Acclaro Partners' Research and Strategy Weblog

INDUSTRY EXPERTS VS. GENERALIST CONSULTANTS – THE BATTLE FOR MARKET DUE DILIGENCE

The following post includes five presumed benefits of working with industry experts, and the five realities associated with these presumptions. 

 

Presumed Benefit #1:  Industry Experts have all the Necessary Information Readily Available	Reality #1:  Most Industry Experts Conduct Very Little Research; They Have Opinions
Presumed Benefit #2:  The Expert Opinion Must be the Correct Opinion	Reality #2:  Private equity investors forget that their investments are typically in very obscure, niche sub-sectors.  Industry experts cannot focus on narrow, shallow industries because there would not be enough demand for their services.
Presumed Benefit #3: Industry Experts are Quicker than Generalist Consultants	Reality #3:  Industry Experts Are Quick to Opine but Very Slow to Write a Cogent Report
Presumed Benefit #4:  Industry Experts Are Inexpensive	Reality #4:  You Get What You Pay For
Presumed Benefit #5:  Industry Experts Offer Options and Recommendations	Reality #5: Industry Expert Feedback is Rarely Actionable Board Level Feedback

 

Conclusion

Those considering hiring industry expert consultants should consider asking them five questions before doing so:

1.    Will you be conducting any real-time research during this project, or will the project be based purely on opinion?

2.    What are the backgrounds of your experts in the specific niche sector of interest?

3.    What is the timeline before we will receive a written report?

4.    What is the complete cost of the study?

5.    Will you be able to offer analysis, options, and recommendations that would impact our acquisition decision and the positioning of the Company going forward?

Based on the answers to these five questions, hiring an industry expert may make sense for your firm in a particular instance.  However, research-based generalist consultants with a “clean slate” approach are typically more thorough, provide more detailed quantitative and qualitative insights, create more user-friendly reports, offer actionable recommendations, and generally represent a better overall value.

Human Capital Assessments

Acclaro Growth Partners conducts market, competitive, customer, operations, and management research.  Our management assessment is an analysis of the management team, and the team’s working dynamics.  An organization is only as strong or weak as its management team.  Management assessments are effective in providing input on the strength of the human capital in your organization. 

Why conduct a management assessment?  One reason to conduct a management assessment is to augment due diligence activities.  In purchasing a company, it is important to look at three legs of the stool: financial, market, and management.  If only two legs are strong, the stool may not be able to withstand the pressure, and may tip over.  Savvy investors do not accept at face value what management says about the financials or the marketplace.  These investors also take the time to assess management.  Other reasons to evaluate the management team involve restructurings and management changes, changes in corporate strategy, and in situations in which there is a significant problem (declining revenues) and no clues as to the root cause of the problem.

How do we conduct the management assessment?  Our team is comprised of partners who have worked for large corporations.  They have overseen rapid corporate growth and have nurtured start-ups into stable and profitable entities.  They are skilled in conducting in-depth, targeted interviews designed to elicit critical information.  The interviews are semi-structured to prompt frank, candid, open conversations.  A team approach is typically utilized.  Optionally, there are personality inventories which may be utilized to provide greater insight into the team dynamic and individual styles.

What are some of the typical issues that are discovered during the assessment?  Below is a list of issues that we often uncover in our assessments:

· Organizational structure – Is there a pattern of shared values and beliefs that provides members of the organization with meaning and rules for behavior?

· Culture – Are people, work processes, and resources deployed to achieve organizational goals effectively?

· Talent acquisition and feedback – Does the company attract and retain exceptional talent?

· Performance feedback – Is there a systematic or structured process to set performance expectations and provide feedback on a consistent basis?

· Communications – Is there a system in place to provide employees with timely information about business performance, plans, and strategies, in order to make good suggestions for improving the business and to cooperate in major organizational changes?

· Training and development – Does the company invest in improving the technical and managerial competencies of its employees?

· Compensation – Is there a corporate pay philosophy that rewards performance, and that employees perceive to be equitable?

· Leadership capability – Does the core management team have the requisite breadth of experience to understand its market and manage the company to the next level of growth?  Does the leadership style motivate employees to work toward the company’s strategic goals?  How deep into the organization does the leadership capability permeate?  Does management operate with integrity and ethics?

· Dynamics of power – Who really controls what happens in the organization?  How are power and politics used in the organization – self-serving obstacles to success, or pathways to effective decisions?

· Decision-making process – Are decision made by an individual or a group?  How is information collected and distributed?  How long does it take for decisions to be made?

· Human capital investments – To what extent has the organization considered the importance of policies, processes, and procedures that foster growth and development of existing employees?

