Part one: Future drivers of business success: Talent, tech and trade - the new M&A triarchy
Under pressure to adapt to a post-pandemic world, organizations must make staff retention, digital transformation and supply chain resilience top priorities. This M&A triarchy of talent, tech and trade is currently driving strategic M&A deals.
Talent: The contest for talent is now being played out in the M&A market
Business leaders are under mounting pressure to find new ways of attracting and retaining human resources, making talent acquisition an increasingly central element of business strategy across all industries. This is happening during a significant power shift from employer to employee: Where previously the main concern following M&A was managing post-acquisition redundancies, the context is now about retaining employees despite changes in workplace culture and a renewed sense of work-life balance.
Current labor demands are not uniquely geared toward acquiring specialist knowledge and skill sets. A combination of COVID-19 fallout, rising living costs and stagnant wages has sparked a dispersion of broader workforce numbers, squeezing organizational innovation and capability in industries that have relied on hubs of blue-collar workers, such as haulage and manufacturing.
According to the US Department of Labor,1 more than 4.5 million Americans quit their jobs in March 2022 – matching the record set in November 2021 for the highest number of resignations since records began – with comparable trends being observed around the world.
Reflecting this, almost three-quarters (74%) of business leaders in the study identified talent retention and acquisition as an important factor in their organization’s business strategy over the past year, and 72% believe it will be an important factor over the next year.
62% of business leaders [are] saying that the 'Great Resignation' is acting as a catalyst for M&A
As a result, talent is a key driver of M&A activity today, with 62% of business leaders saying that the 'Great Resignation' is acting as a catalyst for M&A as the battle for talent continues and is only likely to intensify.
However, while dealmakers are seeking to access skills and innovation to boost their business strategy, there are two sides of the talent coin when it comes to M&A: Deals can rock a company and impact employee turnover if the culture fit isn’t right. Over two-thirds (67%) of business leaders have concerns about talent retention making M&A a riskier investment, as the value of their acquisition can be impacted substantially if key personnel leave the organization.
Acquihiring: Talent retention and acquisition across sectors
An increasing trend of “acquihiring” – acquiring a company specifically to access its employees – varies considerably across sectors. Almost two-thirds (64%) of business leaders in life sciences organizations believe talent acquisition and retention will be an important factor in their M&A activity next year, closely followed by those in the professional services (63%) and energy (63%) sectors.
In contrast, talent acquisition and retention is the least important factor for business leaders in the technology, media and telecom (TMT) sector, with only 50% considering it to be a driver in their M&A strategies.
Concerns about employees exiting an organization following a merger or acquisition, especially where there has been a gap due to a competition filing, can be alleviated by a staff retention percentage being factored into the deal as a specific closing condition. For example, if a given percentage of staff isn’t in place at closing, the deal can be terminated.
“It can be a difficult task for large organizations to retain employees when they acquire smaller organizations through M&A. People have often joined a small company because of the start-up culture and may struggle with the culture that a larger corporate parent may have. This is an important area that large organizations need to prioritize in order to retain talent.”
Kristiina Janhunen | Director | M&A and CSD Legal | Nokia
David Philips, Partner: “In the past, when clients thought about target company employees post-closing it was more often in the context of redundancies and ability to eliminate positions as a synergy. Now many buyers are looking at it through a different lens. They are looking at aggressive growth projections for the target and, within this tight labor market, buyers are asking whether they will be able to cost-effectively hire and retain employees in numbers sufficient to support the growth projections.”
The 'Great Resignation': Market insights
Business leaders in India (74%), the UK and the US (69%) are most likely to see the 'Great Resignation' as a catalyst for M&A. In these markets, it may be that pandemic-accelerated changes to working practices have made employees more aware of the alternative employment options available, posing a significant threat to employee retention and recruitment in more traditional organizations.
In contrast, only 40% of business leaders in Japan and 42% in UAE believe that the 'Great Resignation' is compounding M&A activity. As markets with a more traditional workplace culture (and in some cases, expectations of lifetime employment) have generally not experienced pandemic-driven resignations with the same intensity, it may be that talent retention is less of a concern. However, it may also be that these markets do not consider M&A to be a strategic lever for talent acquisition.
Where is the 'Great Resignation' having the biggest impact as a catalyst for M&A?
The 'Great Resignation'/Big Quit is acting as a catalyst for M&A as the war for talent continues.
