Mistake #56
THE WORST THAT CAN HAPPEN

To avoid a failed integration, prepare a thorough integration plan during due diligence AND manage its execution closely.

A group of entrepreneurs with financial and legal backgrounds began a roll-up in construction materials. In just two years, they acquired three companies with a total of $25 million in annual revenue. The companies were family-owned organizations with virtually no formal infrastructure such as a management team, automated business systems, or progressive supplier and distribution relationships. By cross-selling and streamlining management, they were able to increase sales organically to $35 million in the 2005–2007 peak construction period.

Their plan was to build a $100 million company on the east coast and then flip it. They bought new equipment and rolling stock, opened two distribution centers, and built computer systems from scratch to manage their production and financial operations—all financed with debt. They hired a President to integrate and manage the business since the owner-managers of the acquired companies left after their respective closings. But after two years, he was fired for cause. As if that wasn’t enough, the economic downturn hit the construction industry. Sales dropped sharply, cash flow was too little to carry the debt load, and they filed for Chapter 11 bankruptcy. That’s the worst that can happen—a truly unsuccessful integration. This integration crashed and burned for three reasons:

(1) the operational infrastructure was put in place after the acquisitions,

(2) a management structure was built after the acquisitions, and

(3) capital was inadequate to finance post-closing infrastructure investments. All three of those “mistakes” were discussed in Chapter 2.

Bank mergers are notorious for awkward integrations—a model not to follow! For example, in a town near Stuart’s and Dick’s homes, you can stand at the door of a branch of the seller’s bank and look across the road to see a branch of the buyer’s bank. What’s more, branch offices of two other banks are on the other corners of the intersection. It was clear to customers and employees alike that one of the two offices must close. But which one? What would happen to the two bank staffs? How would the ATM and other systems change? Would customers be satisfied with the new processes and services they would receive after the operational merger? Nearly two years later, one of the branch offices finally closed. But not before there was a 50 percent turnover in staff, and almost a 20 percent drop the combined customer base. That’s the second worst thing that can happen in an integration gone awry: high operating costs, losing customers, and losing key employees. In this case, the integration failed to deliver the anticipated return-on-investment because of lack of a clear plan for post-closing integration actions, and what appeared to be a lack of management decisions and daily oversight of the integration process.

Many buyers expect cost savings from the integration to partially offset the acquisition price and produce value from the transaction. If that’s the case for you, set a cost savings goal in the integration plan, identify baseline costs, and specify mechanisms for tracing actual cost savings. Time is of the essence for recovering savings during integration. Unless savings are realized within a reasonable time after closing, integration fatigue can set in and diminish the possibility of finding further savings. A rule of thumb is that the buyer can expect to find 4 to 6 percent in operational savings within twelve months after closing an acquisition. For example, if the purchase price is $20 million, the buyer can expect and look for about $1 million in cost reductions in the first year from personnel reductions, process improvements, facility consolidations, and the like.

Delays in vital personnel decisions, process improvements, facility closings, and system consolidations usually indicate there never was an integration plan, or it is being poorly managed. Similarly, a narrow view relative to reducing operating costs can result in laying off employees who are essential for a successful integration. As a result, valuable time can be lost and needless operating costs incurred. On the other hand, an effective manager can often be the key player who makes an integration work. Effective execution of and management involvement in the integration plan is required to avoid the worst that can happen!