NCMM's Tom Stewart talks M&A with Joe Feldman, an M&A consultant of 'Joseph Feldman Associates' about surprises during the M&A process.


Every year, one in four middle market companies engages in M&A, buying or selling all or part of a company. Our subject today, how can they make the most of the deals they do?


Welcome to The Market That Moves America, a podcast from the National Center for the Middle Market, which will educate you about the challenges facing mid-sized companies and help you take advantage of new opportunities.


Today's podcast is about how middle market companies can arm themselves to succeed in today's intense M&A market. I'm Tom Stewart, the executive director of the National Center for the Middle Market at the Ohio State University Fisher College of Business. We're the nation's leading research organization studying mid-sized companies, which account for a third of private-sector employment and GDP, and the lion's share of economic growth. It is the market that moves America. The National Center for the Middle Market is a partnership between Ohio State and SunTrust Banks, Grant Thornton LLP, and Cisco Systems.

I've got a special guest with me today, Joe Feldman, Joseph Feldman. Joe is the head of Joseph Feldman Associates, which is a Chicago-based advisory firm that helps companies make acquisitions, develop strategic alliances, and expand internationally. Joe's firm is 15 years old, so he's got lots of experience. He's a longtime friend of the National Center for the Middle Market. Joe, it's great to have you on the podcast.

Thanks, Tom. It's great to be here.

Tell us a little bit-- give our listeners a little bit of a background on the work you do at Joseph Feldman Associates, the kind of client opportunities and problems you focus on.

Great, thanks, Tom. My consulting work is focused on helping middle market companies with buy-side acquisitions. My clients operate in a wide range of industries, including industrial, consumer products, business services, and distribution. My clients typically reach out to me when they're considering growth through acquisitions and they don't have someone on their team that has the experience and the capacity to help with the acquisition work.

Of course, each situation is unique. And my work often includes developing an acquisition game plan, identifying potential targets, reaching out to those targets to begin a dialogue, helping to analyze the opportunity to negotiate a deal, and to complete due diligence. Also, my clients expect that I will work with them to identify what the best path forward is, which could be a transaction other than acquisition.

It could also be a decision not to proceed. Very often, exploratory discussions at a certain point reach a conclusion where it just does not make sense for the deal to go forward. So for companies that only have an occasional need for this sort of acquisition work, my project-based approach can be a good alternative.

You know, what you said is really interesting. We just published, as you know, a new study called "Middle Market M&A." And it makes three key points.

The first is that M&A matters. In any given year, about a quarter of companies are buying or selling something. About 20% of companies in any given year buy or sell all or part of a company-- I mean, buy all or part of a company. And about 5% sell all or part of a company.

So there's this sort of steady drumbeat of M&A, but your point about only occasionally needing advice and not having experience in doing deals is something that the report really underscored. I think we found that something like 70% of buyers have either-- the deal that they most recently made was either the first deal they've ever made, or they make very few. They don't do it very often. So they're basically inexperienced.

And hey, not surprisingly, they run into problems. I mean, getting the strategy right, understanding how to put a value on the company or the company they want to buy, running the process, and so on and so forth. Sounds like that matches pretty closely with the experience that you see.

No, it sure does. I would say that the activity levels in the market for acquisitions, and as described in your study, are really a call to action for owners or for executives in middle market companies, because while you cite numbers about participation levels, direct participation in acquisitions, virtually all companies face a marketplace where if they're not involved with acquisitions, they may have customers that have been acquired or suppliers or even competitors that have gone through acquisition transactions. Even the possibility of hiring new employees whose previous company has gone through an acquisition, and they are looking for their next opportunity. So acquisitions are absolutely in the marketplace.

And as you and I have discussed in the past, luck favors the prepared mind. And so staying alert to opportunities that are happening in and around your own company can be extremely valuable.

You know, one of the pieces of data that really surprised me, among sellers, 45% of companies who sold all or part of their company within the last three years-- that's the survey question that we asked-- 45% percent of them were not expecting to sell. It's like the doorbell rang, and somebody said, hey, you want to sell your company? Because there's a hot market out there. And so they were unprepared to sell, which of course might mean that the buyer would be looking at a target company or a selling company that is hard to evaluate, that isn't set up, that isn't prepared to deal with that overture.

