Master Thesis Mergers and Acquisitions

Running head: MERGERS AND ACQUISITIONS 1

Mergers and Acquisitions

Timothy J. Meyer

Northwest Nazarene University

March 14, 2015

MERGERS AND ACQUISITIONS 2

Abstract

The purpose of this paper is to define and discuss ways in which organizations prepare for and

follow through with mergers and acquisitions. The purpose of strategic management is to

recognize process improvements and implement decision-making to improve the overall

performance of the organization. The goal mergers and acquisitions is aimed at engaging in

either friendly or hostile takeovers to achieve the results desired by the management teams. I will

discuss the different forms of restructuring that takes place from within and outside of

organizations, before, during, and after takeovers, both friendly and hostile, and the

considerations to be made in the event of a possible buyout. Where necessary, I have included

examples of the topic being discussed. These corporate changes are due to multiple factors such

as competitive positioning, financial crisis, and changing the direction of the company entirely.

Whichever it may be, the general idea of a restructuring is to give the establishment the

opportunity to continue to do business with the hope of returning to profitability.


Introduction

Businesses typically command a redesign of organizational structure when there are new

goals to be met due to the lack of performance in certain areas. This typically happens when a

corporation has reached a point of maturity and can no longer manage the interests of the

establishment in an efficient manner. When this is the case, companies are forced to take action

by way of splitting departments and sub departments into subsidiaries and looking for other

organizations to merge with or acquire. Mergers and acquisitions are an important driver in the

development and growth of corporations and the economy. According to a study done by

KPMG, “83% of all mergers and acquisitions (M&As) failed to produce any benefit for the

shareholders and over half actually destroyed value (Bing, Gitelson & Laroche, 2000, p. 1).”

In certain circumstances, undertaking such drastic changes is seen as a positive

sign. It shows opportunity for growth and those in favor wish to see the corporation grow in

market share and earnings. However, other forms of restructuring are seen as negative and

disruptive. In the case of financial restructuring, corporations are typically responding to low

sales growth. This can be attributed to a slowing economy, technology curves, and even concerns

about economic growth can have a negative impact on performance. When sales slump and

earnings take a dive, corporations are put in a position to rethink their financial operations or

consider selling out to a more mature firm. By any means possible, the organization must tighten

up spending and keep the business operational through this trying time.

Whichever the case may be, the undertaking of such a drastic project can have many

implications on the current and future success of a corporation. Those in favor of the changes

will continue to support the agenda while others will abandon the organization in hopes of a

more stable environment. Whatever its position may be, organizations will be faced with matters


such as downsizing, outsourcing and even process reengineering in order to continue to adapt to

the changing landscape of business conditions both domestic and global.

Acquisitions and Mergers

An acquisition, also known as a takeover, is when one business or business entity

purchases another business. This ownership transaction can be categorized as either friendly or

hostile depending on the nature of the acquisition and the way in which it is obtained. A takeover

is generally a full acquisition, 100% or very close to it, of the properties and ownership of the

enterprise being acquired. This can also result in a consolidation which combines the two entities

into a new business altogether, disintegrating the identities of both previous independent

companies.

Acquisitions fall into two types of categories, “private” and “public.” This is determined

by the status of the target company and whether or not it is listed as a publicly traded company.

Larger public organizations rely on future buyouts and acquisitions as a strategic way of creating

value to its shareholders (Van Der Plaat, 2013). Although it is not as common, there are

instances where private corporations acquire public ones. When this happens, it is referred to as a

“reverse takeover.”

The U.S. economy during the 1980’s experienced a spike in corporate takeover that had

not been seen since the latter half of the 1960’s and possibly even before the economic collapse

of the 1930’s (Auerbach, 2013, p. 1). One lesson learned of the recent period is that it is

unrealistic to have 100% agreement on whether a merger is considered good or bad. It is

important however that the costs and benefits of these takeovers be evaluated to determine the

overall value and benefit of the transaction.


Friendly Takeover

A “friendly” takeover is one that has been approved by the management or board of

directors of the target firm. It begins when the board of directors is informed by the bidder that

there is an interest in pursuing an acquisition. Soon after an offer is made. If the board believes

that the offer is in the best interest of the shareholders, it will recommend that the shareholders

accept the offer and go through with the transaction. However, this process is outlined differently

for private firms.

