How to find and maximize digital value in any M&A deal

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The digital revolution is changing the dynamics of M&A transactions. IT used to represent a cost that needed to be managed and controlled as two organizations came together. Today, IT and digital capabilities are often the driving force behind the transaction.

But, even when an acquisition centers around a company’s other attractive assets, digital capabilities can provide a significant source of additional deal value, particularly for legacy companies still struggling to catch up to digital natives and the more technologically advanced and entrenched players in their respective markets. The need for incumbents to quickly ramp up their digital capabilities has only become more urgent in the wake of COVID-19, which has precipitated a sudden and dramatic shift to digital channels.

Savvy acquirers have increased the role of their digital and IT leaders in all aspects of the acquisition process to help them identify and assess a target’s digital capabilities. But uncovering digital sources of value is only half the battle. Such value can be realized only through a smooth and smart integration of the acquisition’s IT and digital assets, an effort heavily dependent on the prowess of the acquirer’s IT and digital teams (see Exhibit 1, where technology is a central pillar of the integration management office).

Best-in-class integration management offices include a workstream specifically focused on IT and digital.

In this article, we offer a closer look at how executives can uncover and maximize the digital value in their M&A transactions through targeted due diligence, through proper planning and execution, and by jump-starting digital transformation in the post-close phase.

Due diligence: Target sources of digital value and risk

Due diligence in the M&A process frames the potential transaction by carefully delineating the deal rationale and identifying the major sources of value and risk. Increasingly, at least some value—and often a substantial amount—is found in digital, whether it’s proprietary data such as customer purchasing profiles, advanced technology platforms such as e-commerce capabilities, or cutting-edge talent. Of course, a target’s technology could also be the source of risks.

Think more broadly when finding digital value

When assessing digital value, it is essential to understand and quantify the skills, capabilities, and technology at stake and how they would fit into the combined organization. Software platforms, for example, may be among the most valuable assets that a legacy company acquires in a transaction because they can equip the combined entity to pursue strategic digital goals such as creating and marketing digital products or enhancing customer experiences. A sophisticated customer-relationship-management (CRM) platform can supercharge an acquiring company’s marketing and sales programs. Other major systems relevant to specific industries, such as manufacturing-execution systems and quality-management systems, can add capabilities that will help generate value for the entire business.

In other cases, a legacy company may look to an acquisition as a way to quickly modernize its aging IT environments and rapidly eliminate technology debt. For instance, legacy companies can avoid much of the onerous business-process redesign and system-upgrade effort by acquiring a business that has a modern enterprise-resource-planning (ERP) system and well-defined business processes, and transitioning their existing systems to those of the target company. An entertainment company, for example, drove significant value by expanding the superior digital customer-facing and sales applications of its acquired company to accommodate its broader client base.

Digital talent can also be a source of value. A target company with a large cohort of data scientists, cloud architects, or full-stack developers can be particularly attractive for a company lacking technical depth. However, this talent must be tied to increased shareholder value, such as increased revenue, decreased cost, or more efficient use of capital, to be a justifiable aspect of the deal rationale.

Root out technology risks, including cybersecurity

Along with technology value, acquirers must also identify the potential technology risks as they conduct their due diligence. Some businesses carry risk in the form of large-scale IT projects that have capital funding committed for years into the future. Not only should a potential acquirer evaluate the business case for these projects, but it should also evaluate the ability of the company to deliver against the plan. A significant portion of IT projects end up doubling or tripling both budgets and delivery timelines—without generating any additional value. In a recent transaction in the chemicals industry, the acquisition target was a few months into a multiyear ERP upgrade, with the vast majority of the investment still to come. Had the proper due diligence not been done, the acquirer would have been faced with a large, unexpected hit to its financials.

An additional technology risk that is often overlooked is cybersecurity. Acquirers need to do their homework on the target’s history of cyberattacks as well as evaluate the strength of the target’s cybersecurity defenses to determine if there is higher than expected risk of an attack or breach in the future. Smaller target companies are often less sophisticated than their acquirers, leaving them more vulnerable to cyberattacks. From the announcement of a deal to the close, the frequency of attacks typically increases by ten to 100 times. Hackers seek to exploit temporary vulnerabilities that can appear as organizations bring their IT environments together, including using previously compromised systems as launchpads into the combined company’s environment, leading to significant financial and reputational damage. Once a deal is announced, target companies are often reticent to do any further digging into their cybersecurity vulnerabilities for fear of jeopardizing the transaction—making rigorous examination of cybersecurity risks even more important.

