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The Desire To Acquire & The Urge To Merge

By Cliff Kurtzman
Chief Executive Officer, ADASTRO Incorporated.


November 17, 2005

“Fortunate, indeed, is the man who takes exactly the right measure of himself and holds a just balance between what he can acquire and what he can use.”
----Peter Latham (1789-1875).

Clifford R. Kurtzman, Ph.D.
Cliff Kurtzman
Photo Courtesy EPIZENTRUM

Last week I teamed up with's Jay Weintraub to present an overview of the online advertising industry at the AD:TECH New York Conference. AD:TECH is the bellwether event within the interactive marketing industry, and the conference in New York set new records for attendance (8,300+) and exhibitors (200+). (See the November 7th story in DMNews, "Ad:tech Becomes 'Behemoth' in Industry," in which I am interviewed.)

The session that Jay and I gave at AD:TECH was entitled "A Crash Course on the Digital Marketing Vendor Landscape." This was the second time we have presented this session at an AD:TECH event, and we evolved the presentation considerably based on the feedback we received after first giving it in Chicago this past July. One area that Jay and I focused on during the presentation last week was to provide a perspective on much of the merger and acquisition (M&A) activity going on within the industry. This has provided me an opportunity to share many of my thoughts and observations regarding M&A practices with Apogee readers as well.

After several years of relative inactivity, the past two years have been increasingly fervent in terms of M&A related to companies in the online marketing industry and to the publishers of online content. This year alone, we've noted more than 100 acquisitions, with more than twenty of them taking place for dollar amounts ranging from $100 million up to $4 billion dollars. With deals flying around faster than you can blink, it can be hard to keep track of everything going on and put it all into perspective. We all see news stories about a variety of big deals taking place on an ongoing basis, but one seldom has a chance to see in one place a summary of the deal flow over a period of time. Reviewing such a summary allows one to get a handle on what kinds of companies are making acquisitions, what kinds of companies are being acquired, and what kinds of prices are being paid in many of the deals. In order to sort it all out, I've put together a summary of the 2005 M&A deal flow, and I've included a link to it below in this edition of the Apogee to help you see the spectrum of deals taking place.

Companies will justify entering into M&A activity for a variety of reasons. Here are some of the most common:

  1. The need for speed: In a world where everything is moving fast, making an acquisition can instantly open the door to new markets, new geographic locations, and new business models, as well as new customer and business relationships that might otherwise take years to establish through organic growth.

  2. Avenues for revenues: Companies with publicly traded stock, or private companies that find themselves cash rich but revenue poor, can use their cash or stock to buy companies with solid revenue streams that will instantly boost their earnings. This is particularly true when we see newer companies in "hot" business sectors (those that command a premium in stock price) buying up older businesses with solid revenues but far lesser premium on their valuation.

  3. The dash for cash: Public companies can use their stock to acquire cash rich companies, thereby trading their stock for cash without having to make a new stock offering. Conversely, companies with too much cash might be motivated to make acquisitions to burn their cash and thereby make themselves less attractive as a takeover target.

  4. To expand the brand: Companies may seek to acquire people with unique capabilities, relationships, and positions of leadership, unique assets such as domain names and web sites, or brands which have established special and unique value and that will thereby increase the value of the combined organization.

  5. To prepare to gain market share: Sometimes companies see an acquisition as simply a way to get more of a good thing and capitalize on the economies of scale. Gaining market share can often allow an organization to control the market and raise rates.

  6. To reduce costs and control quality: Companies may acquire other businesses within their supply chain to enable them to reduce costs, control quality, and increase profits.

  7. To preempt unwanted competition: Sometimes companies acquire other companies to prevent a potential competitor from deeply entering their market, or to prevent a company from being acquired by another competitor that could then leverage the asset against them.

  8. To add critical value to an under-performing organization: Sometimes a company will be floundering by itself, but in the hands of an acquirer with the right resources and connections, it can be turned into a much more profitable venture.

