Platt Perspective on Business and Technology

Innovators, innovation teams and the innovation process 8 – acquiring innovation from outside of the organization 2

Posted in HR and personnel, strategy and planning by Timothy Platt on June 14, 2013

This is my eighth installment in a series on innovators and the process of innovation (see HR and Personnel, postings 154 and following for Parts 1-7.)

I began a discussion of outsourced and third-party sourced innovation in Part 7 where I focused on the acquisition of innovation through outright purchase or licensing agreements from university-based and related laboratories and innovation development centers. I focused there on the sourcing institutions and on their perspectives and needs as they enter into business relationships with client and partner organizations that seek to develop and commercialize their monetizable insights and inventions. My goal for this posting is to continue my discussion of where innovation can be third-party acquired from, with the other two general outsourcing options that I listed in Part 7:

• Through acquisitions of smaller, innovative businesses as a whole that hold innovative potential of specific strategic value for the acquiring business, and
• Through purchase or licensing of innovative potential from larger businesses or organizations.

And I begin this with the first bullet pointed option above (which was option 2 on my Part 7 list) and with a brief orienting explanation as to why I chose that particular option.

• Acquisitions and mergers between large organizations garner a lot more news coverage and gain greater visibility than do acquisitions of startups or early stage businesses, or other smaller businesses, but are numerically much rarer than are acquisitions of these smaller organizations.
• And an acquiring business is much more likely to buy out an entire smaller organization primarily to capture ownership of some single specific innovative potential, than they are to acquire a large and complex organization for that purpose. The larger and more complex, and more widely dispersed the assets and value sources of a potential acquisition, the larger a percentage of that business as an overall source of potential value will be tied up in other and perhaps irrelevant, duplicative or unneeded systems and capabilities and not in any single desired innovative capability that would prompt acquisition. So acquiring a smaller and still lean organization can mean making a more focused and cost-effective purchase in capturing a new specific source of defining innovative value.

I have primarily written about the acquisition of startups and early stage businesses up to here, from the perspective of those businesses and their founders and owners. See in this context, postings such as:

Online store, online market space – part 18: exit strategies and long term planning,
Understanding and navigating burn rate: a startup primer – 11: exit strategies and their implications and consequences – 1,
Understanding and navigating burn rate: a startup primer – 12: exit strategies and their implications and consequences – 2, and
Acquisitions and divestitures 6: exit strategies and the sale and acquisition of complete businesses 3 (which explicitly discusses sale and acquisition of small established businesses that own and control specific sources of marketplace-valued innovative potential.)

My goal here is to flip this around and look at these acquisitions from the buyer’s perspective.

From a lean and agile business perspective and from a fiscally prudent business strategy and development perspective in general:

• When a business acquires a second, smaller business in order to capture some specific source of value that it uniquely holds, the percentage of overall price paid and regardless of terms, that goes into buying unrelated operational systems and capital resources that do not directly support and enable this desired innovative value represents at least short-term waste and loss from the way it ties up available liquidity without meeting significant priority strategic needs. (Here, I assume a simplest model where an acquisition is in fact entirely planned and considered in terms of addressing some single business need requiring acquisition of a specific innovative resource to meet it.)
• To put a number on this, if it can be determined that 50% of the overall marketable value of the business acquired simply represents is standard, non-innovative capacity and resource base and even unneeded resource duplication, and only 50% represents its innovation source that would drive the acquisition, then 50% of what is paid will be tied up in unwanted and unneeded resources.
• 50% extraneous would in fact be doing very well for the acquiring company, and briefly returning to my point regarding acquisition of larger and more established businesses as a whole and strictly to capture one source of innovative value from them – chances are that the vast majority of any acquisition price would go into the obligatory purchase of its “everything else” with only a small fraction going into actual acquisition of that special sought-after source of defining innovation value. And that is why purchasing or licensing access to that innovation capability alone, would make more sense than buying out the entire (large and established) company unless a lot more than just this novel source of innovative value were also desired from it.

Now let’s consider the valuation of the desired source of innovation that would drive an acquisition decision.

• Let’s assume that a potential acquisition uniquely holds a source of innovative value that a potential acquiring business would see as essential for meeting its ongoing and long-term strategic and operational needs. This might mean addressing a significant strategic gap in operational or product and service capability. This might mean gaining access to a new and emerging blue ocean strategy opportunity, where delays in replicating an alternative in-house from scratch would mean losing that opportunity and any first mover advantage that an acquisition here would make possible.
• And let’s assume as a baseline starting point that the only significant source of meaningful value that this acquisition would provide would be from this defining source of innovative value that it holds, and that all other assets and capabilities bought along with that as part of the acquisition would enter the books, if not as a loss, then as a tying up of available liquidity and without immediate or short-term return on that part of the overall investment.
• Now, and with that baseline scenario in mind, let’s assume that 1/x of the cost-based value of an acquisition represents specific and complete acquisition of the desired source of innovation. With that, the remainder of cost-paid, or (x-1)/x of that overall total would go into collateral acquisition of that purchased business’ “everything else.” Then in order for this acquisition to work for the acquiring business and for it to in fact become a source of net new positive value for it, this new source of innovative value is going to have to return $x for every $1 paid for it, at least until perhaps longer-term planning and opportunity development can offset the cost of that initial liquidity loss, by finding ways to create meaningful value from the rest of the business,
• Either by incorporation in and expansion of already ongoing operational systems, selective divestiture of unneeded and dysfunctionally duplicative resources, or through write-offs of loss.

I am going to continue this discussion in a next series installment where I will explicitly look into the issues of my third acquisition scenario alternative, as listed in Part 7 and repeated above:

• Acquisition of a defining source of innovative value through purchase or licensing it from larger businesses or organizations.

I have already at least briefly discussed the issues that arise when acquiring such a business in its entirety, through the acquisition process above, so I will focus in my next installment on selective sale and acquisition of innovative potential where both buyer and seller businesses maintain their individual identities coming out of this transaction process. Meanwhile, you can find this and related postings at HR and Personnel and also at Business Strategy and Operations and at its continuation page: Business Strategy and Operations – 2.

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