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  1. 1. M&A Agility: Secrets to Success in Cross-Border Integration A Webcast for Global Organizations June 25, 2008 © 2008 Towers Perrin
  2. 2. Today’s discussion The current M&A environment Getting started: Towers Perrin’s point of view and the link between people and performance Doing due diligence right ─ on a global scale Nuances of national and organizational culture Communicating across cultures and borders Why governance is critical Q&A S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 1
  3. 3. The M&A environment: What’s driving the deals? Recent Trends in Global Economic Growth 2005 2006 2007 2008 World output 4.8 5.4 5.2 4.8 United States 3.1 2.9 1.9 1.9 Euro area 1.5 2.8 2.5 2.1 Germany 0.8 2.9 2.4 2.0 Japan 1.9 2.2 2.0 1.7 Africa 5.6 5.6 5.7 6.5 China 10.4 11.1 11.5 10.0 India 9.0 9.7 8.9 8.4 Source: IMF, World Economic Outlook, October 2007; 2007 and 2008 growth rates projected. S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 2
  4. 4. Converging economic and demographic forces Skilled talent pools and labor shortages (e.g., IT, engineering) are expected in many countries U.S. companies are particularly vulnerable to cross- border acquisitions because of depressed valuations and the weak dollar Many companies are maintaining significant cash reserves that can be used to fund acquisitions European companies may also be targets Today, many industries (specialty chemicals, transportation, oil and gas, pharmaceuticals, financial services) are consolidating rapidly S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 3
  5. 5. Towers Perrin’s point of view: The people/performance linkage model National Culture Business Strategy Areas of critical Employee Customer Business value behavior behavior performance Culture Attraction Attraction Revenue Leadership Retention Retention COGS Total rewards Engagement Customer SG&A engagement Staffing and selection Operating margin Organization design Stock performance Governance The linkage framework defines the connections between business performance, people and merger strategy in the context of national culture S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 4
  6. 6. The starting point for merger integration is to understand the business strategy underlying the deal Buy Competitors Buy Suppliers Acquire people or technology Secure raw materials/inputs Expand geographically Improve quality Gain market share Lower costs: R&D, production, inventory Reduce costs: sales, Acquire hard-to-duplicate assets marketing, inventory Respond to deregulation Enter higher-margin industry segment Diversify Buy Customers Balance market risks Own distribution network Expand product portfolios Freeze out competitors Enter entirely new businesses Lower costs: production, inventory, Integrate product line sales Improve identity/visibility Continued… S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 5
  7. 7. The starting point for merger integration is to understand the business strategy underlying the deal Typical Reasons for Expanding into Geographic Markets Gain access to large capital, consumer and business markets European Union Establish regional manufacturing or distribution centers Acquire unique assets or human capital Gain access to emerging consumer and business markets CEE and Russia Secure natural resources and raw materials Establish low-cost export manufacturing operations Gain access to massive and varied consumer and emerging business markets Japan, China, Secure natural resources and raw materials SE Asia and India Establish low-cost regional and export manufacturing sites Acquire unique assets or human capital Gain access to emerging consumer and business markets Mexico and Secure natural resources and raw materials South America Establish low-cost regional and export manufacturing sites Gain access to large capital, consumer and business markets North America Gain access to technology and R&D Acquire unique assets or human capital S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 6
  8. 8. The business strategy informs the overarching integration “philosophy” — and, in turn, the approach to harmonizing rewards Possible Integration Philosophies ─ and Implications for Rewards Limited Integration Dominant Player Absorption Holding Company A Company Dominance n t io rp so Company Company Ab A B Company B Very little integration of A & B B’s assets are fully integrated into A No, or very little, harmonization of A & B Transfer-of-undertakings rules Mutual Best-of-Both Integration Transformation to New Company Integrated Integrated Best of Best of Best of Best of New New Company A Company B Company A Company B Company Company Full merger of best practices from A External New Company and B to create a new entity Best Practices Best Practices Harmonize within labor relations context, Best-of-both integration that also incorporates preferably redesigning reward programs to external and new company best practices support new culture Redesign reward programs to support new culture S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 7
