The Sideline Offensive
Company A acquires Company B. Companies C, D and E should view this as their opportunity to strike
April 2008
The relative calm found on the sidelines can often prove to be a welcome respite — especially in a tentative and uncertain market such as the one dealmakers are facing today.
As of March 1, deal activity had been more than halved from the $308 billion in transactions inked during the first two months of last year, according to Thomson Financial, with just $147.9 billion worth of deals coming out of January and February.
PE firms dealing with credit weakness are using the pause to attend to their portfolios. Strategics, on the other hand, had a brief window to take advantage, but have since seen that crack shut closed as questions about the economy put company boards on the defensive. Needless to say the sidelines are getting crowded.
All of this doesn't mean companies can't use M&A to their advantage. Indeed, deals will still happen. Witness Microsoft's hostile bid for Yahoo or the consolidation that is starting to percolate out of the airlines sector. But pursuing the "me-too" transactions isn't necessarily where the opportunity lies today. Rather, to some, it's about keeping track of the M&A occurring in a given segment, and attacking the soft spots that might be exposed as businesses and markets transform.
"The best time to jump-start change is when a competitor is involved in a merger," New York University's Robert Lamb tells Mergers & Acquisitions Journal.
Lamb, a clinical professor of management at NYU's Leonard K. Stern School of Business and co-author of the book "Capitalize on Merger Chaos," has studied this alternative take on M&A for years. While such a strategy may seem obvious, Lamb notes it's most often the case that the "opportunity is squandered."
Ten years ago this June, Compaq ostensibly changed the model for the entire computer industry with its roughly $9 billion takeover of Digital Equipment. Headlines screamed about the pressures facing IBM and Dell Computer as a result. Service was supposed to become an issue, as was pricing power over the suppliers. Michael Dell's response, however, was anything but panic. In an interview with Fortune Magazine, he called the merger "a huge gift." And as Compaq moved to integrate Digital Equipment, Dell, the company, fixed its sights on Compaq's enterprise business accounts.
Lamb calls Dell's ensuing advance the "classic" example of coordinating a sideline offensive. The company, while eschewing M&A as a growth engine for itself, has repeatedly managed to ambush its merging rivals, and usually picks up marketshare in the process. The strategy was repeated three years after the Digital Equipment deal, when Hewlett Packard bought Compaq. Dell used that disruption to attack HP's core printer business.
In the small- and mid-market arenas, the opportunities may not be as obvious as those that emerge out of multibillion-dollar combinations. Lamb contends, though, that they are, in fact, easier to capitalize on, as smaller companies rarely have the expertise or infrastructure needed to coordinate a mistake-free integration and at the same time protect their vulnerabilities.
"Competitors in these markets should have a field day with mergers," Lamb describes. "From the perspective of the acquirers, their direct and indirect rivals are suddenly poaching their best people, suppliers and customers. And all of those guys, in most business combinations, aren't getting the attention that they're used to. Anytime a merger occurs the antenna should go up."
The alternatives
Not everybody is keen to agree with Lamb. When companies in a given sector merge, a typical response from the competition is to merely take note, as opposed to action, or to fall into a defensive posture with the focus turned inward.
"If you're seeing your competitors getting bigger, it means they're gaining economies of scale and gaining an edge on costs," Natan Shklyar, the head of Arthur D. Little's private equity practice tells M&A. "What you should do in that case is focus relentlessly on operational improvements."
Another response — one that was readily available 18 months ago — is for the companies on the sidelines to enter the M&A market themselves, either as a buyer or seller.
"You'll often see these feeding frenzies in a particular industry," Harris Williams & Co. managing director William Roman says. "If you've got five competitors in a given space and two merge, everyone left usually asks whether or not they are buyers or sellers, and if not, are they positioned to survive on an independent basis?"
The activity currently seen in the video game industry might fit this description. For the past two years, the independent players sought refuge through sales to the larger names in the space, and now the industry leaders are seeking out multibillion-dollar combinations. Late last year, Vivendi acquired Activision, creating the largest company in the industry while raising the stakes for its rivals in the process. In February, Electronic Arts responded with an unsolicited bid to acquire Take-Two Interactive. As of press time, Take-Two had rejected EA's advance.
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