Five Questions Companies Should Ask Before Making an Innovation-Driven Acquisition
4:05 PM Wednesday March 28, 2012
by Christopher Bowe | Harvard Business Review
The Swiss pharmaceutical giant Roche is nothing if not determined in its quest to acquire Illumina, the San Diego-based leader in genetic-sequencing equipment. In January, after Illumina’s board rebuffed Roche’s initial overtures, Roche made a $5.7 billion tender offer directly to shareholders. When that didn’t succeed, it extended the offer to midnight last Friday. And now Roche is urging shareholders to vote for its independent director nominees at Illumina’s annual meeting to be held on April 18.
This ongoing struggle raises an issue that is endemic in such acquisitions: In search of innovation, big companies often buy other companies whose most innovative days are almost at an end. In the mid-1990s, when Apple was all but left for dead, Gateway was riding very high in the PC business. An acquirer looking for innovation would have been likelier to try to buy Gateway, a company that is almost an after-thought now.
How can a company know whether it’s buying an Apple or a Gateway? By answering these five questions:
1. Have we really seen the future or are we just rolling the dice?
Just 13 months after buying Palm for $1.2 billion to acquire the webOS operating system, Hewlett-Packard discontinued its webOS-based series of smartphones and line of Touchpad tablets — losing its bet on a webOS-everywhere future. Of course, innovation is to some extent always a gamble. Nobody has 20/20 foresight, and if you’re not failing some of the time, you’re not trying. But acquisitions, unlike homegrown innovation, don’t afford the luxury of multiple low-cost experiments — the sunk costs of an acquisition are too great. The deal should be based on something other than a Hail Mary pass or ill-defined synergies.
2. Are we going to have to work really hard to differentiate the product or products that result from the acquisition?
Consider the pharma industry’sdeals standard practice of buying products or companies chasing known therapeutic targets. This means they’re buying drugs that could be similar to others already on or coming soon to the market. But sales efforts have less and less effect differentiating a product — and creative science/innovation and other value measures are required. No company should confuse the strategy of buying into a big market with buying innovation that will bring tomorrow’s growth.
3. Is there a future disruptor we don’t see or that we have underestimated?
The technology world has some harrowing examples that no innovation-based industry should ever forget. Terra Networks agreed to buy internet search-engine leader Lycos in 2000 for $12.5 billion and sold it four years later for a tiny fraction of that original investment. In 2005, News Corp was lauded for its $850 million purchase of MySpace — later sold off for peanuts. That these were unwise deals may seem obvious today, but the trick is to see that at the time of purchase and not succumb to blind enthusiasm for new waves of technology.
4. Are we buying the company for what we can learn from it — or what we can teach it?
If it’s the latter, you might want to reconsider. There were many problems with Sprint’s 2005 $36 billion deal with Nextel. But the killer was the Sprint culture, which led Nextel executives to leave soon after the merger, dissipating Nextel’s relatively more entrepreneurial influence.
In pharma, Johnson & Johnson’s 1999 acquisition of Centocor brought in blockbuster biotechnology innovations led by rheumatoid arthritis drug Remicade. Interestingly, Dominic Caruso also came with the deal for that small biotech company, and he is now the pharma giant’s CFO. In many acquisitions, acquiring talent with fresh energy and thinking is as crucial as acquiring raw innovation. Facebook over the years has been a master at this, making many acquisitions that were relatively modest in dollar terms in order to secure talented innovators.
5. Are we chasing numbers or transformative innovation?
Most acquisitions are backed by a business case, and most business cases are driven by the financials — not the much-harder-to-quantify notion of transformative innovation. But in innovation-based industries, chasing synergies and short-term numbers can derail innovation. HP acquired Compaq in 2002 to give it synergy and mass to compete with Dell in PCs. Instead, the culture suffered and took the focus away from innovation and key growth areas like servers and services.
Likewise, the Big Pharma mergers of the last 10 years have left the larger companies struggling to innovate. Who can say what the possibility of innovation is really worth? In the late 1990s, nobody acquired Gateway or Apple. However, Apple did get Steve Jobs back and purchased his company Next. The market reaction to all of this was mixed, but the trajectory was set for one way: higher.
And Roche’s hostile bid for Illumina? In a letter to Illumina shareholders, Roche says that the company is beset by new innovative competitors reshaping the market and hasn’t kept pace in R&D. Bluffs? Perhaps they are points designed to justify the price Roche is offering for what many see as an intensely innovative company. But perhaps Roche is spelling out the reasons it will come to rue the deal if it goes through.