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The "Operations Excellence" due diligence: unlocking new hidden value in acquisitions (and in all other organizations)

Contributor: Terence T. Burton
Posted: 02/02/2014
The "Operations Excellence" due diligence: unlocking new hidden value in acquisitions (and in all other organizations)
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Due Diligence is the term associated with mergers and acquisitions, an analytical effort where Private Equity, Venture Capital, and other investment firms define the potential value creation opportunities and actual purchase price. There is no due diligence standard; there are as many formats and templates as there are investment firms.

However the due diligence process assesses the following areas of a proposed acquisition candidate:

Strategic Assessment:

A higher level review of present and potential opportunities, competitive analysis, current organizational strengths and weaknesses, alignment of strategy and execution, and an evaluation of executive talent

Don't let operational inefficiency spoil your investment

Financial Assessment:

A detailed assessment of the organizations P&L, balance, sheet, general ledger accounts, A/R and A/P status, and general financial health and well being.

Legal Assessment:

A review of current legal issues, liabilities, contractual obligations, active lawsuits for product liability, patent infringement, or any other legal issues that present future risks.

Operational Assessment:

An analysis of current internal operations and opportunities for improvement in areas such as order fulfillment, manufacturing, supply chain management, new product development, sourcing and supplier management, and other general continuous improvement opportunities that create value.

The last area – Operational Assessment - is often the weakest link in the due diligence process. Too many investors view operations as the organization’s stepchild, or as that generic activity that can be easily outsourced to China or some other third world low labor cost option.

Deals that look favorable in the Excel spreadsheets can fail miserably due to overlooking internal business inefficiencies within an organization’s integrated systems of people, process, equipment, materials, technology, engineering, information, and facilities management. Investors simply cannot get to these complex unknowns and opportunities with the analyst’s typical simple checklists and templates.

Speed, complexity, and process interdependencies are the drivers for a better approach. These assessments must draw upon specialized knowledge, deep experiences, and skills of a seasoned continuous improvement (CI) practitioner to evaluate and identify breakthrough opportunities for improvement.


The Operations Excellence Due Diligence

We have observed several deals that failed at creating quick value in the short term, and have suffered the pain and incremental costs of integration inefficiencies in the long term – because they did not go deep enough with the operations assessment portion of their due diligence process. Additionally, we have observed many abstract opportunities to create quick value because the operations assessment is either too academic or too superficial.

As stated above, the uninitiated analyst cannot expect to ask questions off a template to get at the true operational facts. Our firm has been engaged to turn around several of these surprise situations that surfaced after acquisitions. The future is predicting even higher levels of merger and acquisition (M&A) activity, which means a higher risk of evaluation errors using the same process. A more robust operational due diligence process discovers quicker and greater value opportunities, and eliminate these risks.

Now look at the Lean, Six Sigma, and other strategic operations improvement initiatives in ongoing entity organizations: The failure rate of these improvement initiatives currently sits at over 80%, however, the opportunities for improvement have not disappeared. These organizations include public and private corporations, or existing portfolio holdings of PE firms.

We are very familiar with the complex root causes for failure in these organizations. We also understand that it is not intentional. The Operations Excellence Due Diligence sorts all of this out and renews the capability to execute upon these dormant opportunities for improvement. Continuous operations improvement is a recognized full time discipline and core competency that is developed over time, through hundreds of successful major strategic improvement initiatives.

The purpose of our Operations Excellence Due Diligence is twofold:

#1: Identify, prioritize, and deploy the right corrective improvement efforts to create maximum operational value quickly – like in the first 60-90 days of new ownership. These represent the tactical "quick strike-high impact" opportunities for improvement. These opportunities are the known low hanging fruit to the CI practitioner’s eye that produce rapid improvements in business and operational performance. Examples include blitz or structured kaizen events to reduce inventory, improve supplier delivery performance, simplify and/or streamline process/information movement and flows, or reduce a targeted scrap area and other obvious non value-adding activities.

