Every year, somewhere between 50 percent and 90 percent of mergers fail. Deals that once seemed full of promise fizzle, falling short of stated goals; and executives are left scratching their heads, wondering what happened.
Take eBay’s purchase of Skype in 2005; eBay was sure the VoIP technology would speed the closing of deals, but ultimately, the capabilities didn’t match, and eBay sold Skype for a loss of more than $1 billion.
Then there are the deals that soar. Google’s purchase of DoubleClick for $3.1 billion in 2008 expanded its online advertising position into display ads and gave it access to DoubleClick’s relationships with Web publishers, advertisers and advertising agencies. Skeptics questioned the high price tag at the time; but today, DoubleClick accounts for a significant amount of Google’s profit and the deal has been heralded as a resounding success.
“So what distinguishes those that fail from the ones that succeed?” Gerald Adolph, senior partner with Strategy&, formerly known as Booz Allen, asked a group of CEOs gathered for a roundtable on M&A success.
The answer: those that are based on a strong capabilities fit, explained Adolph, also the co-author of Merge Ahead: Mastering the Five Enduring Trends of Masterful M&A. While post-merger integration is a key piece of the puzzle, the best integration planning can’t cure a deal that should never have happened. Only those M&A deals that either enhance each company’s distinctive capabilities systems or leverage those systems—or both—have a shot at real success. In this context, a capabilities system is very specific: three to six mutually reinforcing, distinctive capabilities that are organized to support and drive the company’s strategy, integrating people, processes and technologies to produce something of value for customers.
A 2011 Booz Allen study found that even when two companies seemed to have direct overlap, if the capabilities fit was poor, there was almost a nine-point spread in performance in total shareholder value two years after the deal. “The traditional definitions of why we do things, of adjacency and of consolidation are inadequate,” Adolph noted. The most successful deals were those in which an acquiring company took a capability of its own and leveraged it in the newly acquired company. The second most successful ones were those companies that acquired a capability that could then be leveraged to enhance their own capabilities.
These capabilities are like a successful company’s core DNA—a few distinct competencies that work together in a system that makes each company what it is. “If you are, in fact, a successful entity, that set of capabilities probably syncs up with a distinctive way in which you go to market—it’s your strategy, your positioning, your value creation, your metrics. It’s what we call your ‘way to play,’” says Adolph.
Adolph points to Danaher as an example of a conglomerate that appears to be made up of very disparate, unrelated businesses, but which are actually linked by their conformity to the Danaher business system, a group of lean manufacturing methods and quality improvement processes that can be applied to acquisition targets. “The way they select candidates is not by high growth, high margin, an attractive market or any of that stuff, because when you see those things, you are observing where somebody else has an advantaged capability system,” noted Adolph. “Danaher selects targets based on [fitting] with their capabilities system.” As a result of this tightly focused approach to acquisition, Danaher’s M&A program has helped raise its share price by a factor of 15 over a 16-year period, during which it made 31 transactions.
The bottom line? Clarity and specificity from the start is critical, Adolph said. “If people come to you with vague words like attractive market and synergy, best practices and all of these kinds of things that you cannot reduce to leverage and enhancement, chances are you’re being dragged into a bit of an acquisition trap that might not play out the way you want.” Tad Mitchell, CEO of WellRight, a maker of corporate wellness software, agreed that knowing precisely why you’re making a buy and staying focused on that end goal, can smooth integration, even when the companies don’t seem to have all that much in common. He recalled selling Compliance11, a compliance software company, to Charles Schwab in 2011, merging a technology company with a financial services firm.
“Instead of running it like a software company, they run it more like a value-added service for their advisors,” he said. “They still have 95 percent of the people working there three years later, and it’s growing. They’ve added more people to the business.”
