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February 28, 2023 5 minute read

Ranking and Prioritizing M&A Targets: The Definitive Guide

A solid, well-thought-out M&A strategy is critical to ensuring that when you strike the deal, it measures up. Unfortunately, that’s easier said than done. Most executives know what they want and have a plan or two, but that alone doesn’t always translate into a successful merger.  While there is no guarantees of a successful M&A deal, having a way to rank and prioritize your targets will certainly help.  Challenges can emerge before, during, or in the wake of a merger, and a lack of foresight can derail even the best-laid plans.

Whether you’re an enthusiastic newcomer or a seasoned veteran, evaluating and ranking the best M&A targets with precision requires in-depth and sometimes tedious research into the fundamentals of each company you’re considering. Below is everything you need to know about identifying and ranking target companies to find a good fit. We’ll also be sharing a free downloadable ranking acquisition tool, along with a key and sample summary that you can use as-is or customize to plan your next strategy.

Start By Determining Your “Why” and “How”

One of the biggest mistakes companies make is not defining the compelling reasons for a potential merger. A holistic growth strategy starts with identifying where you are now and where you want to be. It requires sitting down with stakeholders and agreeing on well-defined business goals. As Bain & Company puts it, “A differentiated end-to-end M&A capability that links directly to the corporate growth strategy is the common denominator of the most successful companies.”

The next step is to determine the best approach to meet these goals — strategic development of existing resources, formation of a joint venture or strategic alliance, or seeking out an M&A. 

In this sense, your business strategy is a driver for and informer of your M&A strategy.

What Makes a Good Target for M&A?

Once you’ve established that a merger or an acquisition is your ideal solution, you next want to draw up a list of criteria that helps you evaluate target organizations. Think of it as your “wish list.” This set of criteria will help you filter your targets objectively and logically. 

Understanding all the essential factors involved in a merger enables you to thoroughly vet your targets before you commit to your selection and proceed to drafting a term sheet, conducting diligence, and sending an LOI. And with the right tools, you can organize and analyze your opportunities. 

To assist you in ranking and prioritizing your M&A Targets, Devensoft provides growth leaders with a free acquisition ranking tool in the form of a spreadsheet template.

To properly rank and prioritize potential acquisitions, be sure to focus on these 10 areas:

1. Bottom Line

The key financials to look at are:

  • Revenue
  • Earnings before interest, taxes, depreciation, and amortization (EBITDA)
  • Percent margin
  • Year-over-year growth
  • Growth consistency
  • Market share

These figures give you a bird’s-eye view of how a potential target company is performing. Steady growth numbers and profitability can be critical drivers for a potential merger and play a key role in valuation methodology.

2. Investment and Ownership Structure

List your estimates in terms of your expected investment and the ranges in EBITDA multiples. Lastly, include ownership details such as whether it’s privately or publicly owned and whether it follows a partner or investor-based model. Identifying the ownership type can help you prepare ahead of time for the challenges unique to each type. 

The price of a publicly-owned company is often determined by shareholder vote, which means there’s always the risk of an outright bidding war with another interested buyer. With a private company, you’re aiming to build a relationship over time to eliminate the potential of such a bidding war. 

3. Fit

The best possible returns on your investments are assured when you look at fit from a holistic standpoint and is a large factor when considering the rank and priority of the target. Is your target a strategic fit that aligns with your long-term business plans? Will the acquisition complement your core offerings? Does it fit into your vertical? Pay particularly close attention to the culture fit, too, as this directly impacts M&A integration. 

“Culture is important in all deal types but particularly when you bring two large groups of people together. Then, the potential friction would be much more visible. And you need to understand the culture of both companies. It is not enough to say, is the target company compatible with us? You need to understand it in a more nuanced way. What are their ways of working? What makes them successful? You need to do the same for the acquiring company. One-sided data is not so useful; you do a like-to-like comparison. […] We believe companies should apply the same rigor to thinking about culture as they do to the financials when they are planning a deal and doing the integration.”

