M&A from a CFO’s Perspective Session 1

How CFOs are involved in M&A

As a CFO, I oversee the corporate development team. We manage the acquisitions and divestitures we do. But more broadly, I see my job as a CFO to be the shareholder advocate for any big decisions that we make. And there's no bigger discrete decision we make than to make a big acquisition. 

I'm very intimately involved in M&A from the strategic standpoint, where our capital should go to negotiating deals, and making sure we get the right terms that we have a solid integration plan. I see myself as the eyes and ears of the shareholders, making sure all that goes well.

How the CFO’s roles differs from the CEO

Our CEO was my predecessor's CFO. So he knows a lot, but he's more focused on strategic logic and he presumes that I will handle some of the more detailed work of looking at the key provisions of the agreements we're going to make, the big terms, and make sure that they're aligned to a plan that delivers shareholder value. He's a very engaged person. He's very involved in M&A, but my team and I handle a lot more deep detail than he has time for. I have more day to day impact involvement when we hire a banker to help us in either buying or selling a business that he would have time for.

Decision-making process and approvals workflow

Well, we're very collaborative. We source deals in what I'll call “two directions.” There's the top down where we're looking at really big opportunities that have residents with our strategic theme.

We're not, we're not looking at fundamentally diversifying our company because the end markets we serve offer a huge opportunity. That's not what our M&A program is about, but we do the top down review, looking at the biggest opportunities that fit within our framework. We also have a bottom up process where every quarter, our CEO and I meet with each of our operating businesses.

We talk about their performance, the opportunities and challenges they face, and we hear from them about what acquisition targets would complement the business and add to the power of their strategy. So the deal sourcing comes from both within the business and then for the bigger deals, typically we're looking, scanning the world from a corporate perspective.

And then, we have a stage gate process of making sure that we're comfortable that the fundamental strategic logic is sound before we begin real work, usually starting with an NDA and a letter of intent. So, we have a stage gate process to make sure we're aligned at that point.

And then we have multiple stage gates as the process comes closer and closer to a definitive contractually binding transaction. And the bigger the deal, the more likely it is that our CEO is involved and he's a very detail-oriented person, so he adds a lot of value. But we have multiple opportunities where we're evaluating the strategic fit, the financial logic, and the cultural fit, and make sure all of those are aligned.

From an acquisition perspective, even very small ones, I have to approve. We found, and I bet some of the folks who listened to your podcast have found this, that small deals can be as complicated and as fraught as really big ones.

The decision to buy a business is a big one. So, we don't delegate those low in the business. Those are important strategic decisions, and in all cases, I'm involved at some level. And in most cases, the CEO is involved as well.

I'll say sometimes, the same deals come through the top down and the bottom up. So it's a big deal. It's potentially transformative, but it also fits so nicely with what the business is doing. Sometimes we stumble across the same names of ideas from both directions, but generally, your characterization is correct. The bottom up deals tend to be smaller. They're more what we call tuck ins.

They fit within the business profile and they add either product diversity or geographic coverage or something else that the business needs to round out their portfolio. Whereas the top down, the big strategic deals are typically bolder moves in a direction that's perhaps less immediately tangential to what the businesses are doing today.

Communicating opportunities

We have a variety of tools. I'd say we're probably more informal than formal in that regard, but a good example is we're significant players in the construction software business. We sell software that enables design firms and construction firms to optimize their workflows in their business. And we knew that enterprise software would be real. key ingredient in the old shopping mall analogy, like an anchor tenant.

And so we were looking for a big enterprise software provider, and we bought a company called viewpoint that fit that logic, it was just a gap in our portfolio. And about five years ago, we made that acquisition, which has been fabulously successful on its own. Just as you measure within the four walls of that business and how it's strategically pulled along the rest of Trimble.

So that's a perfect example where we have a business strategy. We talk about our industry platforms for those industries that you mentioned earlier, and we can see holes where we don't have either the product or the geographic coverage to fill out the portfolio. Sometimes we partner with firms, but in that case, it made sense to do a really big game changing acquisition to fill out what we can offer our customers.

