The recent announcement of the enormous write-down ($8.8 billion, with a “b”) by Hewlett-Packard in their acquisition of British software company, “Autonomy”, reminds us of the additional care that must be taken in acquiring companies in international environments where management, culture, and accounting practices differ significantly from those in the United States.
HP And Autonomy
While the published articles did not disclose specific details of the factors leading to the write-down, the Company said in a statement, “HP is extremely disappointed to find that some former members of Autonomy’s management team used accounting improprieties, misrepresentations and disclosure failures to inflate the underlying financial metrics of the company, prior to Autonomy’s acquisition by HP. These efforts appear to have been a willful effort to mislead investors and potential buyers, and severely impacted HP management’s ability to fairly value Autonomy at the time of the deal.”
Changing Face of Corporate Governance
Corporate governance has taken on new meaning in the U.S. after the passage of the Sarbanes-Oxley Act in 2004 in the wake of the Enron and Worldcom failures. Many of the reforms covered by the Act were good, including the independence of board members, auditor independence and rotation, the creation of a public oversight board, analyst conflicts of interest, protection for whistle blowers, and the like. Even the much maligned Section 404 focused companies’ attention on key internal controls (some would say over-focused) within the organization and their associated accountability.
However, even Sarbanes-Oxley did not prevent the failure of Lehman Brothers, the mortgages crisis of both Fannie Mae and Freddie Mac, the near failures of AIG, Morgan Stanley and Goldman Sachs requiring massive government bailouts and last minute mergers with other financial institutions, and the Ponzi schemes of Bernie Madoff and Reid Slatkin from taking place.
Common Sense and Corporate Due-Diligence
Simply put, regulatory reform is no substitute for common sense. And that goes double in the international arena, where reforms prevalent in the United States may not be evident. You just cannot legislate honesty or integrity. Corporate due-diligence in the foreign arena cannot minimally rely on the representations of the executives of the target company. (In fairness, we don’t know that this was totally the case with Autonomy.)
But, due diligence should be comprehensive:
- Validate management’s representations with as many independent sources as possible.
- Hire Strong international and local legal representation to negotiate M&A agreements.
- Reconcile Local laws and regulations, accounting policies, and company processes to those of the acquiring company’s.
- Go beyond normal due diligence to perform background checks on management, understand the relationships between management and the Board, and other key individual relationships within the organization, and who stands to benefit if something goes wrong.
- Don’t ignore the Foreign Corrupt Practices Act, and the fact there are certain countries in the world whose cultures do not respect honesty and integrity at the same level as we do in the United States.
It’s the fact that HP’s acquisition was of a British company, a country whose cultural practices and principles are very closely aligned to those in the United States, that makes the Autonomy situation so interesting.
I’ve often said, “People do what you inspect, and not what you expect.” Particularly when it comes to international acquisitions, it is caveat emptor, “let the buyer beware!”