Why big mergers are not all they’re cracked up to be.
Merger mania 2014 has hit our industry. Yes, that great exercise in frustration where some company goes out and hocks everything it has to buy what it thinks is a brand new opportunity, but what more often than not means overpaying for the equivalent of a used Mercury Marquis – a nice cushy feel that nobody really likes.
This latest round is being led by TTM’s pending purchase of Viasystems in a deal valued at around $927 million, $368 million in cash. Not chump change by any means, and with the stroke of the pen two major players will catapult to the No. 2 position, as measured by sales, in the highly competitive global printed circuit board industry. Heady stuff. Awe inspiring. However, if past is prologue, regrettably, it will be a losing proposition for all.
Every such deal reuses the same words to rationalize the merger. Words like “synergies” and “complementary” and “scale” are used on the commercial side of the rationalization, while technology, efficiency and capability are used on the operational side of the equation. The fact is that the net sum of the pieces usually results in a smaller, less desirable entity. Indeed, I hate to be so negative, especially about two iconic companies, but for some reason in my decades hanging around this industry, I cannot recall a single example of a merger of this kind that on any level has been successful.
Let’s look at some of the logic typically used when these deals are cooked up. First is that one company has a customer base or market position that is desirable and “complementary” to the other. (Read: Sales staff of Company A can’t drop the price enough to win business away from Company B.) Yet any procurement officer worth their salt tries to avoid too many eggs in one basket, so the result for the merged entity is the total business decreases as smaller companies gain access to the desired customer or market. Customers prefer multiple supplier options if, for no other reason, to create market makers to cause competition among suppliers so the customer gets better pricing. The newly combined company usually ends up with only marginally higher sales, not the windfall it had planned on.
Ditto for the argument that the newly combined entity will eke out efficiencies by having fewer “best-in-class” facilities to supply their combined world-class
customers. If overcapacity is the issue, it is far cheaper for each company to simply shutter the least efficient plant(s) to drive profitability up at the remaining facilities. If history repeats, at the end of the process the new companies will close multiple facilities and will end up with total capacity strangely similar to that of either of the companies prior to the merger. But, you say, I am not taking into consideration where on the globe those locations are, and that may make the critical difference? Companies with global footprints that merge end up with an even more global footprint, so location is not the issue, resulting in zero net gain for all.
Capability is another hallmark of any merger. Company A needs the capability of Company B. Having sufficient in-demand capability to satisfy customers is an important thing. Yet there are far more prudent (read: cheaper) ways to accomplish that worthy goal, and purchasing a competitor’s equally antiquated facility is not one of them. Even if a specific niche capability is needed, instead of leveraging to the hilt to merge with an equal, it is far cheaper to find a smaller specialty manufacturer to fill that specific void than to take on a behemoth in hopes that the needle you seek is in its haystack.
The rationalization that takes place in the mega-merger world is extreme and misses the key point, which is how to best invest money to attain long-term profitable growth while satisfying an expanding customer base. Access to markets, customers, capability – when you cut to the chase, it’s all really about satisfying customer requirements as cost-effectively as possible to generate rising profits for all shareholders and stakeholders.
An alternative approach would be to take stock of what capability, technology, capacity or location you are deficient in or need to enhance, and then invest in building a new, state-of-the-art, world-class technology facility that produces the type and capacity of product that will really wow the customers you want and do so at the lowest cost and highest margin possible. (All of which would presumably cost less than $927 million.)
I know, too simple, but in an industry where the greenfield, world-class facilities are more often than not built in Asia by Asian companies – and then become the market-making competitive headache that we elsewhere in the world all must compete with – maybe the major players in the west should take a page from their playbook. Instead of paying a premium to buy a Mercury Marquis, invest in designing and building the next Tesla! Put another way, if over a decade ago our friends in China figured out that building new and world-class is more profitable than buying old and used, shouldn’t we in the sophisticated west be able to figure it out too?
Our industry demands ever-changing technology, often requiring significant investment to achieve. Why get stuck on the carousel of mediocrity? The winners in such deals are the few smaller guys that will grow not from wise investment but rather from picking up hunks of business the big guys lose. The customer does not win, as they still have the same number of competitors vying for their business. Nor do suppliers or employees, who are just hoping they end up with the last man standing.
Meanwhile many small players are investing what they can into advanced technology and the latest equipment with the long-term hope that they can gain the bandwidth to expand. Those companies will become the boutique leaders of the future. In contrast, some large companies with the bandwidth to really impact the industry and secure true long-term leadership positions instead are betting the ranch on the past.
Which brings us to this latest round of mergers. I fear the real winner will once again be Asian fabricators, which are investing in the future, instead of buying the past. It will be their shareholders, their suppliers, their employees, and their customers who reap the financial benefits of competitive advantage, advanced technology, high-margin efficiency and flexible capacity.