Prioritization

Prioritization in M&A is a tricky thing because you could define the perfect strategy. This is the strategic niche we want to fill in, exactly what the capabilities would be of the business and there either might not be a company that does that and only that, or there might be a company and it's just not for sale. So we're a very diverse company. 

We operate as you mentioned in construction, agriculture, geospatial, transportation. And it's a tough one to figure out how to prioritize them when they're not all available at the same time, and we're very careful about our use of capital. 

One of the principles that we're very focused on is retaining our access to the investment grade debt markets. There's a number of reasons why that's important. And so we do have situations where we’re making a big deal. And we actually just closed a few months ago on a very big deal, the biggest one in Trimble's history. Doing that meant we wouldn't be able to do other things. 

Now, we scanned the universe as we got closer to that being a real idea and we decided there was nothing really strategically compelling and must have an asset that we wouldn't have access to because we made that investment. 

Now we're in the process of integrating that company and de-levering so that we can be open the next time a really compelling big deal comes. But it's sort of a three, I guess, four dimensional challenge, with time being one of the dimensions where you've got to figure out how you optimize and use the capital you have to strategically enhance the company and which bets you make when. So it’s kind of like a tricky version of chess.

There's the strategic and the tactical come together. We are very focused on our strategy, which has evolved over the years. We talk in our mission about transforming the way the world works, and the end markets that we serve are underserved by technology, and the technology is very siloed and the data doesn't work together. So we have this very high level of purpose that we're going to make construction and transportation and agriculture more, more efficient, safer, more productive, greener, all those things that you mentioned earlier. 

So that purpose guides us. And we're looking for the biggest ideas that can accelerate our progress toward that vision. And inorganic growth through M&A is a big part of how we have grown.

There's a tactical element of looking for good deals, but we're really principally focused on strategy. We're not bargain hunters. In fact, we divest a lot of businesses, including businesses, which in their own right are good, but which don't either benefit from or contribute to our strategy. So we're constantly reevaluating our portfolio and we're allocating our capital, which is our money and our management time. To those opportunities that really drive the momentum behind the strategy.

Balancing the allocation of budgets

So here's a framework and I'll say it can be a moving dynamic.

There's what I'll call internal capital allocation within our operating budgets. How we spend our money and our time on our organic growth at the businesses that exist now, and we have a very diverse business. Everyone's got a good idea of what they want to spend time and money on. And if we tried to do it all, it wouldn't work.

So a big part of my job is I'll call it internal capital allocation. Where are we going to put our bets to drive our business? And my filter there is: how much does your good idea drive the strategy of these connected solutions that transform the way our end markets work? So that’s one challenge, our internal capital allocation.

Then what I'll call external capital allocation is all about how we take the cash flow that we generate as a business? And we're a good cash generator. And do we put it into acquisitions or shareware purchases? We don't pay a dividend today. And there's a balance there. It's hard to write a formula that you follow.

We believe our highest and best purpose is driving growth and applying technology more thoughtfully and more wholly to connect all these solutions that are in markets need. So, effective M&A growth is our number one capital allocation priority for our external capital. We have used funds to buy back shares to offset the dilution from our equity compensation programs.

And we've been somewhat opportunistic when the share price was lower versus higher, so that's a judgment call right now. We just made the biggest acquisition in Trimble's history, a company called Transporian. We're very focused now on de-levering. 

We've committed to our customers to our board to the rating agencies to our lenders that we will de-lever back below the level that's the typical standard for investment grade credit. Right now, that's our number 1 capital allocation priority as we progressed in that direction. And as we are progressing, we will once again, open the door to other capital allocation priorities. And the number one will be if there's a compelling business that we add value to, that adds value to us, that really drives our strategy, we'll be back in the M and a game when that happens. 

How equity compensation works

Like all public companies, we issue stock to our leaders. In fact, the CEO and I were paid principally in equity, and it's mostly performance-based equity tied to some goals. So we issue equity programs, we believe it's a good way to build an ownership culture across the company. But there is a dilutive impact, so it's sort of natural to offset that dilution with using a portion of your free cash flow over time to repurchase shares to keep the share count relatively constant.

