I once had a client that made fish products for manufacturers who in turn created packaged delicacies for the end consumer. My client was tempted at one stage to drift into making consumer products themselves. But they had absolutely no experience or competence in this area. It seemed just a step away, but actually there was a gulf of expertise between the two. Fortunately, the client pulled back before embarking on this hazardous path.

In this case the day was saved by asking an important but oft-forgotten question: What are we not?

For companies with a single product or highly focused offering, the question “” poses no difficulty and you can quickly move on. But As an enterprise expands and becomes more complex, this is an issue of critical strategic importance. Rapid success often blinds owners and leads them into areas where they have no business to be. 

Needless to say, just because you are not something today doesn’t mean you cannot become it tomorrow. The important thing is that any move from what you are to what you can be should be conscious and intentional, and not based on a misconception of your starting point.

Here is why. By blurring the boundary between what you are and what you are not, you can deceive yourself about competencies. So when you review the question “What are we not?” here is how to do it. Look at what business you are in, and where your core competencies are. Make a list of “cousins” that surround those core essentials — the business activities and sectors closest to your own. You are now staring at a list of pitfalls — pitfalls that could become opportunities, but only if you proceed with eyes wide open.

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Here’s one principle that Capstone lives by in its work with growing clients. Before you go buying someone else’s company, be sure you fully understand your own. This requires asking a few simple but powerful questions, such as: “What is your core competency?”

Companies, like people, often have mistaken ideas about where they truly excel. And like people, they sometimes need an outsider to shake off their illusions and get clear about the reality. So when you go in search of your core competency, follow some simple guidelines:

• Don’t trust your own assumptions
• Look at your company from functional angles
• See where your resources are concentrated
• See where your successes are concentrated
• Ask informed and intelligent outsiders

Here are some specific tactics that can help you focus on your core competencies. Review the key functions of your company – operations, marketing, sales, finance, management – and ask yourself which is the strongest and which the weakest. If you have a superb manufacturing plant staffed by the best in the business, but your sales team is struggling and your marketing strategy gathering dust, it’s pretty obvious where your strength lies. 

Another tactic is to view your firm in a competitive context: What do you do differently and better than your nearest competitors? What do clients seek you out for? Why do they stay? Is it something about the product itself, or a quality of your service and how you deliver? Or is it a perceived value in your brand, a matter of historic reputation or newcomer’s cool? 

Knowing your strengths is one of the most critical factors in building your growth strategy. For one thing, you will be looking to leverage those strengths as you expand rather than taking them for granted. Then you will seek to balance them by finding external resources that compensate your weaknesses. Finally, your strengths represent a marketing asset when you come to approach a potential acquisition. As all M&A players learn, the strategic buyer actually has to sell himself. Your strengths are part of the story that will make a seller take interest in a potential union.

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Why do stock market investors sell when prices collapse and buy when prices soar? Why do real estate owners display the same irrational behavior? The math is hardly difficult. It’s better to buy when valuations are low and sell when they are high. Yet human nature seems to require that we run with the market cycles instead of against them.

It’s easy to see how that plays out in M&A. The other day, one of our clients said to me: “We’re retrenching like everyone else”. Well that’s honest, but hardly inspiring. My response is: If you have a plan for growth, stick to it, irrespective of the market. After all, a good financial advisor would say no less about your plan for retirement. Stand by your strategy through good times and bad.

I understand the real world of company dynamics makes this easier said than done. In any organization, there will be a handful of people with the vision to see that M&A is often the fastest track to growth. But in times of economic anxiety, they will be told that their ideas are far too risky, that all we should be doing is focusing on cutting costs and getting by. 

In reality, the long-term winners will be those that are seizing on the extraordinary opportunities this current period is producing. They will be more proactive than ever, not just looking for bargains but seeing the chance to expand in existing markets and penetrate new ones by joining force with other players who are now more motivated than ever to contemplate some form of union.

