Acquisition Marketplace Review - The Journal of Applied M & A Theory

Strategies to Avoid the Overpayment Trap

The Overpayment Trap (see Vol. 5 No. 1 Acquisition MarketPlace® Review) explored how the M&A process is oriented toward getting sellers top dollar for their companies. Becoming mindful of the overpayment trap and deciding to take proactive measures to avoid it are essential first steps. This article provides specific strategies and techniques that you can use to avoid overpaying for a friendly acquisition.

Obviously, a buyer may overpay by miscalculating their relative negotiating position
and offering a price that is significantly more than the amount a seller would accept. In addition, a buyer may overpay when the price paid does not provide for an adequate return on investment.

Why is one buyer willing to pay more than the others? Two reasons come to mind. First, a buyer may want the company because of the role the acquisition will play in fulfilling its strategic mission. Such a buyer may pay a significant premium over Fair Market Value if they are under a compulsion to act, unlike the hypothetical buyer in the definition of Fair Market Value who is not under a compulsion to act. Secondly, a given buyer may be better positioned to maximize returns from a particular acquisition.

Avoiding the overpayment traps involves four essential business arts: strategy, negotiation, due diligence and pricing. These four arts work together. Clear strategy, skillful negotiating, careful strategic due diligence and disciplined pricing are all hallmarks of sensible dealmaking. On the other hand, weaknesses in strategy, negotiating, due diligence or pricing can lead to overpayment.

The Art of Strategy

Acquisitions should be driven by a company’s business and growth plans. A company’s strategy is based upon its present position, where it is going and how it plans to get there. The key question is, “will the company’s strategy be best achieved through organic growth or by means of M&A?”

Strategy is the cart and acquisitions are the horse. Whether you are seeking a single
acquisition or several, your acquisition program should advance your company toward its growth objectives. However, your growth objectives and strategy should define your acquisition program.

The basic reasons for making an acquisition are to:

  • Leverage existing assets and capacity.
  • Acquire needed or desired capacity.
  • Acquire a platform company.
  • Acquire a business position (an immediate entry and/or dominant position).

Establish acquisition criteria in writing. Once established, acquisition objectives should be prioritized and formalized in writing. Of course, the objectives can be updated and modified to reflect your current strategic thinking, but they should be in writing. The human brain and ego are powerful forces. Emotion, executive hubris, and groupthink can obscure reason and result in shoddy decision making. Pursuing the deal-of-the-moment can waste precious time and resources.

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