Now our share issuance is actually below the mean of companies like us, but when I talked to CFOs, most of them think about that as part of their capital allocation framework. It's good to have some money to repurchase shares in the open market to offset the dilution of your equity compensation programs.

And then beyond that, we're always looking at what's the best use of capital. We're in a growing business. The markets we serve are under-penetrated by technology. So our first instinct is to use that cash to add to our strategic power. 

We don't pay dividends. Actually, I find that most of our growth investors don't want us to pay dividends. Share or purchase is a good way, a very flexible way to use excess cash available to send it back to shareholders and yet keep the flexibility to be able to make good deals when they come your way.

How aligned investment analysts are when evaluating a company

We are fortunate to have very smart and engaged shareholders. I will say they don't agree with each other and they don't even agree with themselves over time. So when the markets were much more buoyant, the enthusiasm for deals was higher among shareholders. And with the recent pullback and worries about recession, we have probably more shareholders that would like us to return capital to shareholders through repurchase or someday even dividends than was the case a year ago.

But look, they all ask us about it. Our shareholders would say my job and our CEOs job, right at the top of the list, is being capital allocators. The cash flow we generate, what's the highest and best purpose for generating value? And they expect us to use it in that way. 

Now, they have different opinions. In fact, the big acquisition we made, there were some investors who thought, was this the right time to make that deal or was the price seemed high? Normal questions you'd get. So, the one thing I'll say is that when you're talking to big equity investors, you can't please them all and you can't please them all, all the time.

And what we try to do is use our judgment and make the best decisions we can to drive value over the long term. And if that means your subject system, second guessing or criticism in the near term, that's part of the job.

It's a rewarding job. The work I do is fascinating on so many levels. I get involved in our strategy. I have a tangible sense because the numbers are part of my job and the details and how it's working every month and every quarter, 13 billion dollars of equity market cap. That's a lot of other people's money. It's their savings accounts. It's the investment money they've entrusted to us. So it's a very serious job and it brings some stress with it. No doubt. 

Forecasting deals

Part of our process, one of the first things we do is develop with the management team and validate the business plan going forward. And I'll tell you, so I joined Trimble not long before COVID came. Actually at Trimble, we've got a really good business operating system for updating our forecasts every quarter. 

And when COVID hit, the supply chain crisis came down, you could basically throw aside all your forecasts. The one thing you know is that they're all wrong and you get into contingency planning mode. And I will say, we managed through that pretty well. I'm proud of how we remained flexible as a company, but I'll say we got our forecast wrong. 

Frankly, our end markets recovered from COVID way faster than we thought they would. This supply chain dynamic, which I'm sure you've talked about in your work, was really unprecedented where goods were scarce and no one could get anything. We couldn't even begin to meet the demand we had in our forecast.

The hard part in most businesses is getting a customer, convincing a customer to buy something from you. That was turned on its head. The whole world was supply constrained, not demand constrained. And so we had a lot of trouble forecasting our way through that. And then as the supply markets normalized, figuring out what customers were going to do, that's been very difficult. 

It makes M&A decisions a lot harder. But that's where it's important to take a long view, because if you're buying a company for how well you think they're going to do in the next quarter or two, you're probably making a mistake anyway. So we try to see the signal through the noise and make good judgments, but the fundamental direction of the markets these businesses serve and the fundamental competitive strength, and even if you get that right, you'll get short term forecasts wrong. That's been a real challenge for us, but we continuously remind ourselves that we have to be focused on the longer term and getting that right is what really matters.

Just to that point I mentioned, we are really focused on staying in investment grade credit. Investment grade debt markets are the deepest sources of capital. It's seen by our customers and a lot of constituents as an indicator that you're a strong company. 

So when COVID hit, nobody could forecast. We were doing contingency plans that were really adverse. Most companies did that, but we took actions to make sure we were a financially resilient company. It's really great that the bad scenarios when COVID came, it wasn't nearly as bad as we thought it might be, but I'm really pleased with and proud of our team and how we kept ourselves resilient. So that whatever the world threw at us, we were going to be able to handle it and emerge stronger.