  9. To diversify and reduce risks: With the dynamic pace of change in the online world, we sometimes see companies in the online space diversifying by making acquisitions in related offline businesses that offer synergistic business models with less inherent risk.

Okay, these are the "official reasons." Yet in an industry as new, dynamic, and evolving as the interactive marketing industry is at present, you probably won't be surprised to find out that the reality is that deals get put together in some very strange ways and are motivated by some very odd reasons. Here are some that undoubtedly also take place:

  1. Our stock is floundering and we've got to do something about it FAST: Making acquisitions can seem a straightforward way to show that management is working hard to make deals and take the company to a new level. This isn't necessarily a bad thing... sometimes organizations do become complacent and lose the drive to continue to grow and expand, and this can motivate an organization to wake up and move. Nonetheless, the acquisition still needs to be well justified based on one or more of the criteria outlined above, and not something that is done just to "stir the soup."

  2. Competitor envy: Seeing that a competitor is making acquisitions and wanting to not get left out of the game. This is the "lemming suicide syndrome" which I have written about in the past, and it is a poor reason to make an acquisition. Just because everyone else is jumping over the cliff doesn't mean you should too. Sometimes it is better to let your competitor have a deal that doesn't make sense so you can laugh at them when it fails to deliver the performance that they expected and they realize they would have been better off never having made the acquisition.

  3. Empire building: Often coupled with competitor envy, this is a CEO's desire to build as big an empire with as many employees as quickly as possible. This is also a poor reason to make an acquisition -- as a general business rule, the strongest organizations with the greatest value find ways to make as large a profit as possible with as few employees as absolutely necessary. An empire building mentality tends to go in exactly the opposite direction, decreasing profit margins while increasing staffing counts.

  4. Convenience: Sometimes there is a tendency simply to make a grab for whoever is closest and easiest. Making a deal to acquire an organization that you know and have worked with can in fact reduce risks and ease the transition. But that is only one factor to consider, and familiarity with an organization does not necessarily imply that acquiring them will provide the greatest return on investment with the least risk. Also, if a deal fails to close with an existing business partner, then there is an added risk that the pre-existing relationship might be jeopardized as a result.

  5. The FOR SALE sign is out: Sometimes an organization actively looking to be acquired can offer valuable assets at fire-sale prices, while other times all they are doing is trying to find a way to make their problems someone else's. Buying a company that is looking for a buyer can often be convenient and easy, but isn't always the best choice.

Sound M&A practice involves:

  1. Defining clear objectives. The acquirer needs to have a plan for where they are going and then design pathways and alternatives, along with associated costs and timetables, for achieving their goals.

  2. Investigating and researching multiple alternatives for achieving success. The acquirer should never allow themselves to be in a position where moving their business forward is held hostage to the closing of any one particular deal, because the acquirer cannot control whether or not the acquisition target will accept an offer that they believe is reasonable and appropriate. The acquiring organization should evaluate alternative strategies to rank various courses of action in terms of their benefit/cost ratios and their degrees of risk. If the cost of "Plan A" gets too expensive, or the risks start appearing too great, then the organization should have other alternatives to pursue. This is another reason why companies should not limit their acquisition choices to those they already know or work with, but should instead make a real effort to investigate the universe of potential acquisitions to find the fit that will bring them the greatest return.

  3. Knowing when to walk away from the table. If the deal isn't making sense, then it is important to be able to walk away without regret because there are better alternatives to pursue to reach an objective. After exploring the possible acquisition of AOL, a Yahoo! spokeswoman was quoted in the press this past week as saying "After we learned what their proposed deal terms were, we passed and we've never looked back." This is a healthy attitude to take.

  4. Developing a detailed plan for post-acquisition governance and cultural integration. Studies have repeatedly shown that between 50% and 80% of mergers fail to achieve the objectives that had been set in making the transaction. Acquisitions rarely fail because one or both parties didn't perform adequate due diligence. Acquisitions tend to fail due to inadequate leadership and governance of the acquired entity as well as difficulties in integrating disparate cultures. When the transaction closes, the work related to making the acquisition a success is only just beginning.

