Could the merger curse be lifting? It’s become almost common wisdom that mergers and acquisitions are bad news for shareholders. But unlike previous merger and acquisition cycles, more recent deals are creating shareholder value, according to research by London’s Cass Business School and Towers Perrin.
The joint study reviewed 218 global deals that closed in 1988, 1998, and 2004 with inflation-adjusted values between $400 million and $1.5 billion. The key measure of success examined was the one-year company share price performance, from six months prior to six months after the deal. The study compared share performance and the performance of the MSCI World Index; the comparison was an attempt to smooth external, macroeconomic factors that affect mergers and acquisitions, such as interest rates and geopolitical instability.
Although the approach of focusing on share price when measuring a transaction’s success is imperfect, the Towers Perrin report noted, the share price reflects the market’s confidence in the combined company and offers some insight into the company’s actual performance.
According to the study, companies involved in mergers and acquisitions in 2004 outperformed the broad market, measured by the MSCI World Index, by 7 percent. In 1988, merged companies underperformed the market by 6.4 percent and in 1998, they underperformed by 2.5 percent.
The results show that shareholder value is being created through mergers and acquisitions, said Marco Boschetti, a Towers Perrin principal, who discussed the study at a recent CFO Leadership Forum presented by The Executive Forum in New York City.
Panelists at the conference offered possible explanations for the results and factors of merger success or failure. Karen Osar, CFO of specialty chemical company Chemtura Corporation, characterized mergers and acquisitions as a discipline. “There is greater knowledge and skill now than 10 years ago,” observed Osar, whose company relied upon outside expertise recently. When Chemtura was formed through a July 2005 merger between Crompton Corporation and Great Lakes Chemical Corporation, the company hired a third party to help executives understand issues such as the tax, pension, and customer service implications of the merger, said Osar.
Richard Lane of the corporate finance group at Moody’s Investors Service noted that technology also has improved deal making by providing real-time data, which allows companies to react more quickly in bad situations.
Additionally, in the wake of the Sarbanes-Oxley Act, corporate boards are demanding more transparency and discipline in a deal, noted Lauralee Martin, CFO at Jones Lang LaSalle. The legislation leads to a more rigorous process of due diligence, added Lane.
Others believe that companies have simply learned more about how to do corporate deals. “There is much more awareness now than 10 to 15 years ago that it is a tricky, risky undertaking, and that you have to be good at it,” observes Stephen Glover, a partner at the Washington, D.C. office of law firm Gibson, Dunn & Crutcher. “That has led to better execution because people are more thoughtful about it,” noted Glover.
Some are skeptical that the results indicate a trend, however. Thomas Lys, a professor at the Kellogg Graduate School of Management at Northwestern University, notes that the years 1998 through 2003 were the worst years in merger history in terms of performance, creating a low reference point for future years. Mergers from 1998 through 2001 destroyed $134 billion in shareholder value, according to The Economist, the parent company of CFO and CFO.com. The improved results from 2004 are not surprising, he told CFO.com in a telephone interview.
“On average, mergers in the last 50 years have destroyed value for the acquirer,” said Lys. Measuring shareholder value by stock price performance is the only legitimate approach, he added. Lys emphasized that the statistic is an average and there are variations from year to year.
Overall, market reactions to mergers in the short-term and the long-term are consistent, according to Lys. Studies have examined stock performance over a few days to five years. The results? “Mergers that lost money in the short-run also lose in the long-run,” he said.
Reacting to the recent study on corporate deals, Lys commented, “One year does not a trend make. I wouldn’t declare victory.”