Managing M&A risk within an increasingly competitive market
04 September 2007 | People and Companies | Mergers & Acquisitions | Peter McCrystal, PwC
Over the past year to two years, South Africa has increasingly attracted the foccus of M&A activity from both multinational corporations and large international private equity funds.Combined with the attention of foreign investors, the South African domestic market has record funds available within domestic private equity funds, where between the three largest local players (Actis, Ethos and Brait) more than US$1.8bn is still to be committed. This feature, in addition to the funds available within smaller funds, corporates (both local and multinationals) and foreign private equity funds has resulted in growing competitiveness in making investments. With this extent of funds chasing investments within the South African economy, competition within the bidding process has tightened, with a number of consequences, impacting on the risk associated with M&A transactions.
First, the 'rules of the bidding process' tighten as companies seek to protect themselves from the negative consequences of revealing competitive advantages and other market sensitive information. Further to provisions around access to information in a bidding scenario for a public company, the information flow is very tightly controlled and typically less information is initially made available than bidders would like to receive in order to properly evaluate the risks and rewards of acquiring the business.
Secondly, with the increased competition comes the risk of expending time and effort at significant expense, only to be outbid for the acquisition or have the offer rejected by share-holders or regulatory bodies. Alternatively, in an effort to secure the transaction, the risk of overpaying for an asset or the need to reduce the cushion in the bid price increases.
Consequently, in order to address the risk of failure of the acquisition, it becomes increasingly necessary for a robust and informed due diligence by the bidder within the constraints of the pre-defined sale process. The normal, very important aspects, of financial and legal due diligence processes need to be focused and informed by clear strategic and commercial objectives. The diligence team requires input from experts within the commercial and operational aspects of assessing the investment opportunity, capable of addressing the issues from a local and international perspective.
This input from experts within the specific industry should be mandated to address the evaluation of the investment opportunity from two perspectives: first, focusing on significant threats and risks inherent within the business and market as it currently is structured and positioned; and second, from the perspective of identifying gaps and opportunities within the market post acquisition as large successful transactions are more about generating returns from growth rather than cost cutting initiatives alone.
Risks typically requiring attention are those relating to identifying current and future competitors and gaining a clear understanding of the business's position, product pricing and stage in product life-cycle relative to its competitors. These aspects of the due diligence should robustly challenge the strategic rationale for the acquisition and aid in confirming that the intended gains to be realised from the acquisition will indeed be met by concluding the transaction.
Following this confirmation, the due diligence process should focus on addressing risks inherent to the industry sector and the positioning of the target business and its products or services relative to its competitors. Within the time pressures of the deal process, restricted access to management and confidentiality of the transaction, the need for focused and informed input positions the bidder in a far stronger position.
A further area requiring focus in addressing the risk of M&A failure is the funding aspect of the transaction. A number of the recent large private equity transactions within South Africa have involved a consortium of international PE funds. In this regard, it is important for the consortium to appoint an adviser capable of addressing the tax and structuring aspects on an international basis. This aspect is equally important to multinationals as the funding and structure typically cross a number of borders and it is essential to extract the maximum leverage out of the funding and transaction structure with the full understanding of the impact of such structure within all the legal jurisdictions involved within the transaction.
From a vendor perspective, the concept of a due diligence commissioned by the company (vendor due diligence) has been very effective in controlling the process within the competitive environment. This approach results in a due diligence process without having to subject the company to numerous teams from the various bidders and also can aid in controlling the flow of information in order to protect confidentiality.
In summary, in order to address the risk of an M&A transaction being successful within the current highly competitive M&A environment within South Africa, it is essential for due diligence and transaction structuring and financing teams to be multi-disciplinary, incorporating financial, legal, commercial, operational and tax aspects. The assessment should be integrated, through combining international best practice and opportunities with a thorough understanding of the local market environment, to ensure a competitive edge within a tightly controlled process.
By : Peter McCrystal is partner in charge of the Transaction Services division of PricewaterhouseCoopers (South Africa).
