M&A Activity Is at an All-Time High—
So Are the Risks

by Kay Cruse, VP, VOC Strategic Practice ABOUT KAY

The degree of multiples is at an all-time high—as much as 10 times the earnings. Leverage is now approaching 62%: not only are deals harder to secure, they are more expensive to pay for and to finance. The market climate necessitates including customer due diligence as part of the standard process.

Solid customer due diligence pays for itself. But we encourage you to reconsider traditional methods of approach. Instead of conducting “reference checks,” initiate a customer loyalty study to identify exactly what is going on with the target company’s customer relationships. Determine the root cause: understanding just how strong a company you are buying.

A satisfaction and loyalty study will dig deeper into the nuances of customer relationships and can bring clarity to the company’s strengths and weaknesses—through the eyes of the customer. These types of studies uncover improvement opportunities and often highlight areas of great risk. In some cases, a probing customer satisfaction survey will expose dissatisfaction that could revalue a cause a deal or kill it altogether.

The key to an effective customer due diligence process is to create a genuinely engaging conversation with the target company’s customers. It takes time, personality, and experience to get it right.

Questions that delve into understanding the overall corporate health of a target acquisition include:

  • What do they do well?
  • Where should there be improvements?
  • How easy are they to do business with?
  • Who is better or lesser competitively, and why?
  • What is the value received for the price charged?
  • What should they do differently to gain more share of wallet from your company?

Another important issue is the Net Promoter Score® (NPS®). Including the NPS rating as part of the in-depth discovery enables us to understand a very reliable predictive measure of a company’s future commercial success. However, NPS ratings alone are much like other performance scorecards: revealing, but not necessarily a true understanding. To maximize the benefit, we suggest investigating further to document critical areas that the target must address post-close to improve the score and build stronger customer relationships.

For some deals, a customer due diligence study will reveal concerns that may indicate you should not pursue a deal. If relationships are unstable or insecure, it is important to understand the reasons why. Are the connections so broken that the customer is likely to exit? Or are there systemic issues that new management or human or economic resources can’t address? Is the deal worth the original value proposed if projection of future revenues remains unsteady or untenable?

“Buyer Beware” has many meanings, and this is especially true in the world of mergers and acquisitions. Effective customer due diligence will set the tone for what you buy and why you buy through helping to document the perceptions of who you are buying. Done well, this process reduces risk and establishes a roadmap for the future—culled from the collective voice of your newest customers.