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Integration planning and execution: Ensure the value of technology

Having identified the digital value that underpins the merger, companies now need to develop a strategy for integration planning and execution that will enable them to deliver the value they’ve committed to. To do this, integration leaders must build out a technology-integration road map, or technology blueprint, that realizes the full value while minimizing risks. A technology blueprint specifies the design of the integrated company’s systems, data, and processes, just as an organization chart specifies the company’s structure.

Identify sources of value tied to the deal rationale

Each transaction is unique, with its own rationale and integration priorities. The first step in building a technology blueprint is to identify the key elements of the deal rationale that involve technology and to develop and prioritize solutions against them.

Integration leaders should work closely with technology experts and business or functional leaders to identify where technology is needed to meet the deal rationale and to quickly chart a course to integration. The integration road map will be a clean-sheet plan, aligned with all key stakeholders, covering the end-state solution, projects, resourcing, and investments required to deliver the technology portion of the integration. Teams may also need to develop a similar set of plans for an interim solution, if one is necessary before the long-term solution can be deployed.

In a recent healthcare merger, the business unit being acquired utilized direct-to-consumer sales, but the platform was excluded from the transaction. As a result, one of the top priorities in integration planning was to build out a new direct-to-consumer sales platform to ensure revenue continuity and, thus, deal value. In another large merger, the deal rationale was primarily centered around combining operational sites, but a secondary consideration was the robust suite of digital tools that had been deployed by each company. As a result, one of the top integration priorities was to evaluate the tools and build a road map to extend them into each other’s footprints to maximize the benefits from the enhanced capabilities. The integration team gave both of these technology-integration projects high priority to ensure they secured the deal rationale.

Look beyond the deal rationale for additional sources of value

While delivering on the deal rationale is critical, most of the technology blueprint will be concerned with cross-functional core systems such as ERP, CRM, and employee management, since they typically support a large majority of business activities and account for most of the technology value. One pharmaceutical company’s technology-integration team determined that just nine core-platform decisions would account for around 70 percent of technology-related synergies from the deal and focused its efforts on these. As a result, it shortened the integration time frame by a full year, to 24 months. The key to enabling speed is to decide on the blueprint early to enable the rest of the integration planning effort to proceed with major system decisions already in hand.

To develop the blueprint, the technology-integration team assesses the core systems of the acquiring and target companies, develops a small set of realistic options for the combined company, and determines the value associated with each. Many teams reflexively take a “best of breed” approach to selecting which of the organization’s core systems will be retained. However, the relationships among core systems can mean that, in some cases, the “better” system will be too complicated and expensive to integrate versus upgrading the older system. In our experience, companies that give full consideration to these relationships are more efficient in implementation and integration. For example, a company may prefer to keep its ERP system and to switch to the procurement system of the acquirer. However, if the applications are native to different vendor platforms, building interfaces and migrating data may prove to be too expensive and time consuming relative to the incremental value at stake.

Beyond the core systems, integration teams also need to build function-specific applications into the road map. Like core systems, these applications are best considered with respect to the overall deal sources of value, not just their costs. The idea is for business functions to sustain or develop applications that create more value while retiring less productive ones, once the merger goes forward. One priority-setting framework assigns applications to one of five categories: strategic, leave as is, merge and retire, deprecated, or retire and write off (Exhibit 2).

Acquirers' integration teams can prioritize a target’s function-specific technology applications by categorizing each.

Determine opportunities to accelerate integration

While the technology blueprint is coming together, the integration team should also identify opportunities to accelerate integration and realize value quickly. These opportunities range from the traditional (hiring a systems integrator with specific capabilities, for example) to novel (using three-way nondisclosure agreements [NDAs] to realign system contracts before day one) and, in all cases, should tie directly back to the deal rationale.

One of the more novel and effective strategies, particularly in cases where sensitive processes or data are involved (such as pricing and sales territories) is the “digital clean room,” which is modeled on the general concept of an integration “clean room.” In this case, developers start to create actual technology solutions that redesign sensitive processes for the combined business before the merger closes. That way, they can use the new solutions to support the combined organization’s work on day one of the integration, or soon after. Because the clean room can have only a small number of participants (including trusted third parties whose roles won’t be affected if the deal does not go through), projects such as these should target the highest-value business needs, while operating under clearly aligned “gun-jumping” protocols and IP-ownership agreements. These needs will typically occur in one of five areas: sales and marketing, supply chain, customer support, financial management, or back-office support (including HR and IT) (Exhibit 3).