Priorities when looking at deals

It's hard to stack them up, but I will say there are businesses we've looked at that looked really good. The strategic fit was really good, but if we didn't think there was a cultural fit, and we're kind of a unique company, I can describe what, what fits here and what doesn't. But there's a sense of purpose. There's a sense of working together in collaboration. There's a sense of humility that fits here. 

And when we find a company that's fundamentally at odds with that, that's game over. And we've walked away from opportunities just because we knew early on that the cultural fit wasn't there.

But as I mentioned earlier, let's assume that's the case and increasingly it is. We've made some very successful acquisitions from private equity companies. We have really financially motivated people owning the companies and sometimes in senior roles, and we've done a much better job than most strategic requires of keeping the leadership, following a private equity ownership situation. 

And that's typically because it's one of the things we're testing, what are you interested in, in the business you're helping to run? Is it just making money? And I'll say this proudly as the CFO of Trimble, yes financial performance is important, but it's not the first thing that comes out of our mouths when we talk about why we do what we do. 

We look for management teams that are really excited about changing the way work is done in their industries, and they're excited about being part of a business that has this huge array of solutions that can help make their customers happier.

Their business gets better, and can drive more growth. So we're looking for management teams that are excited and not anxious about being part of a bigger corporate company. Then we look at the financial analysis. Very often sellers have very optimistic forecasts, so we typically do our own forecast and we apply that forecast against a broad array of metrics.

Of course we study hard what our cost of capital is and we do net present value and IRR calculations. I found that those are so dependent on your assumptions many years out that they can be confusing. We look hard at multiples of a profit, revenue or recurring revenue. A lot of the businesses we're buying have recurring revenue models.

So we look at those hard as a check against the valuation of the business. And then we typically put in place an incentive program when we make a big acquisition that ties the leadership to the forecast that we've made, the financial plan that gives them either some combination of cash and equity in Trimble.

All that together, it's hard for me to say exactly which is most important. I will say an increasing number of our investors look at R. O. I. C. several years out as an indicator of: Are you good at turning the money you spent on an acquisition into returns? So we get more questions about that from our big investors.

ROIC is basically the after tax return on the cash you deployed to buy the business. And they want to see something above your cost of capital, maybe not in the first or the second year. But three, four or five years out, they want to see if that ratio looks favorable. The growth here of the business and the higher the price it is, the harder it is to satisfy that calculation, but it's when we think about increasing.

It can be particularly difficult for Trimble because increasingly, we don't just leave the businesses that we buy alone. They're more and more integrated because our strategy is about connected platforms of solutions.

And so it's actually hard to measure the economics of what you bought because it's pulling through a lot of the rest of what Trimble already has. So the measure is imperfect. But we don't dismiss it either. It's one way to think about the kind of returns you've generated from making a big deal.

Balancing priorities when structuring earnouts

Well, that is the trade off. We ground the incentive plan, which has a retention and a performance motivation aspect. We are grounded in whatever metrics are really key to the driving of value. So, in some deals, it's the amount of recurring revenue and some, its margin, and some, its bookings can be some combination of all of that.

But we figure out what we can measure that won't be subject to too much ambiguity or potential, I wouldn’t say dispute, but someone feeling like that's not really the right way to measure it, but we work with the leadership of the businesses we acquire to create men. And we don't do this on all of them, by the way. But particularly the biggest ones where there's the most capital at play, we believe it's a good way. To create alignment and really to build motivation across the team that we're sharing our commitment to the same financial goals.

And when you set these plans in place, there’s always some judgment factor. Certainly, we made a bunch of acquisitions and then COVID hit. Nobody had COVID in their forecasts and that did disrupt our business. It disrupted every business. So you have to have the trust of the leadership of the companies that you buy. You have to earn that trust. And sometimes where the original goal didn't make sense, we've changed the goal to make it equally motivating for the company and for those employees. So that's part of how we make it work.

Understanding a company’s culture

Most of the deals we do are not in a formal competitive process. So these are often companies that we had some commercial relationship with, and we know a lot about them. So that's an easier problem to solve. 

But look, we've bought a couple businesses. The deal I just mentioned, the really big one that closed earlier this year was private equity-owned and sold through a process. But this is something our CEO does not delegate. He spent a lot of time with the team, and if the process was designed to prevent us from getting a sense of the culture, we would pass, we wouldn't engage because it is so important. 

