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Not surprisingly, the pace of merger activity in 2008-09 has slowed dramatically as compared with recent years. Excluding a few megadeals, the M&A world has indeed been quiet. With a weak economy and an ongoing liquidity squeeze, most pundits expect that few significant deals will happen this year—and many think that is exactly the way it should be.
The prevailing view is that acquisitions are a luxury, to be pursued in good times and forsaken in the bad. The prevailing view is completely wrong. Deals are always risky, but doing nothing in a downtown may be the riskiest move of all.
Acquisitions and divestitures are key tools in the implementation of corporate strategy. Since corporate strategy needs to be implemented throughout the business cycle, in good economic times and bad, so must M&A. In fact, many of the most value-creating deals are done during economic downturns.
As the most successful buyers recognize, acquisitions made during periods when most firms are shunning deals actually provide the best long-term returns for shareholders. Studies by Bain, Boston Consulting, McKinsey, and others all confirm that acquisitions made during a downturn outperform deals made during more robust economic climates on almost all relevant metrics.
Want some examples? Diageo's (DEO) acquisition of Seagram Wine & Spirits from Vivendi Universal during the 2001 recession unalterably changed the beverage alcohol sector and made Diageo its global leader in volumes and profitability. (My firm, Sullivan & Cromwell, represented Diageo in the deal.) Also in 2001, Danaher (DHR) acquired Marconi's Commerce Systems and Videojet units. Those two businesses are at the core of two of Danaher's fastest growing, most profitable businesses.
Smart downturn acquisitions have not been limited to this decade. Bank of America's (BAC) acquisition of Security Pacific in 1991 and IBM's (IBM) acquisition of Lotus in 1995 were among the most successful deals of that decade. Looking further back, Johnson & Johnson's (JNJ) 1981 acquisition of Frontier Contact Lenses created the platform for what is today their industry leading Acuvue contact lens business.
Hallmarks of a great deal are the same no matter what the economic environment. For any acquisition to work it must be strategic, the due diligence must be thorough, there must be price discipline, and the integration strategy needs to be thought through clearly. Thinking that you are getting a bargain, simply because the price is lower in a downturn, does not mean that you can relax your criteria or change your approach. While prices, which are generally tied to EBITDA or some other measure of profitability, do fall in an economic downturn, the true value of the acquired business is its potential for future growth and profitability. Even sellers can benefit from deals done in a downturn since they obtain precious cash and gain the ability to focus on their core business at a time when it is most needed.
Successful companies recognize that recessions, or any crises, provide as many opportunities as they do dangers. These firms will also recognize that well-timed downturn deals present opportunities that are unlikely to be found in better economies. Tough times present openings to pick up businesses and assets that may be overleveraged or undermanaged, or that are simply no longer core operations for the seller. It is a chance to change the competitive dynamic in the acquirer's favor.
It is clear to me that the winners and losers for the next decade will be determined over the next six to nine months. In some cases, a firm's fate will be out of its control. But for the most part, companies will make the strategic decisions that will have long-term impact on them and their competitors. Those that choose to hunker down and hoard their cash may very well survive the current downturn. But the companies that aren't afraid to seize the M&A moment are likely to be the real winners in the years ahead.
Aquila is a partner in the Mergers & Acquisitions Group of Sullivan & Cromwell LLP. .