Takeover or merger; next stop: administrators
If you’re in a big company, you know the four most exciting events in your career are a takeover, a merger, a royal commission and insolvency. Rarely do you get the quadfecta up, but often a takeover or a merger can lead to a phone call to the administrators. In fact, around 75 per cent of deals fail and leave the shareholders asking why.
For example, why did internet pioneer and owner of America’s best-known brand, AOL, pay $230 billion to buy Time Warner in the biggest merger in history to create a $342 billion company in 2001? And AOL used in its own shares, not real money, to acquire what was then the world’s largest traditional media company. The new company’s stock market value was about the same as the gross domestic product of Mexico. Two years after the deal, AOL Time Warner reported the biggest loss in history, $140 billion.
A few months ago, the last remnants of the world’s biggest deal disappeared. As The New York Times said, it “marked the end of time … today none of the sprawling businesses that made up AOL Time Warner stands as a separate publicly traded company”.
Mergers and acquisitions are governed by six universal laws:
1. To paraphrase Sir Frank Packer on his reason to enter the America’s Cup, “Most deals are entered into because of alcohol and delusions of power”.
2. There are no mergers of equals, only winners and losers.
3. Mergers destroy shareholder value: most fail and 30 per cent of acquisitions are divested.
4. The strong firm generally destroys the value in the target.
5. The major factor in the destruction is the wrong definition of “synergy”, “fit” etc.
6. Once a deal is announced it moves from a financial to a human transaction.
And so it was with AOL and Time Warner. As Nina Munk wrote in her book Fools Rush In: “Few Time Warner executives knew about the pending deal until hours before it was announced, and even fewer executives supported the proposal. Due diligence for the two years after the merger only took three days and many of the merged company’s top managers sold large chunks of stock (including AOL boss Steve Case, who sold shares worth $140 million) shortly after the deal closed.” Case admitted this year that culture was one of the problems at the heart of the failure.
Case was talking about how the universal laws play out. Wish-driven strategies and delusions of grandeur cause acquirers to overvalue the synergies. In fact they often don’t know what synergy means. Synergy should mean an increase in competitiveness and resulting cash flows beyond what the two companies would have accomplished independently. And acquisitions usually lift costs rather than reduce them, and research shows economies of scale are just another delusion. Then there’s culture. When two organisations are brought together, ambiguity causes people to defend their position, so they compete in an attempt to show that their operating style is best. The cultural issues pay competing versus cooperating and the smart key executives and knowledge workers leave.
As former Time Warner president Richard Parsons said, “The business model sort of collapsed under us, and then finally this cultural matter. It was beyond certainly my abilities to figure out how to blend the old media and the new media culture. They were like different species, and in fact they were species that were inherently at war.”
So are all deals a waste of time and shareholders’ cash? Most companies do deals because the market rewards growth. Often a deal is an admission of failure. That management don’t know how to fix their own problems and/or grow organically. Transformative acquisitions are generally the stuff of fairytales. If you can’t transform your own company because of your culture, why would you think buying another one will do it for you?
Ted Turner, the biggest shareholder in the company, could have been speaking for all shareholders in merged failures when he said: “The Time Warner-AOL merger should pass into history like the Vietnam War and the Iraq and Afghanistan wars. It’s one of the biggest disasters that has occurred to our country. I lost 80 per cent of my worth and subsequently lost my job.”