And the other number that surprised me was that 19%-- or, sorry, 21% of buyers weren't expecting to buy. So something dropped in their lap, or they suddenly said, you know what? Let's make a deal. And again, you think, they are not only inexperienced, but in some cases, they're surprised.

Right. In my experience, I think that if sellers are surprised, it's that they're, in a way, surprised that they actually wouldn't be open to a transaction, where they think that transactions are just not for them. But as I refer to some of the activity that might be going on around them, very often in the middle market, someone with a different vantage point outside the company, or maybe someone within the company that's not, I'll say in the executive suite, sees some opportunity, sees some dynamic with customers, with product development, with competitors, and raises their hand and says, there's an opportunity for two companies to get together that may not have been there before.

That could come from, certainly, from an investment banker or even a commercial banker, but I think it's incumbent upon middle market owners and executives to be listening for and in fact even prompting their extended team and networks to bring ideas to them that can shed a light on a path forward that maybe they wouldn't have seen on their own.

Double click a little bit, Joe, on how this process and capabilities set is different for mid-sized companies. You know, if you think about a giant company-- you know, a General Electric, a Cisco Systems or whatever, they may make a deal a month, 10 deals in a year, or they may have a whole established process. But as you look at the middle market in this-- I know you've done some of your own research about this. What are some of the things that mid-sized companies in particular struggle with when they think about going out and making an acquisition?

Right. So I did some research a few years ago looking specifically at the processes that comprise an acquisition campaign and where middle market companies run into challenges. And one of the common themes, really, throughout that process is that some of the things that make middle market companies successful on a day-to-day basis can get them in trouble when it comes to acquisitions.

How so?

I think of middle market companies as having a can-do attitude. We're going to be able to get more done with fewer resources. We're not going to get bogged down in big company processes. We're going to be extremely nimble.

And while some of those characteristics that drive success, financial success, market success, when it comes to acquisitions, those same impulses can get a middle market company in trouble. So for example, it could lead a company to say, you know, we're not going to work with so many outside advisors. We're not going to hire some really expensive M&A lawyer. We're going to use a lawyer who's helped us out with a few real estate transactions.

Integration planning, that's something we can do when we get a little bit further down the road. We don't have to spend a lot of time on that. We've got a business to run.

Those impulses to overly streamline and to eschew big company processes can get a middle market company in trouble. So it's trying to find the right balance of investment in their own team's time, extending the team with outside advisors in a way that sometimes is just contrary to their normal impulse.

And I think I'm picking up on that, and also in the word balance, which is to say, if I'm going into this business, I do need to think about what I don't know. And I need to learn what I don't know and learn whether my advisors that I already have-- my lawyer, my accountant, my banker, you know-- I need to know whether they have experience to help me. But I also don't want to overburden it. I don't necessarily want to go out and hire a big fancy investment bank for a small deal, or-- you know, I have to understand how much process, I guess, and how much expertise.

Right. And I think if there were a cookbook that were available to say exactly how that ought to play out in every situation, I would certainly send it along to you. But you know, it's so situation specific that I just think it's incumbent upon middle market executives to look for where they have internal resources that are both experienced and have the capacity to help think about acquisitions. If the company has a board of directors or an advisory board, those people certainly can be a resource to help think about where an investment in outside help is appropriate and useful.

And frankly, in my experience, most middle market companies, even family-run or privately-held businesses, have a group of outside advisors that are available to them. Maybe it's on a very casual basis, but those are folks that can be brought into a conversation on an ad hoc basis to provide some advice on different ways to bring resources in that are comfortable, but also meeting the basic needs that someone unfamiliar with acquisitions would benefit from.

And I would also imagine just talking to other CEOs who have been through the process to say, what did you learn? What did you wish you know? What would you do differently the next time?

One of the things that I know that you're interested in and find that middle market companies struggle with is the process of due diligence. What makes for successful due diligence?

