KPMG Ma Success Factors

Tr a N saC T i o N s E rv i C E s
The Determinants of M&A Success

What Factors Contribute to Deal Success? 2010
In conjunction with Professor Steven Kaplan of the University of Chicago Booth School of Business
a dv i s o ry
2009 KPMG LLP , a U.S. limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International, a Swiss cooperative. All rights reserved. 091002A
M&A Deals Respond to the Credit Crunch: What Factors Contribute to Deal Success?
The deal environment remained challenging in 2009. The dollar value of global deals fell 41 percent in the third quarter of 2009, from the third quarter of 2008 to $478 billion. It was the eighth consecutive quarter that the value of U.S. deals fell from a year earlier. It is no secret that the M&A market was negatively affected by several factors. In addition to a lack of financing options, acquirers and sellers were confronted with the problem of making realistic valuations in the face of rapidly declining revenues and uncertain consumer and business demand.
However, several large deals were announced, such as Pfizers US$68 billion acquisition of Wyeth. Certain industries, such as the financial sector, also showed some increasing activity. In addition, acquirers demonstrated an appetite for smaller deals and distressed assets. When companies are under even more shareholder scrutiny than usual, it is important to examine the factors that are correlated with deal success, which we define in this study as an increase in shareholder value. In addition to more commonly examined factors, such as financing options, this study looks at less frequently examined factors, such as deal rationale. This white paper is a follow-up to one completed in 2007 , in which we examined deals announced between 2000 and 2004. This study is based on an analysis of 460 worldwide corporate deals that were announced between January 1, 2002 and December 31, 2006. We hope that you find this white paper thought-provoking and that it contributes to a continuing dialogue on the economics of deal-making. This research has been conducted in consultation with Professor Steven Kaplan of the University of Chicago Booth School of Business.
THE DETERMINANTS OF M&A SUCCESS
Methodology
In this study, we analyzed the stock performance of companies that announced deals between 2002 and 2006, one and two years after the deal announcement. Stock prices were normalized on an industry basis. When we refer to a variable or acquisition characteristic as being successful, the characteristic is associated with stock returns that are both positive and statistically significant. The deals included in this study involved acquisitions where acquirers purchased 100 percent of the target, where the target constituted at least 20 percent of the sales of the acquirer and where the purchase price was in excess of US$100 million. The average deal size of KEY FINDINGS:
Based on our analysis of normalized returns and the variables examined, we found: Cash-only deals had higher returns than stock-and-cash deals, and stockonly deals Acquirers with lower P/E ratios completed more successful deals The number of prior deals pursued by an acquirer was relevant; those who closed three to five deals were the most successful Transactions that were motivated by increasing financial strength were most successful Deals that were motivated by a desire to purchase IP or technology and those motivated by a desire to increase revenues were least successful The size of the acquirer (based on market capitalization) was not statistically significant
the transactions in this study was US$3.4 billion; the median was US$0.7 billion. The variables that we examined included the following: Howthedealwasfinancedstockvs.cash,orboth Thesizeoftheacquirer Theprice-to-earnings(P/E)ratiooftheacquirer TheP/Eratioofthetarget Thepriordealexperienceoftheacquirer Thestateddealrationale Whetherornotthedealwascross-border
The Statistically Significant Factors

TRANSACTION CHARACTERISTICS Everydealpossessesnumerouscharacteristics:Isthedealbeingfinancedbycash, stockoracombination?IstheacquirerworthmorethanUS$10billion?IsitsP/E ratio above or below average for that industry? Why is the acquirer doing the deal? While many of these factors are a given, such as a companys market capitalization (marketcap),itisstillinterestingtoexaminehowthesefactorscorrelatewiththe success of recent deals. Our study found that certain factors, including how the deal was financed, had a strong correlation with deal success. Other factors, such as the market cap of the acquirer, were not statistically significant. Deals that were financed with cash and thoseinwhichtheacquirershadlowP/Eratiosweremoststronglycorrelatedwith deal success. In terms of deal rationales, deals motivated by financial considerations were most successful. On the other hand, deals motivated by a desire to acquire intellectual property or to increase revenues were least successful. A detailed examination of these findings follows.
Deal Currency
CASH IS STILL KING Does financing structure have an effect on a deals success? Cash deals, compared with stock deals, were significantly more successful, measured after both 12-month and 24-month intervals. Based on normalized stock returns, the average cash deal in the study showed a return of 1.0 percent after one year, and 2.9 percent after two years. In other words, acquirers financing deals with cash returned 1 percent above the industry average after one year. Deals financed solely with stock were significantly less successful. The average all-stock deal in our study returned negative 5.3 percent after 12 months and negative 9.8 percent after 24 months. Deals that were financed with both cash and stock performed between the two extremes and returned negative 3.8 percent after one year and negative 3.7 percent after two years. These results are similar to those that we found in our previous study on deals announced between 2000 and 2004. During that time period, cash deals were also significantly more successful than stock deals.
Returns on Financing Options

