the high valuations of its stock it could have acquired real options covering a range of market outcomes along with building greater scale and R&D capacity?
Moreover, did RIM need an exit strategy and/or an M&A strategy beyond its singular focus on the professional market well before facing the challenges of the past three years?
Our purpose is not to second-guess RIM’s strategy, which is too easy and perhaps unfair to do in hindsight, but rather to illustrate that these questions are relevant even for the most successful companies.
Learn from the Portfolio Companies
Portfolio companies buy and sell companies as a primary business activity. Their top executives have the advantage of being one step removed from the businesses in the portfolio, which can bring greater objectivity. They also face buy and sell decisions as often in a year as most executives do in a career.
Successful portfolio companies have a clear idea of how they will add value, well matched to the interests and competencies of the parent company. They understand the value of growth – how the cumulative size of such a company provides it with the means to raise cash and with the financial scale to look at larger deals. For the portfolio companies that are publicly held, a value-creating growth trajectory also supports high stock valuations, which reduces the likelihood of unwanted takeover.
Most successful portfolio companies define exit strategies in advance, with the possible exception of companies that actively develop synergies between or among their holdings. Berkshire Hathaway, for example, will hold an asset “as long as we expect them to generate at least some cash and as long as we feel good about their managers and labor relations.”[vi] GE’s mantra is to be first or second in each industry or get out. In the past three decades, GE has sold six out of ten acquisitions. Newscorp has grown by acquisition but has also sold hundreds of companies along the way. Thomson’s transformation to an information services company (now Thomson-Reuters) was in part funded through the sale of its newspaper assets.
In all these examples of portfolio companies, there is a long-term view of shareholder value creation through pursuit of growth by acquisition, including defined sale criteria so that funds can be redeployed to the best use within the defined growth strategy.
The approach of the successful portfolio companies can be applied in most businesses. Looking at the company as a portfolio of assets can lead to new ideas for value optimization, including acquisitions and asset sales. Such an outside-in, objective view puts management in the role of the parent company of a portfolio of assets; that is, considering what the company is worth and what a dispassionate new owner would do to maximize value.
Consider the Sale Value of Every Asset
In theory, if selling an asset maximizes value then sale should be considered. Considering all assets as salable can change how they are managed, usually for the better. Public companies concerned about takeover sometimes conduct a portfolio review or “Raider Analysis” to pinpoint value gaps and divesture options. Most companies that undertake to restructure in this way don’t sell everything that could fetch a premium, but they usually improve financial performance of retained assets, become more tightly focused, and are better positioned for growth.
This also applies to the total enterprise. If the sale value is higher than the value the company can achieve by remaining independent, then sale or merger should be considered. However, too many companies are let go for a premium over value “as is,” i.e. without adequate consideration for potential value.
The question really comes down to timing. On the one hand, consider that virtually every company will ultimately be sold in whole or in parts in the long run. Of the Fortune 500, only 62 companies have appeared on the list every year since the magazine began publishing it in 1955. Another 2,000 or so have come and gone. In a little more than half a century, 88% of what were the largest companies were gone from the original list: acquired, broken up, or shrunken. So in one sense it is not a question of if but when.
Taking a cue from the portfolio companies, the exit strategy should be considered even if there is no intention to sell in the short term. Considering the exit strategy can lead to good questions about how to maximize value. Every company that considers exit can then consider the optimal time and circumstances, and how to get to the optimal position and performance. In most cases, consideration of exit will result in more aggressive growth plans. Once a company determines that a strategic partner (i.e., a merger or sale) is necessary ultimately, it might accelerate growth and performance improvement programs so that they could be positioned well for a desirable partner.
On the other hand, most companies sell too early or cede industry leadership to a more ambitious competitor. More often than not, there is more value created in corporate growth than in invention and early-stage development. For example, when it comes to intellectual property, patents are valuable, but it is what a company does about its patents that determines long-term success. Part of the power of Thomas A. Edison was that he was not only in the laboratory inventing things, but he was also in the boardroom leveraging them.[vii] So his legacy is not only the light bulb but also in General Electric.
For mature companies in restructuring industries, there is yet more value created by industry leaders. Companies like Xstrata in mining, InBev in brewing, Kraft in consumer goods, Manulife in financial services, and Thomson-Reuters in information services have all created more value than the premiums of all the companies that sold to them combined.
Not every company can come out on top—there must be buyers and sellers—but every company should evaluate the buyer/consolidator option as well as the exit option and then weigh the returns against their competencies; the ambition of the company, its board, and its shareholders; the risks of trying and failing; the risk of selling too late; and the opportunity cost of selling too early.
[i]. http://us.blackberry.com/newsroom/news/press/release.jsp?id=702.
[ii]. Research in Motion, 2006 Annual Report; share as reported by Gartner Group.
[iii]. Matt Hartley, “Apple Tops Global Smartphone Rankings, RIM Slides to No. 4,” Financial Post, August 5, 2011.
[iv]. Research in Motion, 2010 Annual Report.
[v]. Research in Motion (RIM) report in the Global and Mail website. http://www.theglobeandmail.com/globe-investor/markets/stocks/chart/?q=rim-T
[vi]. “Letter to Shareholders,” Berkshire Hathaway Inc., 2009 Annual Report.
[vii]. Julie L. Davis and Suzanne Harrison, Edison in the Boardroom: How Leading Companies Realize Value from their Intellectual Assets (Hoboken, NJ: John Wiley, 2001); Suzanne Harrison and Patrick Sullivan, Edison in the Boardroom Again (Hoboken, NJ: John Wiley, 2012).
Photo: shop.crackberry.com
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About the Author: Ken Smith is a corporate director and strategy consultant. He was a founding member of the M&A Leadership Council's Advisory Board and is the co-author of The Art of M&A Strategy, with Alexandra Lajoux, McGraw-Hill, New York, 2012. See www.DundeeStrategy.com for a more complete biography. He can be reached at [email protected] or follow him on Twitter @smithkennethw.