Executives convince themselves that, no matter what, they have to achieve some stock-price goal, some market-share goal, some profit goal. So, they lay out a strategy that might work and roll the dice, even when the odds are stacked against them. In other words, they take what they think is their best bet even though an objective review would show they aren’t making a good bet. Often, they lose.

Sometimes, they lose billions—making us feel a bit better about those bad thousand-dollar decisions we made while remodeling.

“Well, we have to do something,” is largely responsible for Pfizer’s decision to buy Wyeth for $68 billion. This is a bad bet, as we’ve written. Among other problems, while the deal is predicated on massive synergies, there is no reason to expect any meaningful benefit from combining Wyeth’s animal-health medicines and over-the-counter health products with Pfizer’s prescription medications. In addition, Pfizer has an abysmal record with major acquisitions. So does the entire pharmaceutical industry. Yet Pfizer focuses on the long-shot chance that, somehow, the Wyeth deal will work. Pfizer stands to lose a huge amount of revenue when its Lipitor cholesterol-lowering drug goes off patent in 2011, and, well, management has to do something, right?

Which brings us to Dell.

The personal-computer maker had an unbelievable run, both in terms of profitability and reputation. For many years, the business press wrote about Dell as though its make-to-order model had cracked the code and that every competitor would be forever chasing Dell but never catching it. Then the market changed. Customers stopped buying so many desktop computers and started buying more laptops, which they wanted to see and touch, rather than order over the phone or online from Dell. The balance of power shifted back to companies such as Hewlett-Packard that had a major presence in stores. Now, some recent news stories suggest that Dell may be getting desperate.

Our first hint of concern came when Dell announced that it was on the acquisition trail and had hired an in-house takeover specialist. Dealmakers do deals, just as surgeons operate and barbers always think you need a haircut. Dell will now almost certainly buy something—and, if public suggestions about targets are any indication, the acquisition will be a major mistake.

Some analysts have said Dell should buy Accenture. Never mind that Dell has shown no particular aptitude for service and surely couldn’t improve Accenture’s operations enough to justify the hefty acquisition premium that Accenture’s consulting business would command. Others have said Dell should buy Palm and enter the cellphone business. But Dell has already learned how difficult a consumer-electronics business can be, based on its ill-fated foray into televisions. Cellphones are even trickier than TVs. Cellphones are largely a flashy, design business these days, which would put them in mortal combat with the hyperefficient, manufacturing culture that exists at Dell.

Yet Dell’s recent announcement about weakness in its business makes us worry that Dell will be willing to make a bet that may feel like it’s the best chance to regain past glory, even though the chances of success are vanishingly small.

You don’t have to do something if the odds are against you. If Dell executives and investors feel differently, they should go remodel their homes. They’ll lose a lot less money that way.

Numerous studies have shown that roughly two out of three corporate acquisitions fail, as measured by the performance of the stock of the acquiring company. What if those odds could be flipped? What if it were possible to succeed two times out of three and just fail a third of the time?

Our research suggests this is possible. A 20-person team that spent two years investigating 2,500 major corporate failures from the past 25 years found that almost half stemmed from ill-conceived strategies that should never have been pursued. Applying the lessons derived from that research can help executives dodge problems and reshape strategies in ways that greatly increase the chances of success.

The issue is timely because there’s likely to be an awful lot of acquiring over the next few years. That’s because the sort of lull in activity that currently exists has historically been followed by a burst of M&A activity. The severity of the recession may, in fact, mean deal activity will be far greater this time around. The crisis is creating scads of targets, many of which never would have been in play before. And many companies that are available for purchase are especially attractive because they haven’t had time to really deteriorate; they just need a shot of liquidity, and they’ll be good to go again.

But the possible downside is enormous, too. Just ask Bank of America about its $50 billion acquisition of Merrill Lynch. Or ask private-equity fund Bay Harbour Management about its decision to buy the Steve & Barry’s retail clothing chain out of bankruptcy proceedings for $168 million last year, only to announce three months later that it would liquidate the chain. Based on our research, we identified both those deals as flawed at the time they were announced, but it was too late for BofA and for Bay Harbour. (For more on our thoughts on these and other deals, see our blog at blog.billiondollarlessons.com)

The time to get things right is now, not when the deal pipeline starts to fill. That’s because our research found that, once a deal is in the works, it’s hard to stop, even when it’s a bad idea. Companies need to agree ahead of time on the sorts of quality checks and process safeguards that will let them strengthen weak ideas and stop bad ones. In other words, executives can take advantage of the current lull to make sure that, when the deals start flowing again, they can have those two in three odds, not the one in three that have historically prevailed.

In this paper, we’ll lay out a quality assurance process that we call the Strategic Stress Test. Companies should be putting this process in place now, because good deals will make heroes of the acquiring companies and their senior executives while bad deals will sink others.

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The most interesting claim in the book is that acquisitions aren’t nearly as bad an idea as conventional wisdom suggests. Bruner acknowledges all the research showing that two-thirds of purchases reduce the market value of the acquirer, research that is usually treated as definitive. But he says the research is too narrow. He says researchers focus on purchases of publicly traded companies and ignore acquisitions of privately held businesses, deals that have a far greater success rate. When you look at public and private companies together, he says, “investments through acquisitions pay about as well as other forms of corporate investment. The mass of research suggests that, on average, buyers earn a reasonable return relative to their risks. M&A is no money pump. But neither is it a loser’s game.”

Bruner also argues that the focus on the failure rate lumps all companies together and fails to explore the more interesting question: What deals are likely to work, and which are likely to fail? He says:

–“In the best deals, buyers acquire targets in industrially related areas. In the worst deals, targets are in areas that are more distant.”
–“In successful deals, buyers acquire from strength—the performance attributes of buyers are stronger than their targets, suggesting that in good deals the buyer brings something important to the success of Newco.”
–“The worst deals have a propensity to occur in ‘hot’ market conditions,” such as the Internet bubble.
–“Better deals are associated with payment by cash and earnout schemes and the use of specialized deal terms. The worst deals are associated with payment by stock.”

To turn parochial for a moment, we’ll single out one final point, because it underscores the potentially enormous value of our efforts to help executives see that a strategy is misguided and to assist them in heading it off before it can be implemented. Bruner’s point is that mergers and acquisitions have acquired such a bad name partly because a small number of deals fail so spectacularly that they drag down the average results for M&A. He cites a study of 12,023 deals, in which the majority of losses were concentrated in just 87. He says the 87 occurred primarily in the hot M&A market of 1998-2001. So, he says, if businesses can avoid getting carried along by hot markets—the whole focus of our Devil’s Advocate process— and can eliminate even a modest number of the really bad deals like AOL-Time Warner, then “one reaches a very different conclusion about the profitability of M&A.”