Accelerating value capture from an acquisition's digital capabilities can be achieved in several ways.

In one example, the leaders of two merging companies made it a priority to consolidate their sales teams so they could immediately market the acquiring company’s products to the target company’s customers, and vice versa. Before the deal closed, a clean-room team combined the two companies’ sales data and determined how much revenue was generated through each sales channel and where accounts and sales efforts overlapped. The integration team used this information to develop a unified sales strategy, redefine sales territories, and establish new sales targets—all before day one of the merger.

On day one, the sales teams quickly reorganized, using a single CRM system. The coordinated approach enabled sales managers to offer a broader product portfolio and a seamless customer experience several months before those capabilities had been expected, resulting in a 10 percent revenue increase in the first year after integration.

As these examples highlight, integration teams can both ensure and accelerate the realization of digital value by building out the technology blueprint and planning for a seamless integration starting on day one.

The telltale signs of successful digital deals

The telltale signs of successful digital deals

Post-close: Jump-start digital transformation

Finally, mergers can provide excellent opportunities to jump-start digital-transformation programs. If an integration is especially thorny, adding a digital transformation to the agenda may be overwhelming, but in many cases, integrations create a milestone event that allows managers to pursue foundational changes to the organization and operating model that might have been less feasible pre-merger.

In particular, we have seen three digital-transformation areas that are especially suited to inclusion in an integration:

  • Modernizing core systems and infrastructure. Updating core systems and infrastructure can be one of the most demanding tasks in a digital transformation, and therefore one that leaders can be reluctant to begin. An acquiring company will likely review the quality of its core systems and infrastructure as part of a big merger-integration effort. Such a review can then provide the occasion for converting outdated systems and infrastructure into a more flexible set of cross-cutting platforms, potentially native to the cloud, that are better aligned with the needs of the combined entity.
  • Building a digital-friendly IT operating model. A digital-rich merger will inevitably involve changes to the operating model, providing an opportunity for the IT function to better align its people and processes with those of the business. For example, the IT function might align its pooled resources to specific business areas or update its staffing and project-management processes to support the business’s new agile delivery model. Setting up a new IT operating model can be easier during an integration because so many other changes are also playing out.
  • Consolidating and adding digital talent. Combining two digital workforces can help a company quickly scale up digital capabilities that would be time-consuming to build under other circumstances. For example, bringing together disparate talent in each organization that may have existed in pockets and enabling them to operate at scale can help create the talent engine for driving the digital transformation. The talent involved might include specialists in increasingly critical areas such as data and analytics, DevSecOps, and experience design, as well as agile developers who can help improve the pace of work.

Coordinate transformations with integration activities

While a merger can provide both the means and the opportunity to jump-start a digital transformation, team leaders must carefully plan new transformations both to take full advantage of integration activities that are underway and to avoid risking the delivery of the deal objectives. If there is risk to delivery, they should delay the transformation until the rationale is realized. Transformations that avoid these risks or provide new value in different areas may be launched in parallel.

The end of an integration provides a unique opportunity for launching transformations, as the integration infrastructure is already in place, the organization is used to steady change, and funding tends to be more readily available. The key is to build off of the momentum by maintaining stakeholder buy-in, leadership attention, and the excitement of the team to deliver as part of the integration, rather than undertaking a whole new effort later.

For example, in response to cost pressures caused by falling commodity prices, one company looked to deliver savings from a merger far beyond the standard combinational synergies. As a result, the acquirer planned a technology transformation built on deploying agile and DevOps methodologies paired with a cloud-migration strategy to drive efficiencies in technology and improve overall performance. By building the program into the integration synergy plan, the acquiring company was able to maintain the full momentum of the program, build it into the integration road map, and access the same funding that other synergy projects tapped for investments. As a result, the integration would not have been considered complete without the technology transformation.

Digital has progressed from a priority to an imperative, and M&A can provide companies with much-needed digital capabilities even when they’re not the centerpiece of a deal. Proper due diligence not only enables companies to identify potential sources of digital value in a deal but also provides the groundwork for effective integration. During the formal planning and execution phases, integration activity is centered around maximizing value tied to digital systems and processes. And once integration wraps up, executives can use their integration programs to kick-start digital-transformation activities.

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