Wednesday, 29 December 2010

Perhaps you should promote the poaching?

Seeing your star employees being poached by a rival always seems a bit of a bummer. And rightly so. We know from research, on industries as varied as semi-conductors and mutual funds, that they often take valuable knowledge with them and therefore enhance the performance of your rivals. And indeed, research on Silicon Valley law firms as well as on Dutch accounting firms*, shows that moving employees do not only enhance the survival chances of the poaching firms but also decrease the survival probability of the firms from which they were poached. This was especially true if the employees moved in groups and if it concerned geographically proximate rivals, because they are the ones you are especially in competition with.

Customers poaching

So far the bad news. But can there be any upside to your employees being recruited? Well, yes, actually there is definitely a potential upside to that as well – especially if your employees are being hired by your customers, as professors Deepak Somaya, Ian Williamson and Natalia Lorinkova discovered. They examined the movement of patent attorneys between 123 US law firms and 109 Fortune 500 companies from a variety of industries. And they found strong evidence that if a client company recruited a patent attorney from a law firm, subsequently that law firm would start to get significantly more business from that company.

Hence, your employees leaving for your clients can be a good thing; they bring you valuable business. McKinsey – always ranked as one of the most admired professional services firms in the field – understands and manages this process particularly well; once you have been employed by McKinsey you automatically become “an alumnus of The Firm” (rather than a deserter). The firm carefully nourishes its relationship with its “alumni”, because they subsequently bring a large chunk of their business through the door.

Competitors poaching

Recently, professors Rafael Corredoira from the University of Maryland and Lori Rosenkopf from the Wharton School even found a beneficial effect of your employees being poached by rival firms. Using patent analysis studying US semi-conductor firms, they examined the transfer of knowledge between pairs of firms: the firm from which the employee was poached and the poacher. Not surprisingly, there is quite a bit of evidence that when this happens, knowledge transfers to the poacher; it comes in the form of the brains of the newly arrived recruit. However, Rafael and Lori also discovered that, as a result of employees moving to another firm, the old employer also experienced knowledge inflow from the recruiting firm!

Now, how is that possible? Someone moves out and, as a consequence, you gain knowledge from the place they went to?! Well, that’s because in real life we often socialize with our colleagues. When they start to work for a different firm, this does not mean that we stop talking to them. And what do they talk about? Well, work… While having a drink or two, former colleagues exchange information about how things work at their new place, how they solved a particular problem over there, what technology they use, and how they have got their processes organized. And you benefit from that.

Perhaps slightly surprisingly, Rafael and Lori’s findings showed that this exchange of knowledge was especially pertinent if it concerned a geographically distant firm. They conjectured that that is because there are other means in which you can get knowledge from rival firms that are nearby; perhaps then it is likely that you already have friends there, go to the same local conferences anyway, or that your kids go to the same school. Whatever the reason, it seems evident that if your employees are at risk of being poached by a rival firm, make sure it is done by one far away: you don’t suffer the adverse consequences of a strengthened competitor as much, but you do get the knowledge inflow upside.

Hence, scrap the non-compete agreements and gardening leaves, but only on the condition that they are moving far away, and promise them a sumptuous dinner and lavish drinking budget if they come back to visit their old friends at the firm.

Wednesday, 22 December 2010

Does the stock market appreciate management consultants?

Management consultancy has boomed over the past decades. I recently saw a statistic which showed that in 1980 global revenues in the consultancy business equalled $3 billion. By 2005, it was more than $150 billion.

But what does it say about you, as a company and management team, when you are hiring a management consultant to help you out, with your strategy or organizational structure? On the one hand it is a good thing, right; you are not afraid to ask for help, and management consultants can bring in valuable outside knowledge, ideas, and experience. On the other hand, it could be interpreted as a bit of an admission of defeat… “we’re not able to figure it out ourselves”, “we have run out of ideas and options”, “we’re in seriously trouble; we need help” or something along those lines. Plus, these pin-striped guys do not exactly come cheap.

