Investments are the principal growth driver of our global economy. The motive behind every investment shapes the investment deal structure and therefore plays a significant role on the outcome of every investment. This article highlights the main differences between strategic and financial buyers.
Buyers can be classified as investment and corporate buyers. There exist general investment firms who acquire both private and public companies. In addition, there are Investment buyers focused on the private market such as Private Equity (PE) & Venture Capital (VC) firms and capital markets investors such as investment banks and funds (mutual funds, closed-end funds and unit investment trusts). It should be noted that investment banks and funds usually do not acquire entire companies but acquire certain amount of securities from different companies (“baskets”).
Corporate buyers are companies performing acquisitions for various reasons. Buy-outs is inherent in some companies’ strategy as opposed to companies who aim at growing organically. For instance, Pfizer has performed numerous acquisitions over the past few years while companies such as Merck and GlaxoSmithKline are more focused on internal growth and are much more selective when it comes to M&A.
Hybrid models of the above main categories have also been developed, for example, corporate investment arms which are “arms” of large corporations that target firms in relevant sectors and segments. They also aim at bringing high return on investments as well as identifying potential interesting targets for the larger corporation.
What are the main differences between strategic and financial buyers?
In terms of motives, financial buyers are more interested at maximizing return on investment (through a successful exit) by providing access to additional capital and leverage for the target company, if necessary. Instead, strategic buyers aim at acquiring companies that will benefit the existing establishments (by for example, product or technological complementarity, access to new geographical areas, boosting product pipeline, enhancing product discovery and design, acquiring successful marketed products and expanding manufacturing or distribution capabilities) whether this is an add-on acquisition by a PE firm or a corporate buy-out. This is achieved through synergies which is particularly difficult to achieve especially when multinationals are involved due to post-merger integration issues.
Financial buyers are more flexible in proposing alternative deal structures due to their expertise in Finance and investments as well as due to their flexible model of receiving returns which can be achieved in various ways. Instead, strategic buyers want to acquire an entire Company in order to expand and the alternatives are very few.
At a theoretical level, strategic bidders value targets higher than financial bidders due to the potential financial gain from synergies. In practice, the uncertainty and difficulty of achieving synergies as well as the higher due diligence costs involved in strategic acquisitions, strategic bidders offer price is highly volatile. Instead, financial bidders are more tolerant to higher deal values due to the better financial position.
Let’s consider the following scenario:
Company A seeks an investor that will provide access and the ability to expand in new markets but keep its employees and the key management unaffected from the acquisition.
Company B wants to cash out and wants the highest price possible.
Company C seeks an investment because of its high leverage and is negative profitability.
Company D seeks funding to use it in its research and development in order to bring its product in the marketplace.
The financials of these companies are presented in the table below (Table 1).
Using the information above in combination with the financial information provided, we may determine the appropriate type of investor for each company. Company D is an early-stage company with no marketed products yet and therefore it has not produced any financial statements.
Company A wants to keep its employees and therefore a financial investor is more appropriate. That is because, strategic investors usually integrate the acquired company in their operations which implies employee layoffs and general organizational restructuring. However, the financial investor must be specialised and have the expertise in the relevant sector in order to provide Company A with new opportunities of expansion.
Company B wants to cash-out and maximize selling price and therefore it shall mainly a strategic investor.
Company C is highly leveraged and needs a debt restructuring which can be provided by a distress fund.
Company D is still at the research level and seeks early-stage funding. Therefore, a Venture Capital or Private Equity investor is most appropriate.
Table 2 summarizes these results.