Right, so due diligence is very often a term that you hear that prompts a whole campaign of work to look at what a potential target has done historically. And I think that's probably the most risky thing associated with due diligence. I've had oh-so-many clients say, by the way, can you bring us your favorite list, your most complete list, of due diligence questions so that we can essentially go down the list, eliminate the questions that are irrelevant, and then go through the others and just check the box?

I found a diligence list online. It was 30 pages long. It was published by a very reputable accounting firm partnering with a leading law firm. It had 450 diligence items.

But not a single one, not a single one of these items, related to some crucial subjective aspects of a business and of a deal, things like, what is the cultural fit between the two companies? How do we evaluate executives and their fit with the new organization, their likelihood to be retained and engaged in the new business? Analysis of customers in competition. These are crucial to understanding acquisition success. So I worry a lot about due diligence that is limited to just, you know, we're going to check the boxes, and then we're going to say due diligence is done.

I work with clients, especially on scenario planning, to think about different ways that the business might evolve after the transaction is done. You know, how might different people within the organization adapt and engage or not? How might customers react? That can also help significantly to think about different value that might be captured in the acquisition and how to go after those different values.

I worked with a consumer products company. And we identified half a dozen very distinct growth opportunities. And we focused the diligence on how our understanding of the targets would fit in with or would need to be expanded once the deal was closed. That helped us to plan and predict.

And it turned out that the value that we thought we would achieve, we didn't, my client didn't. But some of the ideas that we had identified and we'd done a little bit of spade work on, we said-- for example, international expansion. We said, that's probably for another day. It turned out to be one of the most valuable parts of the transaction. So due diligence has to be much broader, much more [INAUDIBLE].

So what I'm hearing you say is, I'm thinking that the due diligence-- there's the hard stuff, the numbers, the let's look at the books and kick the tires on this, that, and the other, which may be tricky for some companies where the bookkeeping may be sort of family business bookkeeping, and it may be more oriented to the tax man than to anything else. So there's the hard stuff. There's the numbers stuff.

There's the strategic stuff, like what are we trying to do and how do we think this acquisition-- you know, probing the acquisition to see how it really will advance the strategic thing. And then, the strategic goals.

And then, the soft stuff, the cultural stuff, the people fit. Will those key players stay? Will the teams get together?

I remember a few years ago talking to Quinn Mills at Harvard Business School, who was saying that if he looked at most acquisition plans, and he'd say, you know, there'd be 500 pages of financial due diligence, and the people part of it was, like, three pages long. And he says, that's wrong.

But talk to me about-- I mean, there's another thing that I'd love to hear your experience on--

[INAUDIBLE] problems.

Yeah. Yeah. There's another thing I'd love to hear your experience on, which is the technology piece. I mean, in a world now where everything is digitized and cybersecurity is so critical, is that becoming an increasingly challenging part of doing M&A?

Well, it's certainly becoming an increasingly essential part. I mean, I would say the days of due diligence around technology being limited to, you know, let's count the number of laptops and printers in the building and make sure we know where they are, and then we're all set-- those days are long gone.

I researched an article last year and spoke to half a dozen CIOs, chief information officers, who'd been very involved in acquisitions. One of them referred to data flow within a target company as one of the most insightful ways to look at what he described as sort of the circulatory system of the business. So when you think about, how does this company work with its customers and its sales force to prioritize and to meet customer demand? How do they manage their supply chain? The way the data flows through that company-- or, by the way, doesn't really effectively flow through the company-- can provide incredible insight into the company's effectiveness.

And it can also shed light on what the challenges might be going forward after the acquisition. How quickly should the buyer and the target's systems be combined? And as a general matter, those two systems don't coexist for very long without some combination.

It could very well be that a target company has a much better developed technology capability than the buyer, and that could be extraordinarily valuable. So those are-- and then you mentioned cybersecurity. I'd say that's more on the risk management side, but it's obviously crucial to understand how customer data, consumer data, and the business itself's financial information, how that is handled from a cybersecurity standpoint. That's not for a part-time, low-level IT person anymore. That's front and center to the very existence of a company's business.

