How to Avoid an M&A Hangover

Posted by Greg Bustin (August 1, 2004)

Excerpted from the book, Take Charge! How Leaders Profit From Change, by Greg Bustin.

Some leaders view acquisitions as a strategy central to their company’s growth, while other leaders view acquisitions as a tool that enables them to implement their strategy.

Whether you view acquisitions as a strategy or a tool, there’s no debate that mergers and acquisitions must be handled carefully. Properly conceived and managed, a merger or acquisition can accelerate an organization’s profitable growth and widen the gap between its competitors. But if bungled, they can destroy an organization’s culture, reputation and earning power.

Enron, Tyco and WorldCom have become classic bad examples of companies that built their strategies on the backs of acquisitions. When the acquisitions failed to yield the results that had been promised, greed, fear and fraud took over, ruining Enron, bankrupting WorldCom and taking Tyco to the brink of disaster.

This is not to say that a company looking to grow via acquisitions is ineffective, much less criminal. When used to fill gaps or complement a core competency, acquisitions can be a smart way to build market share. The Bank of America-FleetBoston Financial merger, Dean Foods’ acquisition of Horizon Organic and Comcast’s acquisition of AT&T’s cable television properties filled gaps in those companies’ profitable portfolios.

A proven approach

Acquisitions are nothing new. Charlemagne, one of the greatest medieval kings, embarked on what we might consider an acquisition spree when, in about 773, he led a series of 53 campaigns “designed to round out his empire” by conquering various countries.

Strategic fit, integration and implementation are the keys to any successful acquisition, and these are factors that Charlemagne clearly understood and emphasized during the 47 years of his reign. “In truth,” writes Will Durant in his History of Civilization, Charlemagne “had always loved administration more than war, and had taken to the field to force some unity of government and faith upon a Western Europe torn for centuries past by conflicts of tribe and creed.” Charlemagne relied on assemblies where smaller groups of nobles or bishops helped him “to know whether in any part or corner of the Kingdom the people were restless, and the cause thereof.”

Charlemagne, in other words, knew that there was more to an acquisition than simply forcing laws, customs and culture on his newly acquired subjects.

Incredibly, some modern-day Charlemagnes do not fully consider the impact of the non-financial, non-legal aspects of their acquisitions. Teams of lawyers, accountants and bankers may spend hundreds of hours tightening the deal, yet many times, the factors some may call “soft” are the very ones that cause deals to fall apart and mergers to fail over the longer term.

For those exploring the possible acquisition of companies, the due-diligence process is a time for putting both organizations – the acquired and the acquiree – under the microscope. More than half of all mergers either fail to meet the financial expectations outlined at the time of the transaction or fail outright. And studies show that about half of the executives in the company being acquired leave in the first year, while about three-quarters of them leave within three years.

Business leaders dreaming of solving growth problems or expanding market leadership with a stroke of a pen must resolve difficult issues before completing the transaction.

Ask and answer five essential questions

The management teams of both companies need to ask and answer tough questions and agree to terms before a merger or acquisition moves forward. In my book, I examine five deceptively simple ones. Here’s the question the best leaders always ask first:

Is this merger consistent with our five-year vision and our strategy for achieving it? Mergers rightly excite leaders who look to improve profitability by cutting redundant costs and expanding market penetration. Yet the highest value of any successful merger comes from the ability of two senior leaders who view the merger less as a combination of the present than as an opportunity to create the future.

Credit J.P. Morgan (the man, not the company) with the idea of judging acquisitions on their future earning power. In December 1900, Morgan discovered that Andrew Carnegie planned to expand his steel operations into a market Morgan already dominated. Morgan grew concerned that over-capacity and confusion would disrupt his plans. Morgan asked Carnegie if he would sell and, after a time, Carnegie named his price: $480 million. Morgan immediately accepted, basing his judgment “on a premise that was revolutionary at the time: expected future cash flows. He reframed the question from ‘What are Carnegie’s steel assets worth now?’ to ‘What will they be worth in the future?’” Ask yourself if the merger will help make you a market leader, or help you maintain your dominance as a leader. If the answer is ‘Yes,’ take the next step.

And then ask and answer the next question.

As on any big decision, move carefully through the due-diligence phase, do your homework and stay true to your culture and strategy. Unfavorable answers and irreconcilable differences on any of five broad areas can doom a deal or lead to an M&A hangover of epic proportions once the deal is done.

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