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Ducks in a row due diligence and EMS provider mergers / acquisitions

As the world becomes smaller and it is easier for companies (or any individual person for that matter) to locate or source products and services from almost anywhere on the planet, it’s no surprise the electronics manufacturing services (EMS) industry has become so hyper-competitive as companies continue to find it increasingly difficult to position or differentiate their offerings.

In a truly free market, more and more EMS companies, both global and regional players, are realizing that EMS is not an easy business model. Flextronics’ acquisition of Solectron, followed by Flextronics’ transition to become an even more formidable player in industry, is surely not the last major acquisition we will see.

VentureOutsource.com talks with Jack Calderon, a managing director with global investment bank Lincoln International on merger and acquisition due diligence for the EMS sector. Jack, like many M&A professionals operating in the EMS sector Jack tries to make sense of it all.

Read what Mr. Calderon has to say about ways EMS company executives can help improve their chances of success in mergers and acquisitions, developing a due diligence ‘to do’ list, why some industry marriages fail and more. Transcripts from that discussion follow.

VentureOutsource.com: Many electronics manufacturing services (EMS) companies are finding difficulty establishing a sustainable business model in today’s market. As a result, electronics contract manufacturing executives are either forced to downsize to a more manageable business model or, they are changing their business dynamics through merger and acquisition strategy or, worse yet, they are closing their doors completely. Nowhere is this scenario playing out more than in the micro or Tier-4 level (revenues less than US$150 million). What are your thoughts on the long-term viability of companies in this group? Which industry technological capabilities do you see serving this group the best? Which end-market sectors do you see being catered to more effectively by smaller EMS providers than their much larger counterparts?

Calderon: The EMS business is foremost a service business. Most service industries began by offering a particular skill set. The proficiency in delivering the skill set was the early differentiator between competitors. As the industry matures certain companies achieve scale and can service larger, more complex accounts on a global basis.

Other entities thrive by either providing a highly specialized niche service, or keeping size and overhead purposely low to service small accounts who need a high level of care but would not be able to afford the services of or receive the necessary care from large global providers.

These words apply to most service industries from accounting, legal services and even landscaping. In the accounting world for example there are several large global firms whose business models are best suited for large institutions, however, numerous firms thrive servicing smaller accounts.


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As the EMS market continues to mature it too will be characterized by a few major global firms, highly specialized firms, and numerous small shops providing “high touch” service to small accounts.

The key is to pick a strategy and focus resources to execute the strategy. Firms seeking a specialty strategy may find that by focusing on unique end markets like aerospace or medical, or around a capability like ruggedization or miniaturization they can achieve a high level of profitability. Smaller firms seeking more general strategies need to focus on account size, rapid response, and regionality.

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VentureOutsource.com: It is widely known many mergers and acquisitions (in general) simply fail to produce the results either side thought would materialize when sitting across the table from one another at the onset of discussions. The road to successful M&As is littered with company carcasses scattered about by the sometimes blind ambition of overzealous investors or executive boards.

Meanwhile, there are numerous ways investors and executives can mitigate risks associated with mergers and acquisitions.


Figure 1: Merger & Acquisition Success

Merger & Acquisition Success Chart


In Figure 1, the Merger & Acquisition Success chart illustrates the chances for success based on whether or not the buyer is acquiring a company with a technology that matches his own, or has technology that is an extension of his own or, has a completely new technology. The same can be applied when looking along the above chart’s ‘x’ axis…when evaluating the market the company to be acquired plays in. What two (2) factors do you see contributing to some of the biggest failures in merger or acquisition transactions? What are your thoughts on the above chart?

Calderon: The two biggest failures in realizing success from acquisitions are:

  1. poor acquisition selection
  2. lack of planning prior to closing the transaction

Too many buyers and their investment banking advisors rush to the numbers too quickly in an acquisition process.

More importantly, understand what you are looking for and be able to know it when you see it.

One successful acquisition I was privileged to serve as the investment banking advisor on was CTS’ acquisition of SMTEK in 2005. Working with CTS’ executive staff we identified the key characteristics of the desired target. These characteristics for the most part had to do with people, engineering capability, end markets and customers.

After a thorough filter, SMTEK was selected as the right target and only then was focus shifted to the numbers, valuation, and deal structure.


