Academic journal article The McKinsey Quarterly

Deals That Create Value

Academic journal article The McKinsey Quarterly

Deals That Create Value

Article excerpt

No doubt the market is skeptical about M&A, but it is a lot more receptive to some kinds of deals than to others. Inquire before you acquire.

Half or more of the big mergers, acquisitions, and alliances you read about in the newspapers fail to create significant shareholder value, according to most of the research that McKinsey and others have undertaken into the market's reaction to announcements of major deals. For shareholders, the sad conclusion is that an average corporate-control transaction puts the market capitalization of their company at risk and delivers little or no value in return.

Managers could eschew corporate deals altogether. But the right course is to pursue them only when they make sense--in other words, to make sure that all of your deals are above average. Easily said, of course. But what, exactly, does an "above-average" deal look like? We decided to take that question to the stock market.

Our study examined the stock price movements, a few days before and after the announcement of a transaction, of companies involved in corporate deals. Using a multivariate linear regression, we tried to explain those movements in terms of several deal variables, such as deal size, industry, and deal type.

Our experience with scores of corporate-control transactions has taught us that mergers, acquisitions, and alliances tend to serve some kinds of strategies better than others. A large part of our study therefore involved identifying the strategic purpose behind each deal we followed and making that purpose one of the variables used to describe it. If the market reacted more enthusiastically to deals that embodied a particular strategy, our analysis might expose these underlying trends.

Indeed, we found that the market apparently prefers deals that are part of an "expansionist" program, in which a company seeks to boost its market share by consolidating, by moving into new geographic regions, or by adding new distribution channels for existing products and services. The market seems to be less tolerant of "transformative" deals, those that seek to move companies into new lines of business or to remove a chunk of an otherwise healthy business portfolio.

Even within a given type of strategy (whether expansionist or transformative), the market seems to prefer certain kinds of transaction to others. In particular, acquisitions create the most market value overall, despite the well-known "winner's curse," in which buyers pay too high a premium. If a deal is structured as a merger or a sale, it has little clear effect on stock prices. Choosing to structure deals as joint ventures or alliances, all else being equal, does not create significant value for the participants and may even destroy some value (exhibit). Finally, if a company competes in a growing or fragmented industry, or if the performance of the company has recently lagged behind that of its peers, some signs indicate that the market may reward its transactions more than those of stronger performers. Managers might find it useful to understand these biases as they consider whether or how to proceed with a deal.

One dramatic example of the way the transactions of a company can boost its share price was Heineken's conquest of the European beer market. In the past five years, acquisitions have lifted the company's share price by 12 percent a year, reckoned by the increases that occurred when the deals were announced. In other words, Heineken's acquisition strategy alone generated half of the company's outperformance as compared with the Dutch stock market index for the five-year period.

The architecture of a study

We started with a sample of 479 corporate deals announced by 36 companies in the telecommunications, petroleum, and European banking industries over a five-year period. Because we wanted our study to account explicitly for the size of a deal, we excluded all transactions whose monetary value had not been announced publicly. …

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