Chapter 6

Integration

Mergers, Acquisitions, and Business Alliances

Success breeds a disregard for the possibility of failure.

—Hyman P. Minsky

Inside M&A: general electric's water business fails to meet expectations

When Jeffrey Immelt, General Electric's CEO, assumed his position in September 2001, he identified water as one of five industries that would fuel future growth for the firm. Since 2001, GE has invested more than $4 billion in acquiring four companies to grow its water treatment business. In an unusual strategy for GE, the firm's intention was to build a business from scratch through acquisition to enter the $400 billion global water treatment business. In doing so, GE would be competing against a number of global competitors. GE had historically entered many new markets by growing a small portion of a larger existing business unit through a series of relatively small but highly complementary acquisitions.

GE's experience in integrating these so-called “bolt-on” acquisitions emboldened the firm to pursue this more aggressive strategy. However, the challenge proved to be more daunting than originally assumed. The largest of the units, which sells chemicals, faced aggressive price competition in what has become a commodity business. Furthermore, expectations of huge contracts to build water treatment plants were slower to materialize than expected.

Amid the unit's failure to spur revenue growth, GE has been struggling to meld thousands of employees from competing corporate cultures into its own highly disciplined culture with its focus on excellent financial performance. As the cornerstone to accelerating revenue growth, GE attempted to restructure radically the diverse sales forces of the four acquired companies. The new sales and marketing structure divided the combined sales forces into teams that are geographically focused. Within each region, one sales team is responsible for pursuing new business opportunities. More than 1,500 engineers have been retrained to sell the unit's entire portfolio, from chemicals to equipment that removes salt and debris from water.

Another group is focused on servicing customers in “vertical markets,” or industries such as dairy products, electronics, and healthcare. However, the task of retraining even highly educated engineers to do substantially different things has required much more time and expense than anticipated. For example, in an effort to rapidly redirect the business, GE retrained a group of 2,000 engineers who had previously sold chemicals to sell sophisticated equipment. The latter sales effort required a much different set of skills than what the engineers had been originally trained to do.

Reflecting these problems, in mid-2006, Immelt admitted that the water business unit's operating profit was well below forecast and replaced George Oliver, the executive he had put in charge of the water business in 2002. “We probably moved quicker than we should have in some areas,” Immelt conceded, adding that “training has taken longer than expected.”1

Chapter overview

After a transaction closes, integration is on the agenda. The category into which the acquirer falls will influence considerably the extent of integration and the pace at which it takes place. Financial buyers—those who buy a business for eventual resale—tend not to integrate the acquired business into another entity. Rather than manage the business, they are inclined to monitor the effectiveness of current management and intervene only if there is a significant and sustained deviation between actual and projected performance. In contrast, strategic buyers want to make a profit by managing the acquired business for an extended period, either as a separate subsidiary in a holding company or by merging it into another business.

For our purposes here, assume that integration is the goal of the acquirer immediately after the transaction closes. The integration phase is an important contributor to the ultimate success of the merger or acquisition, and ineffective integration is commonly given as one of the primary reasons that M&As sometimes fail to meet expectations. A practical process makes for effective integration. The critical success factors include careful premerger planning, candid and continuous communication, adopting the right pace for combining the businesses, appointing an integration manager and team with clearly defined goals and lines of authority, and making the difficult decisions early in the process. The chapter concludes with a discussion of how to overcome some of the unique obstacles encountered in integrating business alliances.

A chapter review (consisting of practice questions and answers) is available in the file folder entitled Student Study Guide on the companion site to this book (www.elsevierdirect.com/companions/9780123854858). The companion site also contains a Learning Interactions Library, which gives students the opportunity to test their knowledge of this chapter in a “real-time” environment.

The role of integration in successful M&As

Rapid integration is more likely to result in a merger that achieves the acquirer's expectations.2 For our purposes, the term rapid is defined as relative to the pace of normal operations for a firm. Andersen Consulting studied 100 global acquisitions, each valued at more than $500 million, and concluded that most postmerger activities are completed within six months to one year and that integration done quickly generates the financial returns expected by shareholders and minimizes employee turnover and customer attrition.3

Realizing Projected Financial Returns

A simple example demonstrates the importance of rapid integration to realizing projected financial returns. Suppose a firm's current market value of $100 million accurately reflects the firm's future cash flows discounted at its cost of capital (i.e., the financial return the firm must earn or exceed to satisfy the expectations of its shareholders and lenders). Assume an acquirer is willing to pay a $25 million premium for this firm over its current share price, believing it can recover the premium by realizing cost savings resulting from integrating the two firms. The amount of cash the acquirer will have to generate to recover the premium will increase the longer it takes to integrate the target company. If the cost of capital is 10% and integration is completed by the end of the first year, the acquirer will have to earn $27.5 million by the end of the first year to recover the premium plus its cost of capital ($25 + ($25 × 0.10)). If integration is not completed until the end of the second year, the acquirer will have to earn an incremental cash flow of $30.25 million ($27.5 + ($27.5 × 0.10)), and so on.

The Impact of Employee Turnover

Although there is little evidence that firms necessarily experience an actual reduction in their total workforce following an acquisition, there is evidence of increased turnover among management and key employees after a corporate takeover.4 Some loss of managers is intentional as part of an effort to eliminate redundancies and overlapping positions, but other managers quit during the integration turmoil. In many acquisitions, talent and management skills represent the primary value of the target company to the acquirer—especially in high-technology and service companies, for which assets are largely the embodied knowledge of their employees5—and it is difficult to measure whether employees who leave represent a significant “brain drain” or loss of key managers. If it does, though, this loss degrades the value of the target company, making the recovery of any premium paid to target shareholders difficult for the buyer.

The cost also may be high simply because the target firm's top, experienced managers are removed as part of the integration process and replaced with new managers—who tend to have a high failure rate in general. When a firm selects an insider (i.e., a person already in the employ of the merged firms) to replace a top manager (e.g., a CEO), the failure rate of the successor (i.e., the successor is no longer with the firm 18 months later) is 34%. When the board selects an outside successor (i.e., a person selected who is not in the employ of the merged firms) to replace the departing senior manager, the 18-month failure rate is 55%. Therefore, more than half of the time, an outside successor will not succeed, with an insider succeeding about two-thirds of the time.6

The cost of employee turnover does not stop with the loss of key employees. The loss of any significant number of employees can be very costly. Current employees have already been recruited and trained; lose them, and you will incur new recruitment and training costs to replace them with equally qualified employees. Moreover, the loss of employees is likely to reduce the morale and productivity of those who remain.

Acquisition-Related Customer Attrition

During normal operations, a business can expect a certain level of churn in its customer list. Depending on the industry, normal churn as a result of competitive conditions can be anywhere from 20 to 40%. A newly merged company will experience a loss of another 5 to 10% of its existing customers as a direct result of a merger,7 reflecting uncertainty about on-time delivery and product quality and more aggressive postmerger pricing by competitors. Moreover, many companies lose revenue momentum as they concentrate on realizing expected cost synergies. The loss of customers may continue well after closing.8

Rapid Integration Does Not Mean Doing Everything at the Same Pace

Rapid integration may result in more immediate realization of synergies, but it also contributes to employee and customer attrition. Therefore, intelligent integration involves managing these tradeoffs by quickly identifying and implementing projects that offer the most immediate payoff and deferring those whose disruption would result in the greatest revenue loss. Acquirers often will postpone integrating data processing and customer service call centers until much later in the integration process if such activities are seen as pivotal to maintaining on-time delivery and high-quality customer service.

