Ensuring Success in Mergers and Acquisitions

Almost 70% of owners of small and midsized closely held businesses expect that companies in their industries will consolidate during the next three years. This finding of a survey conducted by the DAK Group and Rutgers University’s Whitcomb Center for Research and Financial Services was reported recently in The Wall Street Journal. In addition, 62% of the owners expect to sell or merge their companies during this time, and slightly more, 64%, expect to make an acquisition. The high percentages for both sales and acquisitions can be explained by the tendency of owners to make acquisitions to strengthen their positions, in anticipation of selling.

CPA firm consolidations are also expected to continue. Consider, for example, the prediction emerging from the vision discussions of the AICPA Forensic and Litigation Services (FLS) Committee that “a steady and growing demand for CPAs with forensic accounting skills” will result in the “continuation of the trend toward the consolidation of smaller niche firms into larger firms.”

Statistics have shown, however, that many past mergers and acquisitions (M&As) fell apart within five years, were later sold at a loss, or failed to meet management’s expectations. CPAs can help to minimize such risk by expanding their role in these initiatives beyond providing their traditional financial and tax advisory services.

Let’s dance
The M&A process has three distinct stages, focusing on organizational behavior and development. The first is the “Let’s dance” stage. In Strategic Finance (“What makes a successful merger?” April 1999), David Hanna and Paul Walker noted the similarities between courtship and marriage, and an M&A. At the “Let’s dance” stage, two parties consider a business union based on underlying strategic factors. Historically, CPAs involved in an M&A, whether as part of an accounting firm, a controllers’ group of a corporation, or a regulatory team of a government agency, have focused on quantitative due diligence areas.

Although consistent with the educational and professional backgrounds of most CPAs, the traditional due diligence steps provided by CPAs do not address organizational behavior and development issues. Moreover, it’s likely that the legal professionals involved in an M&A will concentrate on the appropriate entity formation, not on intangible issues such as culture.

The CPA can add value to the M&A process by ensuring that the union is between two compatible parties: Not only should they offer each other complementary services and market, operational, and financial strengths, but also they should have compatible traits that can result in synergy and support the strategic reasons for the M&A. In the “Let’s dance” stage, CPAs can begin to address the following organizational issues:

Philosophy, strategy, and vision

Culture

Structure

Management and leadership styles

Interpersonal issues

These qualitative issues in tandem with quantitative issues form the basis for a due diligence effort.

Evaluating the culture
The CPA should conduct a cultural evaluation to inquire about the qualitative factors and determine the benefit of the prospective union to each party. Regarding the value of the union in relation to organizational factors, the CPA can pose key questions such as “Why the union?” “Who benefits the most or least?” “What will be the impact after the union on people, performance, culture, structure, roles, and responsibilities?” and “Which entity will emerge as the dominant force?”

The CPA can develop a cultural due diligence framework based on environment, espoused values, and assumptions. The environment includes the tangible characteristics of an organization: the plants and offices, office layout and design, furnishings, decorations, and the deployment of information technology. For example, in the same industry, one company is located in a prestigious urban center with offices that reflect the latest trends and are lavishly decorated with fine art. The other firm operates in the warehouse district in an office with used furnishings. Clearly, these differences need to be addressed.

Espoused values represent the formally shared values and philosophy of an entity, that is, an organization’s stated core values, mission, and purpose. The CPA needs to understand what each entity really believes and plans. For example, one organization’s mission statement requires that it provide an equitable share of its profits to employees and give an additional amount back to the communities that it serves. In contrast, the other organization’s mission statement emphasizes return on investment. Such a conflict in the two organizations’ espoused values must be addressed.

Assumptions represent what organizations really do—their values in action. Clearly, many organizations have mission statements and ethics policies. However, existing practices may directly conflict with these policies. Therefore, it is very important to determine the true commitment to, and sincerity and effectiveness of each organization’s written or espoused values. What do they really do, in spite of the platitudes? If neither organization executes what it says, the two entities will unite based on false or unrealistic expectations of compatibility. The likely end result is a costly separation.

Formation
Suppose, during the “Let’s dance” stage, the CPA helps an entity determine that organizational compatibility is significantly inadequate, or that key cultural-fit issues need to be addressed before proceeding. If so, the CPA has delivered a value to the client, namely, risk minimization.
Completion of cultural due diligence by the CPA will provide all parties with the appropriate scope of information to determine whether they should seek to unite. If a union is sought, the CPA can continue to help navigate the client through the formation stage of the M&A.

If the cultural due diligence supports going beyond the “Let’s dance” stage, the CPA can help in planning the deal. Two key initiatives should be conducted at this point. The first is to identify all stakeholders, including management, employees, customers, and other parties such as investors, to determine their issues and concerns regarding the merger. Employees, for example, will want to know the impact of the merger on their positions, while customers may want to know its impact on their service.

