Mergers and acquisitions are a major part of the corporate finance world that deals with buying, selling and combining different companies to form larger entities. They are one of the key activities of corporate restructuring and are worth millions of dollars. From a legal perspective, a merger is a combination of two or more firms in which all but one legally ceases to exist and the combined organisation continues under the original name of the surviving firm [key-7]. Mergers and acquisitions are undertaken by companies to achieve certain strategic and financial objectives [key-19], which the managers of the acquiring firm believe are beneficial to the company. Not all mergers activities are successful. KPMG found that 83% of mergers were unsuccessful in producing any business benefit as regards shareholder value. The objective of this post is to study M&A activities in two different industries – Cars & Chemicals – and to highlight why some succeed while others fail. In this essay, I will talk about the factors that distinguish the successful mergers from the unsuccessful ones. As this is an original piece of work, please credit this blog (citations, link back, etc) if you are using this in your research.
1 Literature Review
A merger adds value only if the merging companies are worth more than each one of them. This section focuses on understanding the objectives behind the merger and acquisition activities and how they add value to the firms. The author aims to use the literature developed here to analyse the industrial case studies in the next section.
For most practical purposes, mergers and acquisitions are treated as synonyms. The main difference between these two appears to be in the method of execution. Sherman and Hart (2006) define mergers as “…two companies joining together (usually through the exchange of shares) as peers to become one.”. They define acquisitions as involving “…typically one company -the buyer- that purchases the assets or shares of the seller, with the form of payment being cash, the securities of the buyer, or other assets of value to the seller.” An acquisition can be friendly as well as hostile. When the target company’s management are receptive to the idea of the acquisition and recommends shareholders approval, the acquisition is generally referred to as friendly [key-7].
1.2 Motivations for Mergers and Acquisitions
DePamphilis (2010) gives the following reasons for M&A: synergy, diversification, market power and strategic realignment. Brealey, Myers and Allen add to that by pointing out that promise of complementary resources and surplus funds and inefficiency elimination are also major reasons for acquisitions. Sudarsanam(1995) states that a more fundamental objective for the firms is to enhance the wealth of shareholders through accessing sustainable competitive advantage of the acquirer.
Sherman and Hart (2006) provide the following objectives for mergers:
- to respond to competitive cost pressures through economies of scale and scope.
- to improve process engineering and technology
- to increase the scale of production in existing product lines
- to find additional uses for existing management teams
- to redeploy excess capital in more profitable and complementary ways
In a merger, there is no buyer or seller. A merger is always seen as happening between equals and though one firm may have contributed more than the others, or may have initiated the discussion, the data gathering and due diligence part is always a two-way and mutual process.
1.3 Why some mergers succeed and why some fail?
KPMG, based on detailed empirical research, identified six factors that lead to successful mergers. These factors are proper initial synergy evaluation, well thought out integration project planning, due diligence, gathering a capable management team, resolving cultural issues and most importantly, good and transparent communications.
The big problem in measuring the failure of a merger is in determining the criteria that should be met for a merger to be deemed so. Failure of a merger may stem from the information asymmetries arising from the pre-merger period and the problems of cooperation and coordination when recently merged [key-3]. Also, the target company may only have a superficial strategic fit and the failure may result from a flawed business and corporate strategy [key-19].
The following table from Carlton(1997), who cites Coopers and Lybrand’s (1992) study of 100 failed mergers, summarises the key causes of success and failures of mergers:
2 Industry Case Studies
2.1 BMW AG. – The Rover Company
The Rover Company was a British Car manufacturing company founded in 1878 as Starley & Sutton Co. of Coventry and originally produced bicycles and motorbikes. It produced its first car in 1904 under its now famous marque of the Viking Longship. After a string of mergers, nationalisation and takeovers, it became a part of the British Leyland Motor Corporation in 1968. The group was sold to British Aerospace in 1988 and in 1994, the control of the group was passed to BMW of Germany.
BMW AG is a German automobile, engine and motorcycle manufacturing company which began life as a aircraft engine company in the early 1900s. In 1923, it began manufacturing its first motorcycles and started car production in 1928 after acquiring the Eisenach vehicle factory [key-9]. BMW acquired the Rover Company in 1994 for ₤800mn. After investing about ₤2bn and getting no synergies, it sold the company in 2000 to Phoenix Consortium for ₤10.
