May 14, 2010

Can business combinations such as mergers or acquisitions really help your strategic agenda?

When considering a merger, emphasis has traditionally been placed on proving the financial aspects of the merger by ensuring that estimates are both comprehensive and probing, merger costs properly budgeted for, and marketing opportunities carefully assessed.

It is, however, the steps taken at the outset--before any numbers are run--that set the stage for success or failure.

Lessons Learned

A telephone survey of seven credit union CEOs in British Columbia who’ve completed a merger or acquisition yielded the following:

• The key issue on which to focus is the strategy the new organization will pursue.
• Credit union mergers are not afforded the clarity that exists in a commercial business combination, where the value can be measured in straight dollars and cents. The timeframe over which the merger is negotiated and concluded is likely to be long, exposing both partners to uncertainty and cultural stress. Because of the importance of getting an affirmative vote from members and regulatory consent, commitments are made without the necessary understanding of their full impact, simply to get the deal done.
• Governance must receive early attention. Structuring the board, breathing life into policies, and meeting disclosure and communication requirements are demanding. They can add to the complexity of the integration process.
• Credit unions that have integrated with one or more partners have found that even if one of them appears to dominate in terms of asset size and number of people this does not mean that its organizational culture will supersede and dominate. In all likelihood, all parties will need to adapt.
• The success of a business combination is judged by a number of audiences, each from a different perspective. Management may deem the merger a success if forecasted financial results materialize, hard integration issues such as IT conversions occur on time, growth rates perk up and progress on building a common culture is made. Staff members view success in terms of the speed with which uncertainties can be resolved. The board is likely to focus on satisfaction survey results and financial progress. Regulators may fixate on the degree to which compliance requirements have been met and progress against agreed milestone objectives achieved.
• Merger processes are expensive. Total integration costs may take years to recoup.
•  Clarity in leadership has proved essential but so too has simple dogged determination. Behavioral issues, technical glitches, and regulatory intervention have all provided unexpected challenge.
• Having to take actions that are contrary to underlying principles agreed as the basis for the merger can be destabilizing and slow integration at both the staff and board level.

Potential Hurdles

Proving the financial feasibility and clearing regulatory hurdles are the most clear-cut of the requirements. There are several others.

A measured assessment of the strategic value of mergers or acquisition must be completed. Measuring the strategic value of a proposed business combination requires clear criteria.

Profitability, new products, extended service, protecting and gaining market share and positioning for growth must be traded off against loss of control, the need for cultural change and a loss of brand identity.

The most optimal form of business combination must be decided. Agreeing on the relative importance of key outcomes can lend a great deal of clarity as to whether a merger or a straight acquisition is the preferred model.

A mathematical weighting process offers the opportunity to test for any bias that may exist. The key consideration is to ensure there is a healthy level of debate over the selection of the criteria and weighting their importance.

 Cultural underpinnings must be understood. Merger partners can differ on important issues such as:

• support for innovation;
• risk appetite and tolerance;
• attention to detail;
• results vs. process driven;
• attitude toward people and teams;
• aggressiveness; and
• preference for stability.

It’s important these be understood when framing the terms of reference for merger negotiations.

The combined organization will function differently than its founders. How will the differences play out? Financial performance will be taxed. Mergers tend to be expensive and the focus on the business combination means less focus on growth and profitability. The impact on operating and regulatory ratios can be significant.

Liquidity, efficiency and capital ratios could be the first signals that the integration process could take longer than anticipated.

Growth rates and satisfaction ratings may change and the new credit union may be more reliant on pricing to meet its business objectives as sales and service staffs are pre-occupied with product integration and meeting the needs of members. If the intention is to differentiate based on service, it can take some time to re-establish the capacity to do so.

Hard value must be achieved. An overriding objective of any business combination must be to generate additional value. The term “hard value” implies value strictly measurable in dollar terms.

Credit unions have on occasion assumed that value would be added through the extension of service networks, greater training opportunities for staff and the ability to provide more competitive pricing on the assumption that these would lead to increased growth and profitability.

By setting specific targets at the outset as conditions that must be met for the business combination to proceed, the debate becomes more properly focused on how to meet them.

Failing to meet financial targets is indicative that the merger is not adding value. A change in direction often involves financial restructuring which may affect some of the commitments made when the merger was negotiated.

Mergers can be an important strategic goal. But as shown, there are many hurdles to plan for before getting too deep into negotiations. Having a clearly articulated negotiating strategy that takes the foregoing points into account helps ensure that value will be added and surprises avoided.

Douglas J. Enns is the president of Upturn Consulting Ltd. He can be reached at doug.enns@managedupturn.com.