Managing Risk in Mergers & Acquisitions - Causes of Success & Failure

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Contents

About The Author & The Article

Jonathan Bishop, Group Chairman, Bishop Phillips Consulting. [1] As head of a succession of consulting firms and as a board member, vice chairman and chairman of a variety of entities, the author has participated in a number of mergers and acquisitions both as the dominant and junior partner. Through study and application of the theory, and participation in/responsibility for both successful and unsuccessful mergers he has acquired a detailed practical knowledge of how to make mergers and acquisitions work successfully.


Copyright 1995-2010 - Moral Rights Retained.

This article may be copied and reprinted in whole or in part, provided that the original author and Bishop Phillips Consulting is credited and this copyright notice is included and visible, and that a reference to this web site (http://RiskWiki.bishopphillips.com/) is included.

This article is provided to the community as a service by Bishop Phillips Consulting www.bishopphillips.com.

Introduction - Why Merge or Acquire?

For the purposes of this article we will use the terms merger, acquisition and M&A interchangeably for the general activity of conducting a merger or acquisition of one legal business entity by another. The discussion will focus on the M&A activities between distinct legal entities rather than business units within a legel entity, as the issues in the latter case are fundamentally different from those in the former case.


Strictly speaking, a merger differs from an acquisition in that in an acquisition one entity assumes control and absorbs another entity, usually expunging the acquired entities operational distinctiveness. In a merger two or more entities join their business and control structures in a manner that delivers some level of shared control and business profile. In reality, the actual outcomes are rarely purely those of an acquisition or a merger - regardless of the original intentions. The act of acquiring or merging almost always results in irrevocable cultural and operational change for all entities involved - not just the entity acquired.


For this reason, and for reasons that will become apparent later on, we shall treat both activities as essentially the same.


Irrespective of the retoric for the merger, in order to succeed, it is critical for the parties to the merger (and particularly the dominant party) to understand clearly why they are really merging. Typical reasons for merging include (in no particular order):

  • Economies of scale through larger productive capacity or ability to share services
  • Vertical integration of productive capacity or the supply chain
  • Market share / elimination of direct or indirect competition
  • Securing supply
  • Asset acquisition or stripping
  • Strategic hedging through addition of counter cyclical products to the group mix
  • Acquisition of access to Intellectual Proiperty
  • Geographic expansion or access to markets with entry barriers
  • Accumulation of complimentary product/service sets
  • Suppression of emerging product line / Intellectual Property threats
  • Acquisition of customers


Not all of these motivations will pass traditional measures of success such as "improved productivity" or "staff retention" - as clearly in a number of these cases the underlying purpose of the merger has nothing to do with establishing a bigger, better, more efficient business - just a safer business environment.


If your purpose is merely to eliminate a competitor, or acquire their IP, or strip their assets, etc. much of the discussion in the paper will be of limited applicability to your situation. Your objectives are met if the price you pay for acquisition and business wind-up delivers these outcomes for less than you gain in return. If your purpose is to gain productivity improvement, or economies of scale, complimentary product mix outcomes and retain as much of the acquired (or junior partner's) business / delivery capability as possible (etc.) then this paper is relevant to your circumstances.


M&A - The State of the Industry

What Measure Success?

The most obvious outcome of any M&A is prima-facie the elimination of an actual or potential competitor from the competitive mix.

In 1999 KPMG published a study of merger outcomes over the preceding 10 years. The study identified that 75% to 83% of mergers fail where failure was measured by lower productivity, labour unrest, higher absenteeism & loss of shareholder value or even dissolution of companies.


This and other studies highlight a central question in determining the strategy for a successful merger - what is the basis for measuring the success of an M&A project?


Success Measure

Survey Outcome

Year of Study

Achievement of anticipated purpose

30-45%

1997

Achievement of strategic or financial object

<20%

1983, 1991, 1994

Preserve or Enhance book value

25%-45%

1988, 1999

Enhance shareholder value

17%

1995

Preserve or improve NPAT

<50%

1996, 1999

Preserve or improve productivity

<25%

1988, 1999

Preserve strike, absenteeism and accidents levels

<50%

1977, 1981, 1999

Financially advantageous in Long Term

20-50%

1978, 1988, 1999

Financially advantageous in Short Term

50%

1996

A summary of the conclusions from a number of these studies can be found in Managing Risk in Mergers & Acquisitions - A Review of the Literature


It is clear from the range of studies and the span of years they cover, that successful mergers, are distressingly and consistently unlikely - at least with respect to these measures of success. A Merger, like life, is not a dress rehearsal. Unfortunately, as most executives go through a merger only rarely, mistakes are common, and the first time you do it, it will be for real. It is therefore important to learn, as far as possible, from the conclusions of others that have gone before - because the odds of success are not in your favour.