4.0%
2.9 1.0
Normalized stock return (%)
2.0% 0.0% (2.0)% (4.0)%
(6.0) %
(8.0)% (10.0)% (12.0)%
(3.8) (5.3)
(3.7)
(9.8) 12 months Cash deals Stock deals 24 months Cash and stock deals
Source: KPMG Research
Companiesusingstockmayperceivetheirstocktobeacheapercurrencythan cash. They may also believe their stock prices have yet to reach their peak, allowing for stock price appreciation after the acquisition takes place. In todays marketplace, where credit is still hard to come by, it is likely that a larger percentage of deals will be financed with stock or cash on hand. Companies with relatively healthy balance sheets should, therefore, have an advantage as they pursue strategic acquisitions. Should more deals continue to be financed with cash, then we canexpecttoseesmallerdealsizesthosevaluedatUS$1billionorlessdominating the marketplace.
TheP/ERatiooftheAcquirerandTarget
LESS IS MORE Similartoourlaststudy,acquisitionsmadebyacquirerswhohadlowP/Eratios compared to their industry peers were significantly more successful than acquisitionsmadebyhighP/Eratioacquirers.AcquirerswhoseP/Eratioswereinthelowest quartile of this study saw an average return of 4.8 percent after one year and 8.5 percent two years after the deal was announced. Conversely, those companies whose P/Eratiosplacedtheminthehighestquartileexperiencedazeropercentreturnafter one year and a negative 6.1 percent return after two years. These results are consistent with those of the 2007 study. Thesefindingsmaybeduetoseveralpossibleexplanations.AcquirerswithlowerP/E ratios are probably not as tempted to engage in riskier deals since their stock is relativelyunder-pricedinthemarket.Inaddition,ifanacquirersP/Eratioislow,itwould tendtovalueatargetmoreconservativelythananacquirerwithahigherP/Eratioin ordertogainanarbitrageontheP/Emultiple.AnacquirerwithahighP/Eratiomay have a more difficult time increasing its value after a transaction, especially if over timeitsP/Erevertsbacktotheindustrymean.
Returns Based on Acquirer P/E

10.0% Normalized stock return (%) 8.0% 6.0% 4.0% 2.0% 0.0% (2.0)% (4.0)% (6.0)% (8.0)% 12 months 1st quartile (lowest P/E)
8.5 4.8
0.0
(6.1) 24 months 4th quartile (highest P/E)
TheP/Eratioofthetargetwasalsostatisticallysignificant.Incontrasttoourpreviousstudy,acquirerswhowereabletopurchasecompanieswithP/Eratiosbelow the industry median saw a negative 6.3 percent return after one year and a negative 6.0percentreturnaftertwoyears.AcquirerswhopurchasedtargetswithP/Eratios abovethemedian,includingthosewithnegativeP/Eratios,hadanegative1percent return after one year and a negative 3.5 percent return after two years. These results are very different from the ones we found in our last study for deals announced between 2000 and 2004. Those earlier deals demonstrated the more anticipated results:acquirerswhopurchasedtargetswithbelowaverageP/Eratiosweremore successfulthanacquirerswhopurchasedtargetswithhigherP/Eratios. It is probable that in the deals announced between 2002 and 2006, acquirers who purchasedtargetswithhighP/Eratioswerebuyingbusinessesthatweregrowing and where the acquirer was able to achieve greater synergies. Deals announced between2000and2004includeddealsfromthedot-comera,wherehighP/E ratios were often associated with unprofitable ventures that were not able to meet future income expectations.
Returns Based on Target P/E

