Blank page for PDFs 05.03.

00 4:34 PM Page 3
Q4'00_CR internet M&A 10/12/00 2:58 PM Page 18

18 T H E M c K I N S E Y Q U A R T E R LY 2 0 0 0 N U M B E R 4

internet research

Internet M&A booms

Internet-related transactions account for a fifth of global
M&A activity. What does the market think of them?

Although the Internet has been around for a relatively short time,
McKinsey research shows that Internet-related transactions already account
for about 20 percent of worldwide M&A activity, both by value and by
number of deals (Exhibit 1).

The drive for growth has spurred the deal making—in contrast to M&A in
more mature industries, where the driving force is often the desire to reduce
EXHIBIT 1
More deals, more money: Internet M&A takes off
Percent of total M&A deals Percent of total M&A value
that are Internet related that is Internet related
22.6
19.2
9.8
8.4
excess capacity and
achieve economies of
scale. When the buyer of
an Internet company is
another Internet company,
it usually acts to build up
its core business (for
example, an on-line
stockbroker acquiring

3.5 a financial-information
1.4
company); to extend an
1998 1999 20001 existing line (an e-tailer
Total number ~24,100 ~25,100 ~9,400 specializing in books and
of M&A deals
music moving into toys
1
Through May 2000, excluding America Online–Time Warner deal (if included would
raise Internet-related M&A share of total value to 33%). and tools); or to expand
Source: Thomson Financial Securities Data; McKinsey analysis
geographically (an
Internet service provider
or portal company buying portals outside the home market). Internet compa-
nies that buy “landed” (physical-world) incumbents generally come from the
same or a similar sector (Exhibit 2). Incumbents typically make an acquisition
to jump-start their own lagging Internet activities. Frequent targets for acqui-
sition are dot-coms involved in business services, such as ISPs, Internet
consultants, and business-to-business (B2B) service providers.
Q4'00_CR internet M&A 10/12/00 2:58 PM Page 19

INTERNET M&A BOOMS 19

We expect growth to con-
tinue to be the primary
rationale for Internet-
related mergers and
acquisitions. Like busi-
EXHIBIT 2
Birds of a feather
Number of M&A transactions1
When Internet companies buy other Internet companies, they usually
stay close to their core business . . .

nesses in traditional
Access 6 7 28
industries, however,
Target

Internet firms operating Infrastructure 7 99 14

within the same sector
and with complementary E-commerce 25 6 12
strengths will begin to
E-commerce Infrastructure Access
consolidate to achieve
Acquirer
economies of scale.
. . . and when Internet companies buy landed companies, they usually
buy from their own sector
There are several reasons
Other2 1 7 0 2 4
Target (landed incumbent)

to expect M&A to grow in

Prepackaged
importance: software
1 5 0 6 0

Media 0 2 1 1 0
• Rapidly closing win-
Business
dows of opportunity. 1 6 1 5 0
services
Purely organic develop- Telecom 6 7 0 0 0
ment is often too slow
Telecom Business Media Pre- Other2
to keep pace with rapid services packaged
change in many parts of software
Acquirer (Internet company)
the Internet.
1 All
deals occurred between January 1, 1998, and May 22, 2000, and were valued at more
than $100 million.
2 Forinstance, financial-services firms or companies specializing in retail and wholesale
• Higher barriers to trade.
Source: Thomson Financial Securities Data; McKinsey analysis
entry. Attracting cus-
tomers is becoming
prohibitively expensive in some of the more mature business and geo-
graphic areas. Thus M&A may be the only way to establish a foothold,
even if the price is high.

• More need for control of assets. Fast-moving businesses require simple,

straightforward governance models founded on full ownership of assets as
opposed to joint ventures or other sharing arrangements.

• More targets available. As the Internet industry develops, some companies

with strategic assets (such as privileged technology and networks) have
assets tangible enough to be taken over by another company; moreover,
these companies and their shareholders are at a crossroads where it may
very well make sense to sell out rather than continue to build organically.
Lower overall valuations and less attractive prospects for initial public offer-
ings make these targets more affordable as well. In such circumstances,
Q4'00_CR internet M&A 10/12/00 2:58 PM Page 20

20 T H E M c K I N S E Y Q U A R T E R LY 2 0 0 0 N U M B E R 4

the stock of listed companies with relatively high valuations is a powerful

acquisition currency.

This last point is reflected in our analysis. About 90 percent of the acquirers
are publicly held—both well-established companies and highly valued
Internet players that have just done their IPOs. Some companies have
executed a series of acquisitions in a short period. Cisco Systems and
Healtheon/WebMD, for example, completed 27 and 9 such transactions,
respectively, in the 27 months preceding May 2000. Typically, the targets
were less-established, unlisted companies.

But beware. The market’s reaction to announcements of deals has varied

according to the type of acquirer. Acquisitions by incumbents were twice as
likely to be rewarded as punished, but the market has generally frowned on
acquisitions by start-up e-commerce companies. You could speculate that
the market regards acquisitions as a smoke screen for their ever-increasing
losses (Exhibit 3).

M&A activity has had a mixed impact on share prices. In the period studied
(January 1, 1998, to May 22, 2000) the average excess return to acquirers’
shareholders has been
EXHIBIT 3
5 percent in the period
Buyer beware extending from one week
before to one week after
Change in acquirer’s excess return relative to an appropriate benchmark
index, percent1
the announcement of a
Number of acquirers deal. But these returns
100% 48 119 50 35
have varied dramati-
Better
Neutral to higher returns

than 25% 12 14 cally—all the way from

18 17
negative 47 percent to
5 to 25% 21
22 positive 260 percent—
25 26
reflecting the market’s
5 to 5% 21 strong views on those
20
30 deals. As in traditional
34 mergers and acquisitions,
25 to 5%
Lower returns

27 the share prices of targets

33 30
have generally responded
Worse 20 in a positive way to
19
than 25%
4 4 3
announcements of deals,
E-commerce Infrastructure Access Incumbent rising by an average of 19
and applications
percent during the period
Type of acquirer studied.
1Change measured from one week before to one week after deal’s announcement. All deals
occurred between January 1, 1998, and May 22, 2000, and were valued at more than
$100 million. Examples of benchmark indices include the Dow Jones Internet Composite
Index and Datastream’s US Media and US Software indices. The number of Internet-
Source: Thomson Financial Securities Data; Primark (Datastream); McKinsey analysis
related deals—transac-
Q4'00_CR internet M&A 10/12/00 2:58 PM Page 21

INTERNET M&A BOOMS 21

tions involving Internet players on the buying or the selling side—has actually
increased by a factor of 11 in this period, surging from about 40 deals in
January 1998 to about 450 deals in March 2000. In April and early May
2000, however, the number of deals declined significantly. NASDAQ’s sharp
fall, which introduced a high degree of uncertainty about appropriate trans-
action terms, appears to have temporarily discouraged Internet companies
from finalizing planned deals. Once the market stabilizes, it is expected that
M&A activity will return to full steam ahead.

—David Marock, Johan Näs, and Hannelore Strickroth

David Marock is a consultant in the London office, Johan Näs is an associate

principal in the Stockholm office, and Hannelore Strickroth is a consultant in
the Zurich office. Copyright © 2000 McKinsey & Company. All rights reserved.