Discovering Repeatable Growth in your Diligence
Over the years, I have heard multiple M&A professionals say “we don’t underwrite hopes and dreams,” by which they mean new tactics proposed, but not tested, by Management (and their bankers). What is not discussed as often are the new tactics that have been tested…but that are destined to work just once. These tactics are what we call unrepeatable growth stimulants, UGS (or just, “ughs”).
We have seen multiple deals need to be renegotiated in the final stretch when the commercial due diligence (CDD) discovers unexpected ughs. For example, the management presentation might highlight recent growth in a segment of the business and cite a “new sales program.” Sixty slides later, we learn that the growth associated with that “new sales program” is almost entirely attributable to a single, major new customer account. Is this an inflection in the company’s growth, or just an extraordinary and well-timed win with a single customer? In short, is it repeatable growth or an ugh?
The list of different ughs we have seen is varied and long:
- Channel mandates (e.g., Walmart requires its CPGs to do X) in the consumer goods space
- Regulatory changes in industrials and healthcare markets
- Price increases in any competitive market
- Major customer wins in components businesses
- Enterprise customer wins in software and business services – and particularly with companies that have traditionally won with small customers, but manage to land an enterprise account
- Major channel or partner wins in retail or technology
- New technologies in healthcare capital goods
- One-time technology shifts / new regulations in industrial technology
These are just a handful of the ughs we’ve seen. Of course, some of the above have proven repeatable at times. Given that the difference between repeatable and unrepeatable growth can be the difference between a great deal and a dog, we have thought a lot about what clues suggest a tactic is repeatable.
Repeatable tactics tend to share all the following characteristics. They:
- have proven themselves with a small number of customers but have not affected the whole base; and
- align with an area in which the target company has demonstrable strength; and
- increase in likelihood of success with each attempt.
Most deals have some ughs in them – the question is how many and how big. This is a key point where commercial due diligence separates from financial due diligence. The latter is good at identifying whether management has executed on plans to date, but only CDD seeks to analyze which elements of past performance might predict the future.
The core question that suggests whether a past performance is repeatable is:
Do the motivations that made this growth stimulant successful to date exist in other unaddressed customers…and can the business earn the “right” to address those motivations?
You can use the quick diagnostic of repeatable tactics above as an initial sanity check, and if you think you might have spotted an ugh, then it is time to roll up your sleeves and dig in on investigating the core question.
When we see a deal with a recent growth inflection, we look for ughs. For each potential ugh, we investigate its repeatability. The good news is that the investigation occasionally suggests ways that a program can be changed to improve its repeatability and can become a powerful tool in the value gen plan necessary for winning and closing the deal.
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