Value Is a Two-Way Street
Maximizing capabilities can go both ways in a merger, noted Marc Robinson, senior executive advisor at Strategy&, who recounted the Pfizer takeover of his then-company, Warner Lambert. At the time, Pfizer’s consumer business was about $500 million and Warner Lambert’s was $2.5 billion. “So it was kind of a reverse merger,” noted Robinson. “The CEO was very explicit. He said, ‘We don’t know what we’re doing in consumer. You have a very well-oiled machine in terms of marketing capabilities. You have to use our infrastructure and backbone, but otherwise impart your learnings and your knowledge on us.’”
On the pharmaceutical [side], it was just the opposite, with Pfizer leading the charge and working to absorb Warner Lambert. Robinson, who ran the consumer business, worked closely with his counterpart on the Pfizer consumer side to deliver a clear message from the top. “We knew the marching orders. We set the tone, we communicated constantly, and it worked really, really well. Had it not been for that direction upfront, for the clarity of where the capabilities were going to be applied, it would have failed.”
Robinson admitted that he and many of his Warner Lambert colleagues were skeptical of the merger at the time. “But it turned into a great acquisition. It really brought a lot of value to Pfizer.” Decisiveness made all the difference, Robinson added, because the desire to win over the new company often leads to too much conciliatory kumbaya and not enough authoritative leadership.
Alan Marash, CEO of performance improvement consulting firm Oriel STAT A MATRIX, had a similar experience—but with the opposite result—when the company purchased a business that was also focused on performance improvement—but in the service arena as opposed to manufacturing, where Marash’s company had a strong foothold. “In hindsight, I think we made a tremendous tactical error of the important job of clearly defining the authority of the CEO who stayed on and perhaps trying to be too collaborative with her. It caused a great deal of disruption in the integration within the business and a lot of problems with staff.”
Even when the synergies seem right, cultural differences can blow up into major personnel issues, which is partly what happened to the Bank of America acquisition of U.S. Trust, said Ted Henderson, managing director at U.S. Trust. Mergers are difficult, as a rule, in financial services because the market is intensely competitive. “Bank of America had a different culture than U.S. Trust and I think it was a classic example where the best people at U.S. Trust decided they were going to be better off elsewhere.”
When a foreign acquirer is involved, cultural differences only intensify the challenge of integration. Gould Paper’s sale of a 51 percent stake to Japan Pulp and Paper in 2010 is a case in point. The merger gave the two companies, which had almost no overlap as far as suppliers and customers were concerned, the ability to cross-pollinate supply resources and achieve greater global reach. But the two had very different cultures and JPP, as the acquirer, needed to understand that it could not simply apply Japanese principles to an American company. “In Japan, as you know, nobody gets fired, nobody quits. It’s a job for life. So the concept of somebody being unhappy and maybe going to a competitor is beyond their capability to understand.”
The Need for Scale
Some mergers are doomed because they happen as a result of pressure from stakeholders responding to a current trend. When the economy recesses, for example, people want to retrench and consolidate rather than diversify or grow. That doesn’t necessarily mean the underlying deal is a good match. Higher costs of running a business can make consolidation necessary, too. “Like in banking, if you’re not big enough, with the new costs of regulation, you can’t survive, so you have to find somebody to buy you,” noted Larry Senn, founder and chairman of Senn Delaney, a Heidrick & Struggles global culture-shaping firm. “About a quarter of our work is around the cultural aspects of mergers and acquisitions, but I see another quarter as companies who never really did merge; they just came together and they’re still apart.”
In other cases, a company will bite off more than it can chew—and lose sight of the goal. Meeta Vyas, interim CFO of NanoViricides, recalled her time as CEO of Signature Brands, which was
Even with the best-laid plans, the integration can fail on the people end, said Doug Mellinger, managing director of Clarion Capital Partners, which has overseen numerous acquisitions by its portfolio companies. “For us, ultimately, it comes down to people and integration. Where we see these things just get murdered is if you don’t pick appropriate leaders.” By starting with a focus on capabilities, CEOs can not only choose the right partners but also ensure that they preserve what is special about the company they’re buying—not to mention their own.