Marriages Made in Heaven?

In recent years, some of the industry's largest companies have said "I do" at the merger altar. Midsized pharma, small biotech, and genomics companies have also joined the mating frenzy. The mixed results of those unions have left shareholders, customers, and employees wondering-are such marriages made in heaven or in hell?

The consolidation trend has created a new breed of pharmaceutical superpowers: AstraZeneca, Aventis, Pfizer, Pharmacia, and the soon-to-be GlaxoSmithKline. Ten major competitors are now five. Is this a healthy evolutionary progression in which the fittest rule? Or is it little more than asset shuffling among global conglomerates? Skeptics worry that the new entities will strip existing assets to fuel short-term growth that covers an underlying frailty in their product discovery engines.

Conducted across 15 major economic sectors, new research probing merger and acquisition (M&A) integration holds valuable lessons for those engaged in, or planning for, consolidation. Best Practices studied 100 companies and conducted extensive interviews with a mix of pharma and nonpharma M&A integration managers at a select group of 20 companies. Taken together, the companies and managers involved in the study had handled approximately 1,000 M&A integrations. This article presents the insights and lessons learned from those experienced in integrating companies and business units. The research indicates that for pharmaceutical marriages to benefit shareholders, customers, and employees, merging parties must adopt an integration strategy that is far more challenging than what industry managers have faced in the past.

The stakes are high. Integration teams help create or destroy billions of dollars in market value, depending on how well they execute their assignments. Consequently, the payoffs are enormous for those companies that develop successful M&A management styles. For example, Cisco Systems, one of the most highly valued companies in the global economy, has acquired more than 55 companies since 1995. During that five-year period, Cisco's stock price grew more than 2,000 percent, its annual revenue increased more than 500 percent, and it revolutionized the global economy by helping build the Internet. M&As enabled Cisco to accomplish all that after going public just 15 years ago.

The Big League

The step-by-step integration process of a mega-merger can take up to three years.

At the same time, statistics that underscore the risks of that type of growth populate M&A annals:

• 75 percent of large mergers fail to create shareholder value greater than industry averages.

• Productivity drops 50 percent following the announcement of a merger.

• Leadership attrition soars to 47 percent within three years following a merger.

• Employee satisfaction drops 14 percent following mergers.

• 80 percent of employees feel senior management cares more about economics than about product quality or people.

The research shows that many corporate marriages that looked attractive during the engagement were not well crafted. Those combinations failed to create long-term value, often producing frustration for employees, customers, and shareholders.

"Shareholders will always remember it as the day we lost $16 billion of their money," observed one executive when an announced merger fell apart and wreaked havoc on both partners' market valuations.

Yet, despite the risks, companies continue to merge because the payoff of accelerated growth can be enormous. Indeed, the aggregrate cash-and-stock value of worldwide corporate combinations reached $3.4 trillion in 1999, and the cumulative tally for 2000 is expected to match or exceed that number.

Lessons Learned

Bigger is not always better. The greater a company's size, resources, and employee population, the greater its complexity in managing people, product portfolios, R&D projects, facilities, territories, and technology. The insights of savvy M&A integration managers from other industries hold valuable lessons for the pharmaceutical sector. Four fundamentals seem particularly germane to the pharma industry and its integration managers:

• M&A events must support an underlying business strategy to create added value.

• M&A integration is best approached as a multiphase, structured process-not as a one-time project for which preparation is ad hoc.

• Cultural integration is the most difficult dimension of events that bring tens of thousands of people together in new organizations.

• M&A "synergy" tactics work best when targeting three related value-creating goals: cost reduction, operational integration, and accelerated growth.

Stick to Business

Mergers and acquisitions must support the business strategy if they are to increase long-term shareholder value. On first reflection, that fundamental seems like a business truism-factual but obvious. But the study's veteran M&A managers report that many corporate mergers were either a defensive competitive maneuver or the result of pressure to consolidate.

Communicating the right message at the right time is essential to the integration process.

