Smith Holland M&A Resources
Horizontal acquisitions for middle market companies.
When it comes to deciding between a vertical acquisition, a horizontal acquisition or a diagonal acquisition, it’s always best to work with an experienced middle market M&A firm that can properly advise you on the best path forward for your company.
Horizontal acquisitions occur when one company acquires a competing company that is in the same industry and is often referred to as a merger. The motivations that drive horizontal acquisitions are often fueled by the desire to grow by acquiring the competition. Horizontal acquisitions are increasingly common amongst industries that have fierce competition and relatively low net profit margins. One of the most active spaces for horizontal acquisitions in recent times has been in the food delivery space. Before ordering food on your phone became as easy as ordering room service at a hotel, there was a flood of businesses that entered the food delivery space, which ultimately led to a wave of horizontal acquisitions as the larger operators look to solidify their spot at the top of the list. As the battle for market share required companies to compete on price, it quickly became a “race to the bottom” as these companies fiercely compete to become the most iconic name in the space. With any new up and coming industry, there will always be consolidation as larger operators that aren’t worried about short term profitability can take advantage of competitors that are not well capitalized and need to focus on the bottom line now because Silicon Valley investors aren’t there to subsidize the company’s net operating losses. Some of the most notable food delivery M&A deals include Grubhub’s acquisition of Eat24, the Just Eat and Takeaway.com merger, DoorDash’s acquisition of Caviar and more. With brands like Uber entering the food delivery space with their UberEats product, there will always be a constant battle for market share in the food delivery space and strategic horizontal acquisitions can be a very cost effective way for larger operators to protect their position as a market leaders. Market leaders are only leaders until they become complacent and allow newcomers to capture their market share.
With the Grubhub acquisition of Eat24, there were likely many immediate opportunities for realizing increased cash flow through synergistic integration. For example, customer service is a huge component for any food delivery business, but since Grubhub already has a well established customer service department, there would likely be little incentive to keep the customer service team from Eat24. Eliminating those salaries would be a simple way to increase shareholder value because the end result is a larger customer footprint with less COGS compared to when the two companies were operating independently of each other. And since the largest expense for any food delivery service outside of marketing is their payroll expense, it’s only natural for a company like Grubhub to look at reducing the staff from Caviar to realize maximum shareholder value.
Horizontal acquisitions are very common for companies that operate with low net profit margins. Another industry that is very popular for horizontal mergers and acquisitions is the airline industry and grocery store industry. With the airlines industry, the period between 2010 and 2019 saw increase airline M&A with entrenched legacy brands realizing that the only way to maximize shareholder value is for stronger airlines to consolidate the market by acquiring smaller airlines. One of the more notable examples in recent times was the merger of American Airlines and US Airways. When it comes to the grocery store industry, grocery stores are notorious for operating with low profit margins, hence the reason many grocery stores create their own private label brands that they can sell for higher profit margins. In fact, Trader Joe’s grocery store built their entire business model on the idea of selling groceries under their white label “Trader Joes” brand. While the biggest grocery store operators are working to transform their business models to be more in line with the future of food delivery, horizontal acquisitions are becoming increasingly more popular in the grocery store industry. For example, Amazon recently acquired Whole Foods in one of the largest ever grocery store M&A deals as they recognized that more shareholder value could be realized by acquiring another operator that also sells food. Some people might consider the Amazon Whole Foods deal to be more of a diagonal acquisition, but we believe this is prime example (pun intended) of a horizontal acquisition. While Amazon sells other products outside of food like TVs, computers, etc. it doesn’t change the fact that they primarily sell food as well and in many instances, Amazon sells the same types of foods that can be purchased from Whole Foods, i.e. you could buy cashews on Amazon before they acquired Whole Foods and Whole Foods has always sold cashews.
In summary, horizontal acquisitions can often be more of a necessity to survive instead of a luxury for well capitalized companies. This is probably best illustrated by the fact that most people reading this today probably don’t have a Blockbuster Video membership card and instead have a Netflix subscription, but are old enough to remember Blockbuster Video essentially having a monopoly at one-time on the video rental niche. While Blockbuster Video was once the 800-pound gorilla in the video rental industry, their arrogance in declining to acquire Netflix when it was small ultimately led to Blockbuster Video filing for bankruptcy. Complacency and arrogance are almost always a guarantee for failure and just because a company has become a market leader does not mean their place at the top is secured forever. Big companies never think it can happen to them, hence the word arrogance, but look no further to your pocked and chances are you probably aren’t pulling out a Blackberry phone. For those that remember when iPhones were first introduced into the market, the Blackberry phone could actually do everything the iPhone could and more, including playing music via MP3 files, copy and paste text functionality, etc. Despite the Blackberry having more functionality, the executives running the company didn’t view the iPhone as a serious threat and they ultimately paid the price if you check the current stock price of Blackberry now vs. it’s all-time high back in 2008 / 2009. Blackberry could have avoided this fate by actively pursuing horizontal acquisitions, but their complacency and arrogance ultimately led to their downfall and subsequent exit from the handset business.
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