Why acquisitions are a smart business growth strategy

What is an acquisition strategy?

An acquisition strategy is a comprehensive plan for a business to grow by buying one or more companies. It can take many forms, but there are three main types.

1. Horizontal acquisition
   This type of acquisition involves acquiring a competitor—a business that operates in the same industry and at the same stage of the supply chain.“Essentially, a horizontal acquisition means buying a company that does the same thing as you,” explains Devesh Dwivedi, Lead Consultant, BDC Advisory Services. “For example, if you own a grocery shop, it means buying another grocery shop. If you run a plumbing services company, it means buying another plumbing business.”
2. Vertical acquisition
   This type of acquisition involves acquiring a supplier or a client—a company that operates in the same industry, but at a different stage of the supply chain. For example, a grain farmer might buy a small local mill to produce flour or a local grain elevator with a railcar siding to expand its shipping capabilities.
3. Conglomerate acquisition
   This type of acquisition involves acquiring a company in a separate market or industry—a business whose activities are entirely different. For example, a musical instrument company could acquire a motorsports company, or a carmaker might buy a chemical company. Conglomerates tend to be large entities, and SMEs rarely pursue these types of acquisitions.

What is the difference between an acquisition strategy and organic growth?

Companies can grow through two main avenues:

1. Acquisitions—purchasing other businesses
2. Organic growth—achieved naturally through internal business efforts

According to Dwivedi, “Organic growth involves increasing sales through word of mouth, advertisement and hard work. It doesn’t need much initial investment, but it takes time.”

Acquisitions can help you grow faster but require more upfront capital, which is why some entrepreneurs consider this avenue riskier. However, Dwivedi explains that both strategies have similar risks.

“On the surface, an acquisition may look risky, but this is where entrepreneurs get it wrong,” he says. “Buying an established business is a sound move precisely because it’s already established.”

Consider that 80% of new businesses fail within five years, most of which follow an organic growth strategy. Meanwhile, older companies have already established their product-market fit, reliable suppliers and loyal customers. They have proven that they are part of the successful 20%.

“For this reason, growing through acquisitions doesn’t have to be riskier than growing organically,” says Dwivedi. “The risks are actually quite similar.”

Pros and cons of a growth-by-acquisition strategy

Buying another company can bring many advantages to your business. Here are the main pros and cons to remember before looking for a target.

Talent acquisition

Buying a company is a great way to acquire skilled employees—especially when the labour market is tight and talent is hard to find.

“Acquiring a company for its personnel is a strategy I call acqui-hire,” explains Dwivedi. “It can be a fast, effective way to get the skills you need without having to go through the hiring process of approaching candidates, conducting interviews, making reference checks, and providing training.”

Customer growth

Making an acquisition will help your business expand its customer base—fast. For example, if you own a grocery store and buy a similar one in another city, you will significantly increase your revenue, number of customers and market share. Besides growing in size, you might also gain access to new customer segments, regions or buying patterns that complement your current business.

Technology acquisition

Buying a company can be a smart way to acquire new technology or skills. “Imagine you are a tech company focused on R&D. You just developed a new device, but you need to produce it before you can sell it. In this case, buying a manufacturing company with the right capabilities could make sense,” explains Dwivedi.

Or imagine you are in the logistics industry and want to optimize delivery routes to save on fuel. You could develop an app from scratch, but that would take time and involve risk. Instead, it might make sense to acquire a small tech start-up specialized in route optimization tools.

Efficiency through synergies

In many industries, a significant share of expenses are made up of fixed costs, that is, costs that remain constant regardless of sales volume. By coming together, two companies can therefore operate more cheaply than they could on their own. “For instance, if you own a grocery shop and buy two more, you don’t need to hire two more accountants, CEOS or marketing directors,” says Dwivedi. “That’s synergy—when the combined entity operates at a lower overall cost than the two separate businesses. There is magic in this approach, which is why so many companies pursue acquisitions.”

Culture challenges and potential clashes

The main challenge of growth through acquisitions often lies in the cultural differences between the merging companies. Successful mergers usually require shared values, processes, business culture, habits and ways of working.

Consider the following:

• Are both companies open to innovation?
• Do they approach decision-making in similar ways?
• Is one company highly hierarchical, while the other is flat and collaborative?

“Without this alignment, even a financially sound acquisition can lead to friction, low morale, and the loss of key talent,” emphasizes Dwivedi.

When should you consider an acquisition strategy?

The right time to launch an acquisition depends on many factors. But according to Dwivedi, most of those factors are internal: they relate to the company itself, and rarely to the broader macroeconomic environment.

“I don’t believe in trying to time the market because if you have the right deal, it’s never the wrong time,” he says. “Conversely, if you have the wrong deal, it’s never the right time.”

It may be easier to complete an acquisition in certain economic conditions, such as:

• when interest rates are low
• inflation is stable
• many business owners are retiring

“The deal should be so good that it will survive even the hard times,” summarizes Dwivedi. “If you focus too much on the economic context, you risk making an acquisition that works only for a short period.”

How to start an acquisition process?

To successfully acquire a business, it’s critical to follow an acquisition roadmap. It will help you prepare, execute and integrate your acquisition. Here are the three key steps to follow to get started.

1. Initial preparation
   The initial preparation stage involves defining your vision: what are your objectives and how does the integration fit into your larger strategic plan? Do you want to acquire technology, gain a broader customer base, or set foot in a new region? At this stage, you build your acquisition team of internal and external experts.
2. Identify targets
   Once done with the initial preparation, it’s time to research potential acquisition candidates. Make a shortlist based on strategic fit, culture and financials. Draft a letter of intent. This is a formal, written and non-binding document outlining an agreement in principle for your company to purchase the seller’s business. It will typically set key terms, timelines and exclusivity.
3. Conduct due diligence and finalize the deal
   Proceed to launch due diligence on your target by delving into financials, legal, HR, operations and culture. This is the stage at which many deals succeed or fail. Negotiate the purchase agreement and proceed to the integration by following a detailed post-merger integration checklist.

Next step

Learn what it takes to make a successful acquisition by downloading BDC’s free guide on Buying a Business in Canada.