The new Pfizer and Pharmacia-and others like them-were born in competitive tumult. They resulted from senior leadership teams taking quick, pre-emptive actions to acquire Warner-Lambert and Monsanto, respectively, while other competitors vied for the same prizes. The target companies carried the multibillion-dollar blockbuster products Lipitor (atorvastatin) and Celebrex (celecoxib), but they also came with business units that did not align with the strategies of the acquiring companies.

In such cases, companies must revise or reshape business strategies to fit the newly combined assets-or shed units to remain focused on the dominant business strategy. Both alignment actions can be tricky, because they must be executed against background pressure to reduce costs quickly while retaining key talent.

Outside the pharmaceutical sector, savvy deal makers have developed systematic criteria to target acquisitions that will drive product growth and generate profits in harmony with their strategic objectives. For example, Cisco methodically evaluates prospective partners to ensure that the combined entity will generate revenues greater than the sum of its parts. In the technology sector at large, where M&As are a frequent growth-driving tactic, companies such as Nortel Networks, Cisco, Lucent Technologies, and Intel employ performance scorecards to help evaluate how potential target companies fit with their business strategies. They seek partnerships in which there will be alignment between the two organizations in multiple areas:

Short-term growth. Shareholders must be able to see the immediate benefits of a partnership.

Long-term growth. There must be long-run victories for shareholders, employees, customers, and business partners.

Shared vision. The acquired company's vision of the industry and its role therein must be consistent with the acquiring company's corporate vision.

Geographic proximity. There must be geographic proximity between the companies to avoid major communication obstacles and managerial confusion.

Quality of people. Bench strength ensures continued or accelerated growth in the acquired businesses.

Quality of products. The portfolio should offer high-quality growth prospects that can be extended throughout the existing distribution system.

Survey respondents rated "interviewing target employees" as the top activity critical to cultural integration.

Quality of intellectual property. Strong technology, patents, trademarks, service marks, and know-how underpin the premiums paid for acquisitions. It's imperative to evaluate those intangibles.

Markets and market share. New or complementary markets help extend companies and their products.

Internal performance. The degree of customer and employee satisfaction, process efficiency, and other operational factors are critical commentaries about integration challenges.

Talent retention and flight risk. If cultures clash or 100 percent of stock options vest-making the acquired company's managers millionaires-many assets may walk out the door on closing.

The Integration Process

M&A integration is a process that can-and should-be managed in a systematic and structured way. Experienced integrators such as GE Capital employ well-articulated integration processes they regard as critical growth competencies. Consequently, they invest the time, people, and resources to develop the processes, roles and responsibilities, templates, and checklists that integration managers need. They establish integration experts and expertise long before M&A events occur.

Respondents listed their top reasons for engaging in mergers and acquisitions.

GE Capital, for example, uses a structured process called Pathfinder to guide executives and managers through the integration cycle. The model is broken down into four key stages with multiple tasks at each stage.

Pre-acquisition. Merging companies should identify and assess business and cultural barriers, select an integration manager, assess leadership strengths and weaknesses, and develop a communication plan.

Foundation building. The next steps are to introduce the integration manager, orient new executives to the corporate culture, jointly formulate integration plans, allocate resources, and assign responsibilities.

Rapid integration. Managers must also conduct process mapping to accelerate integration, employee feedback, and learning to continually adapt integration plans and initiate short-term management exchanges between companies.

Assimilate. In the final stages, the integration team should continue to develop common tools and processes, continue long-term management exchanges, and employ an audit staff to conduct integration audits. (See "Model Behavior," page 53.)

Companies that have failed to develop integration capabilities and resources tend to approach corporate marriages as events to be managed like giant ad hoc projects. Those who use that strategy frequently suffer what is called "the panda effect." Panda bears mate infrequently, and consequently, do so clumsily and with poor results. That lack of experience-coupled with a shrinking habitat-make the panda an endangered species. Corporations that approach major acquisitions as one-time events tend to perform as clumsily as pandas, hobbling implementation. Poor integration planning and execution often cause implementation cycles to stretch for months and years beyond target dates. Managers in the study report that the negative impact costs hundreds of millions-maybe billions-of dollars in lost productivity. The findings also suggest that poor integration prevents many corporate combinations from executing their stated strategies.

