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M&A: Acquiring start-ups: is the risk worth the reward?

SPECIAL REPORT: M&A

Andrew Murray-Watson is business editor of The Independent on Sunday.

Any acquisition undertaken is a risk – even more so when the company has innovations and ideas that are new to your business. Andrew Murray-Watson looks at family businesses that have taken the plunge and what can be learned from these transactions

Well-run family businesses are never afraid of making acquisitions. But it is an intersting fact that, more often than not, takeovers occur within the sectors in which that family business is focused. Lakshmi Mittal, for example, has consolidated his global position as one of the most powerful figures in the metals industry by snapping up steel firms. You would certainly be surprised if he suddenly announced he was to acquire a food and drinks company.

Indeed, family-run businesses have a reputation for conservatism when it comes to making strategic takeovers. Acquisitions tend to be those of consolidation rather than designed to alter the strategic direction of the company. However, there are always exceptions to the rule.

Branching out into new directions
Often the catalyst for family businesses to move out of their comfort zone to make acquisitions outside their sector is a change in the fundamentals of their industry. The way in which the Murdoch family operates is a prime example of this.

In July 2005 News Corp paid $580 million (€418 million) for MySpace, a social networking site. For a group the size of News Corp, it wasn't a major acquisition in terms of value. However, it was a departure for the group, which had hitherto ploughed its capital into more traditional media, such as newspapers and broadcast companies.

In late 2005, James Murdoch, son of chairman Rupert, and chief executive of British Sky Broadcasting, paid $428 million for Easynet, a small internet service provider in the UK. The takeover surprised the market with its swiftness. The price paid for Easynet included a 40% premium on the company's share price prior to the takeover being announced.

While the market initially scratched its head as to why the Murdochs seemed so keen to buy an ISP, the rationale behind the acquisition rapidly became clear. For BSkyB, the Easynet acquisition was a way of keeping one step ahead of its rivals. The satellite broadcaster was suddenly about to offer broadband internet access and telephone services to its pay-TV customers. This put it on a par with archrival NTL (now Virgin Media), which could already offer the triple-play package of products.

But James and Rupert saw the deal as a way of "future proofing" the BSkyB business model. As internet connection speeds have increased, more consumers are using the internet for accessing video content. Having satellites in orbit was suddenly insufficient for BSkyB. It needed to offer its customers interactive services that could only be provided by the internet. Easynet also gave the company a valuable additional product offering – one that currently is winning substantial levels of support from the UK consumer.

A worthwhile gamble?
Was buying Easynet a risk that a family-controlled business (albeit a publicly-listed one with substantial institutional investment) was well-equipped to make? In hindsight, the answer is clearly yes.

The price paid to secure the deal quickly was higher than a normal PLC might have paid in the circumstances. Although internet services was not a core area of expertise for the Murdochs, they could see the potential that the web had for their broadcast businesses.

A banker who worked on the deal, but who wants to remain anonymous, says: "BSkyB is a public company, but it is run like a private family business. When James and Rupert wanted to do the deal, they discussed it between themselves and their inner circle of advisors and then went out and did it. Investors in a Murdoch company tend to get told about why they are doing something after the event.

"With Easynet, James had a clear strategy to expand the scope of his business and the means by which it delivered content to its customers," he adds. "At the very worst it was a £200 million hedge against future viewing trends. All his bases were covered, no matter what tomorrow's consumers decide they want."

The Murdochs' acquisitions of MySpace and Easynet are clear examples of a family business adjusting to changes in their marketplace. In each case, the risk of acquisition was less than the inherent dangers of not changing a business model that was under threat from new technologies.

In both cases, the Murdochs identified a market trend at an early stage and won first move advantage. In doing so, they left their rivals playing catch up and scrabbling to see where similar acquisitions could be made. But by then the price for the remaining consolidation plays had risen.

Listen to advice
There are few examples of family-owned businesses making acquisitions in areas that are totally alienated from their areas of expertise. Vinod Sekhar, founder and chief executive of the Petra Group, the Malaysian-based conglomerate with an estimated market cap of $1billion, has invested in technologies ranging from recyclable rubber to biodiseal to innovative HIV treatments. He is known to take a riskier approach to acquisitions that most.

Among his management team is his wife Winy Sekhar, while Petra Group is named after his oldest daughter. His younger daughter has a starring role in the group's Malaysian newspaper adverts. 

"For starters, family businesses can often have very complex ownership structures – especially second- or third-generation family groups – that make acquisitions harder to make," says Sekhar. "So the assumption they can make quick decisions is not always correct. Personally, when I look at a new business, the process of evaluation is mine. But I have key executives and advisors that are involved. I am the pioneer, but their input is vital.

Sekhar says that he is putting processes and structures in place that will be left behind when he goes. "If anything, these structures will mean those that inherit these businesses will be more disciplined than me when it comes to acquisitions," he explains. "You want to ensure that the next generation does not make the same mistakes as you have made.

"Of course, all heads of family businesses think about future generations and the legacy they are leaving," he adds. "That can diminish the appetite to make risky acquisitions."

To buy or not to buy
In short, the stereotypical notion that family-owned businesses stick to what they know is true when it comes to making acquisitions. But as we see from the best-run companies, such as News Corp and BSkyB, the need for change should be a driver for making vital takeovers outside of particular sector experience.

"The first question that you have to ask any family business owner who is making a leap into the dark with an acquisition, is 'why are you doing it?'" says Sekhar. "If there is an exceptional opportunity, then fine. But the processes have to be in place to reduce the risk of making an expensive mistake that can't be undone."

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