The warning signs directors miss when things go wrong

An acquisition can look like a perfect fit on paper, only for the cracks to emerge once the deal is done. Drawing on more than three decades in the boardroom, Graham Bradley AO FAICD reflects on costly M&A misjudgements – from misplaced confidence in management to missed early warnings – and the hard-won lessons that make a better director.  

A deal closes, funds transfer and the pressure is on. Then reality sets in – key talent drifts, growth stalls or hidden operational snags surface despite rigorous due diligence. For experienced directors, the real challenge is spotting an acquisition gone sideways and acting decisively.

With over 30 years of boardroom leadership across varied market cycles, veteran chair Graham Bradley AO FAICD (currently chairing Infrastructure NSW, Symphony Infrastructure Partners, Waveconn, Shine Justice, Virgin Australia International Holdings) shares his insights on why deals that look perfect on paper so often unravel in practice.

Could you reflect a little on what you’ve learned from errors of judgement in the boardroom, in relation to mergers and acquisitions?

Thankfully, I haven’t had too many disasters in my more than 30 years as a company director. I’ve been involved in quite a lot of mergers and acquisitions, and sometimes things do go wrong. On reflection, there are a few common reasons. The first cause of such transactions going sour is that management had rose-tinted glasses in relation to the acquisition candidate, and therefore the due diligence wasn’t as intense or risk-focused as it should have been. 

In other instances, poor deal structure is to blame. If it’s a pure cash takeover, then there’s not too much structuring, but if you’re in a non-listed company or you’re taking over a company where there’s a mix of shares and cash, it’s important to get that structure correct. Have you got the incentives in place to retain good managers and make sure they perform post-acquisition? 

A third likely cause for looking back with regret is poor integration and execution of the transaction. Companies make an acquisition and believe they’ve got good management in that acquisition, but they don’t put in enough of their own people to make sure it’s being run in the interests of the acquirer and not in the interests of existing management.

Are there one or two missteps in the mergers and acquisition area that you can talk about in more detail?

I’ve been involved in only a few examples. Reasonably recently, an unlisted company that I chair bought four companies to create a stronger service offering to our clients in the infrastructure area. Three out of the four worked very well. We didn’t pay too much for them and kept the management incentivised for three years by making part of the payment contingent on the profitability of the companies we were buying. 

In the fourth acquisition, however, we only had a one-year performance element on a small portion of the consideration. We had paid the vendors a great deal of money. Within six months, we saw the revenues had drifted and we realised the people in the company didn’t have the same energy and motivation they previously may have had. It’s important to note that such concerns can be subjective until they flow through into the bottom line.

What do you mean by that?

It’s hard to put your finger on a failure of motivation. There can be resistance to an acquirer sending in its representatives to get under the elbow of the people running the company to make sure they’re really working the business as they promised to do. It took a while for us to realise that we weren’t going to get performance from the existing management. We ended up relieving them of their roles and putting in new people. 

In that situation, what kind of conversations are you having inside the boardroom?

They’re challenging conversations, because the management team that has brought you the acquisition opportunity will often be reluctant to acknowledge there are problems – until they become blindingly obvious in the financial results or some other mishap. 

As a board member, you might have a sixth sense that things aren’t going as well as they could; or you’re hearing things about the performance of the business that worry you. When you raise those matters, management may be reassuring, but reluctant to act quickly to address them. It brings to mind the phrase, “Hope is not a strategy”. If things are already going badly after only three or six months, they aren’t necessarily going to get any better in 12 months. So you’ve got to convince management or direct them, in extreme cases, to get in, review the strategy and identify the necessary changes, which may be to replace some managers. Even if it’s less than 12 months since you made the acquisition, you need to ensure you’re doing everything you can to keep the business on track to meet the objectives you had for it. 

That goes beyond understanding culture and comes back to governance, doesn’t it? 

A lot is about governance. There’s a limit to how much you can really understand the culture of a company you’re acquiring before you own it and are able to open the bonnet and see what’s in the engine.

The most diligent management and board will have difficulty really gauging that from the outside. In public company acquisitions, access to a range of staff during the due diligence process is quite reasonably and deliberately restricted. You’re provided with the numbers and you have access to a few key people, but typically, the company that’s being acquired doesn’t want potential buyers meeting with people down the line, trawling around the branches and getting under the skin of the business, because if the transaction doesn’t go through, that can have a very a destabilising effect on employees. 

This is all the more reason why, within three months of acquiring a business, the senior management of that business should present to the board and give the board a chance to quiz them on how the business is going. I also advocate that boards undertake a site visit or two. It’s extremely effective for directors to spend a day touring sites or projects of the acquisition and listen to the way executives in the business talk about their work, their customers, their approach to safety and their employees. You get a very good sense of whether they’re on the right wavelength when it comes to shared values and commitment. If things aren’t 100%, you’ve got to say to your CEO, “We’ve got a problem and we have to fix it.”

Would you have any other examples of failure to adequately monitor performance in an acquired company?

I recall when I was involved with a big international bank that bought another big international bank based in another country. Within a year, it ended up being prosecuted for money laundering and other transgressions, not because it was knowingly doing anything wrong, but because it wasn’t aware of the customers the acquired bank was serving and what their relationships were. You need to put in trusted people who can make sure the acquisition isn’t doing anything out of line with your own corporate values. Ultimately, the bank was a successful acquisition, but it came at a huge cost to reputation.