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Officially, there’s been a drop of some 27% in M&A deals in the past year. In reality, this number is skewed by the large deals. In the markets where Capstone plays — mostly deals under $1 billion — there is a drop in activity but not to this catastrophic degree.

There are still plenty of healthy companies out there looking for ways to reposition themselves. And they are eager to take advantage of the lower valuations the changed environment has brought. Those that have fire in the belly are taking action to grow.

The mode of growth has shifted, however.  With the debt world crumbling and the flow of private equity almost dried up, creative executives are looking at alternatives to the traditional acquisition. Minority ownerships, joint ventures, strategic alliances… Reviewing multiple paths to external growth is part of the Capstone strategic process, so it’s interesting to see this trend emerging in the market at large.

One force that’s noticeable is the pressure from end-customers for consolidated solutions. They are increasingly impatient with dealing with multiple vendors. This creates the opportunity to become the preferred solution-provider, assuming you can team up with one or several other partners to offer a one-stop solution to the customer. 

It often takes vision at the CEO level to see these larger opportunities. I have been dealing with a couple of clients recently that have two or three successful lines of business running. There is no obvious problem with any of these lines, but the question comes up: “How do we rise to the next level?” That requires looking across and beyond the current lines to see what is possible through creative union with other players.

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Here’s a recent exchange between the two principals in an acquisition we are advising on. Seller to buyer, “So what’s your exit strategy?”  An odd moment in the circumstances. Usually, the last thing M&A buyers have on their minds is offloading the newly combined entity. Seems a bit like talking about divorce at a wedding.

In fact, the seller was revealing a rare foresightedness. Wise company owners keep a constant eye on the exit, and have plans for getting out even as they appear to be getting deeper in. 

Few owners I have seen actually exemplify this wisdom. They are too engrossed in the demands of growth, worrying about the next contract, the new hire, the late delivery… They are staring at the ground three feet ahead of them, not the far horizon. So when do they actually get to consider selling? When disaster strikes. A major account is canceled. A new competitor surpasses their technology. Three of their key people leave. 

Well no surprise, that’s hardly the optimum time to sell! Do you really want to put your company on the market when it’s worth the least? Better to think ahead while times are good. Having an exit strategy doesn’t oblige you to leave. Planning how to attract a buyer doesn’t compel you to hang a “for sale” sign on the door. 

You should not only have an exit strategy, you should keep revisiting and updating it as the market changes.  That way, you’ll be positioned to take advantage of your company’s strengths, rather than risk falling victim to its weaknesses.

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In my last post I commented on the opportunity that has risen in the mid-market with the concentration of investment banking focus on major deals. There’s a chance for third-party advisors like Capstone to do more than fill the vacuum recent events have created.

However, it’s important to understand what the gap really is — and actually always has been.

The problem with investment bankers is their hunger for the deal. It’s a healthy instinct in itself, but in the world of mid-market M&A where I operate it needs to be held in check by a broader perspective. The Capstone “road map” for acquisitions comprises three major components of which “Build The Deal” is only one — the third and last. The first two components are “Build The Foundations”, which establishes the strategic objective, and “Build The Relationship”, which sets the stage for successful negotiations.

Investment bankers by training and inclination tend to rush to stage three, “Build The Deal”, without giving adequate attention to “Build The Foundations” and “Build The Relationships.”  If you want one reason why 77% of M&A transactions end in failure, this is it.

To win at this game, you must know exactly why you are making an acquisition. As I’ve written elsewhere, successful M&A deals are driven by ONE clearly defined reason. Arriving at that one reason takes a process of strategic analysis.

As soon as you have your strategic objective, and a clearly defined path to achieving it, you’ll begin exploring possibilities with a number of target companies. There is a tremendous amount of skill required in this process of courtship, which may be going on simultaneously with several potential acquisitions at the same time.

M&A consultants to the mid-market who help their clients through these two challenging stages will have far more success with third stage, closing the deal, than most investment bankers. I know this for sure, because the success rate of Capstone’s deals is so far above the average.

