Pursuing deals where you can add unique value has long been considered a sound acquisition strategy, but new research suggests it is a major indicator of potential returns.

According to a new paper published in Management Science, the gains from an acquisition to the buyer are largely dependent on the unique attributes it brings to the table, as compared with other bidders.

“The research links nicely with the idea that you should be doing mergers and acquisitions for a reason,” says co-author and Rotman associate professor of finance Andrey Golubov. “The transaction should have some strategic meaning that fits into the overall strategy, as opposed to a pure financial play.”

Why acquirer gains have flat-lined for 40 years

Golubov says the researchers arrived at that conclusion while trying to understand why the average gain from an acquisition for buyers has languished near zero for the better part of 40 years, despite significant gains in management practices, corporate governance and incentive alignment.

“All of that should have led to improved decision making and improved acquisition performance,” he says. “But we just don't see it in the data.”

After an examination of acquisition returns over the last four decades, the researchers found that the mix of firms making acquisitions has changed significantly over time.

"A large chunk of acquirer performance is explained simply by who you are, your identity as a firm," says Golubov. "There seems to be something ingrained in a company that makes some of them very good acquirers and some very poor acquirers.”

What makes a “good acquirer?”

Researchers showed that in a competitive bidding process, the more the acquirer is uniquely positioned to add value to the target company, the more they stand to profit from the acquisition.

That might include an existing distribution network, proprietary manufacturing processes, a sales force with existing experience in the category, or other unique attributes that align with the products or services of the acquired business. Essentially, anything that allows bidders to add unique value to the company upon acquisition can ultimately improve their returns, so long as other bidders aren’t competing with the same resources.

Golubov explains that if two or more bidders can extract the same value from an acquisition they are likely to bid up the price to the point at which they break even on the deal. If one is uniquely positioned to benefit from the acquisition, however, they only need to outbid competitors that expect to see lower returns and thus have a lower bidding threshold.

For example, Golubov says if the target company has a consumer goods product that has seen success in a local market and has potential for global expansion, an acquirer with a global distribution network stands to gain more from the deal than bidders that don’t.

If multiple bidders come to the table ready to take the product global, and are thus able to enjoy greater returns from the acquisition, they are likely to push the price up to reflect its potential value. If just one bidder can maximize the target’s potential value, however, they only need to outbid competitors who expect to see more limited gains, keeping the price relatively low and the returns for the bidder relatively high.

“If you have different private equity shops bidding against each other, that’s an example of a low uniqueness situation, versus a strategic buyer that could do many of the things the private equity shop could do, plus offer some unique synergies, distribution channels or other advantages,” Golubov says. “In theory this strategic buyer should be able to always pay more than the private equity shop – assuming there are no regulatory or financing constraints, of course.”

Good acquirers are hard to find

Once the researchers controlled for this “bidder uniqueness” element they found that mergers have become more profitable over time, but total returns to acquirers have remained flat.

“Overall, we show evidence that is consistent with bidders becoming less special, less differentiated over time,” Golubov says. “Over the almost 40 years of our sample period, we have moved towards a world where mergers have become more profitable, but winning bidders are less unique, and so they capture a smaller share of those otherwise growing synergy gains.”

As a result, Golubov says companies should prioritize acquisitions where they can offer unique value to the target company. Otherwise, the research suggests the price is likely to get bid up to a point that dilutes any potential gains.

“What our framework demonstrates is that if you are not the bidder offering the most value, you're going to be outbid anyway, so don’t waste six months of your life on a deal you’ll ultimately lose,” he says. “But if you are the only bidder in the world, because the target has not engaged anyone else, you are unique in that sense.”

Companies looking to sell are therefore encouraged to seek out not just the largest number of potential buyers, but the most diverse field of potential acquirers, according to the study.

“If they don't engage any competition, then their bargaining power is low,” Golubov says. “You want to engage bidders who can create the most synergies, and you also want competition so that the strategic buyer gives up as much value as possible, so you want to engage a diverse set of buyers.”  

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