Typically, in a private firm, shareholders and the board are either the same individuals or

closely related to or connected to one another. Because of this, private acquisitions tend to be

friendly. If the private shareholders decide it is in their best interest to sell the firm, the board

will generally vote in their favor due to being under the orders of the shareholders. Alan J.

Auerbach (2013) explains that organizations that are targets of friendly takeovers tend to “have

much higher board ownership than “hostile targets”… and in particular much higher ownership

by the top officers (p. 103).” One of the more famous recent mergers took place at the turn of

the century between tech giant America Online and Time Warner.

AOL – Time Warner Merger

Valued at $350 billion, America Online and Time Warner struck the largest deal in

American business history when the two firms decided to merge in January 2000. Co-founder of

AOL, Stephen Case, said of the announcement, “this is a historic moment in which new media

has truly come of age (Arango, 2010).” The implications of joining a volatile, high growth tech

organization like AOL with a less hostile and more established corporation such as Time Warner

(TWX) was seen in the aftermath of going public with their proposed deal. After the

announcement was made, security prices of each firm saw dramatic shifts in trade value. TWX


shares jumped roughly 30% above the pre-announcement selling price while AOL shares saw a

drop of 15% in selling price during the same period (Malone & Turner, 2010, p.151).

Part of the strategy for the friendly merger was the agreement that new stock would be

issued representing the new partnership. While the new shares would be issued at a 1:1 ratio with

current AOL shares, Time Warner shareholders would see a decrease in ownership with a 1.5:1

exchange rate. As weeks passed and shares traded, the ownership ratio of AOL to Time Warner

shifted. Instead of matching the proposed 1.5:1 Time Warner to AOL share ratio, it averaged out

at just less than 1.4:1 (Malone & Turner, 2010, p.152).

Contributions. At the time, it was believed that the internet would soon take over

mainstream media and rewrite business models of the current industry. AOL brought with it an

established presence in the emerging online industry. This provided an outlet for TWX to expand

its marketing and distribution of television and film media through on-demand services as well

as a means to expand the distribution of its current product and service offerings. Gerald Levin

said that the internet had “begun to create unprecedented and instantaneous access to every form

of media and to unleash immense possibilities for economic growth human understanding and

creative expression (Arango, 2010).”

In exchange for what AOL had to offer, TWX was able to counter with significant help

in increasing AOL’s broadband capacity and the content being offered through AOL at the time.

The idea behind this merger was that by teaming up, customers of both firms could enjoy easy

access to the largest library of digital print and broadcast media available (Malone & Turner,

2010, p.153).

Leadership was another contribution each firm had to offer one another. The current CEO

and found of AOL, Steve Case, was appointed chair of the new firm while CEO of TWX, Gerald


Levin, was called to serve as the new chief executive officer. Steve Case brought with him a

younger and a more creative management style from AOL as opposed to the management style

of TWX which was considered more complex and diverse. Investors on both sides believed each

firm could benefit from the others unique styles of management.

Strategy. One question TWX shareholders had for the newly merged firm was whether

or not it would continue to pay out dividends like TWX had done before. The reason for this

concern was due to the rapid growth strategy of AOL at the time of the merger. Rapid growth

strategies generally call for 100% reinvestment of cash flows to support growth. At the time,

AOL was using all available cash flows as well as acquiring new debt in order to finance its

tremendous growth. TWX, on the other hand, used available cash flows to finance new growth,

pay dividends, and pay off outstanding debt.

Strategically, Steve Case made the decision to pass up managing the combined firm. He

was the one who created the buzz and creativity which stimulated growth and led the way for

AOL. Control was handed over to Gerald Levin who had more experience in leading an

established organization. Financial news outlets had long questioned the direction of the

combined firm and whether or not the responsibilities would shift away from the rapid growth

strategy.

Costs-Benefits. Due to the merger being financed strictly by stock, the costs and benefits

of the AOL-TWX deal depended on the value of the combined stock price post-merger as well as

the individual firm’s stock prices right before the merger. Because of the volatile nature of the

market leading up to the merger, the cost/benefit ratio would not be known until the merger took

place.


Unlike a cash based merger, the value of TWX shareholders stock depended on the value

of AOL stock before the merger took place. AOL’s stock value was dependent on the perception

of the market and its view on potential growth opportunities rather than its cash flow at the time.