Robin Johnson, Partner: “Talent is critical to operating a successful business. With some of the challenges that people have faced over the past two years, organizations are concerned about retaining top management, and deals are being made to take talent through acquisitions. There may be a product or piece of software behind the M&A, but really the buyer is looking at the talent pool surrounding that product and then figuring out incentives to keep those key people on board.
“Cross-border transactions add further complications; there can be big differences in culture and employment practices between the UK and the US, for example. Organizations may need to understand how to motivate employees and make them feel part of a larger organization, so having advisors with experience beyond their local jurisdiction is valuable.
“Eversheds Sutherland advises on these kinds of deals multiple times a year and is positioned to identify the behavioral patterns that emerge when working through transactions. There are also lots of legal issues that are addressed in transactions – what’s meaningful for a team in Germany might not be meaningful for a team in Brazil. We bring in teams that help with people spread across different jurisdictions.”
“Strong management teams can command a big price tag for an acquisition target. If an organization has a CEO or CFO who is focused on culture and driving their team’s potential, they attract people. The majority of buyers will ensure that they have management buy-in before considering a deal, as they know how important leadership and talent are, especially in today’s business landscape.”
Matthew Zimmer | Global Head of Investment Banking | William Blair
Tech: Tech innovation is driving deals
Accelerated and intensified by the pandemic, the need for technological innovation is increasingly vital for businesses to remain competitive. Across all sectors, including industries that are not traditionally centered around technology, organizations are looking to technology to improve productivity, reduce carbon emissions, pivot toward electrification, develop their online presence and future-proof their operations.
Over the past year, leaders have been reimagining their organizations’ technology: three-quarters of business leaders say that digital transformation has been important to their business strategy over the past 12 months. Our recent report, Shaping the future of digitalization, found that the pandemic has greatly accelerated companies’ digitalization, with 55% of products and services at least partly digitalized today compared with only 35% in 2019, prior to the COVID-19 pandemic.
Digitalization is set to stay at the forefront of business leaders’ minds, with 74% of business leaders in the Strategic M&A study believing it will be important for their business strategy in the next year.
But in-house innovation alone cannot necessarily keep pace with the demand for new technologies. For organizations with limited technology skills or that may have already been lagging, M&A may be seen as a rapid way to absorb new technology and the expertise to utilize it. Not only did 74% of business leaders say M&A was important in terms of bridging technology gaps in their organization, but new technologies were revealed as the number one factor that would increase what business leaders are willing to pay for a target company (cited as important by 72% of business leaders).
Almost seven in ten (68%) business leaders believe that technology and digital transformation are accelerating cross-border deals to capture global growth, and 74% see increasing agility and adapting to market conditions as important, which can be supported by tech innovation.
Plus, 72% of business leaders believe that acquiring technology skills through M&A is crucial to succeeding in the new economy.
“Technological disruption is often the catalyst for business models needing to adapt or strengthen quickly, as the competition has technology that you don’t. Change is required to create competitive advantage. The retail industry, for example, saw a seismic shift in consumer behavior in recent years as online sales and home deliveries put significant pressure on the traditional brick-and-mortar aspect of their businesses. Competition in retail was once down to geographical proximity, but online stores now compete with organizations all over the world. “The question leaders are facing now is whether they invest in building that tech capability in-house, acquire it from elsewhere or merge with competition to achieve economies of scale.”
Jason Baab | Senior Vice President | Oshkosh
Why is tech such an important part of strategy?
Technology and digital transformation are accelerating crossborder deals to capture global growth.
Acquiring technology skills through M&A is crucial to succeeding in the new economy.
Technology and digital transformation are accelerating crossborder deals to capture global growth.
Acquiring technology skills through M&A is crucial to succeeding in the new economy.
Charlotte Walker-Osborn, Partner and International Head of Artificial Intelligence and Technology Sector, Eversheds Sutherland, commented:
“Cloud has for many years been a favorite for investments, not only because of its growth potential but also because many cloud businesses come with clear recurring revenues. In such a case, due diligence tended to focus on cyber security resiliency, data residency and data privacy compliance along with more traditional due diligence around technology businesses.
"However, with the rapid intensification of digitalization and cloud-first business and as investment continues to ramp up in such digital businesses, due diligence must pivot to take account of the growing set of issues which may affect value and brand in addition to those mentioned above.
"These include a need for increasing focus on: legal use of data generally (commercial, public and personal data/PII); ever increasingly complex issues around trade and security; compliance with regulatory expectations around algorithms and AI with a particular focus on around non-bias and nondiscrimination; product liability and other potential for claims and class actions; ESG/sustainability and governance led issues as well as supply chain resilience.