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The second key factor is planning the consolidation before the close. In the CTS transaction, the new executive team was selected (in this case, about half from each organization) and a detailed plan was developed prior to the close. The integration was successful. So, in reality, it’s not too different from picking a spouse.

You need to know what characteristics you are looking for, you need to know it when you see it, and it sure helps to plan major goals before the close.

Unfortunately in the M&A world, as in marriage, they don’t all work out.

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With respect to the above chart, clearly the more familiarity a company has with technology and markets the greater the chances for success. Several years ago we sold a flexible circuit manufacturer to Molex.

While this was new technology, it was applicable to their current customers thereby enhancing success probability. Private equity groups have changed the equation somewhat as they have proven to be successful in acquiring a wide variety of businesses. They do this, however, by partnering with management teams and industry experts to mitigate the risk of unfamiliarity.

VentureOutsource.com: A critical part of an EMS company’s decision to become acquired is based on whether or not the buyer is public or private. If the buyer is a public company, the company being acquired often looks at their stock as equivalent to cash. However, this can limit the seller’s ability to liquidate shares while subjecting him to the volatility of the market. What do you feel are the top five (5) considerations executives at privately-held EMS companies should be concerned about if they find themselves being an acquisition target? Please briefly discuss each.

Calderon: The first consideration is whether multiple suitors may exist. If the Company is a target for particular characteristics that only apply to that suitor then multiple suitors may not exist. In most cases, however, multiple suitors do exist in which case an investment bank can / should create a competitive sale process.

The second key consideration is to determine what role the seller ‘wants’ post acquisition. If an on going role is desired then many factors come into play such as position, operating compatibility, reporting structure. If no on-going role is wanted, the transaction is simplified. The seller, however, may be required by the buyer to remain with the buyer for a transition period.

The third key consideration is value. Value has less to do with a seller’s desire than market dynamics. An investment banker can help provide guidance as to a fair valuation range. Then, within those parameters, advisors should work with the Company on value enhancing strategies to obtain maximum value.

The fourth key consideration is deal structure. Is it an asset or stock deal? What are the tax ramifications of different deal structures? What liabilities are being retained and what are the caps on those liabilities? Are escrows involved? Is consideration being paid in cash, stock, notes, contingent payments or some combination? Advisors can help the seller sort through these issues.

The fifth key consideration is the people. What is their future? Should some sort of transaction bonus plan be implemented? Who are the high-talent employees and what assurances need to be put in place to keep them retained by the buyer post acquisition?


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VentureOutsource.com: You are a US$250 million EMS provider on a buying spree and you are looking to acquire a privately-held EMS company equal in revenue. You have developed a checklist to help you perform your due diligence. What are the top five (5) items on your due diligence “to do” list? Why is each important to you? How does this top five list change if you are a Tier 1 EMS provider?

Calderon: Top due diligence items can vary from transaction to transaction based on particular facts. However, in general, financial; legal, operational, environmental, and human resources top the list.

Clearly, as a buyer, verification and understanding financial trends are absolutely essential.

Legal due diligence is important in understanding contractual obligations and liabilities as well as understanding the nature of existing a potential litigation.
Operating due diligence is important to understand processes, systems and particular key customers, programs or technology.

Environmental diligence is necessary since environmental liabilities can often exceed the value of the target company.

Of course no business can run successfully without talented people. As a buyer you want to really get to know the management team — both through traditional means such as interviews, background checks, and references, but also through informal means such as dinners and social outings.

VentureOutsource.com: Assuming both sides agree to a “deal”. In putting together a Time and Responsibility Schedule for buyers and sellers involved in a merger or acquisition transaction, what key items should be foremost on the mind of the buyer during the first three months as the transaction gets underway? What key items that should be foremost on the mind of the seller during these first three months?

Calderon: The top three items for both a buyer and seller as a deal gets underway towards a close are trust, trust and trust.

The best deals get done when both parties develop a high degree of trust and respect.

As a buyer, you want to know the data being provided is correct. If negative things are happening to the business you want them disclosed during the process. The same is true for the seller.

The seller wants to make sure that the buyer understands the context and reasons behind the data and will evaluate the data within the same context as the seller.

If trust is developed between the parties through the process most issues can be reasonably resolved.

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