BMW had a number of motives behind the acquisition of the Rover company. The primary among them was to grow. BMW wanted to increase their market spread while achieving a greater volume spread [key-16]. They saw Rover, which came up for sale at the right time as the perfect deal at that time. Rover had acquired significant cost advantages due to its association with Japanese production methods. They also had the front-wheel driving and the 4 x 4 technology that BMW wanted to acquire. The price BMW paid was deemed to be a bargain as the cost to develop the technology and the production methods from scratch were significantly more.
Another major factor in the acquisition was the low level of cost in the British manufacturing sector compared to the costs in Germany [key-15]. These costs, which were 60% lesser in Britain, had the ability to substantially reduce BMW costs. Rover also has in its repository brands such as Mini and MG Rover, which offered BMW the chance to exploit new markets and segments.
Behind the acquisition of Rover by BMW, there was certainly a strategic motive and proper plans of gaining synergies. However, the acquisition was unsuccessful because they didn’t plan the entire process well. Palmer(2003) quotes both Kloss and Boorn in describing how the strategic plan got stuck in the upper echelons of the hierarchy due to lack of communication and coordination. BMW’s integration plan suggested a three-phase process in which the initial two years were ‘wasted’ in just providing financial help without any integration of the two companies. It was 3-4 years before any concrete integration plans began and only in 1999 were the two companies fully integrated [key-16].
Another important problem for this deal was the linguistic differences between the two companies. Although BMW’s top management could do business in English, the engineers and the middle managers were unable to do so. This created a lack of communication problem which eventually delayed the integration process. There were also substantial differences between the business culture of BMW and Rover. As Batcheler(2001) points out, the German direct approach was in contrast to the more relaxed approach followed by the British.
Sirower (1997) suggested that it is incorrect to judge the soundness of an acquisition based on what it would have cost to develop that business from scratch. For this case, it seems to be this same problem as BMW’s decision was partly based on the substantial cost difference between developing the technologies in-house and buying it from Rover. BMW didn’t achieve the synergies and ended up spending ₤2bn and sold the company off to Phoenix Consortium for a token sum of ₤10.
2.2 AkzoNobel N.V – Imperial Chemicals Industries plc.
AkzoNobel N.V is a Dutch multinational company, specialising in coatings and speciality chemicals. The company’s history can be traced back to the 17th century but the present entity was created in 1994 by the merger of the Dutch company, Akzo and the Swedish company Nobel.
ICI was formed when four British chemical companies merged in 1926. By 1970s, it had expanded into continental Europe and the USA with a diverse variety of products ranging from heavy chemicals to pharmaceuticals. It continued to grow meteorically throughout the 80s, however, in 1993, owing to shrinking customer base and tough competition from abroad, it began slimming down and sold off its pharmaceutical business as Zeneca. On January 2, 2008, following the initial announcement in August 2007, ICI was taken over by AkzoNobel N.V.
After AkzoNobel sold off its pharmaceutical business Organon in 2007, it became a much more focused in the coatings sector, which was now considered to be the core business of the group [key-12]. The chief executive of the group, Hans Wijers identified ICI as the next attractive target because of the many strategic and financial benefits[key-1]. One of the most important benefits was the possible creation of one of the largest coatings and speciality chemical company in the World. Akzo was the global leader in industrial coatings and ICI was very strong in the decorative paint market. Many solvents and chemicals are common to both the companies and this give tremendous synergy opportunities for the combined company [key-20]. The enlarged Akzo Nobel group could also benefit from a diversified and broad geographic presence and highly attractive platforms for growth in emerging markets[key-1].
At the time of the deal, the strategic synergies estimated by Akzo was €280mn. Financially, the deal was expected to enhance the earnings to the shareholders, generate an internal rate of return above Akzo Nobel’s WACC (8%) and create positive EVA in year three following the transaction.
Akzo paid 670p for each ICI share and the deal was finalised for ₤8.0bn on January 2, 2008. Akzo de-listed ICI from the London Stock Exchange on the January 3rd and sold off its adhesive and electronic material business to Hankel. The majority of the ICI businesses were integrated into Akzo.
The acquisition of ICI by AkzoNobel was seen by the majority of the analysts as a good strategic deal. ABN AMRO (as quoted in Pansari, 2009) said, “… we certainly believe in the strategic rationale behind the ICI acquisition… By acquiring ICI, AkzoNobel will be some 60% larger by turnover than its nearest competitor. … ICI Coatings offers an excellent complementary fit, both in terms of geographical spread and in product mix.” However, there were some doubts about whether Akzo paid too much for the deal. Deutsche Bank’s comment (quoted in Pansari, 2009) shows their scepticism, “We welcome Akzo’s efforts to make the proposed deal more attractive but still struggle with the numbers. With integration risk, execution risk and a lack of visibility on ICI management‘s future role the risk/reward profile is not attractive enough” But, the acquisition has turned out to be successful with Akzo meeting all the synergy targets in time. Akzo initially set a synergy target of €280mn by the end of 2010, which they updated to €340 mn in 2008. As of 2009, they had delivered about 90% of the total value amounting to €300mn.