  9. 9. In cross-border deals, due diligence is more critical than ever Access to new opportunities that neither company would Scope have alone; can impact sales, costs and/or capital investments Gains economies of scale in Strategic Fit Scale shared activities; generally impacts costs Transfer of skills between companies; can impact sales, Skill costs and/or capital investments Strategic acquisitions must pass the “better off” tests of creating value S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 8
  10. 10. Effective due diligence requires understanding three key drivers of business value… Stand-alone Value Synergies Risks Are volumes, costs, Are our assumptions Are there risks to the margins expected to regarding cost and stand-alone value increase/decrease? revenue synergies (litigation, correct? environmental Are our accounting complaints, business assumptions correct Are there liabilities that ethics)? (tax, goodwill)? we can expect from the combination (customer Are there risks to overlap, golden achieving projected handcuffs, pension synergies (culture, plans, etc.)? long-term contracts, etc.)? Are there major integration costs (shared services with parent, IT systems)? S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 9
  11. 11. …and, in global deals especially, a sharp focus on key workforce and compliance issues People Assets Adverse Margin Impacts People Costs Workforce Flexibility Profile key management Understatement of Benchmark jobs and Goodwill issues/morale Organization chart ongoing program costs people costs Procedure steps Skill profile Severance payments Benchmark staffing Legal barriers Commitments to future levels Demographic Union/work council characteristics cost increases issues Collective agreement Temporary/contract commitments workers Expatriates Relocation expenses Asset Liability Impacts Adverse Revenue Impacts Organizational Fit Compliance Change-of-control Sales incentive design Cultural barriers Programs and triggers Likely employee turnover Incompatible job processes Pension, welfare Retention plans definitions Illegal payments liabilities understated Incompatible reward Discrimination Pending industrial Contracts with disputes structures Acquired rights executives may contain Incompatible process Payroll and HRIS future liabilities and structure Collective agreements Book accruals Duplicate jobs understated (e.g., Employee commitments vacation, sales commission) S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 10
  12. 12. Country-specific labor and compliance issues can greatly complicate the picture when integrating across borders Brazil China France Germany Japan Pension Provincial Triggering of Triggering of Complex underfunding employment laws individual and union acquired rights compensation rights programs Plan tax status Legally required Variation in pension benefits Post-retirement valuation methods Variation in Minimum medical and life pension valuation health benefits Unrecognized Restrictions on methods benefit costs and Termination asset transfers Termination liabilities indemnities Restrictions on indemnities Elimination of retirement plan Constraints on Early retirement pension Small group changes and severance incentive and discrimination insurance asset transfers practices severance plans policies/practices costs Employee housing Employee housing Retirement plan subsidies subsidies mergers Minimum legal Complex labor Complex labor benefit levels environment environment Legal limits on Individual reductions in employment benefit levels contracts This is just a sampling of local laws and practices that can have a significant impact on deal price S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 11
  13. 13. Given the many moving parts, it’s important to focus on areas posing the greatest potential impact Germany Belgium Japan High Ireland U.S. Switzerland U.K. Likely Expats/IMEs Canada Significance Netherlands of Employee Benefit Greece Liabilities Korea Australia Medium Malaysia Italy to Low Mexico France Philippines Brazil Poland Norway Spain Small Medium to Large Number of Employees S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 12
  14. 14. Case study: Global manufacturing acquisition Bid price: Over US$2 billion Challenges Limited time and limited access to the data room Global transaction ─ data room documents in different languages Target HQ in Germany 11,000 staff in 33 countries Staff concentration in Germany, Italy, U.S. Other countries: Australia, Brazil, Canada, France, Japan, Netherlands, Norway, U.K. Programs Financial Impact (in US$ millions) Understated pension liabilities $78 – $96 Germany — insufficient pension indexation $15 – $18 Germany — true commitment not valued $5 – $10 Japan — partial funding of benefits $10 – $15 Italy — unreserved accrued vacation $10 – $15 Change-in-control provisions $30 – $35 Change in control: vesting of stock options $8 – $46 Total $156 – $235 S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 13
