The Merger: Dangers of an Arranged Marriage

Even at “hello” I could feel the tension. Four of them, one of me. I was feeling some heat as they stared at me, looking for answers.

There were two representatives from each company. Their desire to merge was borne from a conversation between the two owners at a wedding three months earlier. Ironic they had this conversation at a wedding, because that’s the kind of relationship they were now talking about structuring. Or maybe best to call it an arranged marriage. The two companies were tired of beating each other up, bidding for the best employees, and stealing accounts from one another. Assuming they could make the arranged marriage work, they knew they’d be stronger together, especially against the new competitor from Sweden. But could a casual conversation at a wedding actually be the genesis of something so substantial? How do you bring together two companies who for years have been fierce competitors? That’s the question they wanted me to answer. It disappointed them to realize that I brought more questions than answers.

Each company was represented by the owner and his primary advisor (all names used hereafter are not real). Bruce owned Company A and his advisor was Joe the CFO. Hamilton owned a majority of Company B and his advisor was Ed, the company’s COO, who had a 20% share in the company.

Mediating a merger first requires valuation of both companies. The principals were in agreement about the value of Company A, right at $20 million, but there was disagreement about Company B’s valuation. The principals for Company A thought Company B was worth $10 million, meaning Company A’s shareholders would own 67% of the merged company and the owners of Company B would own 33%. However, the shareholders of Company B valued their company at $16 million, arguing they should therefore own 45% of the merged company. I could tell that getting a consensus valuation was not going to be easy.

The second challenge to mediating this merger was how to handle the liabilities of each company. Once the Balance Sheets of the two companies is consolidated into one Balance Sheet, it’s not viable to allocate relative liabilities to the two companies. Complicating this is the nuance that not all liabilities are the same. How you treat an account payable is different from how you treat a long-term loan with a floating interest rate. Usually, the simplest answer is to deduct the current value of the long-term debt from the value of the equity exchanged to create the merger, but boy howdy, that can be a difficult negotiation (the ins & outs of that is another blog topic). I was not optimistic this was going to be an easy issue to resolve.

The third complication when mediating a merger was an implicit assumption the principals of each company would continue to have a job. But what job? Reporting to whom? In charge of what? In theory, the management team of the larger Company A will stay in charge, but even if that’s true, they have to decide what to do with the management team of Company B. I have seldom seen a proposed merger when the principals negotiating the deal were planning to exit the business after the merger. If exit was the objective for one ownership team, they’d likely be negotiating a sale, not a merger. The point being, post-merger role allocation is a concern of gargantuan proportions.

Last but certainly not least, the integration of two cultures into one smoothly-running organization looked to be a challenge. Books have been written on the topic of cultural integration, a well known example was the colossal failure of the Daimler Benz and Chrysler merger. On paper, the strategic logic of that 1998 merger was a slam dunk and the synergies between the two companies created a beautiful 1+1=3 scenario. This was thought to be the merger of the 20th century. That is, until people got involved. The German company had an uptight, hierarchical approach while the US company had a risk-taking entrepreneurial approach. Pardon the pun, but that auto merger was a crash-and-burn because the leadership of the two companies didn’t consider how to merge their corporate cultures. I didn’t yet know enough about the cultures of Company A and Company B but I during the meeting I was getting the sense there would be work to do to bring the “operating ethos” into consensus.

As I walked the principals of Company A and Company B through these four concerns, I could see their countenance get increasingly worried, frankly even somewhat annoyed. Here I was, the guy brought in to make this arranged marriage work, yet before we even get started, I’m laying out the four challenges we’ll have to get the deal done. Some in the room probably even thought I was trying to scuttle the entire idea.

The truth is, there’s a reason you seldom hear of a true merger where two companies consolidate on a proportionate basis. Most times you hear the word “merger,” it’s a shorthand way to say Company A has bought Company B. So when considering a true merger, put the tough issues on the table at the outset. Just because the marriage is arranged by well-meaning parents doesn’t mean it’s a lock for success.

JIM CUMBEE is President of Tennessee Valley Group, Inc. a retainer-based business brokerage and transition mediation firm in Franklin, TN. Cumbee is an attorney and has an MBA from Harvard Business School. He has a wide range of corporate and entrepreneurial experiences that make him one of the most sought-after business transition advisors in the state of Tennessee.