The main reasons for the success of Akzo were the presence of a well-planned integration plan and the rapid implementation of that plan. Unlike BMW, which took no steps to integrate Rover in the initial two years, Akzo planned on a total integration in the first three years. They were able to find a balance between the cultural and linguistic differences between the two companies and were thus able to avoid communication problems. The author believes that all of MacDonald and Beavis’s (2001) key characteristics for a successful integration process namely a comprehensive integration plan, rigorous cost/benefit/risk management control mechanisms, dedicated leadership did exist in this deal. As a result of this successful deal, AkzoNobel is very well positioned now with market leadership positions in many markets, excellent geographic spread of sales and profitability and strong ability to outspend the competition in technology and innovation without negatively affecting the profitability[key-11].
The success or the failure of a merger or acquisition activity depends upon a lot of factors – both endogenous and exogenous. The presence of the right mix of people at the helm and the presence of just a proper integration plan is not always enough. The speed of implementation has to be there and the managers should be able to communicate properly their intentions to the lower levels properly. Proper research into the acquired company and its activities are important for the firms before going ahead with their merger plans. BMW made some key mistakes before going ahead with the Rover deal regarding the speed of integration, communicating and lack of proper research. Akzo, on the other hand, were well planned and their integration was swift and effective. They overcame the communication and cultural problem and devised ways to create massive synergies for the company.
[key-1] Akzo Nobel Corporate Media Relations. Recommended Cash Offer for Imperial Chemical Industries plc. by Akzo Novel N.V.; Akzo Nobel Press Release, 2007.
[key-2] Andrade, G., Mitchell, M. & Stafford, E. New Evidence and Perspectives on Mergers. The Journal of Economic Perspectives 2001,15, No. 2:103-120.
[key-3] Banal-Estañol, A. & Seldeslachts, J.: Merger failures. WZB, Markets and Political Economy Working Paper No. SP II 2005-09 2007.
[key-4] Batchelor, J. Employment security in the aftermath of the break-up of the Rover Group. Unpublished, 2001.
[key-5] Brealey, R.A., Myers, S.C. & Allen, F. Principles of Corporate Finance, 8th edition. McGraw-Hill; 2008.
[key-6] Carleton, R.J. Cultural due diligence. Training 1997, vol 34. Page No.67-80.
[key-7] DePamphilis, D.M. Mergers, Acquisitions, and other restructuring activities: An integrated approach to process, tools, cases, and solutions, 5th Edition. Elsivier Academic Press; 2010.
[key-8] KPMG. Unlocking Shareholders value – the keys to success. Mergers and Acquisitions – A global research report, 1999.
[key-9] Kiley, D. Driven: Inside BMW, the Most Admired Car Company in the World, edn 1. John Wiley and Sons; 2004.
[key-10] Macdonald, A. & Beavis, D. Seize the moment – Radical supply chain integration as a means of increasing shareholder value and enabling acquisitions to deliver on their promises. PA Consulting, 2001.
[key-11] Midura, J. Akzo Nobel Strategy. LSE Management and Strategy Seminar. 2nd December, 2009.
[key-12] Owen, G. Extract from forthcoming book about the man-made fibers industry, 2010.
[key-13] Owen, G. & Harrison, T. Why ICI choose to De-merge. Harvard Business Review 1995,March – April 1995. Page 133 -142.
[key-14] Pansari. Akzo Nobel Case Study. November 2009.
[key-15] Pilkington, A. Transforming Rover: A Renewal against the Odds 1981 – 1994. Bristol Academic Press; 1996.
[key-16] Plamer, K.L. Why did BMW’s Acquisition of Rover Fail?. 2003.
[key-17] Sherman, A.J. & Hart, M.A. Mergers and Acquisitions from A to Z, 2nd edition. AMACOM; 2006.
[key-18] Sirower, M.L. The Synergy Trap. How Companies Lose the Acquisition Game. The Free Press, New York; 1997.
[key-19] Sudarsanam, S. The Essence of Mergers and Acquisitions, Financial Times/ Prentice Hall; 1995.
[key-20] Unknown. Critics question whether ICI price is right. Financial Times. August 6 2007.