But when you talk to people about your business, you can sense their enthusiasm for what we're excited about, which is really changing the way our customers do their work. We typically get time outside the formal business agenda to talk about values and how people are treated and how the community is treated. And it's worked well enough that we found cases where that may be a good business, but it doesn't fit at Trimble.

It would be nicer to work deeply in the organization. We have employed consultants who survey customers and you get a sense of how companies treat their customers. That's a pretty strong indicator. 

I will say the business we just bought, we got meaningful time with the senior leaders of the business and enough time that we were confident that we have a shared approach. It's close enough. It's a company based in Germany, and we closed the business in April. And I'm pleased to say that the sense we got, the trust that we've put in that team has been rewarded and vice versa. 

We're all really excited about working together. So, in a formal process with a real time constraint, there are limitations to how much you can know about the business. But we've been pretty good at this. We've made 67 acquisitions over the last 10 years, so we've done it enough that we know what to look for and how to look for it.

Integration from a CFO’s perspective

First thing I'll say is that the pace and the level of integration has got to be driven by the strategy. And it's not that more integration is better or worse. There are businesses where a lot of integration is absolutely needed right from the beginning. And there's other situations where it might make sense to leave the businesses alone. 

Historically in Trimble, we were managed principally as a collection of individual business units, where the collaboration between them was light and was opportunistic. And our strategy has evolved, we talk about our strategy in terms of connected scale. So we're connecting these businesses that used to be separate, bringing them together using the scale of our 4 billion dollars of revenue base to make ourselves more powerful. That strategy has dictated a more aggressive approach to integration.

So it used to be the case 10 years ago. One of the presidents of a company we acquired was told that the corporate accounting people at Trimble are going to be a pain in his butt, but don't let anybody else mess with your business or tell you what to do. And now, the acquired companies want more integration because we're about cross-selling and selling bundled solutions, and we are aggressively moving in that direction.

So even today, we have dozens of ERPs, most of which came from acquired companies, and we're going as fast as we can to bring the ERPs and the CRM systems, the corporate enterprise systems together, because that's what our strategy requires. 

As far as budgeting and we have dedicated resources, part of my corporate development team does nothing but integrations and they've done it a lot. We got the checklists all worked out. We were particularly careful in a number of areas. Particularly, the company was private before investing in financial controls and cybersecurity controls. So we have an absolutely sacrosanct set aside budget for those integration activities that need to kick in immediately upon the acquisition to make sure that the financial controls are adequate and that our cyber security posture is positive. 

So we go after that really fast, then we put together teams involving the target management and our teams to figure out the pace of bringing everything together. I wish it could go faster. I think most of the people in our teams wish it could go faster, but there's a pragmatic limit to how much you can get done. But this is something we're good at. We're more serious about it now than we used to be 10 years ago because our strategy has evolved. But it's something we take really seriously and we're really organized in how we do it. 

How the speed of integration impacts value realization

Our strategy, as I said, is about connecting and scaling. I'll never forget one of the first businesses I visited in Trimble after I joined in 2019, which was one of my last business trips to a company we had acquired in Florida, and we were debating the whole topic of the level of integration in M&A. 

My opinion as a newcomer to Trimble was asked, and I spent the night at dinner with some of the sales folks people, and their view was there's so much opportunity now that we're not just an entrepreneurial business, but we're part of Trimble to sell together faster, and I wish we were more integrated.

The normal assumption is that management teams and companies, when they're required, want to be left alone. They don't want the corporate parent. And what I found was that the people actually at the coalface doing work with the customers wanted us to hurry up and that was really validating.

So to answer your question, in the context of Trimble, more integration is key to creating more value because we're about selling these connected platforms of solutions. And when they're on their own island, as a CFO, it drives me nuts. We have dozens of ERP systems. We have dozens of CRM instances that's expensive to maintain.

And I have finance people all over the place working in different technologies. It's fundamentally inefficient. And it prevents us from selling to our customers bundles in the most seamless way we can. So I know there's a very high shareholder value proposition from bringing these companies together. And now we're not even debating that anymore, debating the direction we want to go. We are debating how fast we can get there. 