Viewing integration as a process

Integrating an acquired business into the acquirer's operations involves six major activities that fall loosely into the sequence premerger planning, resolving communication issues, defining the new organization, developing staffing plans, integrating functions and departments, and building a new corporate culture. Some of the activities are continuous and, in some respects, unending. In practice, for instance, communicating with all of the major stakeholder groups and developing a new corporate culture are largely continuous activities, running through the integration period and beyond. Table 6.1 outlines the sequence.

Table 6.1. Viewing Merger Integration as a Process

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Premerger Integration Planning

Even though some argue that integration planning should begin as soon as the merger is announced,9 assumptions made before the closing based on information accumulated during due diligence must be reexamined once the transaction is consummated to ensure their validity. The premerger integration planning process enables the acquiring company to refine its original estimate of the value of the target and deal with transition issues in the context of the merger agreement. Furthermore, it gives the buyer an opportunity to insert into the agreement the appropriate representations (claims) and warranties (guarantees), as well as conditions of closing that facilitate the postmerger integration process. Finally, the planning process creates a postmerger integration organization to expedite the integration process after the closing.

To minimize potential confusion, it is critical to get the integration manager involved in the process as early as possible—ideally, as soon as the target has been identified, or at least well before the evaluation and negotiation process begins.10 Doing so makes it more likely that the strategic rationale for the deal remains well understood by those involved in conducting due diligence and postmerger integration. The 2002 acquisition of Compaq Computer by Hewlett-Packard offers some interesting insights into the benefits of preclosing planning (see Case Study 6.1).

Case Study 6.1

HP Acquires Compaq—The Importance of Preplanning Integration

The proposed marriage between Hewlett-Packard (HP) and Compaq Computer got off to a rocky start when the sons of the founders came out against the transaction. The resulting long, drawn-out proxy battle threatened to divert management's attention from planning for the postclosing integration effort. The complexity of the pending integration effort appeared daunting. The two companies would need to meld employees in 160 countries and assimilate a large array of products ranging from personal computers to consulting services. When the transaction closed on May 7, 2002, critics predicted that the combined businesses, like so many tech mergers over the years, would become stalled in a mess of technical and personal entanglements.

Instead, HP's then CEO Carly Fiorina methodically began to plan for integration prior to the deal closing. She formed an elite team that studied past tech mergers, mapped out the merger's most important tasks, and checked regularly whether key projects were on schedule. A month before the deal was even announced on September 4, 2001, Carly Fiorina and Compaq CEO Michael Capellas each tapped a top manager to tackle the integration effort. The integration managers immediately moved to form a 30-person integration team. The team learned, for example, that during Compaq's merger with Digital some server computers slated for elimination were never eliminated. In contrast, HP executives quickly decided what to jettison. Every week they pored over progress charts to review how each product exit was proceeding. By early 2003, Hewlett-Packard had eliminated 33 product lines it had inherited from the two companies, thereby reducing the remaining number to 27. Another 6 were phased out in 2004.

After reviewing other recent transactions, the team recommended offering retention bonuses to employees the firms wanted to keep, as Citigroup had done when combining with Travelers. The team also recommended that moves be taken to create a unified culture to avoid the kind of divisions that plagued AOL Time Warner. HP executives learned to move quickly, making tough decisions early with respect to departments, products, and executives. By studying the 1984 merger between Chevron and Gulf Oil, in which it took months to name new managers, integration was delayed and employee morale suffered. In contrast, after Chevron merged with Texaco in 2001, new managers were appointed in days, contributing to a smooth merger.

Disputes between HP and former Compaq staff sometimes emerged over issues such as the different approaches to compensating sales people. These issues were resolved by setting up a panel of up to six sales managers enlisted from both firms to referee the disagreements. Hewlett-Packard also created a team to deal with combining the corporate cultures and hired consultants to document the differences. A series of workshops involving employees from both organizations was established to find ways to bridge actual or perceived differences. Teams of sales personnel from both firms were set up to standardize ways to market to common customers. Schedules were set up to ensure that agreed-upon tactics were actually implemented in a timely manner. The integration managers met with Fiorina weekly.

The results of this intense preplanning effort were evident by the end of the first year following closing. HP eliminated duplicate product lines and closed dozens of facilities. The firm cut 12,000 jobs, 2,000 more than had been planned at that point in time, from its combined 150,000 employees. HP achieved $3 billion in savings from layoffs, office closures, and consolidating its supply chain. Its original target was for savings of $2.4 billion after the first 18 months.

Despite realizing greater than anticipated cost savings, operating margins by 2004 in the PC business fell far short of expectations. This shortfall was due largely to declining selling prices and a slower than predicted recovery in PC unit sales. The failure to achieve the level of profitability forecast at this time of the acquisition contributed to the termination of Fiorina in early 2005.

Putting the Postmerger Integration Organization in Place before Closing

A postmerger integration organization with clearly defined goals and responsibilities should be in place before the closing. For friendly mergers, the organization—including supporting work teams—should consist of individuals from both the acquiring and target companies with a vested interest in the newly formed company. During a hostile takeover, of course, it can be problematic to assemble such a team, given the lack of trust that may exist between the parties to the transaction. The acquiring company will likely find it difficult to access needed information and involve the target company's management in the planning process before the transaction closes.

If the plan is to integrate the target firm into one of the acquirer's business units, it is critical to place responsibility for integration in that business unit. Personnel from the business unit should be well represented on the due diligence team to ensure that they understand how best to integrate the target to realize synergies expeditiously.

The Postmerger Integration Organization: Composition and Responsibilities

The postmerger integration organization should consist of a management integration team (MIT) and integration work teams focused on implementing a specific portion of the integration plan. Senior managers from the two merged organizations serve on the MIT, which is charged with implementing synergies identified during the preclosing due diligence. Involving senior managers from both firms captures the best talent from both organizations and also sends a comforting signal to all employees that decision makers who understand their particular situations are on board.

The MIT's emphasis during the integration period should be on activities that create the greatest value for shareholders. Exhibit 6.1 summarizes the key tasks the MIT must perform to realize anticipated synergies.

In addition to driving the integration effort, the MIT ensures that the managers not involved in the endeavor remain focused on running the business. Dedicated integration work teams perform the detailed integration work. These work teams should also include employees from both the acquiring and target companies. Other team members might include outside advisors, such as investment bankers, accountants, attorneys, and consultants.

The MIT allocates dedicated resources to the integration effort and clarifies non-team-membership roles and enables day-to-day operations to continue at premerger levels. The MIT should be careful to give the work teams not only the responsibility to do certain tasks but also the authority and resources to get the job done. To be effective, the work teams must have access to timely, accurate information and should receive candid, timely feedback. The teams need to be kept informed of the broader perspective of the overall integration effort to avoid becoming too narrowly focused.

Developing Communication Plans for Key Stakeholders

Before publicly announcing an acquisition, the acquirer should prepare a communication plan targeted at major stakeholder groups, developed jointly by the MIT and the public relations (PR) department or outside PR consultant.

Employees: Addressing the “Me” Issues Immediately

Employees are interested in any information pertaining to the merger and how it will affect them. They want to know how changes affect the overall strategy, business operations, job security, working conditions, and total compensation. Thus, consistent and candid communication is of paramount importance.

Target firm employees typically represent a substantial portion of the acquired company's value, particularly for technology and service-related businesses with few tangible assets. The CEO should lead the effort to communicate to employees at all levels through on-site meetings or via teleconferencing. Communication with employees should be as frequent as possible; it is better to report that there is no change than to remain silent. Direct communication to all employees at both firms is critical. Deteriorating job performance and absences from work are clear signs of workforce anxiety.

Many companies find it useful to create a single information source that is accessible to all employees, be it an individual whose job is to answer questions or a menu-driven automated phone system programmed to respond to commonly asked questions. The best way to communicate in a crisis, however, is through regularly scheduled employee meetings.