This was directly related to the company’s high growth strategy which increased the volatility of

the share price. This impacted the final monetary value of TWX shares which was much

different than what had been anticipated before the merger.

Aftermath. The agreement between the two firms gave TWX 45% ownership of the

combined firm while AOL made off with 55%. Regardless of the contracted settlement, it can be

argued that either firm came out a winner. However, since the merger has taken place there has

been a collective amount of feedback that suggests followers of both companies were upset about

the merger taking place.

The following years saw a plethora of lost jobs, retirement accounts being wiped out, and

multiple investigations held by the Securities and Exchange Commission and Justice

Department. As of 2010 the companies had been separated and their worth was approximately

15% of what it was a decade before. Many analysts and business professors consider this one of

the worst transactions in history, bringing into question how some of the smartest leaders in

technology were able to meet and agree to such an enormous mistake.

Hostile Takeover

Over the last few decades, there has been a tremendous increase in hostile takeovers

which has created controversy and given rise to complex legal action. The Williams Act is one

such measure that was enacted to regulate hostile takeovers, in particular “tender offers.” This

act was designed to give the target organizations time to mobilize a defense strategy that would

allow time to respond to a hostile takeover (Adolff, 2012, p. 722-723). An acquisition or


takeover is described as “hostile” when the acquiring firm makes a bid to purchase the target

company and the board rejects that offer. If the bidding firm continues to pursue the acquisition

it can force the takeover through actions such as tender offers, and more direct, proxy fights.

The key component of a hostile takeover is that the management of the target company

does not want the deal to be made. In order to protect their vested interests, management will

defend the corporation by implementing a number of controversial strategies. These include the

golden parachute defense, pac-man defense, poison pill defense, and others.

The development of hostile acquisitions can be attributed to Louis Wolfson who was a

“corporate raider” during the 1940’s and 1950’s. He became nationally known and the term

“hostile takeover” was coined when he was unable to acquire Montgomery Ward and Co. in

1955. Dean Henry G. Manne said:

Wolfson’s contribution to human welfare far exceeded the total value of all private

philanthropy in history. He invented the modern hostile tender offer. This invention,

which activated and energized the market for corporate control, was the primary cause of

the revolutionary restructuring of American industry in the 1970’s and ‘80’s, and the

ensuing economic boom. (Manne, 2008, para. 7)

Tender offers. According to the U.S. Securities and Exchange Commission website, a

tender offer “is a broad solicitation by a company or a third party to purchase a substantial

percentage of a company’s Section 12 registered equity shares or units for a limited period of

time (n.d.).” These offers are made public by way of an invitation or offer that has been

published in a news article. The tender offer gets its name from the way in which the prospective

purchaser solicits the stockholder to tender their ownership of stock and sell it for a set price


during a specified time. The number of shares can be set at a minimum or maximum depending

on the offer being made.

In order to tip the negotiation in their favor, the offering party will generally price the

shares above the current market value. Therefore, if the target corporation’s share value is

estimated at $5 per share, the acquiring firm will offer a premium of $7 per share to entice the

sale of stock. Unless a majority of shareholders agree to the buyout, 51% or more, the offer will

be reneged.

The advantage of a tender offer is that the completion time is substantially faster than

standard mergers yet require higher premiums. However, because of the nature of a tender offer,

it signals to the target enterprise a high demand for its shares and therefore increases the

purchase reservation price. Tender offers are typically made in more competitive environments

with less risk of external interference (Offenberg & Pirinsky, 2014).

Proxy fight. A proxy fight or proxy battle is an aggressive tactic used by an acquiring

company when it becomes frustrated by the management and its defense of the target company.

The purpose of this strategy is to persuade current shareholders to use their proxy votes as a

means to force a corporate management change in favor of the acquiring party.

To counter this tactic, incumbent leadership uses different governance strategies such as

staggering the election boards, the controlling of corporate funds, and amending bylaws in their

favor. Because the odds are stacked in the current corporate government’s favor most proxy

fights end unsuccessfully (Klein, Ramseyer & Bainbridge, 2012).

