Can countries benefit from having their domestic firms acquired by foreign companies?

When a foreign company acquires a domestic firm, it often leads to outcries of indignation, nostalgia (“another of our once great companies in foreign hands”), and calls for legislation to prevent any more foreign poaching. Politicians and union leaders proclaim that the foreign owners may not be dedicated to keep up investment in the subsidiary, and that the take-over threatens national jobs and other economic interests. “Most governments are reluctant to see their corporate treasures fall into foreign hands”, the BBC wrote in an article devoted to the topic.

But is all this (slightly xenophobic) fear justified? Well, maybe not; at least not on all dimensions. Because we have increasing evidence that foreign ownership of a firm may actually also benefit firms, specifically in terms of their innovativeness. And this increased innovativeness may clearly benefit the host country.

Professor Annique Un, from Northeastern University in Boston, for example, did a pointy study. She collected data on 761 manufacturing firms operating in Spain, examined which ones were foreign hands and what their innovation output was in terms of new products introduced in the market. And the answer was pretty clear: foreign owned firms were more innovative than purely domestic firms.

Interestingly, Annique also corrected her models for the amount of R&D investments spent in the companies, and it turned out that this was not what was driving it; foreign owned companies were not just more innovative because they were investing more. Instead, they were more innovative irrespective of R&D. As a matter of fact, they were able to generate more product innovations for the same level of investment; meaning that they were simply better at it.

The study’s results suggested that they were better at it for two reasons. First, foreign parents seemed to use their domestic subsidiary to channel innovation into the country. Put differently, it seemed a foreign-owned company could tap into its parent’s superior repository of innovative stuff, and most of them gratefully made ample use of that option. Secondly, the foreign-owned companies were simply also better at coming up with new stuff on their own, in comparison to their domestic counterparts. Apparently, something about them being foreign-owned stimulated them to be more agile and creative, which resulted in more product introductions.

Whatever the reason behind this foreign-driven surge in innovation, the host country was better off for it; the evidence clearly showed that the foreign mercenaries stimulated diversity in the markets, giving customers more choice, while raising the bar for everyone. And this is not a benefit we hear many politicians, newspapers, and union leaders proclaim and acknowledge, when yet another foreign corporation is eyeing up their country’s corporate treasures.

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.

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!

How big is your yam? (not that it matters)

Why are so many executives so pre-occupied with the size of their company? Like bigger is always better. It especially annoys me when it is used as an excuse for acquisitions.

“This take-over will immediately make us the largest company in the industry”. So?! What is your point?!

I am sure being the biggest can have certain advantages, but that doesn’t mean that bigger (let alone being the “biggest”) always automatically is better. If you can explain to me why more scale is better, ok, but until then, I remain sceptical.

Of course company size is often associated with (financial) success. For example, the firms that always feature on “the most admired companies” lists are usually Behemoths such as Toyota, Dell, Intel, Wal-Mart, and Pfizer. Several of them became big through acquisitions.

And I am sure a company worth £10 billion attracts quite a bit more attention (for instance in the business press) and admiration than any of the 10 companies that they acquired that were worth a mere £1 billion. But that doesn’t mean that our ten billion Behemoth generates more profits than the 10 smaller ones would have made in combination. It wouldn’t have been as eye-catching, to have 10 small ones instead of one biggie, but it just might have made more sense (and money).

Importantly, managers who opt for a strategy of increasing size reverse cause and effect; although success will likely make you bigger, striving for size per se is not necessarily going to make a company more successful.

They actually remind me of the aboriginals on the Micronesian island of Ponapae. What in their society contributed to a man’s prestige was owning a very large yam. This cultural trait had come into existence because it represented an indication of a person’s skill as a farmer. However, gradually people’s efforts to obtain or grow one big yam started to be detrimental for their welfare, in the sense that it distracted effort and attention away from all other activities, causing malnourishment and hunger. People were putting all their resources, time and effort into growing one giant yam, while their fields were left unattended, their huts crumbled around them and their children cried of hunger.

Similarly, striving for size itself may be counterproductive for companies. It is quite possible that focusing all ones resources and efforts on becoming bigger (for the sake of being big) might actually decrease the firm’s chances of becoming successful. Gaining size may result from firm success, pursuing size per se, rather than success itself, may be quite detrimental.

When to fire your M&A management consultant

Some time ago, I gave a presentation to a group of executives from a variety of companies on the topic of acquisitions. Much of the talk was about how vastly different acquisitions can be, in terms of the purpose they are intended to serve.