We've left these acquired businesses to a pretty great extent on their own with their own business process and system platforms, and we're aggressively investing in bringing them together. In fact, we just went live a few weeks ago with a big implementation where we're taking all these disparate systems for our North American construction software company, some of which were acquired 567 years ago, pulling them all together, and that's really taxed our information technology teams.

So when we make a big acquisition, our ability, the pace at which we can integrate those new businesses is slowed down somewhat because we have so much to do even today, integrating what we've acquired over the last few years. But we're excited about it, we're going to get to it. This will make us a more scalable, more efficient business to work in.

We'll be much more customer-friendly for customers that want all these solutions connected in a way that adds value to them. So, it's hard work. We have a lot going on, but I know that the direction we're going is all the validation we get from our customers from the employees of our acquired companies. It's just reinforcing that we're going in the right direction.

I say it's easy to buy a company. It's hard to make an acquisition work. But the success that can come from that hard work when you do it right is really compelling. So we have a party typically when we do a deal, but we like having the bigger parties when we've really achieved success for our shareholders and our customers, and that takes longer.

Biggest lessons learned as a CFO

I'll say in some ways, the financing part is the easiest part. The valuation, you can look at comparable transactions and trading multiples. You can do the NPV and IRR calculations. You have to try to get the forecast right, but where value is really created is on two fronts. 

First of all, it's getting the strategy right. 

• Do you fundamentally understand how the business you're going to buy creates value? 
• What's its competitive position? 
• How well does it fit with our company?

You have to get that right, and if you don't, all the modeling you do and all the spreadsheets and the valuation approaches won't matter.

Then, the other insight is that every business is a collection of people: the employees, the customers, suppliers. And sometimes CFOs aren't very good at this, but it's really important to spend a lot of time really being thoughtful about the motivations of all the stakeholders.

So before Trimble, I was CFO of a big engineering and construction company that had been employee-owned for over a century, and that's a consolidating industry. There was a very strong financial logic why not being an employee-owned company was a good idea. But I think I under-invested in understanding the motivations of the people who are proud of the heritage of the business.

I got things better when I put aside the spreadsheet and really focused on addressing what was on their minds. Understanding it and figuring out how we could make the sale of that company a really compelling proposition for people who probably didn't want to sell or weren't that interested in the financial side of it.

So I think that’s for CFOs, if you're driving the M&A process, you really have to think about the softer side, the motivation of the various stakeholders and make sure you get that right.

How to pitch deals to the CFO

It's true that CFOs tend to be more prudent than other members of the management team. And that label has probably been applied to me and I wear it proudly. I do think I'm the shareholder’s advocate. When we're having these meetings about a really big investment, my job is to be looking after the shareholders, not that my colleagues aren't, but it's just not their first instinct.

CFOs are risk managers. They typically have an important risk management part of their job. So if you're selling to a corporate CFO, recognize that they've got risk on the brain. That's what they're supposed to have and help them understand risk. 

I tell you what doesn't work for me is a really salesy approach that says there's nothing that could go wrong. And this plan is a lay down and everything's peachy and perfect because no important enterprise is in that situation. 

There's challenges. What I like is that when someone says, “You're right, there's a risk. You're not thinking about that risk exactly right. It's a little different, but it's there. Here's how we think about it, and here's how we manage it.”

To me, that person, whether it's an investment banker or a CEO of a target company, when they can talk confidently about the risks and challenges, that actually reassures me that we're getting the straight story. 

No big deal, no big business decision is without risk. And if you want to avoid risk, your enterprise will shrink, and sometimes avoiding risk is ironically the riskiest decision of them all. I get that we need to take risks, but I want to understand them and I want to make sure that the people who are working with me acknowledge the risks and are also thoughtful about them and how to manage them. 

Every forecast I've been given, every forecast I've created is wrong. In this very dynamic and volatile world, the best way to think about any investment is there's a range of possible outcomes.

• How do you handicap the better and the worst ones?
• How do you manage through them? 

That's the job of leadership in business today and you just have to embrace it. And most CFOs just bring their own particular lens to that process, and that's good. That's what they should be doing.