  15. 15. Cultural issues — both organizational and national ─ loom large in global deals and must be tackled early on Culture is a pattern of actions, words, beliefs and behaviors that are shared by the members of an organization and that produce rules for behavior In a sense, the organizational DNA National culture determines manifestations of organizational culture (e.g., how people solve problems) Core attributes of organizational culture are often (but not always) consistent from country to country within a single organization In cross-border transactions, it’s critical to address issues not only of national culture, organizational culture and how they interact, but also issues surrounding how to connect culture and change to the business plan S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 14
  16. 16. Understanding national cultures and cultural differences is essential to success… People oriented Hispanic America MULTI- ACTIVE Loquacious Interrelators Italy and Spain Africa Russia Arabs France Iran and Turkey Belgium India Australia and Denmark Indonesia and Philippines Netherlands and Norway Korea Task oriented Introverted Highly organized Respect oriented U.S.A. China Planners Listeners LINEAR- Switzerland REACTIVE Vietnam ACTIVE U.K. Sweden Finland Canada Singapore Hong Japan Germany Kong Source: When Cultures Collide, Richard Lewis, Third Edition. S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 15
  17. 17. …as is understanding the DNA of each legacy company’s culture What defines How it is culture demonstrated Leadership What they attend to, measure, reward and control; role modeling and coaching Customer Experiences Employee Experience Organizational Structure Mission, Objectives, Shareholder Value Values and Strategies Brand Promise Business Partner Relationship Programs, Policies and Practices Criteria for recruitment, promotion and exit Work Environment Business Results Design of physical space; socialization patterns S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 16
  18. 18. Culture should align with strategic business priorities to drive value Major Strategic Priorities Efficiency Quality Innovation Customer Service Company Image Cultural differentiators* by strategy in financial high-performance companies Safety focus Teamwork/BP sharing Diversity of thought Career development Shared understanding Structure/process Process quality focus Supervisor relations Performance of company direction/ efficiency Empowerment Stimulating management brand Training Training environment Local flexibility Shared values/pride Coordination Long-term orientation (physical) Positive working Integrity Data orientation Understanding Stimulating relationships Leadership Performance customer’s quality environment Supportive service Belief in product/ management expectations (interpersonal) environment service quality Focus on priorities Data orientation Information sharing Customer knowledge Involvement Collaboration/ Service orientation Workload/resourcing teamwork Values Physical conditions Support for risk taking Learning/information Customer Rewarding innovation sharing understanding Bias for action Belief in product/ Anticipating customer service quality needs Flexible work arrangements Credible leadership *Differentiators derived from employee research into the survey questions and topics on which financially successful companies excel versus their peers. S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 17
  19. 19. Critical issue: Is the current culture appropriately aligned with future direction? In this case, the current cultures of both parties to a deal were closely aligned, emphasizing customer, efficiency and image However, the future business strategy called for a new emphasis on quality and innovation, enhanced focus on image and lower emphasis on efficiency 0.50 0.43 Current Future 0.30 0.15 0.12 0.13 0.14 0.10 0.07 0.10 -0.10 -0.05 -0.09 -0.30 -0.19 -0.50 Customer Quality Efficiency Innovation Image S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 18
  20. 20. Case study: Energy industry consolidation In response to deregulation, an energy company began acquiring smaller companies within the industry Company leadership felt culture was not an issue because the acquirer and the targets were already culturally aligned While this was, in fact, the case, the current cultures were not aligned with the future strategy and industry environment Current cultures were a reflection of the industry’s historical heavy regulation Companies had become bureaucratic and paternalistic The goal for the new organization should have been to create a culture that fosters customer service and innovation Ultimately, leaders recognized the need to forge a new culture that rewards employee behaviors reflecting customer knowledge and innovation S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 19