All external communication in the form of press releases should be coordinated with the PR department to ensure that the same information is released concurrently to all employees. Internal e-mail systems, voice mail, or intranets may be used to facilitate employee communications. In addition, personal letters, question-and-answer sessions, newsletters, or videotapes are highly effective ways to deliver messages.

Customers: Undercommitting and Overdelivering

Attrition can be minimized if the newly merged firm commits to customers that it will maintain or improve product quality, on-time delivery, and customer service. Commitments should be realistic in terms of what needs to be accomplished during the integration phase. The firm must communicate to customers realistic benefits associated with the merger. From the customer's perspective, the merger can increase the range of products or services offered or provide lower selling prices as a result of economies of scale and new applications of technology.

Suppliers: Developing Long-Term Vendor Relationships

Although substantial cost savings are possible by “managing” suppliers, the new company should seek long-term relationships rather than simply ways to reduce costs. Aggressive negotiation may win high-quality products and services at lower prices in the short run, but that may be transitory if the new company is a large customer of the supplier and if the supplier's margins are squeezed continually. The supplier's product or service quality will suffer, and the supplier eventually may exit the business. (See the next section for suggestions of how to manage suppliers effectively following an acquisition.)

Investors: Maintaining Shareholder Loyalty

The new firm must be able to present to investors a compelling vision of the future. Target shareholders will become shareholders in the newly formed company. Loyal shareholders tend to provide a more stable ownership base and may contribute to lower share price volatility. All firms attract particular types of investors—some with a preference for high dividends and others for capital gains—and they may clash over their preferences, as America Online's acquisition of Time Warner in January 2000 illustrates. The combined market value of the two firms lost 11% in the four days following the announcement, as investors fretted over what had been created and there was a selling frenzy that likely involved investors who bought Time Warner for its stable growth and America Online for its meteoric growth rate of 70% per year.

Communities: Building Strong, Credible Relationships

Good working relations with surrounding communities are simply good public relations. Companies should communicate plans to build or keep plants, stores, or office buildings in a community as soon as they can be confident that these actions will be implemented. Such steps often translate into new jobs and increased taxes for the community.

Creating a New Organization

Despite being a time-consuming process that involves appointing dozens of managers—including heads of key functions, groups, and even divisions—creating a new top management team must be given first priority. The role of each senior manager must be clearly defined to achieve effective collaboration.

Establishing a Structure

Building new reporting structures for combining companies requires knowledge of the target company's prior organization, some sense as to the effectiveness of this organization in the decision-making process, and the future business needs of the newly combined companies. Previous organization charts provide insights into how individuals from both target and acquiring companies will interact within the new company because they reveal the experiences and future expectations of individuals with regard to reporting relationships. The next step is to move from the past into the future by creating a structure that focuses on meeting the business needs of the combined companies.

There are three basic types of structures. In a functional organization, which tends to be the most centralized and is becoming less common, people are assigned to specific groups or departments such as accounting, engineering, marketing, sales, distribution, customer service, manufacturing, or maintenance. In a product or service organization, functional specialists are grouped by product line or service offering, and each has its own accounting, human resources, sales, marketing, customer service, and product development staffs.

These types of organizations tend to be somewhat decentralized, and the individuals in them often have multiple reporting relationships, such as a finance manager reporting to a product line manager and the firm's CFO. Divisional organizations continue to be the dominant form of organizational structure, in which groups of products are combined into independent divisions or “strategic business units.” Such organizations have their own management teams and tend to be highly decentralized.

The popularity of decentralized versus centralized management structures varies with the state of the economy. During recessions, when top management is under great pressure to cut costs, companies may tend to move toward centralized management structures, only to decentralize when the economy recovers. Highly decentralized authority can retard the pace of integration because there is no single authority to resolve issues or determine policies.

A centralized structure may make postmerger integration much easier. Senior management can dictate policies governing all aspects of the combined companies, centralize all types of functions that provide support to operating units, and resolve issues among the operating units. Still, centralized control can be highly detrimental and can destroy value if policies imposed by the central headquarters are inappropriate for the operating units—such as policies that impose too many rigid controls, focus on the wrong issues, hire or promote the wrong managers, or establish the wrong performance measures. Moreover, centralized companies often have multiple layers of management and centralized functions providing services to the operating units. The parent companies pass on the costs of centralized management and support services to the operating units, and these costs often outweigh the benefits.11

The right structure may be an evolving one. The substantial benefits of a well-managed, rapid integration of two businesses suggest a centralized management structure initially with relatively few layers of management. In general, flatter organizations are common among large companies. The distance between the CEO and division heads, measured in terms of intermediate positions, has decreased substantially, while the span of a CEO's authority has widened.12 This does not mean that all integration activities should be driven from the top, with no input from middle managers and supervisors of both companies. It does mean taking decisive and timely action based on the best information available. Once integration is viewed as relatively complete, the new company should move to a more decentralized structure in view of the well-documented costs of centralized corporate organizations.

Developing Staffing Plans

Staffing plans should be formulated as early as possible in the integration process. In friendly acquisitions, the process should begin before closing. The early development of such plans provides an opportunity to include key personnel from both firms in the integration effort. Other benefits include the increased likelihood of retaining employees with key skills and talents, maintaining corporate continuity, and team building. Figure 6.1 describes the logical sequencing of staffing plans and the major issues addressed in each segment.

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Figure 6.1 Staffing strategy sequencing and associated issues.

Personnel Requirements

The appropriate organizational structure is one that meets the current functional requirements of the business and is flexible enough to be expanded to satisfy future requirements. Creating such a structure should involve input from all levels of management, be consistent with the combined firm's business strategy, and reflect expected sales growth. Before establishing the organizational structure, the integration team should agree on the specific functions needed to run the combined businesses and to project each function's personnel requirements based on a description of the function's ideal structure to achieve its objectives.

Employee Availability

Employee availability refers to the number of each type of employee required by the new organization. The skills of the existing workforce should be documented and compared with the current and future requirements of the new company. The local labor pool can be a source of potential new hires for the combined firms to augment the existing workforce. Data should be collected on the educational levels, skills, and demographic composition of the local workforce, as well as prevailing wage rates by skill category.

Staffing Plans and Timetables

A detailed staffing plan can be developed once the preceding steps are completed. Gaps in the firm's workforce that need to be filled by outside recruitment can be readily identified. The effort to recruit externally should be tempered by its potentially adverse impact on current employee morale. Filling needed jobs should be prioritized and phased in over time in recognition of the time required to fill certain types of positions and the impact of major hiring programs on local wage rates in communities with a limited availability of labor.

Compensation

Merging compensation plans must be done in compliance with prevailing regulations and with a high degree of sensitivity. Total compensation consists of base pay, bonuses or incentive plans, benefits, and special contractual agreements. Bonuses may take the form of a lump sum of cash or stock paid to an employee for meeting or exceeding targets. Special contractual agreements may consist of noncompete agreements, in which key employees, in exchange for an agreed-on amount of compensation, sign agreements not to compete against the newly formed company if they should leave. Special agreements also may take the form of golden parachutes (i.e., lucrative severance packages) for senior management. Finally, retention bonuses often are given to employees if they agree to stay with the new company for a specific period.13

Personnel Information Systems

The acquiring company may choose to merge all personnel data into a new database, merge one corporate database into another, or maintain the separate personnel databases of each business. A single database enables authorized users to access employee data more readily, plan more efficiently for future staffing requirements, and conduct workforce analyses. Maintenance expenses associated with a single database also may be lower. The decision to keep personnel databases separate may reflect plans to divest the unit in the future.

