Small acquisitions make bigger sense

Deals above $1 bn destroy twice as much value as those below

MUMBAI: Small is beautiful.

Smaller acquisitions are better than billion-dollar buys, according to global management consulting firm Boston Consulting Group.

“The Brave New World of M&A,” a recent study by Boston Consulting Group, says, “Deals that are above $1 billion destroy nearly twice as much value as transactions under $1 billion, reflecting the difficulties of integrating large targets.”

BCG has studied more than 4,000 M&A deals and says that the number of mega deals in excess of $1 billion is rapidly increasing.

BCG’s M&A findings come at a time when some domestic companies have just gulped down foreign companies that are larger than their own size for deals worth several billions of dollars.

The companies that went for multi-billion-dollar deals in the recent past include Tata Steel which acquired Corus Group and Hindalco which bought out Novelis.

However, BCG says it has not looked at these companies and cannot comment on any particular deal. BCG, however, has mapped most of the value-creating deals done so far and has studied 20 Indian companies involved in the M&A game.

“The complexity of the integration gets more complex,” says Harshavardhan, partner and director at BCG. “The returns are less for bigger acquisitions,” he adds.

Jai Shroff, executive director at United Phosphorus, the agrochemicals major which has in the recent past made about half a dozen acquisitions, backs BCG’s findings.

“It is easier to digest smaller ones and integrating them is faster,” Shroff explains. Mid-sized companies like Havells, Bajaj Electricals, Crompton Greaves and United Phosphorus have absorbed acquisitions very well and are scouting for more, as their appetite to grow inorganically has been considerably whetted by their recent successes.

Vardhan says multi-billion-dollar deals destroy progressively more value as the size of the target increases relative to the size of the acquirer “Targets worth more than 50% of the acquirer destroys nearly twice as much value as targets that are worth less than 10% of the acquirer.”

At the same time, BCG says the decision to buy a target is often heavily influenced by the acquisition premium. The findings reveal that value-creating deals tend to involve higher acquisition premiums.  At the same time, in the M&A segment private-equity players are winning. The surmise that PE players win because they control huge reserves of capital is untrue. BCG research has a different story to tell. PE firms pay lower multiples and lower acquisition premiums.

How do they achieve this? How do they manage to win deals against strategic buyers by paying less? BCG explains that one of the reasons is that they tend not to bid for targets in industries where there is a strong consolidation logic and where high multiples are commonly paid.

Typically, PE firms concentrate on targets for which strategic buyers are too small to compete or are unable to bid for regulatory reasons, reducing the competitive pressures on multiples, says Harshavardhan.

BCG says PE firms’ reserves at $250 billion suggest that they have more than enough fuel to sustain their growing involvement in M&A.

In the coming days, the partnership between domestic and PE firms can only grow as they scout for acquisitions abroad.