Integration: Mergers, Acquisitions, and Business Alliances

1. Integration: Mergers, Acquisitions, and Business Alliances

2. What could be worse than being without sight? Being born with sight and no vision. —Helen Keller

3. Course Layout: M&A & Other Restructuring Activities Part I: M&A Environment Part II: M&A Process Part III: M&A Valuation & Modeling Part IV: Deal Structuring & Financing Part V: Alternative Strategies Motivations for M&A Business & Acquisition Plans Public Company Valuation Payment & Legal Considerations Business Alliances Private Company Valuation Regulatory Considerations Search through Closing Activities Accounting & Tax Considerations Divestitures, Spin-Offs & Carve-Outs Takeover Tactics and Defenses M&A Integration Financial Modeling Techniques Financing Strategies Bankruptcy & Liquidation Cross-Border Transactions

4. Current Learning Objectives • Primary learning objectives: To provide students with knowledge of • Factors critical to successfully integrating businesses, • Post-merger integration planning, and • Key activities that make-up the integration process • Secondary learning objectives: To provide students with knowledge of • Post-merger integration organizations • How to develop communication plans • How to create a new organization • How to develop staffing plans, and • Integrating corporate cultures

5. Factors Affecting Successful Integration • The pace of integration • Integration planning • Effective communication • Customer focus • Making the tough decisions early • Focusing on the highest leverage issues

6. Viewing Integration as a Process • Integration planning • Developing communication plans • Creating a new organization • Developing staffing plans • Functional integration • Integrating corporate cultures

7. Integration Planning • Use due diligence to determine post-closing sequencing of events necessary to realize potential savings • Resolve contract-related transition issues in purchase agreement • Employee payroll and benefits claims processing • Seller reimbursement for products shipped before closing for which payment not received • Buyer reimbursement for vendor supplies/services received before closing for which payment had not yet been made • Ensure contract closing conditions include those necessary to facilitate integration (e.g., employee contracts, agreements not to compete) • Develop post-merger integration organization (management integration team “MIT”) consisting of both target and acquirer managers to • Build a master schedule of what should be done, by whom and by what date • Establish work teams to determine how each function and business unit will be combined • Establish post-closing communication strategy for all stakeholders

8. Albertson Acquires American Stores: Underestimating Integration Costs When Albertson’s acquired American Stores (owners of the Lucky supermarket stores) for $12.5 billion, making it the nation’s second largest supermarket chain, with more than 1000 stores, the corporate marriage stumbled almost immediately. Escalating integration costs caused profits to tumble almost following closing. In the first quarter of operation, combined operating profits fell 15% to $185 million, despite an increase in sales of 1.6% to $8.98 billion. Albertson’s proceeded to update the Lucky supermarket stores that it had acquired in California and to combine the distribution operations of the two supermarket chains. It appears that Albertson’s substantially underestimated the complexity of integrating an acquisition of this magnitude. Albertson’s spent about $90 million before taxes to convert more than 400 stores to its information and distribution systems as well as to change the name to Albertson’s. By the end of the year following closing, Albertson’s stock had lost more than one-half of its value. Discussion Questions: 1. In your judgment, do you think acquirers’ commonly (albeit not deliberately) understate integration costs? Why or why not? • Cite examples of expenses you believe are commonly incurred in integrating target companies.

9. Developing Communication Plans • Employees: • Address the “me too” issues immediately • Communicate frequently and honestly how the merger will affect employees • Customers: • Under-commit and over-deliver • Acquisition-related customer attrition • Meet commitments to current customers • Suppliers: Develop long-term vendor relationships • Investors: Maintain shareholder loyalty by presenting a compelling vision. • Communities: Build strong, credible relationships

10. Discussion Questions • Why is the pace with which businesses are integrated important? Be specific. • Why is it critical to make the tough decisions about who to put in key management positions early in the integration effort? • Why are firms likely to lose customers during the integration period?

11. Creating a New Organization • Learn from the past: Prior organization charts for both firms provide insights into individual expectations concerning future reporting relationships • Business needs drive organizational structure: • Structure facilitates decision making, provides internal controls, and promotes desired behaviors • Basic structures include functional, product, or divisional • Decentralized versus centralized structures • Integrate corporate culture: Balance need for control with need for flexibility • Merging corporate boards (outsiders improve effectiveness) • Integrating senior management (select managers from both companies best suited for implementing strategy) • Once selected, senior managers should be given full responsibility for selecting their direct reports

12. Developing Staffing Plans • Personnel requirements: • Determine what functions are needed by the combined businesses • Project personnel requirements by function • Employee availability: Consider current employees as well as those within communities in which new company has operations • Plans and timetables: Match skills of current employees with those needed by new firm to determine “gaps” • Compensation: Consider base pay, incentive plans, and special contractual arrangements. • Integrating compensation plans: Extent of integration depends on whether target to be managed separately or wholly integrated. • Personnel information systems: Integrate to achieve operating efficiencies unless plan to divest units at a later date.

