<div>Since liberalising, Indian companies have gone on a buying spree, thus fueling our country’s growth. Just in the first six months of 2012, India targeted and outbound M&A deal value hit $25.5 billion and $2.7 billion, respectively.<br /><br />And we’re not done yet. Despite gloomy global markets, Indian companies are not letting up and have turned their focus on undervalued Eurozone companies. These companies have the markets, know-how and brand that we need to quick-start our global ambitions. For instance, last year, luxury jeweller Gitanjali Group, picked up a handful of high-end Italian brands, including 140-year-old Stefan Hafner.<br /><br />Yet, M&As are inherently risky, as we have witnessed in the on-going Indian Airlines saga. Hay Group’s studies have shown that nearly 60 per cent of deals transacted between 1992 and 2006 left the buyers with eroded shareholder value. Clearly, the long-term value of M&As is not guaranteed.<br /><br />This happens because most buyers focus on only financial and legal due diligence but ignore the vital “third pillar” of intangible capital, that is, the non-monetary assets that drive deal profitability, which accounts for up to 75 per cent of a company’s value.<br /><br />In a typical dash-to-the-finish M&A transaction, it is easy to overlook the intangibles. With intangible capital, what you see isn’t often what you get. There are a lot of assets that look good on paper, but how do you mitigate the risks of ending up purchasing an empty shell? How can you ensure the most favourable outcome for your M&A?<br /><br /><strong>Now You See It, Now You Don’t</strong><br />The common mistake is assuming that intangible capital retains its value throughout the course of M&A integration. Our research has shown otherwise: intangible capital is in a constant state of flux, oscillating back and forth from an “active” to “inert” state. Furthermore, intangible capital is able to create value only when it is in an active mode. In short, it is the state and not the valuation of intangible capital that drives a successful M&A outcome.<br /><br />In the multitude of tasks to be done during an M&A transaction, what are the most important drivers of intangible capital we need to focus on? Our research has identified four core drivers that are responsible for keeping intangible capital in its value-creating state:</div><ul><li> Open & honest communication</li><li> Courageous follow-through</li><li> Similar risk profiles</li><li> Compatible response</li></ul><div><strong>Open & Honest Communication<br /></strong>In 2005, an impending merger between Gillette India and Procter & Gamble was leaked through the media one day before the official announcement. The information sent shockwaves through the minds of employees, who feared a massive layoff as the stock price of Gillette became adversely affected.<br /><br />Fortunately, the CEOs of both companies took personal charge of the situation swiftly. They engaged employees through open communication by allowing people to voice and clarify their doubts. This mitigated the apprehensions and restored employees’ trust, which helped to smooth the integration process. More importantly, the management was perceived to be approachable and accessible, and the people felt confident that the merged entity would continue to keep employees’ best interest in mind.<br /><br />By relaying information to employees – even if it means revealing negative but truthful details about the prospects of the merger and addressing immediate challenges that need to be overcome – intangible capital is activated through the assurance that comes from managing with openness.<br /><br />This way, employees develop a greater sense of trust towards management, and are more disposed to aligning their motivation with that of the executive team’s.<br /><br />What does this mean for us in India? In India, people enjoy discussions. Hence management should take advantage of this and initiate frank and open dialogues as soon as possible. To not do so would also play to our love of discussions – employees will quickly fill the void with rumours, often damaging to morale and business value.<br /><br /><strong>Courageous Follow-through</strong><br />On the other hand, the merger of Air India and Indian Airlines was a disaster. In the three post-merger years, the losses have escalated and it now survives on government “dole”. In the short span of six years, the merged entity had a rotating door of four chairmen with no one biting the bullet on tough decisions like cutting employee-aircraft ratio, standardization of HR policies, or even the type of aircraft to fly.<br /><br />Certainly, complexities and conflict are part of M&As. Leaders from merging entities must close ranks and not retreat from making tough decisions that inevitably crop up in the course of the transaction. Managers need to display flexibility in accommodating changes, a strong ability for rallying employees to face challenges, and resilience against favouring one party’s service line over the other. They must demonstrate perseverance in adapting to new circumstances, adopting a common fighting stance towards overcoming obstacles, and never taking “no” for an answer.<br /><br />What does this mean for companies in India? Fortunately, employees in India are more accustomed to a top-down approach. As long as a difficult decision is sanctioned by top management, employees will usually fall in line. But this does not mean that leaders should just issue edicts and ram changes through. Some selling and explaining will still be necessary for the long-term success.<br /><br /><strong>Similar Risk Profiles</strong><br />In 2007, the merger between Tata Steel and Corus took the steel industry by surprise. Tata wasn’t just acquiring a competitor four times its own size, it was taking a huge risk by forking out more than $1 billion for a cross-border M&A – the first Indian company to do so. The deal made history by remaining the second largest M&A in the steel industry.<br /><br />Thankfully, the marriage turned out extremely well for Tata, propelling it from the 56th to the 6th largest steel producer in the world. Among others, culture and a shared risk preference were key success factors. After all, risk-taking wasn’t new to Tata. They have participated in several bold takeovers in the years leading to the acquisition of Corus. On their part, Corus braced themselves by making radical changes to the company culture, helping risk-averse employees to cope with uncertainties when faced with new challenges.<br /><br />Both parties are taking calculated risks in an M&A situation. Clearly, risk appetite differs between companies and individuals – some being more aggressive and others less so. As long as both entities share similar proclivities towards calculated risks, and are prepared to commit themselves fully, it would smoothen the transition process and accelerate M&A success.<br /><br />Given that an increasing number of Indian companies are moving into Western markets through acquisitions, how can knowing the risk appetite profiles help both buyers and target?<br /><br />One way is to use Geert Hofstede’s Uncertainty Avoidance Index (UAI), a tool to measuring a nation’s or a group’s appetite for risk. In Hofstede’s study, UAI scores can range from 0 (pure risk takers) to 100 (pure risk avoiders). India scores 40 on this dimension and thus has a medium-low preference for avoiding uncertainty. Hence, in the market screening process, it would be best to sift out parties that prefer to “wing it”. The implication for Indian companies is this: in any deal, especially one that crosses multiple borders, the closer everyone’s UAI, the better the outcome.<br /><br /><strong>Compatible Response</strong><br />By compatible response, we mean that both parties ought to have a similar time-frame for decision-making and execution. It is acceptable if both parties are quick in action, or agree to be methodical when deliberating their options. It is to see how conflicts can flare up rapidly when a bureaucratic decision-making process holds one party back, frustrating the other side, which has a flat organizational structure.<br /><br />What does this mean for companies in India? Unfortunately, we have a tendency to delay making decisions in order to gather more or better information. If this decision-making style is not shared by the other party, then it will be perceived as hesitation and ultimately, backfire on the deal.<br /><br /><strong>Marriage Made In Heaven</strong><br />Despite the global economic slowdown, there are good deals to be made to help companies in India achieve new growth. Armed with the right insights to make the best deal – a clear understanding of what you are buying and how it ‘fits’ with your existing company though intangible capital driver analysis – M&A can be a winning strategy for driving long-term growth for the future.<br /><br />Hence, for your next M&A transaction, don’t focus your resources on the valuation of intangible capital. Instead look at the drivers so that intangible capital (already factored into the selling price) remains active and value-generating; never leave a successful outcome to chance.<br /><br />(<em>Dr Andreas Raharso is Director, Hay Group Global Research Centre on Strategy Execution &<br />Gaurav Lahiri is MD, Hay Group India)<br /><br /></em></div>
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