Integration cost management is the key to success

Introduction

Even amidst disruption and softening economies, buyers are seeking acquisitions that can help create ecosystem business models for revenue growth.

Strategic buyers are expected to continue seeking acquisitions that provide new technologies, increase their offerings, and expand customer bases. But as CEOs deal with inflation and macroeconomic conditions, cost management, in general, has risen in their overall priorities. This puts further pressure on stakeholders to optimize expenditures associated with business integration and M&A-driven transformation.

Plan ahead

Effective business integration cost management should start as early as M&A target identification, based on public knowledge of operating models, technology environments, culture, and more.

But the heavy lifting on business integration strategy formulation begins during due diligence, pre- to post-sign, when inside information can be shared regulatorily.

Business and IT executives from both the parent and the acquisition should work in partnership to design the target operating model (TOM), determining which functions to integrate to maximize synergies – revenue, cost, and working capital – as well as establish a competitively sustainable platform. Gartner highlights that when a particular stakeholder, the CIO, focuses on cost optimization in all stages of a deal, an organization stands a better chance of achieving needed synergies.

3Ds of integration

To avoid integration expenses mounting and degrading deal value, CxOs must balance the degree, difficulty, and duration, or the 3Ds of integration. 

Degree ranges across a scale of ‘autonomous to full’ and applies to each of the vertical and horizontal business capabilities. 

Difficulty is measured by the complexity of TOM’s configurability; the higher the customization required, the higher the costs. 

Duration, or speed of integration, is influenced by deal constraints, both controllable (e.g., funding, talent, and technology debt) and not controllable (e.g., legal/contractual limitations). 

In harmonizing the 3Ds, business and IT executives must strive to optimize the operating cost posture, maintain culture and morale, and achieve profitability objectives. 

Severance, which typically accounts for a large part of integration costs, is an early identifiable factor. Robust governance and tracking of the talent-related expense is essential pre- and post-day 1 and must be part of an effective integration strategy and management office.

The size and sector of an M&A transaction shed light on expected integration costs as the percentage of a deal value. Ranging from 1 percent to 10 percent, integration costs inflect at the $1 billion, $5 billion, and $10 billion deal size points, correlating with annual operating spend ratios. Smaller deals typically have higher proportionate costs due to regulatory filings, technology, and advisory fees, while mega deals (which have surged in the last few years) often involve lower costs relatively. Sectors with high degrees of safety and quality standards, R&D, or both usually have higher proportional integration costs.