13. Functional Integration • Due diligence data revalidation: Verify assumptions • Performance benchmarking: Compare actual performance with industry “best practices” • Functions • Manufacturing and operations (facility consolidation) • Information technology (90% of acquirers combine operations) • Finance (implement internal controls and financial reporting) • Sales (implementing cross-selling frequently a challenge) • Marketing (avoid brand confusion) • Purchasing (potential 10-15% reduction in purchasing costs) • Research and development (set priorities consistent with strategy) • Human resources (decentralizing hiring & training; centralize benefits administration, management systems and planning)

14. Integrating Corporate Cultures • Cultural issues: Differ by • Size and maturity of company (start-ups versus mature) • Industry (high tech versus finance and retailing) • Geographic location (domestic versus foreign) • Cultural profiling: Using employee surveys and interviews, identify • How the target and acquirer cultures are alike and how differ • Characteristics of both cultures that are to be encouraged • Techniques for integrating corporate cultures: Establish shared • Goals to foster desired behavior • Standards based on “best practices” • Services such as accounting, legal, public relations, internal audit, benefits planning, R&D, and information technology • Space by co-locating employees

15. Overcoming Culture Clash: Allianz AG Buys Pimco Advisors Allianz AG, the leading German insurance conglomerate, acquired Pimco Advisors LP for $3.3 billion, boosting assets under management from $400 billion to $650 billion and making it the sixth largest money manager in the world. The cultural divide separating the two firms represented a potentially daunting challenge. Allianz’s management was well aware that firms distracted by culture clashes and the morale problems and mistrust they breed are less likely to realize the synergies and savings that caused them to acquire the company in the first place. A major motivation for the acquisition was to obtain the well-known skills of the elite Pimco money managers to broaden Allianz’s financial services product offering. Although retention bonuses can buy loyalty in the short run, employees of the acquired firm generally need much more than money in the long term. Pimco’s money managers stated publicly that they wanted Allianz to let them operate independently, the way Pimco existed under their former parent, Pacific Mutual Life Insurance Company. Allianz had decided not only to run Pimco as an independent subsidiary but also to move $100 billion of Allianz’s assets to Pimco. Bill Gross, Pimco’s Legendary bond trader, and other top Pimco money managers, now collect about one-fourth of their compensation in the form of Allianz stock. Moreover, most of the top managers have been asked to sign long-term employment contracts and have received retention bonuses. Joachim Faber, chief of money management at Allianz, played an essential role in smoothing over cultural differences. Led by Faber, top Allianz executives had been visiting Pimco for months and having quiet dinners with top Pimco fixed income investment officials and their families. The intent of these intimate meetings was to reassure these officials that their operation would remain independent under Allianz’s ownership. Discussion Questions: 1. How did Allianz attempt to retain key employees? In the short run? In the long run? • How did the potential for culture clash affect the way Alliance acquired Pimco? 3. What else could Allianz have done to minimize the culture clash?

16. Mechanisms for Integrating Business Alliances • Leadership: Establish a shared vision. • Teamwork and role clarification: Establish teams with clearly identified roles and responsibilities • Coordination: Exert control through coordination rather than mandate. • Policies and values: • Ensure employees understand how decisions are made. • Communicate who will be held accountable and how rewards are determined. • Consensus decision making: Give all participants opportunity for ample input, but make decisions within a reasonable time frame. • Resource commitments: Partners should live up to commitments to contribute high quality resources.

17. Discussion Questions • Identify the main challenges of developing a new organization for the combined businesses. How would you attempt to resolve these challenges? Be specific. • What are the common methods for integrating corporate cultures? Of these, which do you believe would be the most important? Explain your answer.

18. Things to remember... • Post-closing integration is a critical phase of the M&A process • Integration can be viewed as a process consisting of six activities • Except in highly complex situations, combining companies should be done quickly to • Minimize key employee, customer, and supplier turnover • Eliminate redundant assets, and • Achieve returns expected by shareholders • Successfully integrated M&As are those whose management candidly and continuously communicate a clear vision, set of values, and unambiguous priorities to all stakeholders • Unlike M&As, integrating business alliances is usually a lengthy process because of shared control and the overarching need to gain consensus on key decisions