In the world of mergers and acquisitions (M&A), understanding the key differences between various types of investors is crucial for sellers. Financial and strategic buyers have different objectives, value different attributes of the company and operate differently after the transaction. By understanding the differences between strategic and financial buyers, sellers can make more informed decisions when engaging in M&A deals and choose the right buyer.

Two primary types of investors dominate the M&A landscape: strategic and financial buyers. Strategic investors are generally corporations looking to strengthen their own business through acquisitions, while financial buyers, such as private equity firms or hedge funds, aim to generate attractive financial returns.

This article delves into the key characteristics and objectives of both groups, outlines the main differences between the types of buyers and looks at the valuations.

EV/Revenue multiple by type of investor: strategic vs. financial investors

Strategic investors

Strategic investors are typically large corporations that acquire companies to pursue long-term growth and strengthen their competitive position within their industry. They often possess deep industry knowledge, operational expertise, and an existing network of relationships. Unlike financial buyers, strategic buyers usually intend to operate and integrate the acquired business into their existing operations.

Strategic buyers’ objectives in M&A deals

Synergies and competitive advantage

Strategic acquirers seek to create value by identifying and realizing cost and revenue synergies between their existing business and the newly acquired company. These synergies can result in cost savings, increased market share, or improved operational efficiency. By leveraging these synergies, strategic investors aim to enhance their competitive advantage and achieve greater market dominance.

Market Expansion and Diversification

M&A transactions offer strategic buyers the opportunity to enter new markets, expand their geographical footprint, or diversify their product and service offerings. This growth strategy can help companies mitigate risks associated with relying on a single market, enable them to access new customer segments, and provide a more stable revenue base.

Acquisition of Key Resources and Capabilities

Strategic buyers may also pursue M&A transactions to acquire valuable resources and capabilities that complement their existing businesses. These resources can include intellectual property, technology, specialized knowledge, or talented employees. By acquiring such assets, strategic investors can strengthen their competitive position, foster innovation, and drive long-term value creation for their shareholders.

Financial investors

Financial investors, which include private equity firms, venture capital firms, and hedge funds, primarily focus on generating attractive financial return from their investments. Unlike strategic investors, they do not integrate acquired businesses into their existing operations.

Instead, they often act as financial sponsors, providing capital and strategic guidance to help the target grow and achieve its objectives. A financial buyer brings a wealth of financial expertise, resources, and a more objective perspective on business decisions, which can lead to significant operational improvements and value creation.

Financial buyer’ objectives in M&A deals

Financial Returns and Value Creation

The primary objective of financial buyers in M&A transactions is to generate strong financial returns for their stakeholders. They aim to create value by identifying undervalued or underperforming businesses, injecting capital, and implementing strategic initiatives to improve financial performance. Financial buyers tend to employ a combination of operational improvements, reducing expenses, and revenue growth strategies to maximize the value of their investments.

Portfolio Diversification and Risk Management

A private equity firm typically has a number of existing portfolio companies across various industries and geographies to diversify their exposure and mitigate risk. By engaging in M&A transactions, they can access new investment opportunities, expand their portfolio, and balance the risk-return profile of their investments. This diversification strategy helps a financial buyer to reduce the impact of market volatility and achieve more consistent returns over time.

Comparing Financial vs. Strategic Buyers in M&A

Differences in Investment Criteria

Strategic and financial investors approach M&A transactions with distinct investment criteria, which can significantly impact their selection of acquisition targets and deal terms.

Strategic investors typically prioritize targets that align with their long-term growth strategies, offer synergies with their existing operations, or provide access to valuable resources and capabilities. They often focus on companies within the same industry that can strengthen their competitive position. When evaluating opportunities, they prioritize business strategy, business model and product lines.

On the other hand, financial investors evaluate potential targets based on their ability to generate strong financial returns. They seek businesses with solid growth potential, attractive margins, strong cash flow generation, and solid management teams. Financial investors may also target underperforming companies that they believe can be turned around through operational improvements, cost reduction measures, or strategic repositioning.