Ironically, financial thriftiness is frequently cited as a reason for not developing organizational capabilities before a merger or acquisition. According to that logic, why invest in training people and developing process readiness when no M&A opportunities are on the horizon? Such thriftiness seems shortsighted at best and fiscally irresponsible at worst. Under what other circumstances would a board authorize investing millions of dollars in stock or cash without also preparing front-line managers to shepherd that investment toward a positive return? General Electric, Tyco International, and Cisco are examples of companies that have effectively used M&As to accelerate profitable growth by developing in advance the organizational capabilities to handle their integrations. M&A integration competencies include such diverse resources as

• integration process models

• integration leadership training and assignments

• comprehensive checklists

• timetables and templates

• project management techniques

• integration team models

• contact lists for accessing experts

• knowledge evaluation techniques and knowledge-sharing databases

• survey forms

• reading materials

• integration white papers.

IBM houses such resources on a database that is available to IBM integration managers around the world.

Cultural Integration

Cultural integration is the most difficult dimension of mergers that affect thousands of people. Veteran integration managers agree that corporate culture plays a critical role in the success or failure of any merger or acquisition. It's not surprising, then, that skillful integrators such as Lucent Technologies developed compelling scenarios for why organizations must carefully tend to cultural integration. A company's approach to bringing together people affects business productivity, quality levels, employee retention rates, customer service, and the speed at which business integration proceeds.

Field research reveals that cultural integration efforts often suffer three common pitfalls: (1) failure to conduct a detailed assessment of a partner's corporate culture before making an offer, (2) failure to develop a comprehensive plan for cultural integration, and (3) failure to communicate openly and regularly with employees about integration activities and their effects on personnel. The hallmarks of effective cultural integration include several essential practices, including cultural assessment, cultural integration planning, continuing communication, and leadership involvement. To avoid the pitfalls associated with cultural integration, companies are wise to embrace the following three basic strategies.

Assess corporate culture in advance to identify differences and similarities. Differences in corporate culture seldom stop deals from being completed. But cultural differences can significantly shape the optimal approach to integrating the organizations. Companies such as Lucent, Cisco, and Motorola probe a target's culture before making an offer. Key areas of insight to determine cultural fit include:

• interviewing target employees and managers

• reviewing personnel practices to identify similarities and differences

• comparing corporate mission and vision statements that reflect corporate direction and values

• evaluating compensation and benefit plans

• evaluating decision-making processes and approaches to identify potential conflicts

• studying corporate focus and orientation: does the company focus on profitability, customers, process, or employees?

• reviewing performance appraisal systems to evaluate leadership and performance management systems

• examining succession planning and incentive systems to understand the behaviors the organization encourages.

Small differences can have an impact on all types of decisions. For example, a recent pharma integration team composed of members from both merging companies needed vice-president-level executives from each company to approve a global communication. Two integration team members of equal rank took on the approval task within their respective companies. One team member, accustomed to direct communication and nonhierarchical decisions in her organization, went straight to the vice-president to request his support. She accomplished the task within a couple of hours.

The other team member needed a week to obtain approval. In her organization, skip-level communications were frowned upon. Consequently, she had to send the paperwork through appropriate channels. That relatively minor administrative matter created a one-week decision-making difference between the companies' teams. Unaddressed and untended, such cultural differences can slow integration, activities, decisions, and projects to a snail's pace. (See "Cultural Due Diligence," page 56.)

Integrate communications to inform personnel of cultural changes. Mergers proceed through a predictable integration cycle. Savvy managers orchestrate communications to help employees weather that cycle. They plan activities to reflect the relevant issues during each stage. Continuing communication through many channels enables the new leadership to build trust and ensures accurate dissemination of information within the new organization. During integration periods, human productivity can be significantly reduced for months because of job-related rumors, speculation, worry, and misinformation. Communication is a powerful antidote. (See "Communication Cycle," page 54.)