"Whether a technology sector business or a business which has its heart in another sector but ultimately is a digitalized business, proving that company has enshrined within it a corporate-led digitally responsible (CDR) approach to business and use of data and technology is becoming essential, with a surge in ‘tech-lash’ – a kind of backlash from employees, consumers and other stakeholders rejecting technology and digitalized companies / big tech who exhibit unethical practices and/or misuse of data and technology.”
Trade: Strengthening and protecting supply chains
Against a backdrop of pandemic-induced supply chain disruption, border closures and international trade sanctions (including due to Brexit), operational resilience is high on the business agenda. It’s set to remain a key focus in the upcoming months, as 68% of business leaders indicate that increasing supply chain resilience will be a strategic M&A priority over the next year. 72% of business leaders also see increasing supply chain resilience as important to their organization’s business strategy over the next year.
Although strain on supply chains is not a new issue, the current geopolitical events – specifically, the war in Ukraine and lockdowns in China – in combination with the post-pandemic recovery are a new scenario for dealmakers. This is evident in the concerns about access to raw materials, goods and components from mainland China, as the nation’s zero-COVID-19 policy compels millions of workers to stay at home. Equally, with international imports – of energy, raw materials, components and expertise – facing sanctions, shortages and delays due to the impact of the war in Ukraine, business leaders are leaning toward the most reliable sourcing options rather than the cheapest, easiest or most sustainable.
The supplementary study* found that 90% of business leaders believe the war in Ukraine is decelerating M&A activity, either preventing or postponing at least some deals. Of these business leaders, 74% said that this is due to the direct impact of sanctions on the target, 67% said that this is caused by the indirect impact of sanctions (i.e., on deal finance) and 64% said that dislocation of supply chains is having an effect.
Due to these disruptions, vertical integration of supply chain partners is a core focus for business strategy. Six in ten business leaders surveyed in April 2022* believe that supply chain dislocation caused by the war in Ukraine will make vertical integration an increasingly important business strategy.
In addition, seven in ten business leaders claimed that supply chain integration will increase what organizations are willing to pay for a potential acquisition.
“Why do integrations fail? People often say it is due to siloed teams - but in reality, it is down to the fact that different teams have different skillsets that don’t always sync up. Integration following a deal is always hard work but where it often fails is when it comes to an organisation’s discipline. While it’s useful to have the operations manager involved throughout the deal, it is ultimately the M&A specialist who leads. That said, when you reach the integration phase, roles are reversed, and it is the operator who must take the lead.”
Louis Véronneau | Executive Vice-President and Chief Transformation Officer | SNC-Lavalin
* Based on supplementary research in April 2022
Charles Butcher, Partner: “Supply chain issues increase M&A risk and shape the actions you’ll take post-deal in terms of integrating the businesses within an M&A transaction. Traditional integration models may need adjustment for optimal supply chain recalibration – rather than ‘stripping back’ style integration and consolidation, organizations may want to invest more, and consider whether they need to invest in more reliable locations for supply. This trend started during the pandemic, when the big global players were still relatively secure and squeezed the smaller organizations rather than taking action themselves. Now, in the current geopolitical climate, even these bigger players are saying they have a smaller supply than before.”
Robin Johnson, Partner: “It’s about supply chain resilience rather than supply chain integration. Global businesses will pay more where they see the supply chain of a target as being well constructed with diverse sources of supply and therefore resilient against risk. This is definitely a growing trend – we’ve seen the zenith of people driving for economic efficiency. For example, even before the pandemic, the perception of China as a big production factory was changing, as it started to no longer be the lowest-cost supplier. Coupled with the geopolitical angle – growing tensions between the US and China – global multinationals don’t want to be relying on something that’s only available in China. Diversification of the supply chain is more important.”
Antony Walsh, Partner: “Inflation is a significant cause for concern at the moment. Companies have been marketed with a specific level of profitability, which is now less certain due to their rising costs – costs that might be increasing by double-digit percentages in some cases. This is having a material impact on valuations, so companies are trying to protect against downsides and find ways to support a full price.
“As a result, we’ve been having many more conversations about earnouts over the past six months: where buyers agree to pay full price for a business, but if it’s not making the advertised amount of profit after a fixed amount of time, the buyers are protected because the cash hasn’t gone out the door. Earnouts do require an understanding of the finer points of accountancy policies and corporate finance in the broader sense, as certain provisions can have a big impact on the numbers when they’re calculated in three years’ time. These types of mechanisms have no real downsides for buyers, and we predict that the use of earnouts will increase significantly over the next few years.”