Do you need another sign of the disruption and churn overtaking so many industries?
The latest is the rise in scope M&A deals, which intend to help a company grow by entering a faster-growing market or geography or by giving the acquirer access to a new, often digital, capability. The number of scope deals now outnumber traditional scale deals, which intend to strengthen market leadership or lower costs through the benefits of scale. The shift in deal type is evidence that companies are trying to adapt quickly to reshaped industries and low growth, and it provides a clear lens into the disruption many are struggling to negotiate.
Scope deals, however, which now represent 60% of all M&A, are more difficult than scale deals. They require a different approach to everything from target screening to due diligence to post-merger integration. For example, traditional target screening within a defined industry boundary is barely adequate for companies hoping to identify and track new technologies and new business models. Also, successful acquirers are leading with joint value-creation plans, not functional integration, because traditional scale integration playbooks won’t help to capture the value in capability scope deals.
As companies absorb these and other new developments, they arrive at a natural question: Are scope deals even a good idea? We asked a group of nearly 250 senior executives with deep experience in M&A, and, on average, respondents believed that roughly 63% of growth scope deals met or exceeded expectations and created value for the company, which is similar to the results for scale deals. Capability scope deals are even more successful, with 75% of deals seen as creating value.
The growing popularity of scope deals is one of the big trends analyzed in our research for Bain & Company’s Corporate M&A Report 2020, but there were other trends as well.
As an indication of global trade disruption, the number of cross-regional deals fell by 31% during the first nine months of 2019 vs. the same period in 2018. The drop in cross-regional M&A began three years ago and gained momentum thanks to Brexit and trade wars.
Disruption also is reflected in the increasing regulatory scrutiny of proposed deals.
Many industries are reaching their natural limits on consolidation, a nagging reality that makes it harder to get scale deals approved. Consider T-Mobile and Sprint’s $59.6 billion merger in the US. After two unsuccessful bids, the federal regulatory authorities finally approved it, but the deal still faces objections from multiple states. In Asia-Pacific, regulators blocked the $6.2 billion merger of Vodafone Group’s Australian business with TPG Telecom. In Europe, the Competition and Markets Authority halted the $10 billion Sainsbury’s-Asda merger.
Now, regulators across the globe increasingly are looking beyond issues of market consolidation to include consumer data and privacy, national interest and security, and future competition. Some sectors, such as technology, aerospace and defense, telecommunications, and healthcare, lend themselves to more scrutiny on nontraditional grounds than others do.
There are several recent instances of blocked deals and even rescindments on these grounds. In 2019, the Committee on Foreign Investment in the United States (CFIUS) demanded that Chinese digital healthcare company iCarbonX divest its interests in PatientsLikeMe and HealthTell, two US companies that collect health data. While the reason for CFIUS’s decision in this particular deal is unknown, it was speculated that the regulatory body had concerns that the private health data of American citizens would be exposed to the Chinese owner. Also, regulators have increased scrutiny on what are being termed “killer acquisitions.” In these deals, a large company acquires innovative targets only to discontinue the development of the targets’ innovative projects to prevent future competition.
A final important insight from our research: Corporations are partnering with cash-rich financial sponsors, such as private equity (PE) or sovereign wealth funds, to get deals done. Financial sponsors offer a source of capital and risk sharing. For their part, corporate partners bring strong industry knowledge and expertise. LEGO, through its owner Kirkbi (single-family office for the Kristiansen family), partnered with US PE firm Blackstone and the Canada Pension Plan Investment Board to buy a majority stake in UK theme park operator Merlin Entertainments for $5.7 billion. The deal will provide Merlin with the long-term investment it needs to execute on its growth plans.
More financial and corporate partners are joining forces solely to invest in new technologies, too. For example, Volkswagen, BMW, Goldman Sachs Capital Partners and other investors made a $1 billion coinvestment in Northvolt, Europe’s biggest lithium-ion battery plant.
And the year 2019 saw an increase in the number of take-private plays by both PE firms and activist investors, providing an option for companies to pursue their transformations away from the public eye.
What does this all mean?
Volatile economic activity led many executives to adopt a recession footing in 2019, yet M&A activity was surprisingly resilient. The number of deals ended 2% percent lower than 2018 levels, but final corporate M&A deal value reached $3.4 trillion—roughly the same as last year, according to data from Dealogic. That’s not a weak year by any measure.
While scale deals are getting harder to clear, requiring more time, expenses and remedies, they remain a proven route to building and extending a leadership position in chosen businesses. Scale deals accounted for about 40% of all deals valued at more than $1 billion in the year ending September 2019.
Wider regulatory scrutiny—enabled by digital technologies such as e-discovery, which can scan hundreds of thousands of documents on company IT systems and devices—raises the bar on deal evaluation, due diligence, and the depth of preparation needed for regulatory filings and engagement for both scale and scope acquirers. Companies need to be ready for a longer time to close, including the timing implications on value capture and, more importantly, the people costs.
Looking back on the year just ended, the rise in both growth scope and capability scope deals requires companies to adopt new ways of finding, evaluating and more selectively integrating targets. Yet, for many companies, scope M&A will be the best option for pursuing much-needed growth.
As M&A endures, evolves and remains an indispensable management tool, it also gives us a clear view into the changing shape of the struggles that executives face. And it becomes harder and harder to get right.