  21. 21. Research confirms that effective communication can make or break the integration process at the outset Most Critical People Issues: First Three to Six Months of Global M&A Deal Effective leadership from top team 87% 10% 2%1% Selection of the top team 85% 10% 4% 1% A well-executed employee 75% 22% 1% 2% communication program Strategies to retain key employees 65% 28% 5% 2% Focus on cultural alignment 47% 35% 12% 6% Helping middle managers accept 30% 41% 23% 6% their role as leaders Integrating pay and performance 29% 46% 14% 11% management programs Rigorous staffing and selection processes 27% 47% 22% 4% Integrating benefit programs 27% 39% 20% 14% Critical Somewhat critical Neutral Not very/Not at all critical Source: Towers Perrin TP Track Survey; percentages reflect the answers of those respondents who have completed at least one deal in the preceding three years. S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 20
  22. 22. Effective communication strategies help companies address a raft of employee questions about how the deal will affect them personally My Company My Team My Work My Career My Money My Future What will What will What will How will my What will What will happen to happen to my happen to day-to-day happen to happen to the me? ability to earn opportunities work change the people I company I money… for my career …short term? work with? joined? short and …long term? long term? S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 21
  23. 23. Case study: Global consumer goods acquisition A large consumer goods company acquired a multinational division from a competitor in a multi-billion-dollar deal Goal was to broaden the product offerings and gain distribution and sales networks in more than 30 countries, including key emerging markets The company had stumbled in previous acquisitions by relying almost exclusively on centralized communication channels controlled by headquarters Created uncertainty, distrust and union activity among acquired groups because the company failed to recognize that communication from HQ signaled unpleasant changes for many employees in other countries To more effectively integrate this major global acquisition, the company devoted considerable effort to developing a balanced communication strategy Identified the most appropriate media for delivering different messages Trained regional/national managers to play a prominent role Emphasized personal, one-on-one messages from managers to help engage employees and inspire confidence in the transaction S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 22
  24. 24. Why governance is especially critical in cross-border transactions In the broadest sense, governance is the oversight process or processes an organization follows to mitigate risks and safeguard the corporation’s interests Addressing governance in the cross-border M&A context is always difficult and often an unexpected tripwire because of issues such as: Lack of familiarity with local and national requirements and normative practices Poor documentation of existing authorities and accountabilities Failure to communicate parent company governance structures and oversight requirements To provide meaningful control, establishing authorities and accountabilities cannot be an ivory tower exercise Research shows that institutional investors will pay a premium for good governance practices and that companies with the highest governance rankings deliver higher financial returns S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 23
  25. 25. How governance models differ between key regions United States “Liberal model” ⎯ priority given to shareholders — Encourages radical innovation and cost competition Sarbanes-Oxley Act has codified governance framework United Kingdom “Flexible model of regulation” Principle-based code that lists dozens of recommended practices — Publicly listed companies can choose whether to apply principles — If not applied, must explain in annual reports why Structured, but with flexibility Asia, Latin America and other European countries “Insider model” ⎯ interlocking networks and committees Family-owned companies common — Japan (keiretsus), Korea (chaebols), Philippines, Indonesia — Mexico, Brazil, Argentina, etc. — Italy, Spain and France (to a certain extent) Decision making concentrated at top levels S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 24