Whatever way you put it, it is some sort of a signal – either openness to outside ideas or a signal of brewing trouble. And signals are what the stock market is always on the lookout for, like a vulture spotting the slightest of limps in a wounded animal or, perhaps more kindly, some green shoots to announce the arrival of spring. So, it is an interesting question: does the stock market usually respond negatively or positively to a firm hiring a management consultant?

Professors Don Bergh from the University of Denver and Patrick Gibbons from University College Dublin set out to examine exactly this question. They collected information on 116 listed firms that publicly announced hiring a management consultancy, and statistically analyzed whether such an announcement increased or decreased the firm’s share price. And the answer was clear: share price increased with an average of 1.4% by the hiring of such an advisory firm. Now that’s value for money for you; the pin-striped guys haven’t even done anything yet and your company has already increased in worth.

But did everybody experience this uplifting effect? Not really: Don and Patrick also found that this entire effect could be attributed to well-performing firms; firms that already were healthy and profitable before bringing in the advisor saw quite an upsurge in their share price – apparently the market thinks that the combined forces will be able to make the company grow even faster. However, underperforming firms – firms with a more dismal financial track record – did not benefit at all from hiring a consultant. As a matter of fact, the stock market’s reaction would even turn negative for the real sub-par performers. Apparently, in that case it is interpreted as a sign that the company is in even more dire straits than originally assumed.

But might this not be dependent on who you hire, thou might wonder? Surely McKinsey, BCG, Bain or Booz Allen must be viewed differently by the market than some second-tier cheap-suit shop? Well, ehm… no. The stock market’s reaction was exactly the same no matter who the firm hired; whether it was McKinsey, some local chaps, or one of the big accounting firms doing a bit consultancy on the side; the market did not care. Apparently, it doesn’t matter whose help you ask, but it sure matters whether you ask for any at all.

Friday, 17 December 2010

The stock market generally hates acquisitions, but here is an exception to the rule

In about 70 percent of the cases, the stock market responds negatively to the announcement of an acquisition. Put differently, despite their popularity, the average take-over destroys value for the acquiring firm. There are literally hundreds of good academic studies that consistently show that effect. For long, it was actually quite impossible to find any category of acquisitions that defied this rule and made some money, but lately a few studies have started to emerge that identify types of acquisitions that are seen in a more positive light by the ever elusive stock market.

One such sub-sub-subcategory of acquisitions that do appear to make at least a little bit of money are international acquisitions that were preceded by an alliance between the merging firms, especially if it was a strong form of an alliance, i.e. an R&D or Marketing alliance or prior buyer-supplier relationship (rather than a mere equity stake or licensing agreement). I know, it sounds like a very very specific category but I am already glad we have at least found one.

Although such alliances-turned-acquisitions are pretty rare – as evidenced by research by professor John Hagedoorn from Maastricht University – there are examples of firms doing it that way consistently: Cisco is well-known for turning dozens of small equity alliances into full-fledged take-overs and also Heineken has been using this incremental approach over the years with much success, consistently first cooperating with local breweries before fully acquiring them.

And in a way I find it understandable why, although rare, this type of acquisitions has a pretty decent track record. Acquisitions are just very hard to do. They usually are fraught with information asymmetries; basically most firms don’t have a clue what they’re buying. And due diligence is not going to solve that problem; acquisition integration is often hampered by cultural differences, incompatible systems and plain mistrust – something you don’t just look up in the company’s books beforehand. Hence, the troubles are hard to avoid.

But a preceding alliance might actually do that trick for you. Having lived through a lengthy alliance before the deal (“a lat relation before moving in together”) will have reduced these information asymmetries and unfamiliarities while, crucially, in the process, may well have bred some much needed trust. Because trust is definitely what you require abundantly when merging households (although precisely then, it often is in short supply…).

Professors Aks Zaheer, Exequiel Hernandez and Sanjay Banerjee from the University of Minnesota examined such alliances-turned-acquisitions and assessed how the stock market responded to their announcements. Let’s say it was a weak “yes”: unlike the average take-over, the stock market had a weak but positive appreciation of these types of deals. Where the stock market usually responds negatively to an acquisition, they found that if the take-over was preceded by an alliance between the firms, the share price of the acquiring firm increased after the take-over announcement.