Defense Strategies

Golden parachute defense. The golden parachute appeared over 20 years ago and is a

contract between a corporation and an employee, usually an executive. The agreement usually


states that upon termination of employment the employee will receive certain significant benefits

that include large severance packages, stock options, and bonuses. This is also known as change-

in-control benefits and is specific to a change in ownership of the corporation (L'Italien, 2012).

Rarely will these payouts be tied to the performance of the agent.

In their paper, Fich, Tran, and Walkling (2013) explain that advocates of this

controversial strategy argue it is a necessary means to attract and retain top executives (p. 1718).

The authors also suggest that the golden parachute is beneficial for the shareholders because it

holds management accountable for doing what is right in the event of a merger or acquisition

attempt. Those against this idea, on the other hand, object to it because there is no tie to actual

performance of leadership, both past and present. They argue that parachutes pay management to

fail regardless of return on investment for shareholders. Popular press has scrutinized golden

parachutes, expressing widespread concern for the lack of performance related payments.

Since the financial crisis in the late 2000’s, a large number of corporations in the United

States have made headline news for adjusting their excise tax gross after a change in control.

This brought forth the Dodd-Frank reform act that was introduced on July 21, 2010. This act set

a requirement for “a non-binding advisory vote regarding compensation arrangement that are

triggered by a merger or acquisition (Sun & Wong, 2012, p. 1).” Again, on January 25, 2011, the

Securities and Exchange Commission voted in an amendment to the Securities Exchange Act of

1934. This amendment added Section 14A which requires corporations that are soliciting votes

to approve a takeover, to disclose any golden parachute agreements beforehand. The law also

demands that the target conduct a separate vote by the shareholder advisory to approve any

golden parachute compensation (Fich, Tran, & Walkling, 2013, p. 1718). On February 4, 2009

President Barack Obama said of the golden parachute:


Companies receiving federal aid are going to have to disclose publicly all the perks and

luxuries bestowed upon senior executives, and provide an explanation to the taxpayers

and to shareholders as to why these expenses are justified. And we’re putting a stop to

these kinds of massive severance packages we’ve all read about with disgust; we’re

taking the air out of golden parachutes. (Fich, Tran, & Walkling, 2013, p. 1717)

Pac-Man defense. The Pac-Man defense is a unique strategy that puts the company at

risk in a position to turn the tables on the acquirer by attempting to reverse the takeover attempt.

The name comes from the famous video game where the protagonist, Pac-Man, consumes a

strategically placed power pellet that allows him to turn around and eat his enemy ghosts that are

trying to kill him. As seen in the video game, it is a highly aggressive preventative measure that

involves high risk and can be extremely destructive for the defending firm. To be successful with

the Pac-Man strategy the target must have enough assets and reserve capital to defend itself. The

results may end up putting the company in great debt which can put the company at risk against

another competing firm.

When an acquirer makes an unsolicited bid in an attempt to take over another company, it

may not be welcomed by the target’s management or board. The target firm will then use the

Pac-Man defense in an attempt to scare off the hostile firm. One of the more aggressive tactics is

to dip into cash reserves and start purchasing stock of the would-be acquiring firm.

Martin Marietta Corp. v. Bendix Corp. There are many recent examples of the Pac-Man

defense, most notably the 1982 case of Martin Marietta Corp. v. Bendix Corp. This case set the

stage as the first and only deal that was upheld in court as a valid defense to a takeover attempt.

The takeover attempt was first initiated when Bendix made a tender offer for Martin Marietta. In

response to the offer, Marietta countered with a tender offer of its own, borrowing large amounts


of money in order to fund the offer. As the case was being argued, the court held that the

directors of Marietta had acted in the best interest of the shareholders and that the belief of the

counter offer would best suit the needs of its shareholder rather than what had been offered by

Bendix.

Typically, this scenario can be expected when the target organization is larger than the

raider company. Larger firms generally have greater amounts of cash flow and liquid assets to

combat a hostile takeover bid. In some cases it has been seen that the target firm will buy a small

fraction of the attacker’s shares in order to initial legal claims in the capacity of a minority

shareholder (Nikhelesh, 2012). If the target firm is unable to acquire shares of the attacker due to

reasons such as a lack of funding or the shares have been consolidated and placed in the hands of

the attacker’s allies, then other tools of influence may be used such as bills of exchange or rights

of claim on the group it belongs to.

