8 Major M&A Risks (and How to Mitigate Them)
According to the Harvard Business Review, most studies have found that 70-90% of mergers and acquisitions fall short of the expectations of business sellers and buyers.
Such high failure rates can be attributed to the many M&A risks that business sellers and acquirers must navigate.
In today's guide, we explore various issues in mergers and acquisitions and how you can mitigate them to enhance your M&A strategy.
TL;DR - 8 M&A Risks
Here are the top risks of mergers and acquisitions you'll want to avoid:
Poor Due Diligence
Undervaluing
Cultural Clashes
Customer Defection
Unprecedented Market Disruptions
Miscalculating Synergies
Litigation Issues
Limited Owner or Management Involvement
When you hire the right M&A team, it's easy to identify and navigate these risks that may weaken or kill an otherwise strong deal.
Talk to us at Exitwise to start forming the dream team of M&A experts to help you make a successful sale.
What is a Merger and Acquisition Risk Assessment?
A merger and acquisition risk assessment is a close examination of the factors that may negatively affect the value and success of a transaction.
Risk assessments are part of both buy-side and sell-side due diligence. They form one part of the entire process for controlling the risks the transaction may face.
During the assessment, sell-side and buy-side M&A teams may also try to predict what might happen if a potential risk actually occurs.
8 Major Risks of Mergers and Acquisitions Explained
Let's discuss the top M&A risks in detail below:
1. Poor Due Diligence
Most M&A issues are associated directly or indirectly with inadequate due diligence. When selling a business, learn as much as possible about your buyer. You'll particularly want to learn if they intend to keep your business alive after the transaction.
The buyer will also do their due diligence to learn as much as possible about you, including your reputation, customers, and financial health.
For example, in an acquisition where the acquired company becomes part of the acquirer's portfolio, you might get involved in litigation against the acquirer. These may affect how you operate within the new setup.
2. Undervaluation
Undervaluing your company can stem from various factors, such as pressure to sell quickly and poor due diligence.
An undervaluation leads to reduced returns on investment because you’ll have left money on the table.
3. Cultural Clashes
A company’s culture refers to its norms, attitudes, beliefs, rules, and values.
Cultural clashes are a rampant integration issue that stems from poor due diligence, given that cultural due diligence is a fairly new practice in M&A deals.
Where companies differ culturally, integration becomes a problem. Deloitte notes that up to 30% of mergers and acquisitions fail to meet expectations because of irreconcilable cultural differences.
You’ll want to ensure that the buyer’s business culture is similar to yours or that the cultures of the two businesses are easy to reconcile.
4. Customer Defection
Sometimes, customers may leave after a merger or acquisition because they are unhappy with the change.
The result is a massive loss of revenue, which may disrupt the new single entity established by the merger.
The same loss would happen to the new subsidiary within the acquirer's portfolio, but the acquirer may be able to cushion the subsidiary while waiting for the market to restabilize.
If you structure the business sale as an earn out based on the company’s future revenue performance, your payments may be affected when there is a considerable revenue loss.
5. Unprecedented Market Disruptions
Unforeseen circumstances such as economic depressions, recessions, and geopolitical changes might reduce the expected value of the deal and, thus, the amount of money you'll receive.
For example, the COVID-19 pandemic distressed the travel industry and delayed the expected returns from most of the deals completed shortly before the outbreak.
6. Miscalculating Synergies
Business owners and managers often overestimate synergies such as streamlined workflows, cost savings, revenue increments, and intellectual property expansions.
It's common for managers and business owners to assign very high values to quantifiable synergies while assigning very little value to qualitative ones. You may have a misguided idea of how the combined companies are more valuable than the separate entities.
The result is that when the deal doesn't pan out as expected, demotivation may set in and lead to the abandonment of the new entity. Such a scenario would mean you’ll also lose if you remained in the entity as an employee or if you had an earn out agreement.
7. Litigation Issues
Litigation risks from stakeholders such as customers, governments, competitors, shareholders, and employees can disrupt a deal and even kill it.
Besides, it can take your firm a long time to recover from reputational damage, legal costs, and distractions to the firm's operations before it’s ready for sale again.
8. Limited Owner or Management Involvement
When you hire an M&A advisory team, you and your company’s management shouldn’t step back. You are the only ones who know the company's history, unique characteristics, and customers better. Otherwise, the team may be left fumbling in the dark, which may reduce the overall value of the deal.
As a seller, you may feel sidelined in the new entity and withdraw your support during the integration. Any employees who notice this may follow suit, increasing the risk of the merger or acquisition failing to meet expectations.
Since navigating these risks is challenging, you’ll need the right team of M&A experts to help you. Reach out to us at Exitwise to help you interview, recruit, and manage the best experts to create the successful exit you deserve.