This results was really only true though (i.e. “statistically significant”) if it concerned an international acquisition. And in a way I find that understandable, because the issues of information asymmetry, cultural differences, and mistrust are clearly aggravated in the case of a cross-cultural merger. Hence, in these cases, a prior alliance proves particularly helpful.

So, see, there is a glimmer of hope after all, for the track record of M&A. All it needs is a bit of patience and fidgeting around before engaging in the real thing.

Monday, 13 December 2010

Acquisitions – finally something to cheer about…?

Decades of research scarily consistently shows that most acquisitions destroy value, and only cost the acquirer money. There is really no denying it – all “ifs” and “buts” have been raised, examined and rebutted – about 70 percent of acquisitions fail. That is because acquirers are usually inclined to overpay (under pressure from bankers, the press and their own adrenaline; a take-over premium of 60-80 percent is really nothing unusual) and because managers systematically overestimate their potential for value creation; integration is often much harder to pull off than one thinks and “synergies” carry you only so far. So far the (familiar) bad news.

Slightly to my surprise though – although not unwelcome – over the past years a few studies have emerged that managed to identify categories of acquisitions which on average do create surplus value. And the first category identified is actually quite a sizeable one: the acquisition of private firms. Pretty much all of the research on M&A is conducted on public firms; that is, firms listed on the stock market. And that is understandable because we simply have much more information on them; because they’re public firms, they more consistently gather and report data and, of course, share price data is available. Hence, we can examine them better.

Professors Laurence Capron from INSEAD and Jung-Chin Shen from York University managed to obtain data on a large number of private deals and, guess what, in contrast to the public deals they examined, these did create some value! Where the take-over of a public target made the share price of the average acquirer fall by about 1 percent; the acquisition of a private target raised it by an average of 4 percent. That may not seem overly impressive to you but it’s really quite a bit of peanuts if you calculate its monetary equivalent – certainly in comparison to the abysmal take-over track record of public deals.

But how come these private take-overs do appear to create some value? Well, that’s a bit of speculation, but Laurence and Jung-Chin had an informed suspicion: information asymmetry. Because, by definition, information about private firms is usually not publicly available, there would also be much fewer buyers aware of the juicy take-over target, and that it was possibly available at a bargain. Consequently, there were fewer bidders and more opportunity for value creation for the eventual acquirer.

Consequently, private deals usually do better than public ones. They might be a bit murkier, hidden and not as glamorous, but hey, they actually make you some dosh!

Monday, 6 December 2010

The looks of a leader

Attractive people are generally seen as more competent and fit for their job. For example, experiments using headshot photographs of people mixed with random CVs generally show that people rated as physically more attractive also receive higher ratings in terms of “job competence”. Men deemed to be handsome are more likely to be regarded good business leaders. Yet, we know that, at the same time, for example intelligence and physical attractiveness don’t correlate (positively or negatively!). Hence, it is purely a physical preference; and nothing else.

The most striking example and evidence of this I found was not in an experiment on business leaders but from an experiment on political leaders – although I am sure the situation won’t be much different for business leaders.

Two researchers from the faculty of business and economics at the University of Lausanne - John Antonakis and Olaf Dalgas – ran an experiment in which they gave 684 people in Switzerland photographs – and nothing else – of the pairs of faces (the winner and runner-up) from the run-off stages of the 2002 French parliamentary election. These Swiss people would never have seen and did not know anything about these sets of two candidates. Subsequently they asked them “who do you think will win this election?” In 72 percent of the cases, having seen only the two photographs, people predicted the results of the elections correctly… That’s probably a lot better than most political analysts.

Then they got a little mischievous; they gave the photographs to 681 children and told them “we are going to play boat; who do you want as captain of our ship?” In 71 percent of the cases, the children’s’ choice correctly predicted the winner of the local French parliamentary elections.

We pretend – mostly to ourselves – when selecting a job market candidate, filling out a ballot, or choosing a leader, that we carefully weigh the pros and cons, assess someone’s experience and competence, and make a well-informed rational choice. Yet, in reality, at the end of the day, we’re all just playing boat.