What’s it: An asset acquisition strategy refers to a company’s strategic action to grow its business by buying another company or business unit. This strategy offers relatively fast growth compared to the organic growth strategy. Under the latter strategy, the company relies on internal development for business expansion. Also, to expand overseas, internal growth requires an understanding of local customs, rules, and regulations, which are often beyond the company’s knowledge.
Why an asset acquisition strategy matters
Asset acquisition strategy provides a way for companies to increase their revenue and profits. That’s especially important if the industry in which they operate is mature. There are many motives for them to adopt this strategy. Some want to increase economies of scale in their existing product or service lines.
Others wish to venture into markets close to their existing market, for example, upstream or downstream (vertical acquisition).
Other companies may aim to penetrate other geographic markets, such as multinational companies.
Following are the objectives of the asset acquisition strategy:
- Achieve profitable growth. Acquisitions allow for a broader and more integrated business scope. That enables the acquirer to grow revenue, increase market share, and streamline business operations.
- Strengthening core competencies. An acquirer can synergize the target’s core competencies to support competitiveness in technology, human capital, and operational capabilities.
- Add to the business portfolio. Under the conglomerate strategy, acquirers take over several unrelated businesses. Such diversification reduces the risk of failure in one of the businesses.
- Continuing growth. The acquirer may be operating in a mature industry. Hence, one way to continue to create value for shareholders is to enter other industries. One option is to take over a company operating in a growing industry.
Advantages of an asset acquisition strategy
Asset acquisition strategy offers several advantages. First, this strategy offers relatively fast growth compared to internal growth strategies. Acquirers can immediately head for a stronger market position. They can also increase shareholder value and operational performance.
Second, acquisitions are an alternative to avoid retaliation and reactions from incumbents in the target market. Entering as a new player will increase supply, depress prices, and profits in the target market. Hence, the incumbent will try to prevent it.
Some companies also adhere exclusively to this growth strategy. We often refer to it as a roll-up strategy. In this case, the company takes over several small companies and merged them to become large companies. Large businesses have advantages in economies of scale, income, and financial resources, allowing higher profits.
Third, the acquisition allows the company to synergize the core competencies and assets of the target company. That way, the acquirer can increase revenue or reduce operating costs.
A synergy that increases revenue can be through:
- Increase market share and market expansion (access to new markets)
- Increase market power, so companies can implement a better pricing strategy
- Utilize assets more efficiently, for example, by increasing the utilization rate of existing production facilities
- Increase product portfolio
- Meanwhile, synergies that save costs can be through:
- Better economies of scale, whether from production, marketing, or other business functions
- Cheaper cost of funds because large companies are usually considered to have better financial capacity than small companies
- Reduce business duplication by centrally combining multiple business functions
- Getting cheaper inputs such as when acquiring suppliers
Reasons for the failure of the asset acquisition strategy
Acquisitions are profitable when their value creation is greater than the acquisition cost. Management usually relies on debt to finance such corporate actions. So, making sure not to pay too much is one of the considerations in the acquisition. That way, the impact on financial leverage, and the company’s balance sheet is still tolerable.
Another tricky part of acquisitions is synergy. The acquirer must determine how the acquired assets will be integrated to generate higher returns.
Some of the reasons why the acquisition failed are:
- Inadequate resources. Acquisitions require an assessment of the company’s current capacity to integrate and scale operations. It takes a team, time, and effort to monitor this corporate action process.
- Overpaying. The acquirer usually pays a premium and funds it from debt. The failure arises when the acquirer pays a higher price than the value creation from the acquisition.
- Synergy failure. Companies overestimate potential synergies without knowing how they should run. The lack of clarity in implementing the integration process is made worse when the company does not have a back-up plan.
- Inadequate target assessment. The acquirer should evaluate the attractiveness of the target company and the industry in which it operates. Evaluation can include identifying core competencies, potential synergies, market scale, market structure, competitive dynamics, entry barriers, business performance, and the target company’s financial performance. Problems arise because, often, the acquirer focuses too much on the financial aspects of the deal.
- Cultural integration issues. The target company may have a different culture and leadership style than the acquirer. Thus, making it a subsidiary will only raise a potential cultural conflict.
