Chris Hagedorn, senior partner in McKinsey’s transformation practice and head of the firm’s transformational mergers and acquisitions team, talks to Global Finance about how his firm is working with clients at a time of high debt, tight labor markets and talent shortages.
Global Finance: How important is transformation practice at McKinsey?
Chris Hagedorn: In today’s volatile environment, where the pace of change is rapid, more companies than ever are seeking transformation to unlock untapped potential and address significant external challenges. Over the past decade, we have worked with more than a thousand organizations. We serve clients on a wide range of topics, but are guided by a simple but important premise: Hold the responsibilities of the board of directors, CEO and senior management to meaningfully help clients achieve significant performance improvements.
Our idea of transformation has three parts. Firstly, this is the technical or financial side. We strive to achieve the best results. Second is culture: understanding the way the entire workforce thinks and behaves. Third, it is about sustainable capabilities. As a consultant, it is one thing for me to assemble a team and help improve procurement practices. But we always strive to ensure that our clients are better positioned in the future so that they can enhance the organization’s capabilities through general management skills or specific functional skills, be it commercial procurement, human resources, etc.
GF: At what stage of the acquisition process are you involved?
Hagedorn: I have several long-time clients who come to me and say, “I’m thinking about doing a deal. You can help me? Can you help me formulate a strategy and define goals? Once these goals materialize and the CFO and CEO begin to develop approaches, we will come in and provide them with due diligence services to validate the value and work of the transformation.
The most likely time for us to intervene is when a company announces that it has signed a deal; it usually takes three to six to nine months before closing. They will come to us either on an exclusive basis or for competitive consulting support. We then help them integrate and achieve their value and transformation activity goals. Personally, I love being involved in the process and seeing how the whole film unfolds. But often people call us and say, “I just announced a deal, and I think we need what you can provide.”
GF: Are you seeing more mergers and acquisitions involving self-funded public companies and private equity firms?
Hagedorn: Over the past two years, the volume of mergers and acquisitions has been about half of the level recorded 24 months earlier. The cost of debt was the main reason for the significant slowdown in activity. When I talk to my clients, colleagues and look at all the data, I see trillions of dollars of excess cash sitting on the sidelines and piling up on balance sheets.
Ultimately, private capital will lead to a solution to this situation. They need to conduct transactions. We are in a relatively stable environment, and this provides an opportunity for private equity firms to return to the deal arena. Deals with public companies will also return. There is strong interest from those with strong balance sheets and little debt who want to use excess cash to work with distressed companies.
GF: Do cross-border transactions require a different approach?
Hagedorn: When undertaking a cross-border transaction, the regulatory framework must be carefully considered. I have extensive experience in cross-border travel. When I was at Peabody Energy, we did a lot of deals in Australia. I have studied targets in places like Indonesia and other parts of the world. In my client service work, I advised a global group of high-tech companies merged where both the buyer and the target operated on six continents.
In this case, a systematic approach is required. This is not a one-size-fits-all option. The organizational aspect is always crucial. Aligning workforce structures and integrating teams from different regions is essential. The more geographically diverse companies are, the more important it is to navigate regulatory requirements and cultural differences. In the US you have to take a completely different approach than in France or China. The more geographically diverse two companies are, the more important it is to understand all cultural aspects before combining them and embarking on value-creating activities.
GF: Many CFOs say meeting revenue targets and succession planning are the two things that keep them up at night. Does this come up in your consulting work?
Hagedorn: Of course it is. The conversations I had with CFOs 24 months ago were 90% focused on revenue. They were also concerned about talent, which is in critical shortage, especially in Western Europe and the United States.
Now every time I pick up the phone or visit one of my CFO clients, they ask about costs and productivity. They ask what they can do to ensure healthy margins and profits. Of course, they’re still concerned about revenue; This is the see-saw effect. Suddenly they see significantly higher interest rates and a shift from positive free cash flow to negative free cash flow in a short period of time.
Labor markets will come into greater equilibrium over the next 12 to 18 months, but the most important aspect is ensuring CFOs have the right talent. Most CFOs I work with today say, “I don’t have enough talented VPs and SVPs at the quality level I need to lead the operations and value creation activities I want to do.”
GF: Which industries do you find most challenging?
Hagedorn: I could probably name five or six different sectors that I’m sure the rest of my colleagues would probably say, “Oh no, Chris, this one is harder.” But beyond mining and resources, which include oil, gas, chemicals and utilities. I would say anything that has a high regulatory burden. Telecommunications, for example, require a significant level of government control. Also farm. There may be certain aspects of a new drug launch that can enhance or undermine the corporate value of the target. There are many difficulties here.
But I would say that geopolitics creates a lot of problems. The consolidation of large multinational companies operating in many developing jurisdictions has different political implications. Having worked in China and Mongolia trying to create joint ventures with state-owned enterprises, I know first-hand that it is incredibly difficult in the mining industry. When you bring two giants together like BHP and Anglo American and you have to manage all these puzzle pieces, it’s like Jenga. Everything must fit together correctly. Sometimes unexpected requests arise, which can be enough to derail a transaction.
GF: How does the advice you give buyers differ from what they might receive from a financial advisor?
Hagedorn: For most transactions, we work side by side with investment bankers. We’ll dive into next-level detail about markets, operations, and performance. Investment bankers, tax advisors and other deal-making professionals typically don’t go that deep.
Our added value is to be able to understand the level of productivity within the company and analyze opportunities in new markets that can lead to growth, improve the cost structure and reduce fixed costs. This is not a banker’s bread and butter. On the other hand, we are not tax consultants or brokers, so we have to play a fundamentally different role, but a synergistic one.
girlfriend: Where does shareholder value creation fit in?
Hagedorn: This number one consideration is certainly paramount, although sometimes there are situations that make it not the number one consideration. Creating shareholder value can come in a variety of forms. It’s for this reason that the acquiring CEO recently wanted to do a deal. However, when we looked at the amount of free cash flow the company would spend to achieve the synergies, the drop in free cash flow was significantly lower than normal for them. And so there was simply no way for them to complete the transaction. Creating shareholder value was the thesis, but the path to getting there was impossible for them with their current balance sheet and financial structure.
Whenever I give advice to my clients, I tell them, “You can usually get the most out of it in about 24 months.” And in this short time, it is critical to focus on value creation and EBITDA. This is almost always the guiding polar star. You will find that there are other considerations that should be given priority. Some companies in the first year of the deal will say, “I don’t want to actually cut the workforce even though I know I have 15% extra employees.”
So saying, “I just want to focus right away on creating ultimate shareholder value” is not always a linear equation. There may be other considerations related to employee culture that are actually part of the enterprise value proposition and ultimately maximize shareholder value.
GF: Have you ever advised clients not to complete a transaction?
Hagedorn: Yes, this happens. Just a few months ago, a potential buyer could have gone through with the deal, but the downsides were nothing more than positive, and we said, “We think it’s risky for you to proceed with this deal.” And they didn’t, even though they held joint management meetings, created data rooms, and did due diligence. Sometimes the best deal is the one you didn’t get.