Chapter 1
M&A Success and Failure

Konrad Lorenz's classic experiment with graylag geese captures the attention of many college freshman enrolled in an introductory psychology class. Lorenz found that geese would imprint on the first movable object within a critical period occurring 13 to 16 hours after hatching. It didn't matter whether the "parent" object was Lorenz's boots or a box placed on a toy train moving around a circular track.

Imprinting involves phase-sensitive learning whereby an animal or person establishes a pattern of attachment to another animate or inanimate object. Business ventures can also experience imprinting events during the early stages of development.

The notion that a corporation's early experiences can have lasting impact on future development has long been noted.1 A firm commonly experiences an inertial impulse very early in its history that persists for a significant duration.2 This initial organizational experience can involve corporate development activity. For example, Milanov and Fernhaber presented evidence that the initial alliance experiences of a venture affect future alliance formation patterns.3

Similarly, the acquisition of Applied Semantics early in Google's history (before going public in 2004) imprinted upon the company not only a proclivity to do mergers and acquisitions (M&A), but also to favor a certain style of M&A activity. Indeed, over its relatively brief corporate history, Google has acquired some 200 companies. In addition, Google has enjoyed an unusual degree of achievement in its dominant style of M&A activity, in 2012 asserting success in two-thirds of purchases,4 significantly higher than commonly cited acquisition statistics.

However, before we examine strategies and tactics that Google has employed in its transactions, let's examine how M&A performance has traditionally been measured, as well as some of the most common reasons for M&A failure and success.

M&A Activities

Developing a successful M&A program is a major challenge for any organization, arguably significantly more difficult than operational functions. Nevertheless, the pace and volume at which technology firms have been buying is staggering. For example, according to Thomson Reuters, the total spent on technology M&A worldwide during the first quarter of 2014 was $65.2 billion. This represented the largest dollar volume for any equivalent period since 2000.

Consider the breadth of activities that must be considered in doing a deal (Table 1.1).

Table 1.1 Deal Activities

Strategy

First of all, a compelling strategic rationale for a transaction must be developed. This may involve responding to an opportunity or shock in a market. Or it may be based on a creative vision whereby the company desires to establish new positioning in a market or even attempts to create a new market. For example, Google's cluster of eight robotics acquisitions in 2013 clearly signaled that the company saw significant market opportunity in areas that could range from robotic manufacturing to android-assisted home health care. Although to be successful such strategic thinking necessarily must involve senior executives, a company such as Google also has strategy leads engaging in analysis to support the growth of each major business division, including areas such as search, social, mobile, and YouTube.

Strategy also involves establishing a systematic approach to M&A activity. Organizations have established systems for virtually every activity of the firm-from HR management to supply chain management-but typically lag in thinking systematically about M&A and other corporate business development activities. There are some notable exceptions, such as GE Power Systems (later renamed GE Energy), as documented by Robert Bruner.5 We'll later examine Google's systematic approach to M&A.

In addition, deal strategy involves determining the optimal type of transaction. This includes knowing when not to acquire a company, but instead designing an alternative form of partnership relationship. For example, in 2003, as Apple was in the process of launching its iTunes platform, the Los Angeles Times reported that Apple was considering the purchase of Universal Music (a global player in recorded music) owned at the time by Vivendi.6 Apple correctly decided against the purchase. Doing so, among other things, would have created supply-channel conflict with other music providers that it needed to launch iTunes into a platform with a broad music library. Instead, Apple licensed music from Universal (and other music companies) in order to build an extensive collection for users to download using iTunes. (In 2014, Apple was facing different challenges as it attempted to maintain a leadership position in digital music and, as we'll see in Chapter 3, decided to engage in a major M&A activity to do so.)

Deal Economics

Second, deal economics must be evaluated. This involves conducting a valuation analysis that is appropriate for a given M&A transaction. This may require obtaining a constellation of values using methodologies such as discounted cash flow analysis, revenue, or earnings-related multiples using public company comparables, multiples from past M&A transactions, or multiples of something-or-other in early-stage ventures, There is rarely one North Star valuation metric. The constellation approach is intended to provide an acquirer with perspective regarding an appropriate range of value.

Jaw-dropping valuations have not been uncommon for deals in technology markets, including some Google transactions. Although not as staggering as the estimated $350 million/employee multiple that Facebook paid in its $19 billion acquisition of WhatsApp in 2014, Google has spent $1 billion or more for newly minted companies such as YouTube, Waze, and Nest.

Such valuations subject a company to critics who characterize the purchase as an irrational spending spree, but a deal might be later dubbed as brilliant if the target's platform proves out as a core asset in the acquirer's growth.

Synergy analysis is an essential ingredient in valuation, although synergy is perhaps one the most misused terms in corporate strategy. The word synergy has a most interesting origin as part of business jargon, according to the following account.

Professor J. Fred Weston was a giant in the field of M&A.7 He arrived at UCLA from the University of Chicago in 1949 and over his career wrote 32 books and 147 journal articles, many of which dealt with M&A. He mentored many outstanding graduate students, including Nobel Laureate Bill Sharpe. I worked with Fred, taking over as faculty director for UCLA Anderson's Executive Program on Mergers & Acquisitions from him in 2005. Fred continued to speak in the program. When I introduced him as the "John Wooden of M&A" (referring to UCLA's legendary basketball coach), it was scarcely an overstatement.

Fred told the story about how the term synergy came to be used in corporate deal making. The year was 1950, and Fred was at lunch in Westwood, California, with executives from a nascent industry that would later become aerospace. Fred saw a drink menu on the table that promoted Irish coffee, The Perfect Synergy (Irish coffee blends coffee and Irish whiskey). Not knowing what synergy meant, Fred looked up the term after he returned to his office at UCLA and saw that synergy equals the interaction of two or more agents so that their combined effect is greater than the sum of their individual effects. "Now that's what an M&A is supposed to do," thought Fred. He began using synergy in his writings to characterize successful deals, and the term became a cornerstone of academic and professional thinking.

Many of Google's deals involve estimating revenue synergy that is believed will occur sometime in the future. Only rarely does a Google M&A transaction center on cost savings resulting from the combination of Google and the target company. Much of this anticipated revenue synergy involves creating or accelerating new products or services-rather risky synergy goals, but we'll see how Google considers and attempts to manage such risk.

Organizational Design

Third, organizational design plays a crucial role in M&A...