How strategic investors identify acquisition targets

by Les Nemethy	CEO of Euro-Phoenix

A strategic investor uses a very different process to identify acquisition targets than that used by financial investors. 

For a strategic investor, as the name implies, identifying an acquisition target must flow from the acquiring company’s strategy.

The worst methodology that a strategic investor might use to identify targets is to respond to the acquisition opportunities that it finds on an ad hoc basis.  This simply will not work for two major reasons:

· First, responding to opportunities on an ad hoc basis typically means that deep strategic thinking has been short-circuited.
· Second, if a strategic investor acquires a company that it came across merely on an ad hoc basis, how does it know that there were not better acquisition opportunities elsewhere in the market place?

It flows from the above thinking that a strategic investor, before embarking on an acquisition, should have a clear definition of its overall corporate strategy, and from such a corporate strategy should flow its acquisition strategy.  (Of course it is ideal to have these in writing: there is nothing that focuses the mind as much as putting something in writing, an approach which also helps to ensure that the different parts of the organization are also in consensus).

Some of the elements of an acquisition strategy might include definitions of the following:
· The rationale for the acquisition (e.g. vertical or horizontal integration, expanding into newer high-growth markets, acquiring technology or know-how, etc.);
· The precise profile of the target companies sought;
· The geographic range of possibilities;
· The financial criteria (revenues, profitability, etc.);
· The type of management or skills which may be required;
· The type of clientele which the target company should have;
· The valuation range in which such acquisitions may make sense.

A company may choose to create a strategy broader than an acquisition strategy, namely an M&A strategy. Such an approach would also cover the criteria which a company would set for divestiture of its subsidiaries.

Once the strategy has been defined, the acquiring company should engage in a systematic search for and assessment of all those companies that fulfil the criteria (as opposed to an ad hoc approach).  If there are a very large number of candidates, the list might be shortened by selecting only the most attractive ones.  

The most attractive ones might then be approached to ascertain whether they are willing to talk about a strategic partnership or acquisition, and with an eye to further fact-finding about the company.  It is often useful to use an independent third party intermediary for this approach, as it allows the approach to be anonymous, keeping the name of the acquiring party out of the market.

Failure to apply the above approach may result in a bidder finding itself among a herd of bidders in a frothy, overpriced market, competing for a target company that might not even be the best strategic fit.

Some of the more astute strategic investors have been monitoring their potential acquisition targets for many years, sometimes even decades, and are ready to make a move on short notice if the owner of a target company becomes willing to sell or if price expectations are reduced.  However, it is usually only a small percentage of potential target companies that a strategic investor is willing to acquire—the majority of potential targets quite often simply do not make the grade.

Central Europe is often an attractive area for acquisitions for global investors because most investors believe that Central Europe is on a convergence path with Western Europe, meaning that GDP per capita, incomes, consumption, etc. will catch up to Western European levels.  This is based on the belief that, “A rising tide raises all ships”.  Nevertheless, different countries move at different speeds at different points in time, depending on their political and socio-economic environments, and some companies are better acquisition candidates than others.  The importance of country and industry-specific knowledge at the local level cannot be over-emphasized.

Les Nemethy is CEO of Euro-Phoenix Financial Advisors Ltd. (), a Central European corporate finance company focused on Mergers & Acquisitions.  He is the author of “Unlocking your Company’s Value”