0.0% Normalized stock return (%) (1.0)% (2.0)% (3.0)% (4.0)% (5.0)% (6.0)% (7.0)% (6.3) 12 months Below the median
(1.0)
(3.5)
(6.0) 24 months Above the median
DealExperience
TOO MANY DEALS LESSEN SUCCESS How many is too many? While doing several acquisitions a year may allow acquirers to develop best practices, too many deals may be counterproductive. The study found that acquirers who engaged in six to ten deals were much less successful than acquirers who made between three to five acquisitions. Acquirers who made between six and ten acquisitions had negative 14.4 percent returns after one year and negative 18.5 percent return after two years. Companies that made three to five acquisitions a year saw their stock price increase 0.5 percent above the industry average after one year and 0.1 percent after two years. A limited number of deals allows a company to focus on integration and makes it easier to devote the necessary resources to its integration efforts. It is very challenging for a company to attempt to integrate numerous transactions at one time, and those challenges may ultimately have a negative effect on profitability or other valuation metrics. Therefore, it is important that active acquirers have robust posttransaction processes in place for integration and synergy capture. Those who made fewer acquisitions may also have been discriminating in choosing an appropriate target, which increased their chances for deal success.
Returns Based on Number of Deals

5.0% Normalized stock return (%) 0.5 0.0% (5.0)% (10.0)% (15.0)% (20.0)% 12 months 35 Deals
0.1
(14.4) (18.5) 24 months 610 Deals
Deal Rationale
IMPROVING FINANCIAL STRENGTH LEADS TO MORE SUCCESS In order to determine whether certain deal rationales corresponded to more successful deals, our study examined statements made in press releases, public filings, and other publications. After one year, acquirers who stated that their acquisitions were motivated by increasing financial strength saw their stock prices increase by 2.9 percent above their industry peers; acquirers who said that their deals were motivated by geographic expansion saw their stock price increase by an average of 3.8 percent. After two years, those motivated by financial strength saw their stock price increase an average of 4.4 percent; but companies motivated by geographic expansion gained only 0.5 percent stock price increase after two years. These results are similar to those found in our 2007 study where deals motivated by financial strength were the most successful. In addition, acquirers who said they were motivated by the desire to purchase hard assets saw their stock price increase 4.6 percent after two years, a 121-basis point swing from a negative 7.5 percent return after one year.
BUYING INTELLECTUAL PROPERTY CAN BE OVERLY EXPENSIVE Some deal rationales seemed to lead to less successful stock returns. After one year, companies whose stated motivation was acquiring intellectual property saw their stock prices decline by 10.8 percent in comparison to their industry peers. After two years, their stock prices declined by almost 11 percent. Acquirers who said their deals were motivated by increasing revenue saw their stock prices decline by 8.6 percent after one year and 12.7 percent after two years. In the 2007 study, acquirers who were motivated by the acquisition of IP and technology were also among the least successful acquirers.
Stock Price Increase Based on Deal Rationale After 12 Months

6.0% 4.0% 2.0% 0.0% (2.0)% (4.0)% (6.0)% (8.0)% (10.0)% (12.0)%
3.8
2.9
(3.3) (5.1) (6.6) (7.5) (8.6) (10.6) 12 months (10.8)
Stock Price Increase Based on Deal Rationale After 24 Months

6.0%
4.6
4.4 0.5
4.0% 2.0% 0.0% (2.0)% (4.0)% (6.0)% (8.0)% (10.0)% (12.0)% (14.0)%
(8.0)
(8.7)
(9.7)
(10.0)
(10.8) (12.7)
24 months Geographical expansion Product expansion Revenue increase

Financial strength Earnings accretion Distribution
Cost savings Hard asset buy IP / Technology
These findings may be explained by the fact that companies motivated by financial strength have generally identified specific areas of synergies that may be implemented with focus, especially when compared with the more complex goal of increasing revenues. In addition, since this study includes deals affected by the stock market decline in 2008, companies whose deals increased financial strength were probably at a substantial advantage, compared to their peers. As we found in the 2007 study, companies that made acquisitions motivated by a desire to increase revenues had a much more difficult task. Those companies need to get new products to new customers through more distribution channels. Those goals are much more difficult to achieve. Unsuccessful deals motivated by a desire to purchase intellectual property or technology may be the result of very high multiples, since companies with unique intellectual property may be able to command a high price. That higher price may ultimately not be justified, especially in todays marketplace with more volatile revenue streams and less predictable consumer spending habits.
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DealCharacteristicsThatWereNot Statistically Significant

