Master Investor Magazine 21

Page 38

BY RICHARD GILL, CFA

FROM ACORNS TO OAK TREES

Small companies, big deals Three small CAPS SET TO GROW BY ACQUISITION

There are generally considered to be two ways in which companies can grow their earnings. The first, and most common for businesses both large and small, is organic growth – whereby a company expands its existing, or "internal", operations via increasing sales, breaking into new markets or launching new products for example. Inorganic, or acquisitive growth is the opposite, and sees a company look to deliver growth via the purchase of another business and adding it to its own. While often considered to be one of the more exciting and potentially lucrative sides of equity investing, acquisitions don't always go as planned. In fact, finance academics have long been critical of the M&A arena, with study after study finding that the majority of deals fail to deliver as expected. A 2011 paper by the Harvard Business Review, which reviewed a number of studies in the area, suggested that the failure rate for mergers and acquisitions stands at the surprisingly high figure of between 70% and 90%.

Deals can fail for a number of reasons. For example, a high powered CEO looking to build up their empire (and their salary) might go on an acquisition spree without regard to whether the companies being bought are a good strategic fit. Sometimes, the merging of two companies can look like a good idea on paper, but the practicalities of integrating them often turn out to be more difficult than thought, especially in people-driven businesses with clashing corporate cultures. Many times the failure comes down to the simple

“THE FAILURE RATE FOR MERGERS AND ACQUISITIONS STANDS AT THE SURPRISINGLY HIGH FIGURE OF BETWEEN 70% AND 90%.”

reason of the wrong price being paid for what is being bought – ITV agreeing to buy Friends Reunited for up to £175 million in 2005 then selling it for £25 million four years later is a perfect example. Despite many disasters, acquisitions, if they are done correctly, can offer the opportunity for growth and value creation. Here follows three small cap companies which have announced acquisitions recently which I believe look like being positive for shareholders.

CHESNARA In one of the largest small cap deals so far this year, life insurance and pensions business Chesnara (CSN) recently agreed to buy Legal & General Nederland, a Dutch life and pension insurer, for €160 million. This is one of many deals that the company has announced during its time on the market, having listed in May 2004 in order to acquire UK life assurance business Countrywide Assured and then going on to act as a consolidator in the fragmented insurance industry.

38 | ISSUE 21 – DECEMBER 2016 Master Investor is a registered trademark of Master Investor Limited | www.masterinvestor.co.uk


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