6 minute read 1 Apr 2019
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Eight levers for driving M&A value through the supply chain

Authors

Jeff Schlosser

EY US Supply Chain Transactions Leader

Assisting clients as they hone their go to market model. Champion of championing great people. Music fanatic, especially when it comes to getting it in kids’ hands. Proud dad of two serious drummers.

Abhi Ahuja

EY US Supply Chain and Transactions Senior Manager

Experienced M&A and value creation advisor. Focus on CP&R and Diversified Industrials. Proud father of two girls. Automobile enthusiast. Traveler. Foodie.

6 minute read 1 Apr 2019

Keep supply chain integration top of mind to drive cost synergy targets.

If you’re embarking on a transaction, outline a strategy for some of the most important partners in the journey – your suppliers. The procurement function typically delivers 50-70% of cost synergy targets, according to an EY analysis of 10 years of M&A transactions.  Yet supply chain integration often is not considered until late in the deal lifecycle. 

A thoughtful and tightly executed plan to capture this value in the supply chain can not only help deliver on short-term cost synergy targets, but also set up the organization for long-term profitability. Ways that CFOs, corporate development leaders, and supply chain executives can extract maximum value from the procurement function during an acquisition include:

1. Set expectations with the executive team and establish an aligned, common spend baseline

Supply chain leaders should leverage operational due diligence reports and external announcements to determine what has been internally estimated and communicated to the market. Reconciling top-down estimates with bottom-up analysis can help identify any material gaps in spend and savings assumptions and prevent downstream surprises. Setting reasonable targets for the operational team also helps ensure sustainable savings and supplier partnerships.

  • In one $50B+ deal that involved integrating two large healthcare providers, the team identified an aggressive target of ~$200M in procurement synergies.

    Key focus areas included driving operating model changes, demand management improvements, and sourcing strategy development & execution across the entire spend base including Corporate Services, Business Process Outsourcing (BPO), Facility Management and Real Estate, IT, Professional Services, and other categories. A procurement synergy project management office was also established to track synergy capture performance across the M&A lifecycle.

2. Focus on sustainability and financial viability

Several organizations cite savings erosion as a common issue within the first two years of undertaking an integration effort. Most common risks include service-level impact, price increase risks, and in extreme cases suppliers facing financial insolvency. These risks can be appropriately mitigated by:

  • Assessing the financial health of supplier partners in early stages and drive transparency in value capture negotiations to account for viable supplier margins, aligned to industry benchmarks
  • Implementing a governance process with key supplier partners on a pre-defined cadence to drive joint accountability, usually executed via supplier performance reviews
  • Fostering finance–procurement collaboration for benefit tracking and measurement

3. Identify “critical” partners

Mature organizations typically have thousands of suppliers and are often unable to focus on the ones that deliver 80% of the synergy target. After classifying spending, it is critical to stratify suppliers and identify the ones that will be instrumental in delivering NewCo’s business strategy. It is especially important to identify long-term contractual commitments and the degree of vertical integration at this step. In a recent effort, roughly 85 suppliers were identified (out of 10,000+) that could potentially deliver on most of the synergy targets. This allowed the team to focus time and resources on a finite set of suppliers and revisit long-term partnerships.

4. Establish an engagement timeline

Identify critical points of engagement with select suppliers and lay out plans of 90, 180 and more days. In our experience, engaging critical partners early correlates highly with yielding target synergies and identifying big obstacles in the transaction lifecycle. During a recent telecom equipment merger, the procurement team on both sides established a three-way non-disclosure agreement (NDA) to advance strategy discussions with the supplier for IT spending. Clean rooms (virtual data rooms set up by a third party to enable exchange of confidential information in the diligence period) enable data analytics on synergy potential and strategy setting. Note that there are rules governing participants in a clean room setting because of implications on future roles in case the deal is not completed.

5. Tailor supplier engagement tactics

Traditional negotiation techniques can yield targeted results in categories where demand power is much higher than supplier power. However, in situations where demand and supply power are balanced or there are B2B relationship issues, traditional negotiation techniques may not succeed. Joint strategic planning with suppliers in these cases warrants a different approach that relies on open and transparent communication between buyer and supplier and a commitment to mutual profitable growth.

  • In a recent value creation effort for a manufacturing company, an incumbent supplier of 40+ years was facing the risk of losing the business due to perceived inflexibility over pricing.

    Over a period of 6-8 months, the buyer and supplier engaged in joint strategic planning and were able to renew a five-year agreement while taking out 10% from the cost base jointly without adversely impacting each other’s P&Ls.

6. Balance short-term priorities and long-term goals

A common pitfall in renegotiating contracts with suppliers is a heightened focus on capturing near-term (one-two year) savings. Companies instead could adopt a longer-term “partnership” view that accounts for the buyer’s total cost of ownership in longer-term horizons. This helps achieve the right balance between investor expectations and long-term value creation. Most organizations also place a high emphasis on supplier pricing and often overlook the hidden elements in Total Cost of Ownership (TCO). Deploying a combination of levers - managing demand, managing supply and improving processes, compliance and controls – helps increase value delivery.

Transactions also provide a good inflection point to review NewCo’s working capital strategy in coordination with the finance team and re-set supplier payment terms to align with industry benchmarks.

7. Drive operating model effectiveness (OME)

OME involves reviewing the tax efficiency of the supply chain operating model by locating cost and profit centers in strategic tax jurisdictions. This assessment is often initiated in the executive office with cross-functional leadership. OME, if executed correctly, can help extract significant deal value, while setting the future business up for long-term strategic success. Critical decisions and principles include:

  • Insourcing vs. outsourcing, based on core competencies
  • Near-shoring vs. off-shoring, based on tariff and tax efficiencies
  • Identifying fixed vs. variable elements of cost structure such as IT development, transportation and payroll 
  • Aligning the operating model to industry benchmarks (e.g., spend per FTE)

8. Futureproof your supply base

Customers are increasingly conscious of suppliers’ impact outside the core value chain. For example, as you develop your NewCo supplier strategy and external spend, you must consider factors such as carbon footprint, fair trade practices, diversity and other nontraditional concerns. A transaction can also be a great opportunity to revisit or institute a “Preferred Supplier Partner” program.  To enhance compliance with the program, successful organizations take the time to review supplier master data and flag or remove non-compliant suppliers from the system.

In conclusion:

An M&A transaction can be a critical inflection point not just to deliver synergies, but also to re-visit the operating model of the supply chain function, enhance supplier partnerships and re-align supply chain priorities to the business strategy. Empowering and training teams to engage in the right conversations internally and externally can enable organizations to deliver sustainable shareholder value.

Summary

The procurement function typically delivers 50%–70% of cost synergy targets. Yet supply chain often is not considered until late in the deal. A thoughtful plan to capture value in the supply chain can help not only deliver on short-term cost synergy targets but also set up the organization for long-term profitability.

About this article

Authors

Jeff Schlosser

EY US Supply Chain Transactions Leader

Assisting clients as they hone their go to market model. Champion of championing great people. Music fanatic, especially when it comes to getting it in kids’ hands. Proud dad of two serious drummers.

Abhi Ahuja

EY US Supply Chain and Transactions Senior Manager

Experienced M&A and value creation advisor. Focus on CP&R and Diversified Industrials. Proud father of two girls. Automobile enthusiast. Traveler. Foodie.