Functional Integration

So far, you have learned about the steps involved in planning the integration process. Now let's look at functional integration—the actual execution of the plans.

First, the management integration team needs to determine the extent to which the two companies' operations and support staffs can be centralized or decentralized. The main areas of focus should be information technology (IT), manufacturing operations, sales, marketing, finance, purchasing, R&D, and the requirements to staff these functions. However, before any actual integration takes place, it is crucial to revalidate data collected during due diligence and benchmark all operations by comparing them to industry standards.

Revalidating Due Diligence Data

Data collected during due diligence should be revalidated immediately after closing. The pressure exerted by both buyer and seller to complete the transaction often results in a haphazard preclosing due diligence review. For example, to compress the time devoted to due diligence, sellers often allow buyers access only to senior managers. Middle-level managers, supervisory personnel, and equipment operators may be excluded from the interview process. For similar reasons, site visits by the buyer often are limited to those with the largest number of employees, and so risks and opportunities that might exist at other sites are ignored or remain undiscovered.

The buyer's legal and financial reviews typically are conducted only on the largest customer and supplier contracts, promissory notes, and operating and capital leases. Receivables are evaluated, and physical inventory is counted using sampling techniques. The effort to determine whether intellectual property has been properly protected, with key trademarks or service marks registered and copyrights and patents filed, is often spotty.

Benchmarking Performance

Benchmarking important functions such as the acquirer and target manufacturing and IT operations and processes is a useful starting point for determining how to integrate these activities. Standard benchmarks include the International Organization of Standards' (ISO) 9000 Quality Systems—Model for Quality Assurance in Design, Development, Production, Installation, and Servicing. Other benchmarks that can be used include the U.S. Food and Drug Administration's Good Manufacturing Practices and the Department of Commerce's Malcolm Baldrige Award.14

Integrating Manufacturing Operations

The data revalidation process for integrating and rationalizing facilities and operations requires in-depth discussions with key target company personnel and on-site visits to all facilities. The objective should be to reevaluate overall capacity, the potential for future cost reductions, the age and condition of facilities, the adequacy of maintenance budgets, and compliance with environmental laws and safety laws. The integration should consider carefully whether target facilities that duplicate manufacturing capabilities are potentially more efficient than those of the buyer. As part of the benchmarking process, the operations of both the acquirer and the target company should be compared with industry standards to properly evaluate their efficiency.

Process effectiveness is an accurate indicator of overall operational efficiency.15 Four processes should be examined. The first two are production planning and materials ordering. Production planning is often inaccurate, particularly when the operations require long-term sales forecasts. The production planning and materials ordering functions need to coordinate activities because the quantity and composition of the materials ordered depend on the accuracy of sales projections. Inaccurate projections result in shortages or costly excess inventory accumulation.

The third process to examine, order entry, may offer significant opportunities for cost savings. Companies that produce in anticipation of sales often carry large finished goods inventories. For this reason, companies such as personal computer manufacturers are building inventory according to orders received to minimize working capital requirements. A key indicator of the effectiveness of quality control, the last of the processes to examine, is the percentage of products that have to be reworked due to their failure to meet quality standards. Companies whose “first-run yield” (i.e., the percentage of finished products that do not have to be reworked due to quality problems) is in the 70 to 80% range may have serious quality problems.

Plant consolidation begins with adopting a set of common systems and standards for all manufacturing activities. Such standards include cycle time between production runs, cost per unit of output, first-run yield, and scrap rates. Links between the different facilities are then created by sharing information management and processing systems, inventory control, supplier relationships, and transportation links. Vertical integration can be achieved by focusing on different stages of production. Different facilities specialize in the production of selected components, which are then shipped to other facilities to assemble the finished product. Finally, a company may close certain facilities whenever there is excess capacity.

Integrating Information Technology

IT spending constitutes an ever-increasing share of most business budgets—and about 80% of software projects fail to meet their performance expectations or deadlines.16 Nearly one-half are scrapped before completion, and about one-half cost two to three times their original budgets and take three times as long as expected to complete.17

Managers seem to focus too much on technology and not enough on the people and processes that will use that technology. If the buyer intends to operate the target company independently, the information systems of the two companies may be kept separate as long as communications links between them can be established. If the buyer intends to integrate the target, though, the process can be daunting. Nearly 70% of buyers choose to combine their information systems immediately after closing, and almost 90% of acquirers eventually combine these operations.18 Case Study 6.2 describes how Dutch fragrance maker Coty successfully overcame many of the challenges of integrating its supply chain with that of Unilever Cosmetics International.

Case Study 6.2

Integrating Supply Chains: Coty Cosmetics Integrates Unilever Cosmetics International

In mid-August of 2005, Coty, one of the world's largest cosmetics and fragrance manufacturers, acquired Unilever Cosmetics International (UCI), a subsidiary of the Unilever global conglomerate, for $800 million. Coty viewed the transaction as one in which it could become a larger player in the prestigious fragrance market of expensive perfumes. Coty believed it could reap economies of scale from having just one sales force, marketing group, and the like, selling and managing the two sets of products. It hoped to retain the best people from both organizations. However, Coty's management understood that if the deal were not done quickly enough, it might not realize the potential cost savings and would risk losing key personnel.

By mid-December, Coty's information technology (IT) team had just completed moving the UCI employees from Unilever's infrastructure to Coty's. This involved such tedious work as switching employees from Microsoft's Outlook to Lotus Notes. Coty's IT team was faced with the challenge of combining and standardizing the two firms' supply chains, including order entry, purchasing, processing, financial, warehouse, and shipping systems.

At the end of 2006, Coty's management announced that it anticipated that the two firms would be fully integrated by June 30, 2006. From an IT perspective, the challenges were daunting. The new company's supply chain spanned ten countries and employed four different enterprise resource planning (ERP) systems that had three warehouse systems running five major distribution facilities on two continents. ERP is an information system or process that integrates all of the production and related applications across an entire corporation.

On January 11–12, 2006, 25 process or function “owners,” including the heads of finance, customer service, distribution, and IT, met to create the integration plan for the firm's disparate supply chains. In addition to the multiple distribution centers and ERP systems, operations in each country had unique processes that had to be included in the integration planning effort.

For example, Italy was already using the SAP system on which Coty would eventually standardize. The largest customers there placed orders at the individual store level and expected products to be delivered to these stores. In contrast, the United Kingdom used a legacy (i.e., a highly customized, nonstandard) enterprise resource planning system, and Coty's largest customer in the United Kingdom, the Boots pharmacy chain, placed orders electronically and had them delivered to central warehouses.

Coty's IT team, facing a very demanding schedule, knew it could not accomplish all that needed to be done in the time frame required. Therefore, it started with any system that directly affected the customer, such as sending an order to the warehouse, shipment notification, and billing. The decision to focus on “customer-facing” systems came at the expense of internal systems, such as daily management reports tracking sales and inventory levels. These systems were to be completed after the June 30, 2006, deadline imposed by senior management.

To minimize confusion, Coty created small project teams that consisted of project managers, IT directors, and external consultants. Smaller teams did not require costly overhead, like dedicated office space, and eliminated chains of command that might have prevented senior IT management from receiving timely, candid feedback on actual progress against the integration plan. The use of such teams is credited with allowing Coty's IT department to combine sales and marketing forces as planned at the beginning of the 2007 fiscal year in July 2006.

While much of the “customer-facing” work was done, many tasks remained. The IT department now had to go back and work out the details it had neglected during the previous integration effort, such as those daily reports its senior managers wanted and the real-time monitoring of transactions. By setting priorities early in the process and employing small, project-focused teams, Coty was able to successfully integrate the complex supply chains of the firms in a timely manner.