  5. Getting outside help. There is a tendency to focus primarily on putting together the financial resources and support required to evaluate and complete the transaction. However, an organization may also need support from consultants with deep expertise in selecting and evaluating the business models of potential acquisition candidates, and in putting together effective post-acquisition management and integration plans that will allow the investment to achieve its potential.

From the point of view of the acquiring business, the goal is to buy organizations offering the greatest ratio of benefits to costs with the least risk. From the point of view of a business looking to be acquired, the goal is to find the right acquirer who will see and pay the greatest value for the acquisition of their business assets. In both cases, finding the best deal partner requires exploring a spectrum of alternatives. It is only rarely the case that a company that is first considered, or that is the most convenient to make a deal with, is the one who will maximize value.

There is a tendency to think that larger organizations making larger acquisitions are going to be more intelligent about understanding the risks and rewards of the deal, but history shows that just isn't so. Simply because a company just spent $150 million on an acquisition doesn't necessarily mean they fully understand the repercussions of the deal any better than an organization making a $150 thousand acquisition. In fact, I would contend that as the size and complexity of the deal increases, the ability of the individuals responsible to fully understand the consequences tends to steadily decrease.

Also keep in mind that large company cultures can sometimes create situations where deals are made for reasons that further the short-term agendas and careers of individuals within the organization, but are not always aligned with the best long-term interests of the organization as a whole. In a smaller organization undertaking an acquisition, where an owner knows that they are personally going to have to deal with the financial and managerial consequences of the deal for a very long time, this is less likely to happen.

Studies have shown that companies that engage in a lot of smaller deals produce better results (nearly twice the excess shareholder return compared to intermittent buyers, as calculated by subtracting the company's cost of equity from total shareholder return). This seems to be due to two primary factors. Firstly, the integration of a smaller entity tends to be less complex and less risky than dealing with the integration of a larger business. Secondly, companies that engage in acquisitions on a regular basis continually refine their negotiation and integration skills and processes based on lessons learned.

Sometimes one can tend to think that the value of a business can be determined in a straightforward manner by an evaluation of its financial statements, but in an evolving industry like the interactive marketing and advertising industry, nothing could be farther from the truth. Different acquirers will see very different values in the exact same business, because they will perceive very different futures for how the acquired company will add value when combined with their own resources. Factors such as brand value, business reach and relationships, and other unique assets can add a very substantial premium to the value of a business in the eyes of the right acquirer, whereas in the eyes of other potential buyers, those very same assets may offer very little value.

One role that ADASTRO focuses on is in helping companies that want to eventually be acquired or IPO grow in a way that will enhance and then maximize the perceived value of their brand and other off-balance sheet assets. A study conducted by HP a couple of years ago found that these assets can add an average of 40% to the valuation of a company. Recent acquisitions of Neopets, MySpace, Linkshare, and Skype showed huge valuation premiums, and these kinds of exits are the holy grail for the entrepreneur. Conversely, recent exits for WebTrends, DoubleClick, and Fastclick seemed motivated under very different circumstances and did not appear to offer the sellers the same kinds of premiums.

Some organizations find themselves so inwardly focused on their operating performance and on their balance sheet that they don't have a chance to take an outward focus that emphasizes perceived value in addition to revenues. In other organizations, the management is so close to the business that they have difficulty seeing their organization in the way that it is perceived by others external to the company. An organization that fails to create a strong brand and other off balance sheet assets is leaving significant money on the table at the time of exit. While this isn't something that can be corrected overnight, one can easily point to organizations within the industry for which a directed and focused strategy aimed at increasing perceived value could easily yield substantial results (measured in magnitudes of tens to hundreds of millions of dollars for some companies) over a period of less than a year and at costs that are trivial in comparison to the value added.

With that in mind, our summary of the industry M&A deal flow, starting with January, 2005, is posted on our Online Advertising Discussion List web site at:

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