Consulting Case Frameworks – The PE Framework (To buy or not to buy)

Disclaimer: Again, this is by no means the correct or complete framework to solve cases. Its just something that I have come up when practicing case interviews. It best suits my logic and thinking and anyone on the same wavelength is welcome to use it.

I mostly use this framework for Mergers & Acquisitions (M&A), Private Equity (PE) or Market Entry cases. The reason I call it the PE framework is because I first used this outline when I was given a PE related case. I then realized that it can be used in any situation where one firm decides to buy another, or enter a new market as well.

Undergrads interviewing for consulting positions will probably not have to go too deep into the case. A good analytical overview will be very appreciated. MBA students however will probably be expected to do an in depth analysis and valuations. Undergrads will probably get brownie points for uttering the word ‘Valuation’.

Lets say you get a case – Should company A buy company B?

Before diving into the case and doing wild market analysis, you should try to understand why does A want to buy B? What are A‘s objectives? A could be a medium sized company, a conglomerate or a PE firm. B would most probably be a mid sized company in a certain industry. Once you understand A‘s objectives, go ahead with case analysis.

There are 3 areas which I like to focus on –

External Reasons for why A should or should not buy B.

Industry – How is B‘s industry doing? What is its size, growth rate? Is it Emerging/Maturing/Declining (E/M/D)? This would give us a sense of how attractive the industry is to enter.

Market Share – Is B a big or small player in the industry?

Competitors – Who are B‘s competitors and how are they performing relative to B? The points above will give us an idea of B‘s general performance in the industry. B may have greater market share but its competitors may be more profitable or have better growth rates. This would be an interesting scenario. Will A still want to buy B knowing this?

Consumers – How sensitive is the market to consumer demand? Take the mobile phone industry for example. The consumers are extremely fickle and will rush to the next ‘cool phone’ in the market. B may be a market leader now, but may not be one in the future. Think Motorola, Nokia ….. all being pummeled by tech, marketing & branding expert giant – APPLE!!

Suppliers – How much power do the suppliers in this industry hold? Is the supply market extremely consolidated? Can they band together and demand higher prices for raw materials? Or are raw material prices protected by the government?

Risks – What would be the risks of entering this market? Legal risks encompasses anti-trust laws, country laws & regulations (if entering a new country market) & sensitivity to political changes in the country. Other risks could be threat of substitutes, entry/exit barriers and sensitivity to the economy.

Internal Reasons (Target) – Analyze if B is an attractive company to buy.

Product – What is B‘s product mix? Are their products competitive/proprietary? How are they faring in the market? Drugmakers generally buy each other out to gain competitive advantage in patented drugs.

Profitability – Has the company been profitable? Now would be the time to check out its revenues, costs & some basic debt ratios and compare it with its industry peers.

Growth – Has the company been growing the past few years? What are its growth rates relative to its competitors and the industry in general?

Valuation – How much would you value the company at? What are you willing to pay for B? Would be a good idea to do some basic (Discounted Cash Flows) DCF and (Price to Earnings) P/E valuations. Also should see if B has any liabilities such as accrued taxes over the years or lawsuits.

Competencies – Maybe company B has some assets that make it an attractive buy. Great management team or superb research & development facilities or brand new factories. Will B be a good corporate fit for A?

Synergies – Can A & B find operational or financial synergies?

Internal Reasons (Acquirer) – Analyze if A has the capabilities to buy B.

Objectives – We need to keep objectives in mind while doing our analysis. Company B may be a great buy but may not fulfill A’s objectives.

Resources/Competencies/Financing – Does A have the managerial resources or expertise for the acquisition? Have they done this before? How are we going to pay for this (Cash/Debt/Share Swap)? Can we get good interest rates to finance this acquisition?

To buy or not to buy? I personally find these cases the most interesting to solve. And they aren’t always very straightforward either. I have got cases when companies want to buy firms that aren’t doing so well. Why? To strip them of their assets and cash. Google the term – Strip and Flip. Another case was about a company that targeted a firm whose profits were deteriorating. And other cases when the target firm seemed like a great buy, but wasn’t really.

In short – do not forget the OBJECTIVE when doing your analysis!! There is no need to analyze possible synergies if the acquirer only wishes to strip the target of its assets. The target company may have poor sales, but the acquirer could still want to buy it because of its superior technology. The target here may just be doing a bad job of selling itself. You can go wild with your analysis and come with a thousand brilliant ideas, however, keeping the objective in mind will enable you arrive at a reasonable and sound conclusion.

On that note – I find the acquisition of Palm (ex smartphone innovator and leader =) by HP an extremely interesting deal. Palm is in my opinion one of the deteriorating tech giants of yesteryear and HP just provided it a lifeline when agreeing to buy it for a little more than a billion. What motivated HP to buy Palm? Maybe to gain entry into the huge smart phone market? Or maybe Palm was just an undervalued company with technological brilliance but poor marketing skills. Can’t say, I have never had a Palm. Though now I hope to see some more competition in the smartphone market =)

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