Approach to Valuation and Deal Structuring

Strategic and financial investors also differ in their approach to valuation and deal structuring.

Strategic investors often consider synergies and the potential for long-term value creation when determining the value of a target company. This may result in a higher purchase price than financial investors, who typically focus on the target’s standalone financial performance and the expected return on investment. In some cases, strategic investors may be willing to pay a premium for a target that offers significant strategic benefits, such as access to new markets, technologies, or intellectual property.

Deal structuring can also vary between the two investor types. A strategic buyer may prefer payment in their own shares, which can offer tax advantages and help align the interests of the target’s shareholders with those of the acquirer. Financial investors, however, often opt for leveraged buyouts (LBOs) or other debt-financed transactions, as these structures can enhance their returns and allow them to retain control over the target company.

Post-Acquisition Management and Integration Strategies

The post-acquisition phase is another area where strategic and financial investors diverge significantly. Strategic investors typically focus on integrating the target company into their existing operations, realizing synergies, and leveraging their combined resources to drive long-term growth. This can involve consolidating overlapping functions, integrating systems and processes, and aligning the target’s strategy with that of the acquirer.

Financial investors, in contrast, generally maintain a more hands-off approach to post-acquisition management. They may appoint representatives to the target’s board of directors or provide strategic guidance. They focus on driving operational improvements, cost reductions, and revenue growth within the target company to enhance its financial performance and maximize the value of their investment. Financial investors also actively plan and manage exit strategies to realize returns for their investors within a defined investment horizon.

Deal count and valuation multiples

Over the past three decades, the M&A landscape has evolved significantly, with both strategic and financial investors playing crucial roles in shaping the market dynamics.

Deal count

Comparing the deal count of strategic and financial investors over the past 25 years reveals some interesting patterns.

M&A deal count by type of investor: strategic vs. financial investors

Strategic investors have traditionally dominated the M&A market, with more transactions than financial investors. This is partly because strategic investors generally pursue M&A as a means to achieve long-term growth and expansion, entering deals to complement their existing operations or to gain access to new markets and technologies.

On the other hand, financial investors have been more selective in their deal-making, focusing on opportunities that offer attractive financial returns and align with their investment strategies. However, the past three decades have also witnessed a substantial increase in the number of deals executed by financial investors, particularly private equity firms. This growth can be attributed to the influx of capital into the private equity industry, as well as the increasing sophistication and expertise of financial investors in identifying and executing value-creating transactions.

Valuation trends

Examining valuation trends over the past 30 years reveals an interesting shift in the dynamics between strategic and financial buyers.

Historically, valuations for both types of investors were fairly similar, as each sought to optimize deal terms and maximize the value of their acquisitions. However, the landscape has changed dramatically in recent years, with financial buyers increasingly paying more for target companies than their strategic counterparts.

EV/EBITDA multiple by type of investor: strategic vs. financial investors

A key factor driving this shift is the low-interest rate environment that prevailed in global financial markets in recent years. With interest rates at historic lows, financial investors, particularly PE firms, were able to access cheap debt financing to fund their acquisitions. This enabled them to pursue more aggressive bidding strategies and offer higher multiples for target companies, as the cost of debt financing has become more attractive relative to the potential returns on investment.

Additionally, the influx of capital into the private equity industry and the increasing sophistication of financial investors have contributed to the rise in valuations. Financial investors have developed a more strategic approach to M&A, focusing not only on financial returns but also on the strategic benefits of acquisitions, such as add-on acquisitions for their portfolio companies or investments in high-growth sectors. This shift in strategy has led to a greater willingness among financial investors to pay higher premiums for target companies that offer both financial and strategic value.

From a seller’s perspective, we believe it is useful always to consider different types of buyers and carefully weigh the valuation, deal structure and post-acquisition plans of the buyer.

About Aventis Advisors

At Aventis Advisors, we can help you evaluate offers, understand the implications of partnering with different investor types, and maximize value creation in M&A transactions. Get in touch with us to discuss your M&A plans in more detail.