  26. 26. In which cross-border transactions are governance issues most sensitive? U.S., W. Europe Emerging Markets Investors Target Lack of trust: governance models in certain regions, countries Lack of transparency: understanding and penetrating complex networks Family-owned companies, conglomerates Emerging Markets U.S., W. Europe Investors Target Perception that targets in North America and Western Europe will have difficulty accepting foreign ownership (particularly from emerging markets) Pronounced differences between family-owned companies in emerging markets and liberal model of the United States S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 25
  27. 27. Key elements of the governance framework Management Tools A corporate social and environmental Stakeholder Management responsibility program, plan and initiatives Audit function Reporting, Monitoring and Auditing Financial, operational and compliance reports Business and compliance review processes Code of conduct Policies and procedures Compliance Program Compliance training Risk assessment and risk management planning Policies and procedures Critical process mapping and identification Internal Control Environment of risks and risk mitigants Decision-making responsibility matrix Mission and value statements Leadership and Culture Guidelines for leadership Annual business and compliance plans Board charter Effective and Accountable Boards Rules of governance S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 26
  28. 28. Best practices in cross-border governance Address governance issues early Consider basic RACI* model during due diligence or early in the integration process Test local, country, national norms Assess compliance risks and “vulnerability gaps” Establish clear rules of the road and communicate them bi-directionally Assess changes against a value creation/destruction framework Key areas of focus Decision-making body and guidelines Organizational culture of compliance Succession planning Performance metrics that include compliance measures Approved protocols and limits Documentation and dissemination of process *Responsible, Accountable, Consulted, Informed. S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 27
  29. 29. Case study: A global professional services firm After acquiring significant operations in Asia, a global professional services firm elected not to act on signals that governance processes in several of the Asian countries were ineffective and needed to be clarified No culture of compliance in certain locations Acquirer lacked familiarity with local requirements and normative practices Within months of closing the deal, the firm became the target of investigations by regulatory bodies in Japan and Korea Japan and Korea offices barely escaped forced closing, but faced severe sanctions Future business was jeopardized The offices were forced to overhaul their governance practices — in particular, the compliance program and internal control environment Closer attention to governance issues earlier in the process would have avoided big headaches and significant compliance and reputational costs S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 28
  30. 30. Sample analysis of target company workforce… Flawed Secured Highest Risk Lowest Risk Low 18% Flawed in XYZ Overall 32% Secured in XYZ Overall Variability Moderate Risk Slight Risk High 32% Exposed in XYZ Overall 18% Vulnerable in XYZ Overall Exposed Vulnerable Low High Favorability Source: Towers Perrin-ISR compliance framework, which surveys employees to gauge the ethical characteristics of the workforce; a secure environment is one in which favorability on ethics questions is high and variability in those opinions is low (i.e., ethical practices are sound and that sentiment is widely shared). S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 29
  31. 31. …and a closer look, by country Country % Secured % Vulnerable % Exposed % Flawed Chile 20 16 47 18 Korea 21 4 29 47 Japan 11 7 52 30 Argentina 25 12 44 20 Brazil 27 25 39 9 Canada 33 22 30 15 South Africa 37 19 30 14 New Zealand 39 22 26 13 Taiwan 37 12 23 28 Russia 23 15 44 19 Venezuela 42 21 27 10 Singapore 30 10 24 37 Mexico 39 18 30 13 India 32 21 32 15 United States 51 20 21 8 Thailand 30 9 28 33 China/Hong Kong 28 13 33 26 Australia 32 23 31 15 S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 30
  32. 32. Some final thoughts on best practices for cross-border M&A transactions Conduct thorough due diligence that encompasses financial and workforce issues and addresses critical integration issues (e.g., culture, governance) Address national culture early and build awareness with leadership team(s) Communicate aggressively, focusing on the business rationale but taking into account local/national cultural and communications norms Assess organizational culture and alignment against business strategy Review governance model against a value creation/ destruction framework S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 31
  33. 33. Questions? douglas.downard@towersperrin.com mark.arian@towersperrin.com kevin.dent@towersperrin.com S:EGS2008M&A133770M&Awebcast.ppt © 2008 Towers Perrin 32