AQA A2 Business Studies Unit 4 The problems of takeovers and mergers including difficulties integrating businesses successfully

Key points Every takeover or merger involves some kind of integration But degree of integration will vary depending on factors such as: Need for cost synergies Compatibility of corporate cultures Size, timing, nature of the deal

Key terms Merger integration: the process of bringing together the functional areas of buyer & target business (e.g. organisational structure, systems, operations, marketing, people, merging cultures) Dis-synergy: costs or lost revenues that arise as a result of the transaction (e.g. lost customers) Cross-border: buyer and seller based in different countries (although both may be multinationals)

Key theories & concepts Corporate culture: the “way that things are done”; often different, even amongst firms in the same market. Stakeholders: different people and groups who have an interest in the effect of the M&A transaction (e.g. customers, employees, local community).

Overview of the takeover process Target Identification & Choice Valuation & Offer Due Diligence & Completion Post-acquisition Integration

Characteristics of a badly-managed takeover Limited due diligence Price to high Over-estimate of potential for synergies Lack of, or too simplistic, integration plan Indecision once the takeover is complete Poor communication with key stakeholders

Target choice Key issues to consider: How does the target fit with the corporate strategy How well will the target organisation and culture fit? What is the potential for synergies?

Target choice – the ideal target? Strategic fit Consistent with corporate objective Complements the strategy Cultural fit Similarity of cultures Few significant barriers (e.g. language) Top management can work together Potential for value creation Revenue synergies Cost synergies Target price is reasonable Integration is achievable / realistic

Complications for public companies The existing share price indicates the market value of the firm However, takeover usually requires a substantial bid premium Bid premium typically 30-40% more than share price prior to bid announcement Regulation of bid via Takeover Panel rules adds complexity & cost

Target valuation Valuation has to strike a balance Don’t pay too much! Interests of buyer shareholders Interests of target shareholders Don’t pay too much! Get the best price!

But acquisitions usually fail It is widely accepted that over 50-70% of takeovers destroy shareholder value

The danger of over-valuation The easiest way to destroy shareholder value is to over-pay Extra danger of over-paying is trying to cut costs too quickly to justify price paid

Paying too much - The Winner’s Curse

Example of the Winner’s Curse - RBS In 2007, RBS was part of a consortium that bid £49bn as it competed to buy ABN-Amro RBS clearly overpaid for the takeover The subsequent effect on RBS's capital reserves led to the forced nationalisation of RBS in 2008 to avoid a collapse of the UK banking system

Checking what you are buying: due diligence Financial Commercial Legal

Another possible problem: friendly or hostile takeover? Target Board Rejects Offer Friendly Target Board Accepts / Supports Offer

Friendly takeovers The vast majority of takeovers are friendly Buyer approaches target Board with offer Target Board negotiates & agrees price / terms Shareholders of both firms approve the deal Legal completion of takeover The vast majority of takeovers are friendly

Hostile takeovers Buyer approaches target Board with offer Target Board rejects offer Buyer makes offer direct to target shareholders Target shareholders decide whether to accept Hostile takeovers are unusual, often bitterly contested and costly

Some common problems with hostile takeovers Senior management in the target often leave en masse = loss of experience & expertise Resentment amongst target stakeholders (local community, employees) Increased risk that the buyer pays too much for the takeover

Taking over a close competitor Usually horizontal integration  Should be plenty of overlap, which creates potential for cost synergies  Distribution channels Suppliers (increased buying power) Also much potential for conflict Competing brands: which ones to retain & support? One firm will inevitably be favoured; effect on employees on the other side? Competitors will seize on disruption and uncertainty

Key problems with takeovers High costs involved (including disruption to business) Paying too much for the takeover (over-valuation) Clash of cultures – makes it hard to communicate Lost customers – potentially lower revenues (dis-synergy) Resistance from target employees and management, which slows potentially necessary change High failure rate – 70%+ destroy shareholder value Management distraction – their attention is away from the core, existing business – which then suffers

The importance of integration “ In the heyday of M&A, whilst the champagne glasses clinked, you would often see an ashen-faced figure in the corner – the operations director, whose job it was to make it work” “

Post-takeover integration The hardest part of a takeover is making the deal work once it is completed

Ways to avoid integration problems Detailed due diligence – focused on the likely areas of risk (e.g. IT systems, impact on customers etc.) Careful integration planning – a detailed action plan based on pre-takeover due diligence. Act quickly: the first 100 days are often considered vital for the overall success of the takeover or merger. Clear communication about the objectives of the transaction and the honesty about the implications for key stakeholders (particularly employees). Respect the culture of the target business

Some examples of integration (+ & -) Takeover / merger Integration Experience / Issues Kraft / Cadbury Most senior Cadbury managers have left; but little effect on operations or sales Daimler / Chrysler Disastrous clash of corporate cultures – eventually split up in 2007 Tata / JLR Excellent example of well-planned takeover & sensitive long-term integration plan RBS / ABN-Amro Very poor quality due diligence & absence of realistic integration plan Santander / Abbey Textbook example of how to integrate takeovers – focusing on IT systems News Corp / Myspace Entrepreneurial online culture fails to thrive in a bureaucratic, corporate culture Coca-Cola / Innocent Need for integration reduced by allowing target to continue operating independently Orange UK / T- Mobile UK Difficult integration due to many overlaps in systems, operations and management

“Hard” and “Soft” parts to takeover integration IT and other systems integration Distribution (conflicts, extension) Elimination of duplicated activities and costs Transfer of contracts Financial reporting and responsibilities Soft Organisational structure Management appointments Communication Handling different cultures

Integration success will “depend on”… The speed of the deal: takeovers that are negotiated over a longer period may have fewer integration issues as both sides build better understanding Friendly or hostile: has there been a battle for control? Hostile takeovers often result in greater resentment amongst stakeholders in the acquired business. Experience of the acquiring firm: management with a track record of negotiating and integrating takeovers less likely to experience problems The type of takeover: e.g. a private equity transaction involves relatively little integration – the deal is really about financial motives The genuine differences or contrasts in corporate culture

Acquisitions and change An acquisition poses significant challenges for management Employees E.g. Uncertainty about acquirer intentions & strategy (cost savings, rationalisation) Customers E.g. continued relationship; impact on quality Management (of acquired business) E.g. duplicated roles, new hierarchy

Why acquisitions fail Price paid for acquisition was too high (over-estimate of synergies) Lack of decisive change management in the early stages The takeover was mishandled Cultural incompatibility Poor communication Loss of key personnel & customers post acquisition The creation of a lumbering giant that is soon outpaced by smaller rivals

Evaluation opportunities How similar are the two businesses concerned in the takeover or merger? E.g. is integration complicated by lots of duplication between the two operations? How important are the achievement of synergies to making the transaction a success? E.g. if significant cost synergies need to be achieved in order to justify the price paid for the business, then the integration may need to be more substantial. High job losses & resulting uncertainty may increase resistance to change & integration.

BUSS4 Research Bullets for 2012 Motives for takeovers and mergers and how these link with corporate strategy Problems of takeovers and mergers including difficulties integrating businesses successfully Factors influencing the success of takeovers and mergers Impact of takeovers and mergers on the performance of the businesses involved Impact on, and reaction of, stakeholders to takeovers and mergers Reasons why governments might support or intervene in takeovers and mergers 1 2 3 4 5 6

1 2 3 4 5 6 Strategic Motives Integration Problems Success Factors Business Impact Stake- Holder Impact Govt Role 1 2 3 4 5 6

Visit the tutor2u BUSS4 Takeovers and Mergers Blog for more resources