Identify and retain key leaders to drive the marriage's success. The loss of key leaders in postmerger integration can cause irreparable damage to a newly formed organization. To retain talented employees, top-notch integrators develop systems that identify key executives and managers. Talent identification and retention systems target employees with valuable organizational experience and the ability to lead and create trust among peers. Key executives often meet with those selected and may offer promotions and bonuses to encourage them to remain with the company. They further engage such talented managers to lead the cultural integration.

Synergy into Growth

M&A synergy should target cost reduction, operational integration, and accelerated growth. At the start of every merger, as surely as couples speak vows at the altar, the new executive team announces synergy targets to the public. Such economic projections outline the company's expected cost savings and top-line growth opportunities. Typically, the cost-reduction targets are more easily achieved than the accelerated growth projections. But top integrators manage to create value on all three interrelated synergy fronts.

The word synergy comes from the Greek roots syn + energy and means similar or like energies. In that respect, M&A synergy is about finding similar or overlapping operations, facilities, units, and jobs. By eliminating redundancies, organizations reduce the cost of operating the combined parts. Current pharma mergers are moving ahead to achieve their cost-reduction targets. But reducing cost by creating redundancy and then removing it hardly creates long-term value.

The second aspect of M&A synergy is that of parts working in cooperation, reflecting a harmonious combination of operations: jobs, facilities, technology, product lines, and sales forces. Logistically, that cooperation can be very complex.

Synergy's third dimension is to create something greater than the sum of the parts. In that respect, merger pronouncements often promise growth rates and economic potential that are greater within a merged company than the separate assets of its predecessors.

The last two aspects of synergy often prove to be more difficult than managers expect. In previous mergers, both inside and outside the pharmaceutical sector, discordant integrations of product lines and sales organizations have resulted in market share declines instead of gains. Successful integrators meet goals across all three synergy fronts.

Citigroup, which grew from the merger of Travelers and Citicorp, is a useful example. Citigroup's leadership first worked to reduce costs and redundancies. Next they harmonized operations. The two organizations complemented each other in terms of noncompeting lines of business and different global geographic strengths. Through combination, each company significantly extended its global reach and product lines.

Now, nearly three years later, Citigroup is into the third phase of synergy, accelerating growth through cross selling, product extensions, and expanded customer relationships. Citigroup has more products to sell to more customers in more geographic areas- a good recipe for growth.

But Citigroup's integration journey proved perilous for some. Early co-leadership structures that were crafted to make the merger happen subsequently proved clumsy and ineffective. Citigroup lost talented executives along the way. Now under a single CEO, Citigroup is on track to becoming the most profitable company in the world, surpassing even mighty GE.

In the pharmaceutical industry, the synergy needed to create accelerated growth is still a proving ground. Based on benchmarking research, the immediate victors are likely to be the companies that effectively join commercial operations. Experienced integration managers in other industries observe that M&As work best as growth drivers when the marriage acquires new products, increases sales, and consolidates operations. (See "Reasons for Merging," page 58.)

Battle-wise managers contend that risk sharing and vertical integration are poor reasons for combining businesses. Currently, very few pharma mergers cite R&D risk sharing as reason for undertaking a merger-although only a few years ago it was a common reason. Pharma CEOs now recognize that R&D productivity gains materialized much more slowly than the once-promised launch of up to three new blockbuster drugs each year.

Consequently, commercial operations are now fertile ground for M&A value creation. The opportunity reaches across several sales and marketing fronts, including

• combining product portfolios to create franchises and strong therapeutic area brands

• integrating large sales forces to gain greater access to hard-to-see doctors

• providing more products to sales reps who can then promote them more effectively to their customers

• winning a greater share of voice through combined sales and marketing resources that bring greater access to medical decision makers

• increasing sales force productivity through excellence in team-based selling within overlapping sales territories.

Sales and marketing productivity goals were challenging to pharmaceutical companies even before they considered consolidation. Meeting those goals is no easier after a merger. Yet pharma investors, customers, executives, and employees can focus on that area to track the progress of their favorite marriages.

Time will tell whether the new companies can muster the focus, skill, and resources to create long-term value and accelerated growth. Those that succeed will be powerful giants. Those that stumble will find that the bigger they are, the harder they fall. The difference lies in their ability to integrate in a way that makes everyone a winner.