4 Major Red Flags You Need to Watch Out for in M&As


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Thursday, February 17, 2022

M&As can be risky, and many deals fall apart. Here are some of the things to watch out for to avoid a failed M&A.

Article 4 Minutes
4 Major Red Flags You Need to Watch Out for in M&As

After a period of slowdown caused by the COVID-19 pandemic, mergers and acquisitions (M&As) are bouncing back in a big way. Q4 of 2020 was the third-strongest for M&As in two decades, with over $612 billion in deals closed.

However, M&As are naturally risky endeavours. When dealing with the myriad of details involved with buying and combining companies, there are all sorts of things that can go wrong. While some of these are problems that can be quickly fixed, there is always the chance of issues piling up to the point where the merger fails.

This is more common than you might think. A study from Aoris Investment Management looked at the 1,000 largest M&A deals over the last 50 years and found that a staggering 59% failed. What’s more, this failure rate increased to 67% for the largest 100 deals, and was higher across the board when the acquirer was buying a business at least 50% as large as itself.

All this shows that the more variables involved with a M&A, the more that can go wrong. While there will never be a foolproof way of spotting when an M&A deal is going to fall apart - if there was, the failure rate would be much lower - there are definitely red flags that can indicate a major issue. Here are some of the most important to watch out for.

1.   Falling in love with the deal

Professor Nuno Fernades, author of The Value Killers: How Mergers and Acquisitions Cost Companies Billions - And How to Prevent It, has found that many companies end up going ahead with financially impractical M&As that end up falling apart. While it may seem clear from an outside perspective that these deals are flawed, the people in charge call them “strategic” rather than accepting that they are overpaying for the M&A.

The ideal perspective to take - according to Professor Fernandes - is that of a financial investor, setting a “walk-away price” and sticking to it. If you find senior leadership are falling in love with the idea of the deal to the point where they’re willing to go over this walk-away price, you should consider that an M&A red flag.

2.   Poor employee communication

One of the biggest assets of any company is its talent, and it’s easy to forget that. However, staff members can often be left in the dark when M&As happen, and this uncertainty can lead to many of them looking for employment elsewhere. Should this happen, it has the potential to wipe significant value off the merging companies and make the M&A fail. Lack of communication with employees is therefore a major red flag.

Emma McHugh, Senior Project Manager at Gloat, has seen plenty of M&As struggle for this reason. She said: “I have watched high-potential employees be laid off due to lack of insight into workforce skills, others voluntarily choose to leave in high volumes, and the resulting plummet of morale and productivity for all.” Communicating to employees is therefore vital so they can be more secure in their employment, preventing companies from losing staff.

3.   Leadership is not aligned

The merging of leadership is an underappreciated aspect of M&As. When two or more companies combine, their leadership needs to align in a number of ways. Members of senior management need to understand their roles, work towards the same strategic vision and work together to implement the strategic vision of the merger. Failure to do any of this can cause major issues down the line.

In fact, almost half (47%) of all failed M&As happened because of people risks, and the leadership team was the most common risk that derailed deals when unaddressed. If you notice your leadership teams are acting opposed to each other, working against each other or even just not being fully aligned in their tactics, this can be a major red flag that indicates the M&A is likely to fail.

4.   The M&A is rushed

Dr Naaguesh Appadu, a research fellow specialising in M&As at Cass Business School in London, compares M&As to a marriage. He told Raconteur: “When couples start talking about getting married, they’ve usually known each other a long while. They have done their emotional due diligence, yet they will still face problems.”

When two parties rush into a deal, whether it’s a M&A or a marriage, they often skip that due diligence. This can lead to major problems down the line. Taking things slowly and doing as much research as possible is key to ensuring a successful M&A. Failing to do this and rushing towards a deal is one of the biggest red flags and a major indicator that an M&A is likely to falter.

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