As often, I ended my talk urging the executives that, if they would ever come across a consultant who would tell them “this is how you should integrate acquisitions” (promoting one particular method), they should fire him. Because acquisitions can be so enormously different in purpose and nature that they really require quite fundamentally different approaches to integration, and if someone recommends a “one mould fits all” method, it is best to show that person the door.

Little did I know that the speaker coming after me was a consultant, armed with an impressive array of powerpoints on “this is how you should integrate acquisitions…” He looked a bit apologetic. They were also the main sponsor of the event.

Anyway, I sort of mean it. Because sometimes acquisitions are intended to lead to consolidation in an industry, and the reduction of overcapacity (think for instance of Daimler & Chrysler). Sometimes acquisitions enable a number of companies to join forces, and benefit from some shared operations while remaining relatively autonomous (think for instance of Johnston Press, buying scores of local newspapers). Other acquisitions are intended as some form of substitute R&D (e.g. Cisco buying scores of entrepreneurial companies in Silicon Valley). Some acquisitions enable a firm to gain access to a new product or geographical market (e.g. Heineken buying local breweries), while yet others have to do with blurring industry boundaries (e.g. the various industry conglomerates, such as Viacom).* Thinking that you could just all treat them the same way seems a tit naïve.

Now, it is of course true that, in all cases, you should “have a good communication plan”, “integrate carefully”, “make sure to not over-pay”, and so on. But this type of advice is also a bit of a motherhood; after all, the professional life of a consultant (or Strategy Professor) recommending to “integrate poorly”, “make sure you over-pay” and “have an appalling communication plan” would likely be swiftly truncated.

So what can you recommend? Well, first make sure that you understand what type of acquisition you’re engaged in or, put differently, exactly why you are considering buying the company. What is it that is supposed to create all this surplus value? Once you have figured that one out, you might be able to deduce what can or needs to be preserved in the company, what needs to be integrated and what can be left to its own devices. Dependent on the outcome of that exercise, you can start to device a further acquisition plan including, yes, “a good communication plan”, “a careful integration approach” and “a proportionate acquisition premium”. And perhaps even a consultant.



* Based on a well-known typology from Harvard Business School Professor Joe Bower.

Narcissus versus Humble Bloke – and the winner is…?

Have you heard of Narcissus – the character in Greek mythology? Narcissus was an exceptionally beautiful young man. He was so beautiful (and full of himself) that he fell in love with his own reflection in the water. He could not bring himself to stray from the well and did not even drink the water; fearing he’d disturb the water reflecting his image and would not see himself again. Our word “narcissistic” – to describe someone full of himself – is derived from it.

How would you recognise a narcissistic CEO (as certainly not all of them are exceptionally beautiful)? Seriously, think about it, what would you say are signs of a CEO who is narcissistically full of himself…?

Someone who always has his photograph displayed very prominently in his firm’s annual report? The CEO’s prominence in the company’s press releases? How often he uses first-person singular pronouns (such as I, me, mine, my, myself) giving interviews to the business press? Or his financial compensation relative to the second-highest paid executive in his firm?

Arijit Chatterjee and Donald Hambrick, of Pennsylvania State University, measured all of these things, among 111 CEOs, and used them to construct a measure of their narcissism. They selected their 111 CEOs from the computer hardware and software industries because prior writers on Leadership had suggested that narcissism in a CEO might actually be a good thing in very dynamic, fast-changing industries – which these two are. They then examined a bunch of characteristics of a firm’s strategy, to figure out what narcissistic CEOs do differently than their more humble counterparts (in between periods staring at their own reflection I guess).

And guess what, they found that the more narcissistic types changed their firm’s strategy more often than the humble blokes. Moreover, they also tended to undertake a lot more – and a lot bigger – acquisitions. The performance of their corporations (perhaps partly as a consequence) fluctuated quite heavily, in comparison with the humble types.

But what about the level of their firms’ performance; it may have fluctuated more heavily but did the narcissistic guys on average achieve higher or lower performance?

Neither. They didn’t do better, and they didn’t do worse (both in terms of return on assets and total stock market performance).

Arijit and Don concluded, “that narcissistic CEOs favor bold actions that attract attention, resulting in big wins or big losses, but that their firms’ performance is generally no better or worse than firms with non-narcissistic CEOs”.

