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PMI and failures in M&A

written by Anke Dassler, Angela Hornberg 18. August 2019
Implementation & Integration

Remember Nokia? At the turn of the century, the Finnish company was riding high as the global superstar in handsets. Having lost a good deal of its former glory, the mobile phone division was eventually bought by software giant Microsoft in 2014 for a cool $8bn. The US company was hoping to regain ground in the platform game dominated by Apple and Google.

It looked like a perfect matchwith CEO Stephen Elop promissing “cutting-edge innovation” of phones and smart devices. Microsoft also acquired designers, licensing agreements, some 32,000 employees in total. But the joint project, the Lumia phone line, flopped quickly. Significant restructuring was needed, almost two thirds of the Nokia employees were made redundant in the following two years. The deal was eventually written down for $7.6bn and in 2016 Microsoft retracted from the mobile phone business.

Pundits are quick to point to cultural clashes between a US-American “can do spirit” and a more reserved Northern European culture. Microsoft might have been unlucky as the production of smartphones had long moved to the ever more important Asian brands. They might have hoped for too fast a success or blundered with communication. All valid points for failing mergers, no matter whether the candidates are from two opposite ends of the globe or from the same territory, no matter if they are old-school or considered young and hip, no matter if in finance (Deutsche Bank and Bankers Trust, Bank of America and Countrywide), manufacturing (Toshiba and Westinghouse) or tech (Google and Nest, Yahoo and Tumblr).

Costs will be higher, synergies lower

But the core of these disappointments is mostly wrong expectation management. In a nutshell, any merger, any acquisition is always more time consuming and cost intensive than what consultants have recommended, calculated, considered. The lesson for an executive team should by no means be to avoid acquisitive growth, but rather to be fully prepared long before a pitch book hits the executive desk. A piece of advice for anyone in charge of mergers and acquisitions: Expect more! Cost will be higher than calculated, the process will take more time, additional complexities during integration will prove daunting.

Post-merger integration can be hindered by turf wars as well cultural differences, by non-compatible systems and lacking interfaces, by damage to a company’s brand, overestimation of synergies and a lack of understanding of the target firm’s business. On top of that, managers and bankers are regularly under pressure to achieve success, hence they are eager to make the deal happen, and quickly. Too often they won’t scrutinise the trajectory of the core business and the size of the stated synergies critically enough.

It’s important to calculate cost as diligently as possible

Surely, all these problems can be overcome. But with so many possible pitfalls, it’s important to calculate cost as diligently as possible. To be on the safe side, always add an extra margin for the many unknowns which will invariably pop up.

At the same time, realism is vital when it comes to calculating synergies. In Yahoo’s 2013 acquisition of microblogging site Tumblr, then CEO Marissa Meyer estimated that the rapidly growing social networking site could help boost Yahoo’s audience by 50 per cent. When nothing like that happened within a year, she merged the ad sales teams and gave them an unrealistic $100m target for sales. This figure was seen as a rather random figure by company insiders and observers, leading to numerous key players in Tumblr’s ad sales department to leave. Ultimately, Yahoo had to reverse the integration and ultimately wrote off losses of more than $700m.

“In-house” leadership work, energy and skills are less valuated than “external” resources

A significant reason for underestimating cost is a different approach to pre- and post-merger work. Many companies are happy to fork out significant fees on advisers, financial as well as procedural, to prepare a deal. However, the integration work is often taken back in-house where costs are rarely measured.

The due diligence teams preparing the deal and acting under considerable time pressure, need to quickly formulate assumptions on potential synergies. Even if considered experts in their respective fields, they may lack detailed insights into the realities of the acquiring company. Broad-brush estimates on future savings based on sector benchmarks and presumed market share are not uncommon. Business unit heads, ultimately responsible for delivering on those targets, often have no say in the assumptions on feasibility or time frames – and during integration, they will inevitably question where the numbers came from.

To avoid these issues, choose a well-coordinated hand over from due diligence to integration planning, ideally with a number of members of the teams with roles in pre- as well as post-merger stages. The result should be a much greater degree of ownership and accountability of the managers.

Hence, underestimating cost is not just about cash, it’s also about management time, effort, energy and skills, especially beyond the project team or scope. The pressure of integration work is often placed on top of day-to-day business responsibility. It’s not unusual for line managers to be thrown in at the deep end, with little or no preparation for the procedural challenges of an integration process. The toll on capacity in upper management is also frequently underestimated.

With the benefit of hindsight, many would do it differently

In an EY study of 200 companies having completed deal values in excess of $450m showed that companies are regularly underestimating staffing requirements. Just 4 per cent used 16 or more staff on their integration team. Meanwhile 46 per cent used fewer than 10 people.

If given the chance to do the last deal again, four fifths of executives said that in hindsight they would have quickened the pace of integration. Another 62 per cent would have introduced a second wave of integration to bring the two organisations closer together. And 58 per cent of acquirers conceded that they should have regularly communicated the integration progress to their stakeholders. The latter is a vital start, if not sufficient, to overcome any cultural differences. Sometimes, these are blatantly obvious. When Lenovo took over IBM’s personal computer business in 2005 and mobile phone maker Motorola in 2014, little clairvoyance was needed to cater for differences in business culture and management style between a large Chinese and US corporate approach.

Cultural clashes can happen everywhere to everyone

But even two companies within broadly the same sector from the same region of a country can run into serious trouble for subtle differences of culture and style, just like when Google acquired Nest Labs, the upstart thermostat maker and neighbour in Silicon Valley for $3.2bn in 2014. Twelve years of difference in company history, execs from a similar entrepreneurial background – Nest was founded by Tony Fadell and Matt Rogers, two ex-Apple engineers – and a focus on internet and tech: on paper, the deal had the hallmarks of a perfect marriage. In reality, it failed spectacularly. Three years on, Fadell was gone, Nest had bled an impressive number of employees and was finally integrated into Google’s new holding Alphabet. So far, the division has still not made much of the hoped progress with home devices.

Of course, culture is not the whole story. Part of the problems stem from a false market expectation, with less than 10 per cent of American households possessing internet-connected devices. But for many pundits it’s obvious that it was largely Alphabet which has killed the younger entity, misjudging the very different culture at a startup, even though having been one just a decade earlier.

So now what?

Looking at the examples of the past and the repetitiveness of failures, chances are very high that mergers and integration will continue to fail. Every situation is unique, no two deals are ever the same: but this should not prevent management to be critical about own capabilities when it comes to integration. The underestimation of costs and difficulties with integration once a deal is closed seems to be a common topic.

Be more and more aware that when consultants and bankers already moved on to the next client, the work is not only not finished, but the biggest part of the effort is just laying ahead.

 

 

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