There are some cons to this defense strategy, however. One of the most common issues is

the requirement of large amounts of free cash or unsecured assets that are easily accessible. A

second drawback is that by developing a counter offer, it waives the any assertion the target may

have in regard to antitrust violations and represents a willingness for the target firm’s board to

agree to a merger, which may not be the case. Another drawback to consider is that this defense

does not prevent the takeover from happening but rather prevents the management of the target

corporation from losing their positions and control over the firm. Lastly, this defense does not

guarantee any of the previously mentioned goals. The target company, as seen in the Martin case,

can only win if it is capable of taking control of the raider sooner than it is overtaken.


Poison Pill defense. A Poison Pill defense, which is also known as a shareholder rights

plan, is designed to deter a corporate raider from taking control by making it too expensive for

the raider to acquire enough shares in the target company. By enacting a poison pill defense,

shareholders of the target firm are given special rights to acquire stock in their company at a

significant discount rate. These specific rights are “triggered by certain specified events, such as

the announcement of a cash tender offer of the acquisition by an outsider of a specified

percentage of the target’s share (“Poison pill,”).” These rights which take many forms are costly

and make it difficult to take control of the target company.

Poison Pills, although controversial, are widely considered to be the number one defense

for corporations resisting hostile takeovers. So long as the poison pill is in place, the target

corporation is nearly invincible to a takeover. Martin Lipton explained that the poison pill “is an

absolute bar to a raider acquiring control… without the approval of the company’s board of

directors (Kahan & Rock, 2014, p. 1999)” and he strongly advises companies to continue to have

a pill.

One tactic to keep a poison pill in place is to stagger the board of directors; allowing only

a portion of the board to be elected in a given year. By doing this, a company is able to prevent

any hostile acquirers from staging a successful proxy fight because it will be impossible to gain a

board majority in one year (Nikhelesh, 2012).

Due to the potency of this defense, it is viewed as illegitimate by many governance

officials. The legality of the defense has been questioned in many courts of law due to the nature

of the poison pill and how it alters the relationship of shareholders without their vote for

approval. In many instances, the board of directors adopt rights which place shareholders of the

same class in unequal positions involving corporate governance.


Hewlett-Packard and Compaq

One of the more famous hostile takeovers was between Hewlett-Packard and its

acquisition of Compaq in September 2001. HP bought out Compaq for an estimated $25 billion

in stock. The merger went through as planned on September 4, 2001 with shareholder approval

at 51% and was the largest deal the computer industry had ever seen (Yadav, 2012, p. 16). By

combining the two operations, HP was able to penetrate more than 160 countries and amass

145,000 employees worldwide (“Hp and Compaq,” 2006). The two organizations were very

different in terms of specialization within the industry. HP was a global leader in the high end

printing business while Compaq manufactured low end and entry level personal computers.

Industry experts agree that this merger was faced with multiple challenges. One of the

biggest hurdles the companies faced was integrating the two product lines. This requires

discontinuing products which results in a loss of revenue. Other problems that had to be

addressed were reorganization and cultural changes. The tech industry has been plagued by

failures of integrating internal structure and culture. HP was known as a creative and engineering

firm that made compromises where needed. Compaq however had a fast paced sales driven

organizational culture.

The merger created a global technology giant worth $87 billion with a revenue of $45.2

billion (Hoopes, 2010, p.13). However, within days after the merger announcement stock prices

of both HP and Compaq fell rapidly and an estimated $13 billion of market capitalization was

lost (“Hp and Compaq,” 2006). Shares continued to fall as industry analysts struggled to

understand the benefits that would come from the acquisition. Over time HP’s stock price began

to level out, but at a much lower value than before the merger had taken place. The PC, printer,


and other businesses continued to underperform and eventually the merger was deemed a failure

by market analysts.

Reverse Takeover

Reverse merger transactions take place when an existing public organization, ‘shell

company,’ acquires a private company, typically one that is actively seeking funding in the U.S.

markets. These deals typically involve the shareholders of the privately owned corporation to

exchange their shares for a large majority of the public company’s shares. Although the publicly

held company survives the transaction, the private company’s shareholders are given control of

the voting power and outstanding shares of the public company. In addition, management of the

private company will typically take over the board of directors and management of the ‘shell’

company.