Pre-Deal M&A Risk Assessment
When it comes to performing M&A risk assessments before a transaction, here are the key aspects to consider:
Financial Risks: Be sure to analyze the financial health of your company and the buyer.
Where applicable, check cash flow, profitability, liabilities, and the accuracy of their financial statements.
Try to identify any hidden liabilities and financial problems. It’s also advisable to ensure the buyer can afford the purchase price.
Operational Risks: A potential buyer will analyze your company for operational gaps they can fill and changes they can make to your operating model.
The buyer will also scrutinize your technology, supply chain, and potential labor problems to find operational challenges that may arise.
Human Resources Issues: Potential buyers scrutinize your company for any risks related to human capital, such as employee resistance.
Buyers can also consider the costs of maintaining the staff and covering current employee liabilities they would be willing to assume.
Organizational and Cultural Risks: You'll want to assess how compatible your businesses are in terms of your organizational structures, cultures, and management styles.
This assessment helps you discover issues in resistance to change, retaining key talent after the transaction, overall communication, and staff morale.
Synergy Risks: Analyze and quantify or qualify the potential synergies between the two businesses to avoid overestimating their value.
Check on potential market expansions, cross-selling opportunities, cost savings, operational efficiencies, and revenue increments.
Risk Mitigation Techniques
It's the desire of every buyer and seller that a good deal should go through despite the risks along the way.
Here are some mergers and acquisitions risk management tactics:
Perform Adequate Due Diligence
Doing enough due diligence can heal many issues, such as undervaluation and miscalculating synergies.
Start as early as possible with the right industry-specific team with experience and expertise in legal, business, and financial aspects.
Have a detailed due diligence checklist even before you begin so you'll know the right questions to ask as a seller.
Incorporate the Integration Process into Due Diligence
Explore your integration options during due diligence and develop a robust plan to integrate and transition the two entities.
Additionally, you can make the due diligence team part of the integration and transition team to create continuity and streamline the flow of information and expertise.
Collect Information Early about Each Other's Culture
Even before due diligence and the virtual data room, observe your buyer during onsite visits and preliminary meetings.
Listen to how they talk about workforces, workflows, and management styles. Address any differences you notice that might kill or weaken the transaction.
Develop a Change Management Plan
Change isn't always welcome, and employees and other stakeholders on either side of the deal may struggle to adapt.
Develop a comprehensive plan and a knowledgeable team to mitigate the impact of change across every organizational level of the new entity.
Estimate Synergies Conservatively
This is the most significant tactic for risk management in mergers and acquisitions.
A good approach is to determine and quantify your synergies around incomes and access to customers, then reduce those numbers by dividing them by two.
Challenges in M&A Risk Management
Finding M&A risk solutions comes with unique challenges that may reduce your chances of success.
Be sure to watch out for the following issues:
Downgrading Due Diligence: Most buyers and sellers treat due diligence as a way to examine the seller, target company, or buyer. In reality, due diligence is a risk management plan, and you may have issues until you view it this way.
All the risks above should be on your due diligence checklist; otherwise, your M&A risk management will be wasted.
Failure to Understand the Risks or Issues: You can't amend what you don't understand. You must be able to identify each risk and its cause before thinking of correcting it or reducing its impact.
Unwillingness of One Side: The buyer may be unwilling to manage the risks you identify. They might let the deal sink or pull out when it's too late for either party.
Lack of Continuous Monitoring and Evaluation: Risk management doesn't end with pre-deal assessment. Keep monitoring the transaction and transition to uncover new or deep-hidden risks and deal with them as soon as they emerge.
Frequently Asked Questions (FAQs)
Here are answers to questions you may have about M&A risk assessments and solutions:
What Might be the Common Post-Merger Risks Organizations Might Face?
The most common post-merger risks faced by organizations include:
Integration and transition challenges
Cultural differences
Customer defections
Failure to capture synergies
Losing turnkey talents
Operational incompatibilities.
What Role Do External Advisors Play in Managing M&A Risks?
You can expect your external advisor to play M&A risk management roles such as:
Offering impartial or objective insights with fresh perspectives into the buyer or industry
Carrying out objective sell-side due diligence to identify and address potential risks
Assessing potential buyers to determine the ones that are a better strategic fit
Helping with the integration and transition while speeding up the realization of synergies and maintaining the expected value of the merger or acquisition.
As a business owner, you'll be better off working with M&A experts to help you manage potential risks when selling your business.
At Exitwise, we'll help you recruit and manage the best industry-specific M&A team to create the smooth exit you deserve. Reach out to our M&A advisor for a detailed consultation today.
Conclusion
Navigating M&A risks might be daunting, but it doesn't have to be when you have the right team to help you with due diligence.
Doing enough due diligence correctly can heal many issues, such as cultural clashes and miscalculating synergies, which are some of the most unforgiving mistakes in mergers and acquisitions.
