To Get Value from a Merger, Grow Sales

After a merger, managers should ignore the usual advice to strive primarily for improving the bottom line through cost reductions. Instead they should make it a priority to strengthen sales and marketing in order to sustain profitable revenue growth. That’s because revenue growth is necessary for earnings growth, the most reliable engine for driving total shareholder returns over the long term. These insights came from our recent study of 270 mergers in various countries and regions. We found that in most cases sales growth had slowed dramatically after the merger—on average, it had dropped six percentage points. (The figures in this article are weighted averages adjusted for industry trends and refer to three years pre- or postmerger.) That decline led to a reduced rate of earnings growth, by 9.4 percentage points, and a consequent reduction in value creation: The firms’ market-capitalization growth decreased by 2.5 percentage points. There’s no shortage of articles and books that say synergies are the key to a financially successful merger, and many executives seem to take the advice to heart. Indeed, in most of the mergers we studied, cost synergies such as consolidating manufacturing sites and centralizing administrative functions did boost profitability. But these efforts didn’t by themselves lead to growth and therefore didn’t create real value. Why Mergers Often Don’t Create Value These industry-adjusted averages, from the authors’ study of 270 mergers, reflect changes from three years before the merger to three years after. In spite of cost savings… Operating profit margin increased 0.3 percentage points. …revenue growth lagged… Sales growth dropped 6.0 points. …so earnings growth lagged… EBIT growth fell 9.4 points. …and mergers failed to create value. Market-cap growth went down 2.5 points. Consider the 2000 merger of U.S. freight and logistics companies EGL and Circle: The operating profit margin of the resulting corporation was higher than the weighted average of the premerger firms’ profit margins, but market-cap growth slid from positive to negative, eroding by more than 62 percentage points. Similarly, after U.S. beverage company Constellation Brands acquired Australia’s BRL Hardy in 2003, the profit margin improved but market capitalization fell. Earnings growth, our data show, has a strong effect on value creation, and the effect becomes more pronounced over longer periods of time. Therefore, the postmerger firms must throw themselves into preventing or offsetting the customer attrition (often the result of diminished trust) that usually follows a merger. Managers must devote sufficient resources to retaining current customers and gaining new ones. That typically involves improving the customer experience by streamlining processes; creating consistent marketing messages on how the merger will improve offerings; minimizing changes in sales-account managers; ensuring that the formerly distinct companies present a single face to the customer; and attending to trivial-sounding but important matters like making sure the merged sales force has the correct name for each contact. A number of companies have shown that such tactics can even help improve postmerger growth, regardless of whether synergies yield cost improvement. For instance, the merger of two large construction-equipment companies led to a decline in the operating profit margin, but revenue growth increased by more than 18 percentage points. And the 2003 merger of Spanish food-processing company SOS Cuétara and Spanish vegetable-oil producer Koipe brought the operating profit margin down but boosted revenue growth by 23 percentage points. The companies achieved these numbers by focusing primarily on customers—not integration or synergies—after the mergers. Synergies can be beneficial in many ways. A lower cost structure might allow a company to shift its emphasis to a more price-sensitive market segment, for example, generating new sources of revenue. But managers should seek synergies only after focusing intently on sales and marketing, for the quest to reduce redundancies and costs could draw their attention away from markets and customers—where real value lies.

To Get Value from a Merger, Grow Sales

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