A privately held corporation will typically pursue a reverse merger as a way to gain

access to the capital markets, bypassing the long and arduous process of going public on its own

through an IPO. Fees associated with accounting and legal work also tend to be much lower

when handled through a reverse merger than IPO. The private company is also able to bypass

any registration requirements under the Securities Act of 1933 which would be required for an

IPO (“Reverse mergers,” 2011).

Benefits. True Capital (n.d.), a financial firm experienced in the process taking organizations

public, lists the advantages of a reverse merger as the following:

A reverse merger transaction can be completed in a few weeks;

All of the transaction costs are known upfront so there are no surprises;

Disclosure documentation is not generally reviewed by the Securities and Exchange

Commission;


There are few parties involved, so transactions can close fairly smoothly;

Less time consuming for management;

Success is not dependent on marketing conditions;

A reverse merger transaction costs less than a traditional IPO;

Any legitimate operating business can become publicly traded through a reverse merger,

regardless of their financial size or condition.

Disadvantages. True Capital (n.d.) lists the following as drawbacks of a reverse merger:

Significant financial and legal due diligence is required of the private company before

entering into any transaction;

Post-transaction, the private company inherits all of the financial and legal obligations of

the public entity;

Often, the types of people involved in reverse merger transactions have questionable

ethics and integrity;

Shareholders of the public entity retain a small percentage of the outstanding shares

which results in some dilution;

Reverse mergers cost more than a Direct Public Offering;

No investment capital is raised with a reverse merger unless that is organized separately.

Merger and Acquisition Considerations

Costs

In his book, The Synergy Trap: How Companies Lose the Acquisition Game, author

Mark Sirower (1997) says, “Management researchers and industrial economists have described

additional costs that can easily arise from the increase bureaucratic complexities and friction

resulting in corporate combinations (p. 49).” These costs are often seen as a significant barrier


for organizations or individuals that are considering acquisition. These costs are calculated as a

way to determine the profitability of the deal. Before considering a potential merger transaction,

the tax and accounting departments must assess the costs that will likely be incurred during the

transitional process. Understanding how these costs impact the financial results of the

organization is critical in determining whether or not to pursue any merger and acquisition

opportunity. It is natural for the target company to protect its value, however, the raider firm

wants to settle the deal at the lowest price possible. Therefore, the cost of the transaction

ultimately depends on the target company.

Replacement costs, which refer to the cost of replacing the target company are very

important and, in many instances, determine whether or not the deal will take place. The value of

these costs are calculated by the sum of equipment, salary payments, and machinery. If the target

company does not agree to the price being offered, then it may be just as cost efficient for the

raider company to organize and create a competing firm using the same valuation of the merger.

One issue with this cost calculation is that most firms consider their employees and the skill they

possess as the true value, which is not calculated in the replacement costs (“Costs of mergers,”

2013).

It is important to identify and manage acquisition costs for many reasons. For one, the

costs of acquiring or merging with another corporation consumes lots of capital. These are

unavoidable and the financing activities from the takeover reduce the available cash flow of the

acquiring firm and impacts the future earning of the target company. In addition, the costs related

to the acquisition impact the Internal Rate of Return to shareholders and after-tax profits. In

addition, the size and complexity of the acquisition can add another 10-15% to the dollar amount

of the transaction cost. Outside of the purchase price, acquisition costs also include outside


service provider fees, internal and capital costs, intangible costs, and assimilation and operating

costs (“M & a,” 2005, p. 1).

Outside service provider fees. These fees include costs associated with professionals

who may assist with negotiations, planning, and performing due diligence. Examples of these

would be intermediaries, such as bankers or brokers, consultants, and accounting and legal

professionals. Additionally, other fees that should be considered are government agencies and

quasi-government agencies for the issuance of permits, licenses, and other approvals (“M & a,”

2005, p. 2).

Internal and capital costs. There are multiple internal costs the buyer has to be aware of

when considering takeover. These costs involve evaluations, coordination efforts, planning, and

corporate approval processes. When broken down, the firm must account for research and

presentation materials, employee salaries, and travel costs (“M & a,” 2005, p. 2).