· Vision – Are there organizational leaders with clear visions of the future?  Are these visions aligned?

Management assessments can reveal the answers to all of these questions.  More importantly, they can help focus the efforts of the board.  Which areas require immediate attention, and which are concerns that can wait?  Consider a human capital assessment for your organization or acquisition target.

For more information on human capital, click here

Gradual Improvement in Deal Flow Activity

As a business strategy due diligence consulting firm partnering with many of the leading middle market private equity firms, Acclaro Growth Partners has a front row seat on the state of private equity acquisition activity in the middle market.

In spite of a general slowdown in deal activity that began in the latter half of 2007 the middle market we support outperformed the overall market through the first three quarters of 2008. However, deal flow in all segments came to a screeching halt when the credit markets froze in September of 2008. New deals involving platform companies continued to languish through the first half of 2009 but an increase in portfolio company strategy development and “bolt on” company acquisition helped to offset the lack of platform acquisitions.

However, the good news is that the level of activity is slowly improving. A number of factors are contributing to the improving environment.

1.    An improving economy

2.    An improving stock market

3.    Improving credit markets and availability of debt financing

4.    Improved portfolio company performance

5.    Ability to place valuations on corporate assets

At the same time the structure of the deal continues to evolve in ways that differ significantly from the pre-2008 structure. Today the deal is likely to:

1.    Consist of a higher equity percentage, 50/60% versus 20/30%

2.    Debt financing remains difficult and expensive - but increasingly available

3.    Earn outs, seller financing and rollover equity are frequently components of the deal

While the environment is improving and is expected to continue to gradually improve, the days of acquisitions that are highly leveraged, cheaply financed with a high likelihood of assured returns is currently a thing of the past. With so many added risk factors and a reduced margin of error it is understandable that private equity groups are turning more frequently to third party business due diligence firms to assist them with their business due diligence and evaluation of the business thesis of the target firm.   

"Co-Invest" Options for Pre-LOI Business/Market Due Diligence

Assumptions, assumptions, assumptions...In the weeks leading up to the presentation of a Letter of Intent, potential acquirers make many assumptions about the market positioning and business strategy of the acquisition target.  Some are bigger guesses than others (how much share will the company take from competitors).  Some are more important than others (how fast will the company grow its ebitda margins).  It makes sense to prioritize your laundry list of educated guesses down to one or two that are both a.) highly critical to your valuation model and b.) heavy on the "guess" and light on the "educated."

With only one or two important market/strategy issues to resolve and a week or two to gather data, you can decide if it makes sense to outsource the research.  A research-based strategy consulting firm is likely to get the work done faster, more objectively, and with more analytical rigor than an internal diligence team can -- mainly because the outsourced option is focused on the singular task at hand.

Paying for the pre-LOI research is a risky proposition.  What if you decide not to even submit the LOI?  What if you do not win exclusivity? What if the deal never closes?   Fortunately, some research-based strategy consulting firms are conducting this highly targeted, short-time frame research on a "co-invest" basis.  In other words, they are doing the pre-LOI research at no charge to their client under the assumption that they will win a larger market/strategy due diligence assignment if their client wins exclusivity.

So, for acquirers that have already vetted a business strategy due diligence consulting firm, feel comfortable with that firm, and intend to hire that firm for the full-blown diligence work, the pre-LOI research "co-invest" option may be a good idea.

The consulting firm will certainly have a leg up on its competition, and may be just as interested as you are in this concept!

Visit www.acclaropartners.com to learn more about our capabilities.

Add-On Acquisition Trend is Growing

While many private equity groups are having a difficult time pulling the trigger on new platform acquisitions, they are making hay with add-on investments for their portfolio companies.  In some cases, the financing for add-ons is easier to line up because the original loan agreements documented the terms for add-on contingencies.  There is generally less risk associated with strategic acquisitions of competitors than investments into entirely new, unfamiliar niches.  LPs, especially in these uncertain financial times, expect PEGs to do something -- and portfolio add-ons qualifies as a worthwhile use of PEG resources.  And, at the same time, add-ons certainly place some of the burden of returns on the management teams.  So the trend is currently toward an inward focus on portfolio comapnies and their add-on investments.

These add-on acquisitions do not require full-blown market/business strategy due diligence, but they do benefit from some aspects of business strategy diligence.  Customer calls reveal the degree of satisfaction, the unmet needs of customers, the reasons for lost accounts, and the fit between customer purchase decision criteria and the company's key strengths.  Management assessments uncover a wide range of issues related to individuals, the team, and most importantly, the cultural fit between the acquirer and the company being acquired.  Operations assessments are important diagnostics of the efficiency of the processes being carried out in the business model of the acquisition target.  They can reveal the low-hanging fruit that can be picked to improve profit margins, and the costs of these changes.