The other key initiative is the development of a communication plan. Once the stakeholders are identified, a comprehensive plan can be devised to inform them about the nature of the merger and its benefits.

The goal of the formation stage is to foster, between the parties, the critical traits that contribute to a successful merger: trust, respect, confidence, and integrity. Using marriage as an analogy, at this stage, vows are formed, and the benefits, goals, and objectives of the union are confirmed.

The CPA can play a key role by promoting an atmosphere in which a team forms to share a common mission. This can be accomplished by developing a vision and mission statement, and strategic planning.

Mission and vision
First, the CPA should facilitate the development of a transition team to create a mission and vision statement. Representatives of stakeholders at all levels in the new entity—partners, principals, directors, managers, supervisors, professional staff, paraprofessional staff, and general support staff from both sides of the merger—should be represented on the team.

The purpose of a mission and vision statement is to communicate the purpose and direction of an organization. Why does the organization exist and what does it seek to accomplish? Xerox’s mission, for example, is to provide document solutions and to be known as the document company. The CPA guides clients to develop their mission and vision as a team. Once they complete the mission and vision statement, it is critical to communicate it throughout the organization to ensure that everyone is operating on the same plane of knowledge.

Strategic planning
The second key activity is the development of a strategic plan. The goal of the plan is to provide a map for the client to fulfill the tenets of the mission and vision statement. This process should parallel the mission and vision statement process of forming a transition team to accomplish completion of a strategic plan.

In both the mission and vision statement and the strategic plan development, the CPA should serve as a facilitator in team meetings and help monitor completion of milestones and the deliverables. The size of the merged entity will dictate the extent of client involvement. Regardless of company size, however, teams are formed to review and monitor the development process.

The mission and vision statement and the strategic plan provide a primary benefit of purpose, direction, and guidance for the new entity. In addition, the prescribed team-oriented process provides a mechanism to bond the entities. Members of the former entities will begin to develop respect, trust, and confidence along with learning about each other’s integrity through the various team efforts associated with this work.

Team-based functions allow people to appreciate differences, as well as recognize similarities and how they can be used to achieve success. This will foster relationships among the merged entity’s members, which will provide the foundation for commitment and dedication to the new entity’s success.

Operational management stage
The successful facilitation of the “Let’s dance” and formation stages by the CPA should result in a union positioned for success. The intangible and tangible factors should all be recognized as positive reasons for the merger. During this process, the CPA should be able to identify the new entity’s organizational infrastructure strengths and weaknesses. Specifically, the CPA should assess the business and administrative systems in terms of resources, skills, capacity, efficiency, and effectiveness.

The new entity, for example, may look to appropriate staff to manage the complexities of a larger organization associated with accounting, taxes, operational reporting, technology, and human resources. The CPA can determine areas in which the CPA firm can provide specific services.

The CPA may have an opportunity to provide an end-to-end solution for business and administrative systems for the new entity, performing services ranging from actually processing business transactions (for example, payroll and vendor payments or benefits administration) to assisting with monthly performance evaluations of the new entity. The resources or strategic alliances of the CPA firm and the needs of the client will dictate the scope of the opportunity. However, the CPA can seek to continue to add value to the new entity by providing these ongoing services.

Dominic A. Cingoranelli, CPA, CMC is a managing member in Grimsley White & Company, LLC, CPAs. He can be contacted at dom4@mindspring.com or 1-877-754-1047. Hubert D. Glover, PhD, CPA, CIA, CMA, is chair of the Accounting Department, School of Business, Howard University, Washington, DC.

A Tale of Two Companies

A classic merger and acquisition (M&A) is two companies, entities A and B, who want to grow exponentially, and decide to execute a business combination. Attorneys and accountants provide their traditional legal and financial due diligence services. The union is consummated and the new entity works toward its business goals and objectives.

Two years later, the new entity is failing to meet its strategic, financial, and operational objectives. A thorough analysis reveals that the entities were offering complementary services in the same industry. On paper, they appeared to have potential for economic and market synergy. Entity A, however, was very conservative and operated in modest offices in an industrial park. Entity A was decentralized, and empowered field personnel to make critical business decisions. Finally, entity A sought to share the wealth with both its employees and the community.

In contrast, entity B operated in premium office space in the most expensive part of town. Entity B was managed as a tightly controlled operation in which all decisions were made at the corporate office. Finally, entity B believed that only the principals should share the wealth. The financial and market traits of entity A and entity B appeared to be a good fit for future success using the traditional framework that CPAs have used. Nevertheless, the use of a cultural due diligence framework would have identified critical organizational issues during the “Let’s dance” stage. Cultural due diligence can help increase the opportunity for a successful M&A—or avoid one that was not meant to be.