Both the Zweig (1995) and KPMG (1999) study found in their respective studies of merger outcomes that on 17% of mergers resulted in an enhancement of either shareholder value or key performance drivers. Perhaps of even greater concern, Zweig found that shareholder value was actually destroyed in 53% of cases, and KPMG determined the performance drivers actually weakened in 78% of cases:

image:Zweig95_M&A_ImpactOnShareValue.jpg

image:KPMG99_M&A_ImpactOnKPI.jpg


Why Merge

Studies of merger outcomes in terms of only classical performance or direct shareholder value enhancement imply a need for successful integration of the pre-merger businesses. This assumption does not capture the total range of success measures that might properly apply to merger motivations (regardless of the public retoric of the entities involved). The need for successful integration of the pre-merger businesses depends on the true underlying motivation for the merger:


Image:MnA WhyMerge.jpg


The fundamental driver for measuring post-merger success is to first clearly define the reason(s) for the merger. As success integration of the merged businesses is possibly among the hardest to the successful outcomes to achieve, it is essential to map the requirement for this strategy to the reason for the merger. Ordered from least to highest need for integration, typical merger motivations might include:

  1. Eliminate a competitor
  2. Hedge market cycles
  3. Acquire brand
  4. Enter a geographic market
  5. Integrate vertically
  6. Opportunistic
  7. Grow market share
  8. Cut costs – economies of scale
  9. Grow size (defensive)
  10. Acquire technical or management expertise


Reasons For Failure

A Summary of the Recent Studies

Integration of the of the pre-merger businesses in the post-merger entity is a precursor to success in (possibly) the majority of merger strategies. From a comprehensive review of the literature we have identified the the most common reasons sited for integration failure, (with two added by the author from direct (anecdotal) experience).


Reason  %
1 Poorly planned and managed integration 100
2 Neglect of existing business due to the attention being paid to the acquired business 68
3 Underestimating the depth & pervasiveness of human issues triggered by the merger 50
4 Loss of key staff in acquired business 50
5 Demotivation of employees of acquired business 50
6 Underestimating problems of skill transfer 34
7 Selecting the wrong partner 34
8 Cultural incompatibility 17
9 Delayed decisions due to breakdown of responsibilities, delegations & authority 17
10 Too much focus on doing the deal - not enough on to integration planning & management 17
11 Insufficient research (due diligence) into the acquired business 17
12 Paying the wrong price or at the wrong time 17
13 Buying for the wrong reasons 17
14 Incompatible business and IT systems JB
15 Doomed by negotiation JB


IT systems are likely to increase in importance because in the last 10-15 years they have become more entwined with business models & processes than was possibly the case when some of these studies on which this data is based were conducted, and in larger organisations can represent a key (and diferentiating) part of the businesses infrastructure investment. Incompatibility can be a critical financial and technical barrier to successful integration.


The last point emphasises that where one party in the pre-merger negotiation wins, the merged entities generally lose.

Failure in a Nutshell

Where business integration is a key ingredient of the post-merger mix, the studies allow us to identify the top 5 risks of that result in merger failure:

  1. Integration poorly planned and managed
  2. Underestimated cultural & human risks
  3. Loss of key success enablers (eg staff)
  4. Inaccurate financial due diligence
  5. Neglecting current business


As these studies examined mergers that actually completed (i.e. the tacke over survived the acquisition process), the studies ignored a common reason for merger failure: That of non-completion. Reasons for non completion might include:

  1. Legal (non participating competitor) or regulatory intervention
  2. Unacceptable risks, asset/liability valuations or cultural issues emerging during sue-dilligence
  3. Exogenous market shifts during the merger process (such as changes in market conditions of demand, financing, etc.)
  4. Death or departure of key personnel from the target entitites
  5. Excessive regulatory or judicial hurdles causing the process to extend unacceptably for the participants
  6. Failure, or inability to offer sufficient compensation to the vendors
  7. Gazumping by competitor acquirers


Reasons for Success

Conversely both formal studies and deductive reasoning allows us to identify the key reasons for successful mergers.

  • No need to achieve an integrated business, and "right" price paid
  • Nature of post merger structure (vertical, conglomerate or geographic, etc)
  • Clearly enunciated & communicated direction
  • Acquisition-specific & flexible integration strategy
  • Clear decision structure and role definitions
  • A sense of urgency and outcome ownership
  • Compatible business systems
  • Compatible business cultures
  • Compatible accounting practices
  • Integration ready culture
  • Commonality of merger goals
  • Active risk management strategy
  • Actively managed, tracked & resourced integration project
  • Minimised debt service load
  • Pre-existing partnering or cohabitation


Further Reading

In our next article Managing Risk in Mergers & Acquisitions - A Success Strategy, we examine how to apply this knowledge to create a successful merger strategy.

A cross linked review of the of the literature over a span of 20 years is available at Managing Risk in Mergers & Acquisitions - A Review of the Literature.



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