Merger Integration: Challenges and Pitfalls

In every acquisition there are two phases: the transaction phase and the transition phase. The transaction phase includes all the steps leading up to the closing – from creating the acquisition target strategy and conducting the target search to performing the due diligence right through to structuring and negotiating the deal. The transition phase includes all the processes that take place after announcing the deal – the planning, management, and actual operational execution of the merger. 

Rather than focus on the transaction phase, which has its own set of challenges to overcome in estimating the true potential value of a company, this article will focus on the area where most companies stumble during a merger – the critical transition phase. Our experience shows that while there are hundreds of specific tasks that need to be executed well, all successful transitions have three important elements in common: rigorous value measurement, speed and communication.

Rigorous Value Measurement

The overall measure of merger success for shareholders is the increase in operational cash flow (or EBITDA) that is generated by the newly combined company. Management must clearly define, quantify, prioritize and measure the achievement of operational cashflow targets. This is a critical ongoing process. While it is understood intellectually, it is most often fumbled in executing the transition. Below are the three keys to success in this area:

• Establish immediately a detailed pre-merger baseline to measure the improvements achieved. It is amazing how many times this simple step is not done in a rigorous way, leading to ongoing debates regarding actual improvement. Without a clearly communicated baseline, the value created, i.e. the increase in operational cash flow, is difficult to measure. The process for defining the original baseline becomes more difficult as the integration process progresses. Each component of operational cash flow, e.g. revenue, expense – both cost of goods sold (COGS) and selling general and administrative expense (SG&A) – working capital and fixed capital, must be decomposed so that the starting point for improvement is established. On the expense side, the starting headcount should also be documented in detail so that changes can be clearly measured.

• Hold individuals and teams accountable for achieving value by assigning specific targets and tying incentives, where possible, to achievements. Incentives can be powerful forces in pushing managers to work cross-functionally, plan aggressively, and drive required actions to ensure targets are met. The targets should be assigned at the lowest practical level. For example, specific working capital targets should be set for payables, receivables and inventory levels by business unit or geography (or whatever organizational unit makes sense for the specific situation). Each department or functional area should set SG&A expense and headcount targets. COGS targets should be set by purchased raw material categories and manufacturing location, again, at the lowest level that is practical. Although rough estimates of ‘synergies’ were made during due diligence, lack of time and information during that process makes it important to re-set targets as more knowledge is gained during the transition process.

• Develop a detailed measurement system and process to capture planned and achieved value. Without a solid measurement programme, targets, incentives, and accountability have no power. In addition, a strong measurement system can support compelling success stories to keep employees focused and motivated, customers and shareholders excited, and competitors on the defensive.

It is impossible to over-measure the value achievement during the merger integration process.

Speed

Speed is an important factor in a successful integration. This is due, in part, to simple financial considerations: the faster the combination achieves cost savings and revenue enhancement, the larger the net present value of the operational cash flows and the greater the return on investment. But speed is also important for organizational reasons.

Management can harness the energy released by a merger to accomplish significant change. The merger announcement has a way of unfreezing an organization but it creates just a small window of opportunity. Initiatives not undertaken within the first 90 days after the close are unlikely to be tackled at all. The longer the transition takes, the more employees will gravitate back to the status quo, causing the loss of any early momentum and the stagnation of any major change initiatives.

Remember, it is impossible to go too fast in executing a merger.

Communication

People have an unending thirst for information, and if they don’t receive a steady stream of honest, straightforward information regarding the merger, the rumoUrs will take over. People may not like the message, but they always appreciate being told the truth. For example, if decisions have already been made regarding leadership roles, headquarters location, and facility closures, these need to be communicated as soon as possible.

It is also very important to communicate the vision, priorities, and ground rules for the transition process as early as possible. This is a great opportunity to articulate and drive cultural, behavioral and performance change in the combined organization. But the content must be well thought through and communicated repeatedly using every possible vehicle, from e-mails and voicemails, to lunches and small group discussions, to town hall meetings and video conferences. It is impossible to over-communicate in executing a merger.

Conclusion

Negotiating the ‘deal’ and closing it is no easy task, but the work involved in integrating two companies after the closing dwarfs the pre-closing tasks in terms of complexity, risk and sheer volume of work. However, keeping these three guiding principles clearly in the forefront will help maximize the value realized as a result of the merger:

• Measure value achievement more rigorously than feels necessary.
• Go faster than feels comfortable.
• Communicate more than feels appropriate.

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