However, I’d say they’re worse; you’re better off without them. It is not only money that matters; these types are plain annoying. If they don’t bring in more dosh than their more pleasant counterparts, you’re better off with humble bloke.

Are overconfident CEOs born or made?

Most acquisitions fail. That’s not even a point of debate or opinion anymore; the evidence from ample, solid academic research is quite overwhelming: about 70% of acquisitions destroy value, and this has been the case for many, many decades.

The question is, of course, what causes acquisitions to fail, and what causes managers to undertake them in spite of their rather dismal track record? Various complementary explanations have been offered but, remember, “failure” here simply means that the acquiring company does not create sufficient extra value out of the acquisition to recoup its (usually rather hefty) acquisition premium. One prominent explanation is that the average CEO suffers from “hubris”, or “overconfidence”. They think they will be able to create more value through the acquired company than these silly people who are currently running the show, because of “synergies” or simply because they’re much better and smarter than the sorry souls who are currently messing about in that block of bricks they call a firm.

Therefore they’re willing to pay an acquisition premium. Yet, it’s apparent that usually they are overestimating their abilities, because the average CEO/acquisition does not create any surplus value - quite the contrary. Fact is (assuming that managers are well-intended and do expect to create value through their acquisitions; some people even disagree with this assumption), on the whole one can only conclude that most of them are overconfident because in 70% of the cases they don’t manage to pull it off.

But where does their overconfidence come from? Does the average CEO suffer from hubris because that’s the type of person that makes it to the corporate top? That’s one possibility. The other one is that, over the course of their tenure, often top managers gradually become overconfident, rather than that they're suffering from hubris from the get-go.



Professors Matthew Billett and Yiming Qian from the University of Iowa examined this exact issue, using a sample of 2,487 American CEOs undertaking a combined 3,795 deals over the period 1980-2002, and they found some very compelling evidence that overconfident CEOs are made and not born that way.

They initially uncovered four things. 1) They discovered that CEOs’ first deals, on average, did not destroy value: Their effect on a company’s market value was pretty much zero, 2) those CEOs who had experienced a negative stock market effect in response to their first acquisition usually lost their appetite for doing any more deals, 3) in contrast, those CEOs who – hurrah! – had experienced a positive stock market response to their first take-over got the hots for deal-making; they were very likely to undertake even more acquisitions in the ensuing years, 4) those subsequent deals, however – that is, take-overs by CEOs who had done some before – on average did destroy shareholder value! Hence, the consistent finding in academic research that acquisitions destroy value seems to be caused by CEOs’ later deals only. Matthew and Yiming concluded that first-time, successful deals make CEOs overconfident, which not only stimulates them to do even more deals, but also makes them inclined to pay even heftier take-over premiums for subsequent ones, which they usually are unable to recoup after the acquisition.

Finally, they also examined “insider-trading”; whether CEOs would purchase their own company’s stock in the period preceding the acquisition (confident that they would increase in value as a result of the deal). Most CEOs did, whether they were first time deal makers or experienced acquirers. However, the effect for experienced acquirers (people who had done deals before) was twice as big as for the novices. Apparently, overconfident serial acquirers – who mostly ended up destroying shareholder value – most of the time fell into their own hole; they bought the shares whose value they were about to destroy! Guess there’s a hint of justice in this story after all...

“Heerlijk, helder, Heineken”

The line above probably didn’t mean much to you, unless you’re Dutch.

No I am not getting a commission for rehashing their old marketing slogan (which it is; I guess you could translate it as “heavenly, clear, Heineken”), it just reminds me of the acquisition strategy they used under the reign of their illustruous former chairman Freddy Heineken (who unfortunately died a few years ago).

Since I have been known to sound slightly sceptical (yes, this is a good english eufemism) of the vehicle of corporate take-overs, people sometimes ask me which company’s acquisition strategy I actually like… A painful silence (to this fair question) used to ensue. But no longer! Since I didn’t want to create the erroneous impression that I think all acquisitions and acquirers are bad, I decided to look for one.

And I found Heineken. It happens to be a product that I studied extensively during my student days but some time ago I also really dug into their past acquisition strategy, and whether it made sense. And I have to say “heerlijk, helder, Heineken” or, in english, "yes".