Integrating Finance

Some target companies will be operated as stand-alone operations, while others will be completely merged with the acquirer's existing business. Many international acquisitions involve companies in areas that are geographically remote from the parent company and operate largely independently from the parent. This requires a great deal of effort to ensure that the buyer can monitor financial results from a distance, even if the parent has its representative permanently on site. The acquirer should also establish a budgeting process and signature approval levels to control spending.

Integrating Sales

Whether the sales forces of the two firms are wholly integrated or operated independently depends on their relative size, the nature of their products and markets, and their geographic location. A relatively small sales force may be readily combined with the larger sales force if they sell sufficiently similar products and serve sufficiently similar markets. The sales forces may be kept separate if the products they sell require in-depth understanding of the customers' needs and a detailed knowledge of the product.

It is quite common for firms that sell highly complex products such as robotics or enterprise software to employ a particularly well-trained and very sophisticated sales force that must employ the “consultative selling” approach; this may require keeping the sales forces of merged firms separate. Sales forces in globally dispersed businesses often are kept separate to reflect the uniqueness of their markets. However, support activities such as sales training or technical support often are centralized.

Significant cost savings may be achieved by integrating sales forces, which eliminates duplicate sales representatives and related support expenses, such as travel and entertainment expenses, training, and management. A single sales force may also minimize potential confusion by allowing customers to deal with a single sales representative when purchasing multiple products and services.

Integrating Marketing

Enabling the customer to see a consistent image in advertising and promotional campaigns may be the greatest challenge facing the integration of the marketing function. Steps to ensure consistency, however, should not confuse the customer by radically changing a product's image or how it is sold. The location and degree of integration of the marketing function depend on the global nature of the business, the diversity or uniqueness of product lines, and the pace of change in the marketplace.

A business that has operations worldwide may be inclined to decentralize its marketing department to the local countries in order to increase awareness of the local laws and cultural patterns. Companies with a large number of product lines that can be grouped into logical categories, or that require extensive product knowledge, may decide to disperse the marketing function to the various operating units to keep marketing personnel as close to their customers as possible.

Integrating Purchasing

Managing the merged firm's purchasing function aggressively and efficiently can reduce the total cost of goods and services purchased by merged companies by 10 to 15%.19 The opportunity to reap such substantial savings from suppliers comes immediately after the closing of the transaction. A merger creates uncertainty among both companies' suppliers, particularly if they might have to compete against each other for business with the combined firms. Many will offer cost savings and new partnership arrangements, given the merged organization's greater bargaining power to renegotiate contracts. The new company may choose to realize savings by reducing the number of suppliers. As part of the premerger due diligence, both the acquirer and the acquired company should identify a short list of their most critical suppliers, with a focus on those accounting for the largest share of purchased materials expenses.

Integrating Research and Development

Often, the buyer and seller R&D organizations are working on duplicate projects or projects not germane to the buyer's long-term strategy. The integration team must define future areas of R&D collaboration and set priorities for future R&D research (subject to senior management approval).

Barriers to R&D integration abound. Some projects require considerably more time (measured in years) to produce results than others. Another obstacle is that some personnel stand to lose in terms of titles, prestige, and power if they collaborate. Finally, the acquirer's and the target's R&D financial return expectations may differ. The acquirer may wish to give R&D a higher or lower priority in the combined operation of the two companies.

A starting point for integrating R&D is to have researchers from both companies share their work with each other and colocate. Work teams also can follow a balanced scorecard approach for obtaining funding for their projects, scoring R&D projects according to their impact on key stakeholders, such as shareholders and customers. Those projects receiving the highest scores are fully funded.

Integrating Human Resources

Traditionally, human resources departments have been highly centralized and have been responsible for conducting opinion surveys, assessing managerial effectiveness, developing hiring and staffing plans, and providing training. HR departments are often instrumental in conducting strategic reviews of the strengths and weaknesses of potential target companies, integrating the acquirer's and target's management teams, recommending and implementing pay and benefit plans, and disseminating information about acquisitions. In recent years, as highly centralized HR functions have been found to be very expensive and nonresponsive, the trend has been to move the HR function to the operating unit, where hiring and training may be done more effectively. Most of the traditional human resources activities are conducted at the operating units, with the exception of the administration of benefit plans, management of human resources' information systems, and (in some cases) organizational development.20

Building a New Corporate Culture

Corporate culture is a common set of values, traditions, and beliefs that influence management and employee behavior within a firm. Large, diverse businesses have an overarching culture and a series of subcultures that reflect local conditions. When two companies with different cultures merge, the newly formed company often will take on a new culture that is quite different from either the acquirer's or the target's culture. Cultural differences can instill creativity in the new company or create a contentious environment.

Tangible symbols of culture include statements hung on walls containing the firm's mission and principles, as well as status associated with the executive office floor and designated parking spaces. Intangible forms include the behavioral norms communicated through implicit messages about how people are expected to act. Since they represent the extent to which employees and managers actually “walk the talk,” these messages are often far more influential in forming and sustaining corporate culture than the tangible trappings of corporate culture.21

Trust in the corporation is undermined immediately after a merger, in part by the ambiguity of the new organization's identity. Employee acceptance of a common culture can build identification with and trust in the corporation. As ambiguity abates and acceptance of a common culture grows, trust can be restored, especially among those who closely identified with their previous organization.22

Identifying Cultural Issues through Cultural Profiling

The first step in building a new corporate culture is to develop a cultural profile of both acquirer and acquired companies through employee surveys and interviews and by observing management styles and practices. The information is then used to show the similarities and the differences between the two cultures, as well as their comparative strengths and weaknesses.

The relative size and maturity of the acquirer and target firms can have major implications for cultural integration. Start-up companies typically are highly unstructured and informal in terms of dress and decision making. Compensation may be largely stock options and other forms of deferred income. Benefits, beyond those required by state and federal law, and “perks” such as company cars are largely nonexistent. Company policies frequently do not exist, are not in writing, or are drawn up only as needed. Internal controls covering employee expense accounts are often minimal. In contrast, larger, mature companies are often more highly structured, with well-defined internal controls, compensation structures, benefits packages, and employment policies all in place because the firms have grown too large and complex to function in an orderly manner without them. Employees usually have clearly defined job descriptions and career paths.

Once senior management reviews the information in the cultural profile, it must decide which characteristics of both cultures to emphasize. The most realistic expectation is that employees in the new company can be encouraged to adopt a shared vision, a set of core values, and behaviors deemed important by senior management. Anything more is probably wishful thinking: A company's culture evolves over a long period, but getting to the point where employees wholly embrace management's desired culture may take years at best or may never be achieved.

Case Study 6.3 illustrates how the Tribune Corporation's inattention to the profound cultural differences between itself and the Times Mirror Corporation may have contributed to the failure of this merger to meet expectations.

Case Study 6.3

Culture Clash Exacerbates Efforts of the Tribune Corporation to Integrate the Times Mirror Corporation

The Chicago-based Tribune Corporation owned 11 newspapers, including such flagship publications as the Chicago Tribune, the Los Angeles Times, and Newsday, as well as 25 television stations. Attempting to offset the long-term decline in newspaper readership and advertising revenue, Tribune acquired Times Mirror (owner of the Los Angeles Times newspaper) for $8 billion in 2000. The merger combined two firms that historically had been intensely competitive and had dramatically different corporate cultures. The Tribune was famous for its emphasis on local coverage, with even its international stories having a connection to Chicago. In contrast, the L.A. Times had always maintained a strong overseas and Washington, D.C., presence, with local coverage often ceded to local suburban newspapers. To some Tribune executives, the L.A. Times was arrogant and overstaffed. To L.A. Times executives, Tribune executives seemed too focused on the “bottom line” to be considered good newspaper people.23

The overarching strategy for the new company was to sell packages of newspaper and local TV advertising in the big urban markets. It soon became apparent that the strategy would be unsuccessful. Consequently, Tribune's management turned to aggressive cost cutting to improve profitability. The Tribune wanted to encourage centralization and cooperation among its newspapers to cut overlapping coverage and redundant jobs.