Yeah, I think the most recent number is that a typical company that has been hacked takes 200 days before they discover it. So you may be working with an acquisition target that has been compromised and doesn't know it yet. And you know, it's like buying a house with termites. So that would be something that you'd really want to make sure you checked up on as diligently as you could before you closed a deal.

Right, and these are, in some cases, risks that are difficult-- I don't want to say impossible, but they could be quite difficult to smoke out ahead of time. But the point is you need to bring experts to bear that can help you to look in the most thoughtful and advanced way so that you mitigate the risk of being surprised. The idea that you could completely eliminate that risk is probably not right, but that's where different risk management tools like having the right expert come in and helping you to do that homework is an important tool. Representations and warranties in the purchase agreement that the systems of the target have been maintained a robust way and that they are not aware of, and have maintained those systems in a way to think about cyber break-ins-- you know, those are prompts that are very important as well.

So Joe, we're just about out of time. And I want to-- couple of things that I've heard. First of all, is it's really important to get the right team around you. Not too much, not too little, but don't go blindly into M&A. And don't succumb to the temptation to sort of think, I can be pretty informal and do this the way I do so many other things.

There is a body knowledge. There is some expertise. There's some technical difficulties. Get the right team.

The second thing I've been hearing is, as you think about your due diligence, make sure that you are combining the thoughts about strategy and culture and people as much as you are sort of digging into the numbers of the target. And those are the two big themes, but I want to ask you one last question, which is, right now we're in a world where there's something like a couple hundred billion dollars in private equity money out there, which mostly wants to attract and buy companies in the middle market.

That's an opportunity for sellers. But it's also a challenge for buyers. If I'm a strategic buyer, the CEO of a company, going up against a financial buyer from a private equity firm, how do I compete?

Well, I think buyers, whether they're private equity-- so-called financial buyers-- or they're strategic buyers, they're going to approach a middle market company that they may be interested in acquiring with a lot of the same thoughts, which is they want to understand what the company's growth trajectory has been, what their key capabilities are, whether it's certain specific people in the organization that are very inventive or very creative or have operational expertise. And they're going to want to understand what the customer-- how they interact with their customer base.

And in both cases, the analysis is going to look at, what can the private equity company or the strategic do to capture more value to help that company to grow? And so it could be that, in the case of private equity companies, it's helping the firm to invest in expansion of their team or expand into new markets where the company on its own was not comfortable or felt those sort of investments were too risky.

Same thing with the strategics. They often have a different perspective. They may have deeper or just different customer relationships that can help them.

I think from the standpoint of the middle market company, the sweeping generalizations about how strategic companies deal with acquisitions or how private equity companies deal with acquisitions-- I think those generalizations are generally not very helpful. Strategics and private equity companies come in as many different flavors as private equity firms. They focus on different strategies for growth, companies that have different levels of financial health, companies that have very strong teams, maybe not-so-strong teams.

So there's a tremendous diversity out there. And you know, the question is, for a middle market company, can I find the right potential partner, acquirer, source of capital that's really right for me? It's not a spectator sport. It's very much an on-the-field participation sport to get out there and find the right partner that is going to make the right difference for your company.

And I'd sort of assume that if I were a strategic buyer going up and competing for the same target with a financial buyer, I suppose that my value would be set-- I have the opportunity to say, let's look at the synergies of how these two companies will outperform if they're put together. The financial buyer might say, let's look at the opportunities of having more capital to deploy. So it's sort of a different pitch, a different opportunity.

But I guess I want to close by underscoring what you just said. If you've seen one deal, you've seen one deal. They're all unique. And the point is that you really want to look at them without generalization and try to see how this deal is going to help my company achieve its objectives.

So Joe, thank you very much for joining us today. For more about Joseph Feldman, please check out his website, which is www.josephfeldman.com. And for more about middle market M&A, check out the National Center for the Middle Market's new report on the topic. You can find it at our website, middlemarketcenter.org.

Thank you all for listening to The Market That Moves America. Never miss a new episode. You can subscribe to the podcast on iTunes, Stitcher, Google Play, or wherever fine podcasts can be found. Or you can subscribe and learn more about us at our website, which, again, is middlemarketcenter.org. Thanks very much.