This is what I like about it. Many managers see acquisitions as a relatively easy and quick way to increase the size of their company, in comparison to the painstaking process of organic growth. Yet, they forget that owning a bunch of companies doesn’t necessarily turn them into one organisation. Successful companies often have a high level of coordination between the various activities and parts of their organization. This involves technology and systems but also intangible characteristics such as a shared culture and informal networks. Research by Wenpin Tsai and Sumantra Ghoshal, published in the Academy of Management Journal, showed that these organizational abilities take ample time to grow and develop. Freddy Heineken realised this; he did quite a few acquisitions, but not too many, and carefully added and integrated them into his company.

Moreover, he did not see them as a substitute for organic growth but, instead, as an enabler of it. He used to undertake acquisitions with the explicit aim to create further opportunities for organic growth for both the acquired company (which benefited from Heineken’s knowledge, purchasing power, etc.) and for the Heineken brand (which benefited from added local distribution).

Heineken’s focus was always on profitability, rather than scale per se. This made him stubbornly resist loud calls (for instance by analysts and investors, and some business school professors…) to merge with a major rival. Freddy used to say, “I don’t want to be the biggest; I want to be the best”. And he was.

Not all trouble is trouble

True story: Some time ago I was talking to a CEO regarding an acquisition his company had just done. The topic of “integration trouble” came up, and he said, “I’ve figured out how to avoid all such trouble; I just always quickly and completely assimilate the whole thing”. And indeed, after acquiring the company he immediately merged it with the rest of the firm, spreading out all the new people across different departments and offices.

Around the same time, I was talking to an executive (in charge of M&A) at another company, regarding “integration trouble”. He said, “I’ve figured out how to avoid all such trouble; you simply have to leave them alone, and not meddle in”. And that was what he did with his acquisitions; he bought them but subsequently left them completely autonomous in all aspects of the business.

But who is right, and who is wrong? Hey, I am feeling in a positive mood: I am sure they’re both right. Well… and both wrong…

Both strategies, indeed, usually manage to avoid severe integration tensions. Yet, they also prevent value creation. In order to create extra value, beyond the original two companies’ worth, some form of integration will have to take place; otherwise you’re just owning the two companies like any shareholder owns stock (you just bought it at a high price). Similarly, completely assimilating both units will destroy any potential for value creation, since you’re eliminating all differences between the companies, and just increasing the scale of an organization will seldom result in extra value. The differences are the source of potential value.

When Novartis, for example, was created out of the merger of Ciby-Geigy and Sandoz, subsequent CEO Daniel Vasella explicitly set up an integration program to create a new organization, which in many respects was entirely different from anything either of the companies had before. This approach doubled the company’s value in about a year. Similarly, Igor Landau, former Chairman of the merged pharmaceutical firm Aventis, said, “The strategy was to create a new company and not be the sum of the two previous companies. We decided either we create something new or we would pay the price down the line”.

Acquisitions can be useful, but often only if they are utilised to create something new, that the companies could not have done by themselves. Thus, it is tempting to avoid (integration) trouble, by either quickly and entirely assimilating an acquired unit or leaving it completely autonomous. But sometimes you have to bite the bullet; integration troubles can also be the symptoms of a much more healthy process, of organisational revitalisation and the creation of new value.

CEOs, marriage, mergers, geriatric millionaires and blushing brides

These things called acquisitions continue to surprise me. Especially how they, quite openly, can get entangled with the personal aspirations and career progress of the companies’ executives.

For example, often it is thinly veiled that the single biggest hurdle to a particular merger, determining whether the deal will go through or not, is the question “who will be in charge” afterwards; the current CEO of company 1 or the CEO of company 2? The proposed merger between Dutch banks ING and ABN-Amro, for instance, was rumoured to have fallen through because executives could not agree on who would take the helm. But are these really good, strategic and legitimate reasons to pursue (or abolish) a deal?! If you didn’t notice: that was a rhetorical question…

Similarly, in 1999, the merger of Viacom and CBS completely hinged on whether CEOs Sumner Redstone and Mel Karmazin could figure out how to distribute responsibilities and power. Eventually, the $40 billion mega-merger – at the time, the biggest media deal ever – seemed to be more of a declaration of love between the two than a move inspired by a clear strategic rationale.

For example, the LA Times referred to "secret meetings" between the two during which Redstone "grew to see the magic of the marriage Karmazin was proposing", while The New York Times quoted Redstone saying of Karmazin: "He is a master salesman, and he began to turn me on", also referring to "a marriage that was consummated after a two-year flirtation and a brief but painstakingly intense two-week prenuptial discussion. ‘Mel seduced me’," Redstone dreamily told reporters and investors after the merger was announced, sounding for all the world like a blushing bride.”