Capital costs involve two forms of funding, costs of funding the transaction and the

actual returns paid to these sources, which includes both equity and debt. Funding depends on

the complexity and size of the transaction, which could involve fees equal to a certain percentage

of the funds needed. These fees are typically paid at the time of funding from the proceeds and

have to be factored in to the overall funding amount. Once the funding has been secured, a return

is then set aside for those who funded the transaction, this is generally stated in the terms of

agreement. Aside from these costs the credit rating of the buying organization may change,

resulting in either an increase or decrease in corporate borrowing rates such as repayment

periods, interest rates, and advancement rates.


Intangible costs. The previously mentioned costs add up and can be recorded, however there are

certain intangible costs cannot be easily defined. There are opportunity costs to consider such as

resources which could have been used for organic growth or alternative investment

opportunities. The newly acquired firm may need severe reorganization that requires more

management than previously planned, taking attention away from other issues. Lastly, dealing

with such a large transaction can result in unexpected and even undisclosed liabilities associated

with the target company which can impact finances and possibly future capital funding (“M &

a,” 2005, p. 2).

Assimilation and operating costs. These costs are necessary for the buyer to control the

acquisition. The goal of merging two corporations is to integrate the entities rather than

assimilating them. Costs associated with this include retraining employees and retaining them,

replacing and integrating information systems, and bringing on consulting services to assist with

the integration.

Although buyers are always looking to save costs in every way possible, operating costs

can be unpredictable. The stress of transitioning can have a negative influence on the

productivity of employees which may radiate to customer attrition. If the joined entity requires

layoffs there is a cost associated with unemployment insurance and early retirement packages.

Changes in benefit packages can lead to increased premiums. The acquiring firm should also

research the target company’s financial reporting, otherwise it could result in accounting costs to

satisfy requirements and funding covenants of investors (“M & a,” 2005, p. 2).


Culture

Edgar Schein defines culture as “an abstraction, yet the forces that are created in social

and organizational situations deriving from culture are powerful. If we don’t understand the

operation of these forces, we become victim to them (Schein, 2010, p.7).” Gene Gitelson, John

W. Bing, Ed.D. , and Lionel Laroche, Ph.D., P.E. (2000) conducted over 100 interviews of senior

leadership over the course of a two year study that involved over 700 M&A deals. The

overwhelming consensus of failure was directly related to the people and the cultural differences

of the two organizations. These difficulties are amplified when the two organizations from

different countries face cross-cultural situations (p. 1). When cultures collide people begin to feel

frustrated and employee morale drops.

Integration. Dale Stafford and Laura Miles (2013) suggest that successful cultural

integration should involve certain key steps. First, organizations need to set a cultural integration

agenda that should include what type of culture they wish to see emerge from the combined

firms. Next, companies need to diagnose important differences using tools such as interviews

and surveys. These can lead to informative discussions about managerial styles, attitudes, and

accountability.

As soon as the agenda has been set and the necessary feedback is collected, the

organization needs to define the type culture it wants to build. There are two jobs associated with

this step involving determining the gaps that need to be filled, and creating a vision of the future

culture that goes beyond the values and vision statements. Organizational culture is no longer

defined with themes but with behaviors, incentives, and measures that will be adopted.

Lastly, the authors recommend developing the plan and create a way to measure progress.

Development of the plan should focus on certain groups of employees. Diagnosing the


differences within these groups will help the company define the specific behaviors it wants to

achieve. Once these behaviors have been identified, rewards and consequences can be

implemented to reinforce the desired behaviors. To measure and assess the behaviors the

company can develop programs such as customer surveys to evaluate the overall customer

experience.

Pitfalls. ITAP International published a well written article on the impact of culture on

mergers and acquisitions. The authors of this article, Gene Gitelson, Dr. John Bing, and Dr.

Lionel Laroche (2001), highlight seven critical and sensitive areas of the M&A transaction that

should be evaluated before following through with the transaction. These pitfalls are as follows:

o Preoccupation. Employees will often question how the takeover will impact their

work lives. This can lead to weakening commitments and in turn defecting from

the organization to another company or a competing firm. Gitelson, Bing, and

Laroche (2001) point out that employees, both management and those below

them, lose their effectiveness at a minimum of 15% due to worry, rumors, and

misinformation about the merger (p.1). To combat this issue, management needs

to create a strategy that focuses on accelerating integration. By speeding up the

process, firms can reduce anxiety and uncertainty.