Coverage of the same stories by different newspapers owned by Tribune added substantially to costs. After months of planning, Tribune moved five bureaus belonging to Times Mirror papers (including the L.A. Times) to the same location as its four other bureaus in Washington, D.C. L.A. Times' staffers objected strenuously to the move, saying that their stories needed to be tailored to individual markets and they did not want to share reporters with local newspapers. As a result of the consolidation, Tribune's newspapers shared as much as 40% of the content from Washington, D.C., among the papers in 2006, compared to as little as 8% in 2000. Such changes allowed for significant staffing reductions.

In trying to achieve cost savings, the firm ran aground in a culture war. Historically, Times Mirror, unlike Tribune, had operated its newspapers more as a loose confederation of separate newspapers. Moreover, Tribune wanted more local focus, while the L.A. Times wanted to retain its national and international presence. The controversy came to a head when the L.A. Times' editor was forced out in late 2006.

Many newspaper stocks, including Tribune's, had lost more than half of their value between 2004 and 2006. The long-term decline in readership within Tribune appears to have been exacerbated by the internal culture clash. As a result, the Chandler Trusts, Tribune's largest shareholder, put pressure on the firm to boost shareholder value. In September, the Tribune announced that it wanted to sell the entire newspaper; however, by November, after receiving bids that were a fraction of what had been paid to acquire the newspaper, it was willing to sell parts of the firm. The Tribune was taken private by legendary investor Sam Zell in 2007 and later went into bankruptcy in 2009, a victim of the recession and its bone-crushing debt load. See Case Study 13.4 for more details.

Overcoming Cultural Differences

Sharing common goals, standards, services, and space can be a highly effective and practical way to integrate disparate cultures.24 Common goals drive different units to cooperate. For example, at the functional level, setting exact timetables and processes for new product development can drive different operating units to collaborate as project teams strive to introduce the product by the target date. At the corporate level, incentive plans spanning many years can focus all operating units to pursue the same goals. Although it is helpful in the integration process to have shared or common goals, individuals must still have specific goals to minimize the tendency of some to underperform while benefiting from the collective performance of others.

Shared standards or practices enable one unit or function to adopt the “best practices” found in another. Standards include operating procedures, technological specifications, ethical values, internal controls, employee performance measures, and comparable reward systems throughout the combined companies.

Some functional services can be centralized and shared by multiple departments or operating units. Commonly centralized services include accounting, legal, public relations, internal audit, and information technology. The most common way to share services is to use a common staff. Alternatively, a firm can create a support services unit and allow operating units to purchase services from it or to buy similar services outside the company.

Mixing offices or even locating acquired company employees in space adjacent to the parent's offices is a highly desirable way to improve communication and idea sharing. Common laboratories, computer rooms, libraries, and lunchrooms also facilitate communication and cooperation.25

When Time Is Critical

Although every effort should be made to merge corporate cultures by achieving consensus around certain core beliefs and behaviors, the need for nimble decision making may require a more expeditious approach. Japanese corporations have long had a reputation for taking the time to build consensus before implementing corporate strategies. Historically, this approach has served them well. However, in the increasingly fast pace of the global marketplace, this is a luxury they may not be able to afford. Case Study 6.4 illustrates a growing trend among Japanese conglomerates to buy out minority shareholders in their majority-owned subsidiaries in order to gain full control.

Case Study 6.4

Panasonic Moves to Consolidate Past Acquisitions

Increased competition in the manufacture of rechargeable batteries and other renewable energy products threatened to thwart Panasonic Corporation's move to achieve a dominant global position in renewable energy products. The South Korean rivals Samsung Electronics Company and LG Electronics Inc. were increasing investment to overtake Panasonic in this marketplace. These firms have already been successful in surpassing Panasonic's leadership position in flat-panel televisions.

Despite having a majority ownership in several subsidiaries, Sanyo Electric Company, and Panasonic Electric Works Company that are critical to its long-term success in the manufacture and sale of renewable energy products, Panasonic has been frustrated by the slow pace of decision making and strategy implementation. In particular, Sanyo Electric has been reluctant to surrender decision making to Panasonic. Despite appeals by Panasonic president Fumio Ohtsubo for collaboration, Panasonic and Sanyo have continued to compete for customers. Sanyo Electric maintains a brand that is distinctly different from the Panasonic brand, thereby creating confusion among customers.

Sanyo Electric, the global market share leader in rechargeable lithium ion batteries, also has a growing presence in solar panels. Panasonic Electric Works makes lighting equipment, sensors, and other key components for making homes and offices more energy efficient.

To gain greater decision-making power, Panasonic acquired the remaining publicly traded shares in both Sanyo Electric and Panasonic Electric Works in March 2011 and plans to merge these two operations into the parent. Plans call for combining certain overseas sales operations and production facilities of Sanyo Electric and Panasonic Electric Works, as well as using Panasonic factories to make Sanyo products.

The firm expects to fully consolidate the two businesses by early 2012. The challenge to Panasonic is gaining full control without alienating key employees who may be inclined to leave and destroying those attributes of the Sanyo culture that are needed to expand Panasonic's global position in renewable energy products.

This problem is not unique to Panasonic. Many Japanese companies consist of large interlocking networks of majority-owned subsidiaries that are proving less nimble than firms with more centralized authority. After four straight years of operating losses, Hitachi Ltd. spent 256 billion yen ($2.97 billion) to buy out minority shareholders in five of its majority-owned subsidiaries in order to achieve more centralized control.

Integrating business alliances

Business alliances, particularly those created to consolidate resources such as manufacturing facilities or sales forces, also must pay close attention to integration activities. Unlike M&As, alliances usually involve shared control. Successful implementation requires maintaining a good working relationship between venture partners. When partners cannot maintain a good working relationship, the alliance is destined to fail. The breakdown in the working relationship is often a result of an inadequate integration.26

Integrating Mechanisms

Robert Porter Lynch suggests six integration mechanisms to apply to business alliances: leadership, teamwork and role clarification, control by coordination, policies and values, consensus decision making, and resource commitments.

Leadership

Although the terms leadership and management often are used interchangeably, there are critical differences. A leader sets direction and makes things happen, whereas a manager follows through and ensures that things continue to happen. Leadership involves vision, drive, enthusiasm, and selling skills; management involves communication, planning, delegating, coordinating, problem solving, making choices, and clarifying lines of responsibility. Successful alliances require the proper mix of both sets of skills. The leader must provide direction, values, and behaviors to create a culture that focuses on the alliance's strategic objectives as its top priority. Managers foster teamwork and promote stability in the shared control environment of the business alliance.

Teamwork and Role Clarification

Teamwork is the underpinning that makes alliances work. Teamwork comes from trust, fairness, and discipline. Teams reach across functional lines and often consist of diverse experts or lower-level managers with critical problem-solving skills. The team provides functional managers with broader, flexible staffing to augment their own specialized staff. Teams tend to create better coordination and communication at lower levels of the alliance, as well as between partners in the venture. Because teams represent individuals with varied backgrounds and possibly conflicting agendas, they may foster rather than resolve conflict.

Coordination

In contrast to an acquisition, no one company is in charge. Alliances do not lend themselves to control through mandate; rather, control in the alliance is best exerted through coordination. The best alliance managers are those who coordinate activities through effective communication. When problems arise, the manager's role is to manage the decision-making process, not necessarily to make the decision.