Yet, the marriage came to an abrupt end in 2004, when Karmazin left acrimoniously. What turned out to be the case: If old Sumner (aged 81) would have died during Karmazin’s employment contract with Viacom, he would have taken the mantle. Yet, old Sumner didn’t die… And CBS and Viacom split in 2005.

To me, these kinds of negotiations suggest that the logic for a deal may have more to do with advancing the careers of the people in charge, rather than advancing the value of the combined companies. If you’re an investor or board member, I would conjecture that some suspicion may be warranted.

Wanna play Strategy? Get a board game

I agree strategy is simple, but not that simple!

It continues to surprise me what people sometimes pro-claim is their business strategy. Take for instance the principles I often hear people suggest form the basis of their acquisition strategy.

When a particular transaction is being considered, executives have to go out and explain the logic for the deal to directors, investors, and analysts. Regularly, however, a strategic rationale is only being drawn up after it has been decided by management that the deal is “desirable”. Quite often, this logic will appear contrived, overly complex or simply made to fit the acquisition rather than that the deal results from a well thought through strategy in the first place.

For example, I’ve often heard the logic behind a transaction being explained in terms of complementarities; “it is a perfect match because their geographic spread perfectly matches ours” or “their product portfolio complements ours”, and so forth. Yet, just as often I would hear the logic being explained exactly the other way around; in terms of perfect overlap, for instance “it is a perfect match because they are active in the exact same markets as we are”.

Just the fact that you “complement” each other does not constitute a strategy. It might be worthwhile to combine forces, but first you’d need an argument to explain why this would enable you to create extra value. Without such logic, it’s hollow and meaningless. Similarly, just because you have perfect overlap doesn’t automatically imply it’s a good strategy. Why does adding it up enable you to do something you could not do before?

Yet, the one that always gets me is “the matrix”. Yep, really a matrix. On the horizontal axis, one places countries (in which the company is active). On the vertical axis, one places business lines (in which the company is active). Then, on the intersections, one ticks boxes (with a decisive “X”) indicating in which countries we have which line of business. And our strategy is: We fill the boxes. As many as possible.

“This acquisition is expensive, but it enables us to immediately tick six boxes!” Wow, yes, surely this warrants an 80% take-over premium – well done indeed; six boxes! We’re doing well, aren’t we?”

But strategy is really not the same as a game of Risk, placing pawns on a map of the world. Sure, perhaps it can be advantageous to own multiple business lines in that particular set of countries, but without a thorough explanation about why it’s these countries (and not some others), and these lines of business (and not some others), and why it is beneficial to have them all, that’s what it is; an oversized game of Risk. But with real money, and real people.

When acquisitions take over

Firms are expected to base the price and hence the premium they are willing to pay for a transaction on their calculations of how much synergy the deal would be able to generate. Although long-term value creation is always difficult to quantify with any certainty, firms usually do the best they can and then determine the target’s maximum price.

However, once executives have their mind firmly set on acquiring a particular target but are outbid by a rival, this may be difficult to swallow. Often, it seems to awaken the warrior in them; they go back to their people and instruct them to “find me another 100 million or so in synergies” in the target’s books, which enables them to up the bid. For instance, we saw indications of this when Mittal was bidding for Arcelor, and it is hardly a sporadic event.

Clearly, this is a dangerous phase in a bidding process. Copious research, for instance on “escalation of commitment” in M&A deals, has indicated that overexcited executives have a tendency to not walk away from a deal when they should, mysteriously uncovering extra value in a transaction when a firm’s rivals are starting to outbid.

But I guess this bit is only human. It is the part that comes after that which always gets me. The company that ultimately “wins” the bidding war is declared the winner – in newspapers, business magazines, etc. They pop the champagne and celebrate, while the loser pouts and has a crisis meeting.

But are we sure that you are the “winner” when you just paid 300 million for a company you originally calculated was worth half of that…? And are you sure you really are the loser when you just made your competitor pay 150 million more than the darn thing is worth…? Somehow, I am not so sure, no matter what the newspapers say.