Certain factors that we examined for this study did not turn out to be statistically significant for deal success. ACQUISITION ACTIVITY IN GENERAL WAS NOT SIGNIFICANT According to the data analyzed in this study, an acquisition itself did not have a statistically significant effect on the returns of the companies analyzed. In other words, the fact that a company announced an acquisition did not affect its stock price after one or two years. This data contrasts with the results of the study conducted in 2007 when we found that deal making had a positive effect on stock performance after both one and two years. ACQUIRERS SIZE WAS NOT A SIGNIFICANT FACTOR The size of the acquirer was not statistically significant in the deals completed between 2002 and 2006. We found that there was not a significant correlation between the market capitalization of the acquirer and post-transaction stock performance. In our earlier study, we found that on average, the deals completed by smaller acquirers were more successful than the deals completed by larger companies. GEOGRAPHIC LOCATION Similar to our earlier study, there was no correlation between deal success and whether a deal was cross border or if both the acquirer and target were in the same country.
Conclusion
Several deal characteristics tend to be present in the most successful deals, most notablydealcurrencyandanacquirersP/Eratios.Thosedealcharacteristicswere positive indicators both in this study and in our 2007 study. What these factors usually indicate is that the acquirer is using currency that is not overvalued and that the acquisitions financial justification has a realistic chance of success. Similarly, deals motivated by financial strength, a goal that may be simpler to achieve, also accompanied the deals that resulted in the greatest returns for shareholders in both time periods. We hope that this statistical analysis continues to spark discussions among deal makers and adds to the dialogue that helps both acquirers and targets create the most successful transactions.
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For more information, please contact:

Transaction ServicesGlobal and Americas Daniel D. Tiemann +1(312)6653599 dantiemann@kpmg.com Transaction ServicesEMA Ren Vader +31(20)6568953 vader.rene@kpmg.nl Transaction ServicesASPAC Kevin Chamberlain +61(2)93357112 kchamberlain@kpmg.com.au
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The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in thefuture.Nooneshouldactonsuchinformationwithoutappropriateprofessionaladviceafterathoroughexaminationoftheparticularsituation. KPMG is a global network of professional firms providing Audit, Tax and Advisory services. We operate in 148 countries and have 113,000 people working in member firmsaroundtheworld.TheindependentmemberfirmsoftheKPMGnetworkareaffiliatedwithKPMGInternational,aSwisscooperative.EachKPMGfirmislegally distinct and separate entity, and describes itself as such. WrittenbySherrieNachman,NewYork,NY
2009 KPMG International. KPMG International is a Swiss cooperative. Member firms of the KPMG network of independent firms are affiliated with KPMG International. KPMG International providesnoclientservices.NomemberfirmhasanyauthoritytoobligateorbindKPMGInternationaloranyothermemberfirmvis--visthirdparties,nordoesKPMGInternationalhaveanysuch authority to obligate or bind any member firm. All rights reserved. 2009 KPMG LLP , a U.S. limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International, a Swiss cooperative. All rights reserved. 091002A KPMG and the KPMG logo are registered trademarks of KPMG International, a Swiss cooperative.
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Tr a N saC T i o N s E rv i C E s

The Determinants of M&A Success

THE DETERMINANTS OF M&A SUCCESS

The Statistically Significant Factors

THE DETERMINANTS OF M&A SUCCESS

Returns on Financing Options

Normalized stock return (%)

2.0% 0.0% (2.0)% (4.0)%

Source: KPMG Research

THE DETERMINANTS OF M&A SUCCESS

Returns Based on Acquirer P/E

(6.1) 24 months 4th quartile (highest P/E)

THE DETERMINANTS OF M&A SUCCESS

Returns Based on Target P/E

(6.0) 24 months Above the median

THE DETERMINANTS OF M&A SUCCESS

Returns Based on Number of Deals

(14.4) (18.5) 24 months 610 Deals

THE DETERMINANTS OF M&A SUCCESS

THE DETERMINANTS OF M&A SUCCESS

Stock Price Increase Based on Deal Rationale After 12 Months

Normalized stock return (%)

(3.3) (5.1) (6.6) (7.5) (8.6) (10.6) 12 months (10.8)

Source: KPMG Research

Stock Price Increase Based on Deal Rationale After 24 Months

Normalized stock return (%)

24 months Geographical expansion Product expansion Revenue increase

Financial strength Earnings accretion Distribution

Cost savings Hard asset buy IP / Technology

THE DETERMINANTS OF M&A SUCCESS

THE DETERMINANTS OF M&A SUCCESS

DealCharacteristicsThatWereNot Statistically Significant

THE DETERMINANTS OF M&A SUCCESS

THE DETERMINANTS OF M&A SUCCESS

For more information, please contact:

THE DETERMINANTS OF M&A SUCCESS

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