Policies and Values

Alliance employees need to understand how decisions are made, what has high priority, who will be held accountable, and how rewards will be determined. When people know where they stand and what to expect, they are better able to deal with ambiguity and uncertainty. This level of clarity can be communicated through a distinct set of policies and procedures that are well understood by joint venture or partnership employees.

Consensus Decision Making

Consensus decision making does not mean that decisions are based on unanimity; rather, decisions are based on the premise that all participants have had an opportunity to express their opinions and they are willing to accept the final decision. Like any other business, operating decisions must be made within a reasonable time frame. The formal decision-making structure varies with the type of legal structure. Joint ventures often have a board of directors and a management committee that meet quarterly and monthly, respectively. Projects normally are governed by steering committees. Many alliances are started to take advantage of complementary skills or resources available from alliance participants. The alliance can achieve its strategic objective only if all parties to the alliance provide the resources they agreed to commit.

Some things to remember

Successfully integrated M&As are those that demonstrate leadership by candidly and continuously communicating a clear vision, a set of values, and clear priorities to all employees. Successful integration efforts are those that are well planned, that appoint an integration manager and a team with clearly defined lines of authority, and that make the tough decisions early in the process, be they about organizational structure, reporting relationships, spans of control, personnel selection, roles and responsibilities, or workforce reduction. The focus must be on those issues with the greatest near-term impact.

Because alliances involve shared control, the integration process requires good working relationships with other participants. Successful integration also requires leadership that is capable of defining a clear sense of direction and well-defined priorities and managers who accomplish their objectives as much by coordinating activities through effective communication as by unilateral decision making. Finally, the successful integration of business alliances, as well as mergers and acquisitions, demands that the necessary resources, in terms of the best people, the appropriate skills, and sufficient capital, be committed to the process.

Discussion Questions

6.1 Why is the integration phase of the acquisition process considered so important?

6.2 Why should acquired companies be integrated quickly?

6.3 Why might the time required to integrate acquisitions vary by industry?

6.4 What are the costs of employee turnover?

6.5 Why is candid and continuous communication so important during the integration phase?

6.6 What messages might be communicated to the various audiences or stakeholders of the new company?

6.7 Cite examples of difficult decisions that should be made early in the integration process.

6.8 Cite the contract-related “transition issues” that should be resolved before closing.

6.9 How does the process for integrating business alliances differ from that of integrating an acquisition?

6.10 How are the processes for integrating business alliances and M&As similar?

6.11 When Daimler Benz acquired Chrysler Corporation, it announced that it could take six to eight years to fully integrate the combined firm's global manufacturing operations and certain functions such as purchasing. Why do you believe it might take that long?

6.12 In your judgment, are acquirers more likely to under- or overestimate anticipated cost savings? Explain your answer.

6.13 Cite examples of expenses you believe are commonly incurred in integrating target companies. Be specific.

6.14 A common justification for mergers of competitors are the potential cross-selling opportunities they provide. Comment on the challenges that might be involved in making such a marketing strategy work.

6.15 Billed as a merger of equals, Citibank and Travelers resorted to a co-CEO arrangement when they merged in 1998. Why do you think they adopted this arrangement? What are the advantages and disadvantages of such an arrangement?

Answers to these Chapter Discussion Questions are available in the Online Instructor's Manual for instructors using this book.

Chapter business cases

Case Study 6.5

The Challenges of Integrating Steel Giants Arcelor and Mittal

The merger of Arcelor and Mittal into ArcelorMittal in June 2006 resulted in the creation of the world's largest steel company.27 With 2007 revenues of $105 billion and its steel production accounting for about 10% of global output, the behemoth has 320,000 employees in 60 countries, and it is a global leader in all its target markets. Arcelor was a product of three European steel companies (Arbed, Aceralia, and Usinor). Similarly, Mittal resulted from a series of international acquisitions. The two firms' downstream (raw material) and upstream (distribution) operations proved to be highly complementary, with Mittal owning much of its iron ore and coal reserves and Arcelor having extensive distribution and service center operations. Like most mergers, ArcelorMittal faced the challenge of integrating management teams; sales, marketing, and product functions; production facilities; and purchasing operations. Unlike many mergers involving direct competitors, a relatively small portion of the cost savings would come from eliminating duplicate functions and operations.

ArcelorMittal's top management set three driving objectives before undertaking the postmerger integration effort: Achieve rapid integration, manage daily operations effectively, and accelerate revenue and profit growth. The third objective was viewed as the primary motivation for the merger. The goal was to combine what were viewed as entities having highly complementary assets and skills. This goal was quite different from the way Mittal had grown historically, which was a result of acquisitions of turnaround targets focused on cost and productivity improvements.

The formal phase of the integration effort was to be completed in six months. Consequently, it was crucial to agree on the role of the management integration team (MIT); the key aspects of the integration process, such as how decisions would be made; and team members' roles and responsibilities. Activities were undertaken in parallel rather than sequentially. Teams consisted of employees from the two firms. People leading task forces came from the business units.

The teams were then asked to propose a draft organization to the MIT, including the profiles of the people who were to become senior managers. Once the senior managers were selected, they were to build their own teams to identify the synergies and create action plans for realizing the synergies. Teams were formed before the organization was announced, and implementation of certain actions began before detailed plans had been fully developed. Progress to plan was monitored on a weekly basis, enabling the MIT to identify obstacles facing the 25 decentralized task forces and, when necessary, to resolve issues.

Considerable effort was spent on getting line managers involved in the planning process and selling the merger to their respective operating teams. Initial communication efforts included the launch of a top-management “road show.” The new company also established a website and introduced Web TV. Senior executives conducted two- to three-minute interviews on various topics, giving everyone with access to a personal computer the ability to watch the interviews onscreen.

Owing to the employee duress resulting from the merger, uncertainty was high, as employees with both firms wondered how the merger would affect them. To address employee concerns, managers were given a well-structured message about the significance of the merger and the direction of the new company. Furthermore, the new brand, ArcelorMittal, was launched in a meeting attended by 500 of the firm's top managers during the spring of 2007.

External communication was conducted in several ways. Immediately following the closing, senior managers traveled to all the major cities and sites of operations, talking to local management and employees at these sites. Typically, media interviews were also conducted around these visits, providing an opportunity to convey the ArcelorMittal message to the communities through the press. In March 2007, the new firm held a media day in Brussels. Journalists were invited to the different businesses to review the progress themselves.

Within the first three months following the closing, customers were informed about the advantages of the merger for them, such as enhanced R&D capabilities and wider global coverage. The sales forces of the two organizations were charged with the task of creating a single “face” to the market.

ArcelorMittal's management viewed the merger as an opportunity to conduct interviews and surveys with employees to gain an understanding of their views about the two companies. Employees were asked about the combined firm's strengths and weaknesses and how the new firm should present itself to its various stakeholder groups. This process resulted in a complete rebranding of the combined firms.

ArcelorMittal management set a target for annual cost savings of $1.6 billion, based on experience with earlier acquisitions. The role of the task forces was first to validate this number from the bottom up and then tell the MIT how the synergies would be achieved. As the merger progressed, it was necessary to get the business units to assume ownership of the process in order to formulate the initiatives, timetables, and key performance indicators that could be used to track performance against objectives.

In some cases, the synergy potential was larger than anticipated while it was smaller in other situations. The expectation was that synergy could be realized by mid-2009. The integration objectives were included in the 2007 annual budget plan. As of the end of 2008, the combined firms had realized their goal of an annualized cost savings of $1.6 billion, six months earlier than originally expected.