Seeds and fertiliser – how to build a firm

American visitor: “How come you got such a gorgeous lawn?”
Lord: “Well, the quality of the soil is, I dare say, of the utmost importance”.
American visitor: “No problem”.
Lord: “Furthermore, one does need the finest quality seed and fertilisers”.
American visitor: “Big deal”.
Lord: “Of course, daily watering and weekly mowing are jolly important”.
American visitor: “No sweat, just leave it to me!”
Lord: “That’s it”.
American visitor: “No kidding?! That’s it?!”
Lord: “Oh, absolutely. There is nothing to it, old boy, just keep it up for five centuries”.

What many firms, trying to grow fast or add scores of acquisitions, often fail to realise: Organisations work much the same way as a lawn. You can buy the machinery, lease the building, hire the people, acquire the assets pretty quickly and relatively easily, and put them together. But this does not mean that you will have a working organisation.

An effective firm requires that the various elements of its organisation - both the "hard" factors (such as its structure, incentive system, etc.) and the "soft" elements (such as the culture of the place, informal communication patterns, etc.) - are fine-tuned, interact and reinforce one another. Building such an organisation implies more than just "owning the parts"; it takes continued dedication, hard work and, most of all, it simply takes time.

Sirens and investment bankers – two of a kind?

Some time ago, I was interviewing a CEO of a FTSE100 company, which had acquired several dozens of companies over the past years, when we came to speak about investment bankers. He then asked me “do you know who the Sirens were, in Greek mythology?” I said “yes” (because I did and, of course, also because I did not want to appear ignorant).

Sirens were beautiful maidens located on a small island surrounded by cliffs and rocks. They would lure seamen who sailed near the island with their enchanting singing, to shipwreck to death onto the rocks.

“Well” this CEO continued, “investment bankers are just like Sirens”. That caught my attention…

“How’s that?” I asked. “They constantly try to seduce you into doing another deal, and they don’t care at all whether that deal actually make sense for the company”. Ok…

Of course, firms and their shareholders are not the only parties potentially benefiting from a transaction. A vast industry exists that initiates, values, negotiates, and closes deals. However, the interests of such parties, for instance investment bankers, may not always be aligned with those of the firm. Especially when M&A times are relatively slow, investment bankers may attempt to initiate deals from which it is not clear that they are to the benefit of the potential acquirer.

As an ex-investment banker told me some time ago, “when times were slow, we’d all go through our address books and discuss ‘who hasn’t done a deal for a long time’, because we would usually be able to talk such a person into doing one”.

Yet, one could make a good argument that investment bankers are not necessarily to blame for this; they are supposed to follow their interests and it is up to the manager to say “no” to a proposed transaction.

Yet, deals – and investment bankers – can be seductive. Sometimes, CEOs who are inclined to at least listen to their investment bank would do well to do like Odysseus; Odysseus wanted to hear the mythical Sirens sing but was less keen on shipwrecking. So he asked his sailors to plug their ears with beeswax and to tie him firmly to the ship’s mast. They then sailed past the Sirens; Odysseus was overwhelmed by their music but, being restrained, could not free himself to follow his urges and run his ship onto the rocks.

All we need now are boards with beeswax and offices with a mast. I will bring the rope.

Toads and acquisitions – where does CEO “hubris” come from?

The famed investor, Warren Buffet, once said that many corporate acquirers think of themselves as beautiful princesses, sure that their kisses can turn toads into handsome princes. The acquirers pay substantial premiums over market value, believing that they can release the imprisoned princes. But, as Buffet said, “We’ve observed many kisses but very few miracles”.

Because, as you may know, when a firm acquires another company, it usually pays a rather hefty premium. That is, the firm pays quite a bit more for the company’s shares than the price it is trading at on the stock market before the take-over, just to be able to obtain a majority and hence a controlling stake.

According to academic research, this premium usually lies somewhere between a thoroughly whopping 50-70%, dependent on the industry, the size of the firm, etc.

The justification for paying such a significant premium is the idea that the acquiring firm will be able to get much more value out of the company than the seller does. As I’ve said before, the facts show that they’re usually wrong, but firms still do!

It gets interesting when you analyse who pays the biggest premiums. My former colleague at the London Business School, Mathew Hayward, now at the University of Colorado, together with his colleague Don Hambrick performed a slightly mischievous analysis. Because they figured that CEOs who are rather full of themselves would pay higher premiums – because they suffer from “hubris” and are more likely to overestimate their own ability to turn around “failing” companies – they counted the number of favourable articles that had appeared about them in the business press (such as the Financial Times, Business Week, etc.).