#2: Develop an aligned, organization-wide improvement strategy and vision, deployment plan, and practical implementation approach. This effort represents the unlimited unknown opportunities for improvement that must be continuously mined, prioritized, and scoped relative to alignment with the company’s business plan.

The other aspect here is process creativity and innovation, beyond the incremental As-Is improvements. These activities are the larger, cross-functional improvement projects that create best in class practices and millions of dollars in breakthrough operating performance.

Examples include higher order process breakthroughs such as reducing complexity and costs in the global supply chain by 20%, reducing time-to-market for new products by 70%, product rationalization, transactional and knowledge process improvement, accelerating innovation, improving new one-off product yields by $6M, reduction of allocated costs for obsolete inventory or warranty/returns, technology-enabled real time improvement, maximizing the total customer experience, and the like.

An assessment of the executive leadership team and their organization’s abilities to implement a larger scale strategic improvement initiative, and additional CI talent and skill set needs are also part of the Operations Excellence Due Diligence process.

Benefits of the Operations Excellence Due Diligence

On the surface, our Operations Excellence Due Diligence may look similar to what is already being used by many Private Equity, Venture Capital, and other investment firms. The reality, however, is that it is both very different and much more extensive, addressing a broader and deeper spectrum of operational opportunities and producing a higher potential for creating quick and longer term value. The largest difference lies in knowing how to mine and uncover the larger hidden opportunities in organizations.

Below is a cursory outline of our Operations Excellence Diagnostic:

Review the business strategy and operating plan:

  • What are the organization’s goals and expectations?
  • What are the strategies for capturing and growing market share?
  • What are the plans for new products and services?
  • How does the current portfolio of activities align to the business plan?
  • How is the organization performing against the plan?
  • Where are the voids and risks of lower performance?
  • Conduct a structured operations assessment to understand current performance.
  • How are the current processes and practices working?
  • What key processes are working well, are working okay, and are severely "broken"?
  • What is the current performance in all areas of the business?
  • Is current performance characterized with data and facts?
  • What are the key sales and marketing issues?
  • What are the key manufacturing operations issues?
  • What are the key supply chain issues?
  • What are the key supplier management issues?
  • What are the key engineering/facilities issues?
  • What are the new product development process issues?
  • What are the key service delivery issues?
  • What are the key financial operations issues?
  • What are the key customer service issues?
  • What are the key aftermarket service, repair, spares, upgrade issues?
  • What are the current legal or regulatory operations issues?
  • What improvements have been made internally and by what means?
  • What have been the experiences of prior improvement initiatives?
  • Where are the significant "pain points" or detractors to success?

Benchmark the organizations current and potential performance against relevant best practices and demonstrated best-in-class performance:

  • What are the dynamics of the cost structure and major cost drivers?
  • Is the organization aware of industry benchmarks and competitor performance in key strategic areas?
  • How do the organization’s performance and key business processes stand up to industry best practices? What are these specific gaps and strategic improvement opportunities?
  • What are the accepted industry practices, and how could the organi¬zation differentiate industry performance from that of competitors? (Benchmarking is a single data point and is sometimes either out¬dated or irrelevant to the mission.)?
  • What are the best in class practices in "outside" industry organizations that are admired by their customers?
  • Have we defined the gaps between current and potential performance?
  • How is the organization performing vis-á-vis the strongest "within" indus¬try competitors and "external" companies in the areas of product and services availability, profitability, cost, delivery, flexibility, responsiveness, innovation, new products, financial ratios, inventory performance, quality and reliability, productivity, customer intimacy, leadership, stakeholder development, or other key performance areas?

Develop the environment-specific Lean Six Sigma CI strategy and implementation approach:

  • What are the specific components in the Lean Six Sigma or strategic improve¬ment initiative?
  • What are the focal points, priorities, and plans for improvement?
  • What deployment scope and magnitude are best for the organization?
  • What level of deployment will achieve results and rates of improve¬ment compatible with the business plan?
  • What is the right implementation infrastructure for success?
  • What is the top-level plan for moving forward with the deployment?
  • How will the organization align the customer to improvement activities?