Becky Kaetzler, an authority in McKinsey’s M&A practice

You’ll also want to examine the geographical fit and whether the target organization operates within your current or desired areas. In assessing fit, you’re establishing how well the target company will assimilate into your business environment and cultural makeup.

4. Leadership

Leadership is one of those qualities that’s hard to define on paper. In this case, it’s about how well a leadership team can accomplish business goals by encouraging others to follow their example. This quality becomes critical when you’re merging with a new organization and you require seamless integration. Joseph Carleone, Chairman of Avid Bioservices, says, “The leadership on both sides of the acquisition can impact a deal even with an exceptional strategic fit.”

According to Carleone, “Business leadership must be accountable to the entire set of stakeholders of the business — which includes the owners, customers, employees, suppliers, and members of the community in which the business operates. Business leadership results must be measured in the context of improving the economic value of these five stakeholder groups. In summary, good business leaders must be responsible realists.”

5. Reputation

A solid reputation is built over time. It measures how trustworthy and competent a company appears to its customers and reflects the success and strength of its partnerships with other businesses. A weak reputation doesn’t automatically disqualify a potential target, however. For example, a business may have a high-quality product but consistently receive negative reviews because of poor customer service or after-service management. Keep in mind that poor customer sentiment will add a level of conflict and risk. 

6. Incremental Verticals and Capabilities

As part of your due diligence when ranking and prioritizing M&A targets, identify any incremental verticals and capabilities. Ideally, the target organization will either have none or will have ones with high potential. If the potential acquisition has undesirable incremental verticals or capabilities, this may prolong the integration process but is not a deal-breaker.

7. Potential Consolidation 

While it’s not the easiest of full-fledged legal processes, consolidation can help reduce costs and strengthen your market share over the long term. You’re implementing strategies to streamline operations, remove redundancies, concentrate your market share, and increase your customer base. 

8. Immediate Synergies

Immediate synergy is simply about how quickly you can establish increased value by combining forces. Deloitte identifies four different types of synergies:

  • Management-oversight synergies (sophisticated target and incentive setting, exemplary training and recruitment, and superior treasury and capital allocation processes) 
  • Horizontal synergies (joint purchasing, joint R&D, brand extensions, and sharing best practices)
  • Downward synergies (access to the parent’s balance sheet, extending the parent brand to the BUs, and access to parent networks and relationships)
  • Portfolio system synergies (combining countercyclical businesses to dampen excessive volatility or vertically integrating key operations to address failed supply or demand markets)

Tracking synergies is simplified by utilizing a tool such as Devensoft to weigh the forecasted and actual synergies realized for each deal. The synergy possibilities may look promising at the outset, but if there’s no culture and leadership fit, it’s unlikely this aspect will ever take off. It’s an example of why a detailed analysis is necessary for a successful M&A that delivers on expectations.

9. Conflicts and Risks

When it comes to identifying potential conflicts and risks, be sure to look at your target organization’s customer sentiment, employee sentiment, strengths and weaknesses, and competitor positioning.  When ranking and prioritizing, a negative value can be applied when considering potential risk-factors.

10. Product Portfolio, Verticals, and Geographical Footprint

To get a general idea of what the company does and the size of its operations, make a list of your target’s products, verticals, operating areas, number of locations, and number of employees.

To properly track and analyze what makes a good target for M&A, enter the above information into this acquisition ranking tool. Especially when looking at multiple organizations, numerical scoring can help you determine how to rank your targets and decide which ones you should prioritize. Evaluating your companies in this manner can help you eliminate or mitigate many of the risks associated with an M&A. It will also help you sail through your merger fully prepared.

Next Steps

Want to know more about creating a successful M&A strategy from the ground up? Learn how to go from a methodical target evaluation to a successful post-merger integration with our free and customizable M&A Management Playbook and Toolkit. Download the e-book for access to templates, integration checklists, and more here.

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