Subsequently they computed whether CEOs who had received more media praise paid more for their acquisitions. The answer was: absolutely YES!!

To be precise, each highly favourable article about a company’s CEO would increase the premium paid with no less 4.8%. For an acquisition of a billion, this would be 48 million… And that is for every article!

And this really is 48 million down the drain, because Hayward and Hambrick also showed that CEOs with more favourable press were completely unable to create additional value out of those acquisitions. They had simply overestimated themselves.



It is tempting to blame these stupid, arrogant executives, and their silly companies and boards. However, what I find equally interesting is that this research also indicates where hubris comes from: It comes from us!

We glorify top managers, print their pictures in newspapers and magazines, praise their decisiveness and vision, give them awards and treat them like superstars. All they’re guilty of – the poor bastards – is believe the BS we write about them.

Deal-eager executives – tribal instincts

Why is it that top managers often seem to become so gung-ho on acquisitions? Take Ahold’s “fallen-from-grace” ex-CEO (now corporate convict) Cees van der Hoeven. Ahold actually started out with quite a careful approach to doing take-over deals, but over the years acquired itself completely out of control, like a Faliraki girl with a credit card in a Gucci store.

My guess is there are two causes of deal-eager executives. It is the type of person who becomes CEO and it is the type of person we make them. Let me discuss the first one with you.

An interesting line of research in social anthropology analysed what type of person is more likely to rise through the ranks to become the headman of a tribe. Often, this would be the most fierce, ambitious and aggressive warrior, who would be willing to take on all his opponents in the quest for leadership.

Yet, interestingly, although characteristics such as fierceness and ambition would be helpful in becoming tribe leader, these characteristics were not necessarily positive for the future of the settlement, since these type of leaders were prone to take the tribe to war. This would ultimately take its toll on the size, strength and survival chances of the tribe. Thus, the same characteristics that would make people more likely to become the headman, were likely to get the tribe in to trouble.

CEOs might not be all that different. Those people who are ambitious, risk-seeking and aggressive enough to be able to rise to the ultimate spot of CEO, just might be the same people who, once they’re there, take their firm on a conquest.

Acquisitions offer the thrill of the chase. You select a target, mobilise resources and lead the attack. Sometimes there are others eyeing your prey but skilful manoeuvring and a fierce battle will make you come out victorious again. And another victory means pictures in the newspapers, popping champagne, and a larger tribe to rule and command.

Most acquisitions fail – really!

Here come the stats on M&A again – you may have seen them before, but since I am sure you (still) don’t believe them, here they are once more:

70-80% of acquisitions fail, in terms of creating stock market value. Three overview studies in the prestigious Strategic Management Journal showed that on average share prices of acquiring companies fall between .34% - 1% in the ten days following the announcement of an acquisition. And this is a result consistent over a period of 75 years of stock market data!

“But that’s only 10 days”, you might say, “these acquisitions might still create value in the long run, right?” Nope; wrong. Research in the Journal of Finance concluded that acquiring firms experience a wealth loss of 10% over the five years after the merger completion.

“Perhaps the stock market initially is too pessimistic?” Actually, quite the opposite: A study on a 131 big deals (over $500million) indicated that in 59% of the cases, market-adjusted return went down on announcement. Hence, the stock market was positive about 41% of the deals. Not an awful lot, but it could have been worse. Or could it…

After 12 months, 71% of all those deals had negative consequences! That is, of the 41% of cases where market value went up on announcement because the stock market was optimistic about their potential to create value, only 55% still had positive returns the year after! Thus, even the stock market initially had been way too optimistic. Even more deals ended up destroying value than they first had expected.

Yet, every time I show these statistics to a group of executives they frown and proclaim, “we know this, but it is not true for our company”. Often followed by, “we analysed all our deals and 2/3 of them was a success” (not sure why it is always 2/3, but it always is). Yeah right.

But what really is the “analysis” that most of them performed? They have asked people in the relevant BU’s whether they thought the deal was a success. Now, if these people already overtly say “no”, I am pretty sure the acquisition was a disaster.

Of all the deals conducted, this leaves 2/3 of “non-disasters”, which is not the same as a success. Perhaps another 1/3 did not cause major problems as the integration went alright, but that does not mean that the (usually very expensive) deal actually created value – at least beyond the take-over premium that was paid. You might have been better off not having done it at all, despite having avoided a disaster.

So, believe me, 2/3 of acquisitions fail – yes, really.