More and more, companies are leveraging acquisitions to purchase new technological skills as a vehicle to raise their top-line growth, according to a report by Bain & Co. The Wall Street Journal reports that companies added complementary services in nearly 60% of deals last year. According to Bain, companies use two types of M&A transactions to boost capabilities. They are called “scope deals” and “scale deals.”
In scope deals, companies seek new capabilities and access to new markets or other complementary services. In scale deals, companies attempt to increase their market share in a specific industry.
An M&A transaction can achieve both of these goals, but successful buyers usually will determine the type of deal that will best serve their long-term strategic objectives prior to initiating the acquisition process.
Scope Deal Increases
In a scale acquisition, the acquiring company wants to realize a greater presence in a particular market or sector and aims to achieve greater overall economies of scale. For these kinds of acquisitions, the acquiring company typically targets a competitor or a company in a related sector or a new geographic market.
Bain found that 58% of global transactions with deal values of more than $1 billion were classified as scope deals. That number is a 7% increase from 2018, when scope deals outweighed scale deals for the first time since at least 2015.
The value of corporate deals announced globally hit roughly $3.4 trillion. This matches 2018’s total. Some companies used caution in deal making with the uncertainty in U.S.-China trade tensions and the U.K.’s Brexit plan from the European Union.
For example, Global Payments Inc.’s $21.5 billion merger with Total System Services Inc. was the industry’s third mega-merger of the year. It was one of several financial-technology scope deals last year where a card payment-processing company sought out merchant-side capabilities. The deal provided Global Payments with greater insight into digital payment trends from Total System Services’ issuer- and consumer-focused divisions.
These were businesses in which Global Payments hadn’t operated in historically. The deal created an international force that provides payment technology and software to more than 3.5 million small to midsize merchants and more than 1,300 financial institutions across the globe. The transaction is expected to generate $300 million in cost savings and is forecast to generate approximately $8.6 billion annually in adjusted net revenue plus network fees, with $3.5 billion in earnings before interest, taxes, depreciation and amortization and $2.5 billion in free cash flow.
There were other notable fintech scope deals, two of which were Fiserv Inc.’s $22 billion purchase of First Data Corp. and Fidelity National Information Services Inc.’s $35 billion acquisition of Worldpay Inc. These transactions created two-sided platforms servicing both merchants and financial institutions in an effort to monetize both ends.
All of the deal activity among payment processors has created financial processing giants that could create networks that serve and connect financial institutions and merchants akin to Visa and Mastercard.
Typically, scope deals don’t see streamlining operations and cutting costs as much as scale deals do. These transactions are usually made by companies that are already well-established in their current market but want to grow in a new direction.
There was a drop in scale deals last year. This was caused at least in part because companies in heavily consolidated industries experienced regulatory obstacles. Governments were more rigorous in their scrutiny of transactions on national security grounds. Bain reports that 74% of the health-care industry deals were scope deals. That’s the highest proportion of any industry studied, the firm said.
Some of the companies wanted to acquire therapeutic capabilities, according to Bain’s report. The Boston-based biopharmaceutical Vertex Pharmaceuticals Inc. looked to bolster its gene-editing services with its acquisition of Exonics Therapeutics last summer and its purchase of the rights to Crispr Therapeutics AG’s intellectual property around the same time. Vertex instantly improved its gene editing capabilities to develop novel therapies for Duchenne Muscular Dystrophy (DMD) and Myotonic Dystrophy Type 1 (DM1). Prior to these deals, Vertex was most recognized its small-molecule drugs for cystic fibrosis. Add to these, a licensing agreement with Merck KGaA, and the Boston-based company now has both a pipeline of gene editing programs and an array of tools it can leverage to discover and advance additional assets.
It’s not uncommon when acquiring capabilities that companies are required to do more than just purchase a business. For example, the complex genome editing is a type of genetic engineering that necessitates the acquisition of the relevant intellectual property, along with the business. In the Vertex deal, the intellectual property, technology, and scientific expertise was critical in its plans for finding gene editing therapies for these serious diseases.
What Will 2020 Bring?
Finance executives anticipate that 2020 will see continued capitalizing on low interest rates and rising stock prices to raise capital for acquisitions.
Favorable capital conditions will keep the volume of scope deals steady or growing in the near future, experts say.
Scale deals typically see more-immediate cost savings, which become particularly attractive in a tight economic environment.
Read about Carpenter Wellington's mergers and acquisitions practice.