Mergers and acquisitions: Many critical business processes are now supported by IT, and technology issues need to be understood by both sides if a merger is to be successful
The role of senior IT executives in mergers and acquisitions (M&A) is changing. Where once the IT dimension of an M&A deal was often an afterthought, it is now one of the keys to success.
IT directors have an important part to play and must become involved early in any M&A transaction to assess the relative importance of IT. Inevitably, this will vary. In some cases, the impact of IT will be minimal. But in other cases, it will be crucial to the success of the deal. Either way, it is important to know.
M&A activity has grown significantly in the past year. In the first three quarters of 2005 there were 3,784 M&A deals, with a value of £4.2bn, in Europe, compared to 3,543 deals, valued at £2.7bn, for the same period in 2004, according to research by Mergermarket.
In the current round of M&As, IT has been key driver and a critical element. The rise of the internet as a sales channel, for example, greatly increases many organisations' dependence on IT systems. Many critical business processes are closely supported by complex IT systems. It is, therefore, essential to know exactly what impact IT will have on the deal and any implications the transaction will have on IT.
Increased reliance on technology puts the IT director in a key position in an M&A transaction. The impact and costs of IT must be clearly identified early in the M&A process, as part of the investigative or due diligence phase. Once the commercial and market factors have been considered, IT should be paramount on the agenda.
This applies to both sides of the deal, albeit for different reasons. Buyers need to be aware of the current status, future costs, liabilities, risks and weaknesses. Sellers must ensure their IT is satisfactory and know the impact IT will have on the sale. They must see rationalisation of IT as part of the grooming process prior to sale.
The IT director must be involved at this early stage to ensure that the impact of IT is fully understood within the context of the deal. Third-party advisers also have an important role to play. They can provide an independent and objective view, in the same way that a chartered surveyor might advise on the state of a building. More importantly, specialist advisers know the right questions to ask and how to interpret the answers.
Many of the basic questions are, of course, common sense. Are the systems robust? Can applications be scaled up to handle a bigger workload? Where systems are to be merged, will they integrate with other systems easily? How stable is the IT department in terms of staff turnover?
Simple questions - such as what business continuity plans are in place, or how are new systems built and tested? - can often yield revealing answers. Unfortunately, these questions are not always asked and, if they are, the answers can be misleading.
As an example, IT staff at an online travel company disclosed, during a pre-deal investigation, that their disaster recovery cycle would mean the company's systems could be down for as long as 18 hours.
The business managers were unaware of this, having been re-assured that a disaster recovery plan was in place. Had the company suffered a breakdown, the delay could have put it out of business. This clearly shows the IT department was not interacting with the business in the way it should - a critical factor when considering an M&A purchase.
This is especially true where the purchase includes a strong technology element. In the same example, the buyer not only wanted the network of relationships with hotels, car hire companies and airlines, but also the IT systems that supported the operation. The IT systems were a key part of the deal, so it was essential to establish whether they were robust and resilient.
In some deals, other factors come in to play during the transition. A retail financial services company that sold off its branch network and loan book found the main issue was conversion of accounts to a new processing system. The cost of conversion and management of the transition was a significant part of the M&A deal.
In such cases, both parties need to pay special attention to the transition service agreement to ensure all costs are factored in and agreed before completion of the deal.
Relationships with third-party suppliers also need close attention. Many companies outsource IT, and some contracts can contain significant liabilities. During a pre-deal investigation, a construction company was found to have a contract with an application services provider that failed to define exactly what services were provided. It also did not have a termination clause, which would have left the purchaser with an open-ended liability.
Another common example is where a mission-critical application has been built by an employee who then leaves and sets up as an independent. Often such relationships are based on a word-of-mouth, open-ended contract to develop and maintain the application. Typically such projects are poorly documented and can only be unravelled with the help of the original author.
Where IT integration is on the horizon the management of the acquiring business will have made some assumptions on the costs and time required to integrate the technology within the companies. As part of the IT due diligence these plans are rationalised and any opportunistic synergies are reviewed to ensure that they are realistic, achievable and the associated costs are factored into the equation.
The integration planning is also rationalised to ensure that it is robust and there are clear actions and responsibilities.
The potential impact of IT on an M&A deal varies enormously. In some cases it is central to the agreement. At the other extreme, it can be insignificant. But in most deals, IT plays an increasingly key part in ensuring a successful transaction.
Sometimes the lack of alignment between business and IT can be a critical factor in an acquisition. As an example, a European manufacturing company put itself up for sale while halfway through a global roll-out of SAP's enterprise resource management software.
The project was initiated by the IT department for technical reasons, rather than cost savings or business advantage, and the business managers were unaware of the impact this might have. To make matters worse, the project had already been subject to several false starts and there was a real danger of cost overruns.
Clearly, it is very important for any prospective purchaser to be aware of such a major commitment and its cost implications.
Before you sign: key IT questions
What short/medium-term IT investment is required and what is the impact on cashflow?
- What are the critical business processes and how does the technology support them?
- How robust are existing applications, systems and infrastructure?
- How scalable is the existing technology?
- What are the current IT team capabilities and external support provisions?
- Are there any potential cost savings?
- What third-party relationships exist?
Chris Digby is a partner in consulting at Deloitte