Define improvement goals, benefits, and risks/consequences of not changing (fail¬ure is not an option).

  • What are the strategic opportunities by key process area?
  • What are the big quick strike (first 60-90 days) opportunities by key process area?
  • What are the larger specific scoped and prioritized improvement initiatives, baseline performance, entitlement goals, and savings/value creation targets?
  • Have we defined reasonable but stretch performance objectives?
  • What can the organization expect to achieve and by when?
  • What are the leadership, political, cultural, administrative, or other barriers to success?
  • What needs to happen around the executive conference table to set the strategic improvement initiative on a successful course?
  • How do we successfully launch, execute, and monitor the performance and overall success of the strategic improvement initiative?
  • Determine how best to engage other powerful people in the organization who are not part of the executive team.
  • Who are the organization’s champions, spectators, resistors, and showstoppers to improvement?
  • What are the additional education and talent development needs internally to execute and sustain a true CI initiative?
  • What is the plan for dealing with resistance to change?
  • How will the organization improve and take care of day-to-day activities?
  • Does the organization have all the right skill sets internally?
  • How do we establish the clear need for improvement?
  • How will the organization provide a shared vision of change?
  • How will the organization communicate and reinforce the need to improve?
  • What communication media are best for various segments of the organization?

The purpose of this outline is to demonstrate the additional areas of assessment coverage and their additional value creation potential. The Operations Excellence Due Diligence goes much deeper into unlocking more and greater value creation opportunities – and also deeper in terms of how to organize and implement these value creation initiatives swiftly and successfully.

Furthermore, it goes beyond the traditional assessment of manufacturing or supply chain operations and identifies improvement opportunities in all mission-critical operational areas of the organization. The right concurrent, enterprise-wide improvements lead to the true breakthroughs in operational performance.

Many investors and stakeholders are missing the boat before and after acquisitions because their operations assessment abbreviates the real hidden value creation opportunities. Great organizations never become great by creeping incremental islands of improvement on their As-Is processes. The big differentiator is their ability to discover, harvest, and implement the real operating breakthroughs in their industry.

strong>The Operations Excellence Due Diligence – A Huge Value Game Changer

Evaluating a proposed acquisition is a challenging exercise. Implementing the necessary changes after the acquisition is much more challenging (and risky) because the devil of improvement is in the details of implementation.

The bottom line is in creating maximum value as quickly as possible, and in reducing the transformation risks. As we stated above, the major difference lies in the process of how the operations assessment is conducted, with deeper dive experiences, knowledge, realistic analytics, and very specific action plans for creating short and long term value.

Value is defined, organized, and teed-up for realistic success. The goal of our Operations Excellence Due Diligence is to identify total annualized opportunities for improvement which are usually equivalent to 3% to 10% of revenues, within the first 12-18 months of new ownership.

The other side of this goal is high revenue growth through superior, best in class operating performance. These opportunities may vary from organization to organization, but one thing is for certain: This is real value creation! Most of the operations assessments in typical due diligence activities do not come anywhere near this magnitude and timing of value creation.

All Organizations Can Create More Value

Finally, an organization does not need to be a Private Equity, Venture Capital, or other investor to benefit from our Operations Excellence Due Diligence. We have been using the very same methodology for other organizations with stalled out improvement initiatives. Using the Operations Excellence Due Diligence framework we are able to gauge the progress and success or failures of their current improvement initiatives, and kick-start their efforts to new and higher levels of breakthrough performance.

Remember that over 80% of strategic improvement initiatives fail/have failed to deliver the goods. Improvement and value creation is a choice – limited only by the self imposed limits that executives and their organizations place upon themselves. Executives can accept failure and wait for the next fad program . . . or they can rediscover improvement by digging in, mining, and harvesting new opportunities to create higher value – which are still there for the taking.


Thank you, for your interest in The "Operations Excellence" due diligence: unlocking new hidden value in acquisitions (and in all other organizations).
Terence T. Burton
Contributor: Terence T. Burton