In conclusion, as private equity groups carry out add-on acquisitions, they should consider elements of the business strategy diligence process.  For more information, visit our website Acclaro Growth Partners.

Drivers of Business/Market Due Diligence in 2008

Business is good for providers of business strategy, or market, due diligence.  This is surprising since overall M&A activity is down.  There are three simple reasons:

1.  Lenders, previously reluctant to interfere with the due diligence process of sponsors, are increasingly requiring lead equity sponsors to hire third party business/market due diligence professionals.  In some cases, they are even specifying particular firms.

2.  The quality of deals available at this time is down.  Acquirers recognize that there are more risks associated with today's deals.  They wisely want to know about all of the skeletons in the closet (and how to remove them) before they close the deal.  The poor quality of today's deals is increasing demand for diligence.

3.  Over the past decade, there has been a consistent trend occuring in buyout shops -- while the old mantra regarding market/business due diligence has been "that is our job," more private equity groups today are recognizing that attitude is short-sighted.  They do not have the time to thoroughly conduct all aspects of diligence, or even oversee the outsourcing of all aspects of diligence, effectively.  Moreover, they recognize increasingly that their expertise is simply not conducting the primary research calls that constitute good market/business due diligence.  Thirdly, they understand that customer calls (which are the extent of the business/market due diligence that most groups would conduct internally) are not nearly comprehensive enough.  Conversations with competitors of the target, suppliers, and market experts, can be much more revealing.  So the trend toward outsourcing is growing.

As the economy improves, the lending conditions improve, and the financial conditions of the private equity portfolio companies improve, we should see even greater use of third party market/business due diligence.

Wildcards and the Due Diligence Process

Some of the best business stories are about the company, or the competitor, who ignored the rules of the game, thought outside the box, and experienced tremendous success.   We encourage clients to develop a process for gaining and maintaining an awareness of the potential for disruptive, disintermediating, playing-field-altering opportunities.  And we encourage clients to be aware of surprising threats as well.  Otherwise unforeseen opportunities or threats are known as “wildcards.”  Acclaro developed a proprietary approach and process that assists executives in identifying, evaluating and capitalizing on them.  Acclaro’s WildCard ScoreCards™ alert senior management to these opportunities. Acclaro classifies wildcard opportunities as external awareness and internal capabilities which, once exploited, can become wildcards.  For more information, click here Wildcard Link.

Due Diligence of the Value Proposition and Brand Promise

As part of Strategy due diligence, we explore three tenets of a company’s promise of value – its value proposition or brand promise.

First, we determine if the company’s unique selling point is truly unique. Are competitors doing precisely the same thing that this company claims is well-differentiated?

Second, we assess the customers’ needs and interests to determine if the customers actually care about the Company’s presumed point of differentiation.  It may be unique and different, but if it does not motivate customers to purchase, then who cares about it?

Third, we analyze whether customers are getting the message about the unique selling point of the Company. It may have a truly differentiated offering, that customers want and need, but if the customers are not receiving the message about it, the whole offering is for naught. 

When a company passes these three tests, its value proposition and brand promise are effective.

Strategy Due Diligence

At Acclaro Growth Partners, we define our work as business strategy due diligence.  To us, that work breaks down into three "buckets:"  External, Internal, and Strategic.  Today's blog post concerns the Strategic bucket.

Strategy due diligence, typically conducted in concert with the Internal and External research, involves an assessment of the direction of the Company,  Wildcards that it may not be considering, and the Value Proposition and Brand Strategy of the Company.

By design or by default, every company has chosen a strategic direction, or its path to the future.  Our strategy due diligence work assesses the validity or efficacy of that path.  We also analyze the company's strategic planning process (if any), the fact-based inputs into that process, and the management team's perceptions of the value of planning.  The result is an analysis not only of the plan, but also the process, the inputs, and the people involved.

Human Capital and Management Due Diligence

Human capital assessments explore Recruitment, Selection, Training and Development; Leadership Development; Culture; Systems for Performance Management; and Feedback Loops.  As we conduct human capital due diligence, we examine the company’s talent acquisition and retention success; we check out training and development capabilities; we look for cultural and ethical consistency; we try to find compensation systems that reward behaviors that connect to the strategy and the corporate goal; and we test for performance feedback programs. The result is an understanding of the relative strengths and weaknesses of the acquisition target, from a human capital perspective.  This work aids in determining if there are reasons to walk away from the deal that involve management.  It also helps in the creation of a 100 day action plan for management, in the event that the buyer decides to go through with the deal.  Click here to learn more