Throughout most of the past two years, acquisitive companies turbo-charged their due diligence processes as mergers and acquisitions (M&A) values topped the record highs set in 2015 ($3.96 trillion) and 2007 ($3.67 trillion), per data from White & Case. After the pace of dealmaking decreased in late 2022, the need for speed has shifted to the time it takes a deal to achieve its projected returns.
While investment bankers and other M&A specialists disagree on their projections of the M&A landscape in 2023, virtually all boards of directors agree on one thing: They want to see results sooner rather than later.
Meeting this expectation falls squarely on the CFO. As the primary internal sponsors of M&A transactions, finance leaders must ensure due diligence efforts are comprehensive enough to satisfy the shortening timelines for returns on acquisition that more boards and investors demand. This means CFOs will need to exercise and emphasize different M&A muscles in 2023 than they have in the past 24 months.
The M&A forecast for the next 12 months is decidedly split, nearly evenly so, among two camps: those who expect a brief and shallow downturn in the global economy, and those who project a longer, deeper recession (though still an historically milder slump). The first camp expects M&A activity to accelerate as soon as Q2 while the latter camp expects an increase in dealmaking to arrive closer to Q4.
Regardless of which projection proves more accurate, CFOs should recognize that a slowdown in dealmaking volume is unlikely to affect all industries the same way. Transportation, logistics, healthcare, life sciences, banking and other industries that have more of an ability to pass through higher costs to end customers will be better positioned to sustain, or even increase, profit margins. These companies will also have the cash needed to execute deals. In addition, private equity firms have plenty of dry powder on hand and they may be eager to deploy their cash given how much valuations have decreased in some sectors. Those PE firms are, in fact, more likely to focus on M&A as an exit strategy than on capital markets transactions such as IPOs or de-SPACs.
As a result, CFOs and their C-suite colleagues across all industries should keep their M&A platforms primed for action. Regardless of whether that capability resides internally, externally or a combination of both, it should remain ready to fire on all cylinders. The same holds true for CFOs, whose role as the main M&A sponsor is more pivotal than ever. As they respond to new board expectations and uncertain marketplace conditions, the following four actions are key:
Intensify and expand due diligence
The torrid pace of M&A activity in 2021 and much of 2022 forced companies in high-growth industries to make acquisitions quickly and, often, under significant pressure, lest a competitor swoop in with an offer the target company could not refuse. In that environment, corporate development teams frequently pared back due diligence efforts to concentrate on financial and legal contract reviews while leaving cybersecurity, operational synergies, sustainability and other crucial considerations to address during post-close “diligence confirmation” and integration work.
That approach delivered mixed results. One reason (though not the only one) driving the recent wave of layoffs in the technology industry is that acquisitive companies have yet to achieve the expected synergies from their deals completed in 2021 and 2022.
Streamlined due diligence does not cut it in the current environment. Boards want integrations to deliver their expected value sooner. These expectations mean that CFOs should tap the brakes on the pace of due diligence while expanding its scope and enhancing its rigor.
Dig deeper into governance and operations to sharpen accountabilities
Given the current uncertainty in the economy, CFOs and their corporate development teams need to provide greater assurance that an asset their company buys today will increase in value a year from now. This determination necessitates intense scrutiny of a target’s governance and cost structures.
If the synergies are operational, it does not suffice to project that they’ll amount to, say, a 50% boost in EBITDA. Instead, CFOs and corporate development teams need to pinpoint where cost reductions will occur, who is on the hook for achieving those goals (e.g., HR, operations, marketing, etc.), and when the value will be captured. Bottom line, accountability for results is vital because the board wants to see results sooner rather than later. To that end, it is equally important for CFOs to have a detailed understanding of their own organization’s cost structure. That knowledge is critical to ensuring that projected synergies can be achieved so that the deal will be accretive moving forward.
Treat more risks as “project-critical”
Besides zeroing in on governance, operations and cost structures and assigning responsibilities to achieve results, due diligence efforts should assess other risks within the target company, including those related to regulatory compliance, cybersecurity, data privacy, ESG, DEI and human capital. While those considerations could be assessed in sequential fashion in the pre-COVID M&A era, today they should be evaluated simultaneously as the CFO engages the M&A team in thinking through what can go wrong and developing mitigation plans. In other words, to the extent that those factors affect the acquiring company’s valuation, they should be an essential part of the assessment of the acquisition target, in order to give the CEO and board a clear picture of how accretive the acquisition will be and greater clarity through realistic integration assumptions and timelines.
Address talent challenges on both sides of the deal
Despite recent layoffs in some industries, longer-term, more systemic talent and skills shortages continue to pose challenges. Talented employees, including those in the upper levels of leadership, who play a crucial role in planning and executing the post-merger integration process likely can find another job in short order. Consider that in a recent global survey of board members and C-suite executives, a top risk for the next 12 months is that changes in the overall work environment, including M&A activities, may lead to challenges to sustaining the organization’s culture and business model.
That is why CFOs should focus on retaining valuable skills and leaders with key consolidation responsibilities in both organizations. If executive colleagues helping guide the deal to completion read — or misread — the tea leaves concerning the viability of their role after the transaction closes, they might jump ship, sparking a scramble to replace them at a most inopportune time. CFOs should also make sure that due diligence on the acquisition target focuses on the impact the inbound talent will have on corporate culture. Likewise, they should consider the impact that corporate culture will have on the ability to integrate successfully.
To prevent an ill-timed brain drain, CFOs should consider locking down key executives in both organizations with retention packages. While this may sound like a responsibility for the CHRO, keep in mind that CFOs are often the deal’s sponsor and that talent-related risks and concerns represent top CFO priorities. Of note, research has determined that companies are much more likely to capture cost and revenue synergies that are at or above plan when the CFO is “very involved” in merger integrations.
In scanning the M&A landscape, the next 12 months, and possibly beyond, look to be much different than the prior two years. When it comes to the organization’s M&A plans and achieving returns, expectations have changed and CFOs and their teams need to be ready to act.
This article originally appeared on Forbes CFO Network.
Read additional posts on The Protiviti View related to M&A.