This is a period of enormous change in the financial, business and  worlds. With change comes opportunity for creativity and leadership. Who do you see rising to the challenge? I’d welcome your comments on this.

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The short answer is: they got bought up by massive banks. The rapid consolidation of the investment banking industry is one of the most dramatic developments amidst the recent financial turmoil. The independence of the old IB firms has vanished, consumed by monolithic multi-function institutions like Bank of America.

The real question is, what does it mean for M&A?

Think of what happened as the accounting industry consolidated, gradually condensing to the Big Four that survive today. Operating on the scale they do, these institutions fix their sites on the largest possible accounts. They become almost exclusively oriented to major public corporations. For mid-market companies, they tend to provide an off-hand service, highly priced and staffed by their lowest tier consultants. We’ve seen a similar trend in the consolidation of the big law firms.

Now look for the same effect in the investment banking industry. They will continue to pay lip service to the mid-market, but the energy will shift to the corporations that are a closer match to their own scale.

For the mid-market, this will trigger a classic “creative-destructive” cycle.  It will open the way for specialist third-party advisors who are not investment bankers in the old mold. They won’t provide securities offerings or lead IPOs. They may not be so exclusively focused on the sell-side as investment bankers have tended to be. In fact, this new breed of mid-market M&A advisors will do more than fill the gap left by the investment bankers. They will provide broader strategic consulting, helping their clients

 manage external growth programs that include acquisitions and other pathways of opportunity.

Full disclosure here: this is the model that my firm Capstone has been pioneering for several years.

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If you’re thinking of buying another company, the scale of your projected acquisition is an important question you need to settle early on. 

Your objective is growth, and it would be easy to deduce from this that the bigger your purchase, the better. Not so. You’ve heard the familiar question, “How do you eat an elephant?” with the equally familiar answer “One bite at a time.”  That’s the mindset that works best when strategizing your external growth. 

It is dangerous to try to expand too far too fast and to make a quantum leap by acquiring a company much bigger than your own.  A series of small acquisitions will give you a better chance that each one will tightly fit the need it is supposed to meet.  Your acquisitions will also be easier to integrate and assimilate into your company’s culture.

This principle makes all the more sense when you combine it with my “rule # 1” — have a single reason to buy. Making several highly focused acquisitions will get you further, with more safety, than trying to meet multiple goals with one huge purchase.

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Companies buy companies to grow, but that doesn’t tell the whole story. In reality, there can be multiple reasons for an acquisition. Here’s a snapshot of some of the most common:

I’ve mentioned in an earlier post the importance of having ONE reason to buy, not several. Hopefully this menu of common motivations may help you focus on your singular purpose for an acquisition. 

Let me know your thoughts. Your comments are always welcome.

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I was struck by Matthew Karnitschnig’s excellent article in yesterday’s Wall Street Journal. His opening line was perhaps an overstatement — “M&A is almost dead”. But the gist of his piece is right on the money.

Mr Karnitschnig’s theme is the one I have been pounding in this blog for the past few weeks. In the world of M&A, cash is king. He points out the shift of power from sellers to buyers, and the extraordinary advantage held by cash-rich companies right now.

Despite that advantage, even the cash-rich players are mostly sitting on the sidelines right now.  Nevertheless, those that come out to buy are able to seize on significant opportunities that weakened companies present. The article also points out the rise in PIPEs (private investment in public enterprises), and makes an accurate observation that in the current climate, even where cash is available buyers are shifting their preference to stock purchases. Why? To hang on to the cash, of course.

One other very striking comment: “With growth unclear, buyers are more focused on what companies are earning now than what they may earn in the future.” That is no doubt true, but it’s an alarming truth. If you are considering a purchase, this is a trap you must make every effort to avoid.

One reason the deals we put together at Capstone are so frequently successful is that we are adamant about one principle: strategize your acquisitions in terms of future demand.

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