o List-making. Comprehensive list-making is a logical response to having an

organization turned upside down. By creating lists, it gives employees and

management something to do and helps to suppress anxiety. Certain cultures

handle tolerating uncertainty differently. For example, if a more structured

organization that has clearly defined roles is acquired by a company that does not

share those same cultural norms, the target company look for structure and


information that is not available because the other firm might not think it is

necessary. The target firm often times will drop in efficiency and confidence

because they are used to having direction. In order to make sure the integration of

two different cultures continues to be beneficial for both firms, the workforce

must concentrate on the 20% of work that yields 80% of the revenue. It is

important that this is established during the first 90 days of the merger (p.2).

o Organizational Proliferation. During the transitional process, many organizations

will form different committees, task forces, and integration teams that are tasked

with handling and putting together new lists. These groups typically represent the

new partnership while guiding it through the restructuring process. Having strong

support and clear leadership is important for these teams to be successful. During

this time there can be a great amount of uncertainty and questions which can

drown out the overall message of the management teams. It is recommended that

organizations overemphasize communication and keep in mind that the

interpretation of a message not only lies in the receiver, but the sender as well.

o Communication. When two firms merge, it is common that each has a different

language and way of communicating information to its employees. This leads to

communication breakdowns and misinterpretations. Sometimes there is a

complete lack of communication and transfer of information which can cause

rumors and fear to develop. The authors suggest repeated communication, at least

seven times, using multiple outlets. Of 124 mergers that were surveyed by

PicewaterhouseCoopers, effective communication strategies that were

implemented early on showed greater results in customer focus, productivity, and


commitment than firms that had delayed any form of communication strategy

(p.3).

o Triangulation. Without a clear path or understanding of where they might fit in,

management and employees may not know what their objectives are which can

result in them falling back into old loyalties. Having this organizational

strangulation can deplete a new firm from the energy it may very well need to

overcome the previously mentioned areas of concern such as loss in productivity

and personnel. ‘Paralysis’ can occur when employees do not have a defined

purpose, and depending on the merging cultures, can lead to misunderstood

expectations. Through concentrating on substance rather than form, employees

will have a clear understanding of what their goals are and become more

comfortable with the new organization.

o Relatives. This is not talking about our in-laws, rather the term describes the

“relative forces of time and space (Bing, Gitelson & Laroche, 2000, p. 3).” Those

involved in a takeover decision making process began their adaptation long before

those who were told the day of the announcement. Because those involved have

been entrenched in the complexities of the deal, oftentimes they wonder why

others do not understand. They may interpret this as resistance rather than

confusion and shock. Time is relative and the concept of time is determined

differently by each culture. The phrase “long-term” means one thing in the United

States and another in Japan. Helping those through the transition period by

guiding and supporting them can help them to embrace the changes. Management


can also allow for departments to temporarily navigate between the old ways and

new ways of doing things to help them adjust to the new culture.

o The guiding light. There is no more of a crucial time than during a merger where

leadership is needed. Leaders are in a position to share the company’s vision and

to inspire those around them to accept it. Transparency, as much as possible, can

capture factors that are critical to economic success. One of the best ways to

influence change is to place true representatives in key positions who are effective

at leading individuals from both firms and who demonstrate the new culture (p.4).

Cultural integration is something that cannot wait until a merger has been completed. Part

of the process organizations should go through is a sophisticated analysis of the different cultures

and to prioritize any issues that may put the synergy value at risk. By utilizing the right tools and

stimulating a positive and excited leadership team, culture integration can be successful.

Conclusion

No business is capable of functioning the same way forever. As the global economy

continues to grow, there will be an increase in external and internal factors. These changes will

continue to have an impact on the direction of the firm, its setup of authority, communication,

and the responsibility of management. Mergers and acquisitions can be successful if the

transition is done with efficiency, concentration, and adaptation.

Right up to the point where contracts are signed the deal is mostly financial. However as

soon as the ink is dry, the deal quickly becomes human as emotions settle and fight or flight

instincts begin to take over. Every year billions of dollars in shareholder value is put at risk in

high-profile deals that are doomed from the start. If merging organizations wish to be part of the


few and the proud 17% of successful transformations, they must consider the costs and overcome

cultural divides.


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Master Thesis Mergers and Acquisitions

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