The integration was deemed complete when the new organization, the brand, the “one face to the customer” requirement, and the synergies were finalized. This occurred within eight months of the closing. However, integration would continue for some time to achieve cultural integration. Cultural differences within the two firms were significant. In effect, neither company was homogeneous from a cultural perspective. ArcelorMittal management viewed this diversity as an advantage in that it provided an opportunity to learn new ideas.

Answers to these questions are found in the Online Instructor's Manual for instructors using this book.

Case Study 6.6

Alcatel Merges with Lucent, Highlighting Cross-Cultural Issues

Alcatel SA and Lucent Technologies signed a merger pact on April 3, 2006, to form a Paris-based telecommunications equipment giant. The combined firms would be led by Lucent's chief executive officer Patricia Russo. Her charge would be to meld two cultures during a period of dynamic industry change. Lucent and Alcatel were considered natural merger partners because they had overlapping product lines and different strengths. More than two-thirds of Alcatel's business came from Europe, Latin America, the Middle East, and Africa. The French firm was particularly strong in equipment that enabled regular telephone lines to carry high-speed Internet and digital television traffic. Nearly two-thirds of Lucent's business was in the United States. The new company was expected to eliminate 10% of its workforce of 88,000 and save $1.7 billion annually within three years by eliminating overlapping functions.

While billed as a merger of equals, Alcatel of France, the larger of the two, would take the lead in shaping the future of the new firm, whose shares would be listed in Paris, not in the United States. The board would have six members from the current Alcatel board and six from the current Lucent board, as well as two independent directors that had to be European nationals. Alcatel CEO Serge Tehuruk would serve as the chairman of the board. Much of Russo's senior management team, including the chief operating officer, the chief financial officer, the head of the key emerging markets unit, and the director of human resources, would come from Alcatel. To allay U.S. national security concerns, the new company would form an independent U.S. subsidiary to administer American government contracts. This subsidiary would be managed separately by a board composed of three U.S. citizens acceptable to the U.S. government.

International combinations involving U.S. companies have had a spotty history in the telecommunications industry. For example, British Telecommunications PLC and AT&T Corp. saw their joint venture, Concert, formed in the late 1990s, collapse after only a few years. Even outside the telecom industry, transatlantic mergers have been fraught with problems. For example, Daimler Benz's 1998 deal with Chrysler, which was also billed as a merger of equals, was heavily weighted toward the German company from the outset.

In integrating Lucent and Alcatel, Russo faced a number of practical obstacles, including who would work out of Alcatel's Paris headquarters. Russo, who became Lucent's chief executive in 2000 and does not speak French, had to navigate the challenges of doing business in France. The French government has a big influence on French companies and remains a large shareholder in the telecom and defense sectors. Russo's first big fight would be dealing with the job cuts that were anticipated in the merger plan. French unions tend to be strong, and employees enjoy more legal protections than elsewhere.

Hundreds of thousands took to the streets in mid-2006 to protest a new law that would make it easier for firms to hire and fire younger workers. Russo has extensive experience with big layoffs. At Lucent, she helped orchestrate spin-offs, layoffs, and buyouts involving nearly four-fifths of the firm's workforce.

Making choices about cuts in a combined company would likely be even more difficult, with Russo facing a level of resistance in France unheard of in the United States, where it is generally accepted that most workers are subject to layoffs and dismissals. Alcatel has been able to make many of its job cuts in recent years outside France, thereby avoiding the greater difficulty of shedding French workers. Lucent workers feared that they would be dismissed first simply because it was easier than dismissing their French counterparts.

After the 2006 merger, the company posted six quarterly losses and took more than $4.5 billion in write-offs, while its stock plummeted more than 60%. An economic slowdown and tight credit limited spending by phone companies. Moreover, the market was getting more competitive, with China's Huawei aggressively pricing its products. However, other telecommunications equipment manufacturers that face the same conditions have not fared nearly as badly as Alcatel-Lucent. Melding two fundamentally different cultures (Alcatel's entrepreneurial and Lucent's centrally controlled) has proven daunting. Customers who were uncertain about the new firm's products migrated to competitors, forcing Alcatel-Lucent to slash prices even more. Despite the aggressive job cuts, a substantial portion of the projected $3.1 billion in savings from the layoffs were lost to discounts the company made to customers in an effort to rebuild market share.

Frustrated by the lack of progress in turning around the business, the Alcatel-Lucent board announced in July 2008 that Patricia Russo, the American chief executive, and Serge Tchuruk, the French chairman, would leave the company by the end of the year. The board also announced that, as part of the shake-up, the board's size would be reduced, with Henry Schacht, a former chief executive at Lucent, stepping down. Perhaps hamstrung by its dual personality, the French-American company seemed poised to take on a new personality of its own by jettisoning the previous leadership.

Answers to these questions are found in the Online Instructor's Manual for instructors using this book.

1 Kranhold, 2006

2 Coopers & Lybrand, 1996; Marks, 1996

3 Andersen Consulting, 1999

4 Shivdasani, 1993; Walsh and Ellwood, 1991

5 Lord and Ranft, 2000

6 Dalton, 2006

7 Down, 1995

8 A McKinsey study of 160 acquisitions by 157 publicly traded firms in 11 different industries in 1995 and 1996 found that, on average, these firms grew four percentage points less than their peers during the three years following closing. Moreover, 42% of the sample actually lost ground. Only 12% of the sample showed revenue growth significantly ahead of their peers (Bekier, Bogardus, and Oldham, 2001).

9 Carey and Ogden, 2004

10 Uhlaner and West, 2008

11 Campbell, Sadler, and Koch, 1997

12 Wulf and Rajan (2003) report a 25% decrease in intermediate positions between 1986 and 1999, with about 50% more positions reporting directly to the CEO.

13 Following its acquisition of Merrill Lynch in 2008, Bank of America offered Merrill's top financial advisers retention bonuses to minimize potential attrition—believing that the loss of the highest producers among Merrill's 17,000 brokers would seriously erode the value of the firm.

14 Sanderson and Uzumeri (1997, p. 135) provide a comprehensive list of standards-setting organizations.

15 Porter and Wood, 1998

16 Financial Times, 1996

17 The Wall Street Journal, November 18, 1996

18 Cossey, 1991

19 In an analysis of 50 M&As, Chapman et al. (1998) found that companies were able to recover at least half of the premium paid for the target company by moving aggressively to manage their purchasing activities. For these firms, purchased goods and services, including office furniture, raw materials, and outside contractors, constituted up to 75% of their total spending.

20 Porter and Wood, 1998

21 Kennedy and Moore (2003) argue that the most important source of communication of cultural biases in an organization is the individual behavior of others, especially those with the power to reward appropriate and to punish inappropriate behavior.

22 Maguire and Phillips, 2008

23 Ellison, 2006

24 Malekzadeh and Nahavandi, 1990

25 The challenges are enormous in companies with disparate cultures. In early 2006, Jeffrey Bewkes, the president of Time Warner, stopped requiring corporate units to cooperate. It was a complete turnabout from the philosophy espoused following the firm's 2001 merger with AOL. Then, executives promised to create a well-oiled vertically integrated profit generator. Books and magazines and other forms of content would feed the television, movie, and Internet operations. The 2006 change encouraged managers to cooperate only if they could not make more money on the outside. Other media companies such as Viacom and Liberty Media have broken themselves up because their efforts to achieve corporate-wide synergies with disparate media businesses proved unsuccessful.

26 Lynch, 1993, pp. 189–205.

27 This case relies on information provided in an interview with Jerome Ganboulan (formerly of Arcelor) and William A. Scotting (formerly of Mittal), the two executives charged with directing the postmerger integration effort; it is adapted from De Mdedt and Van Hoey (2008).