By now, it’s obvious that the boom in corporate mergers and acquisitions (“M&A”) is permanent. Even in 1991, a slow year, there were 1,877 major mergers and acquisitions worth $79 billion, reports Merrill Lynch. This year’s total could be twice that. Anyone seeking a single explanation for the boom will be disappointed. Previous merger waves featured specific types of combinations. A century ago, the steel and oil industries underwent massive consolidations that produced companies like U.S. Steel and Standard Oil. In the 1960s, conglomerates proliferated, as the ITTs and Littons bought dozens of unrelated businesses (from hotels to insurance companies) on the theory that supermanagers could improve any business.
But there is no such overarching trend today. Mergers, acquisitions and takeovers come in many varieties and reflect many business pressures. Consider today’s primary merger motives:
Defense is the best example. Since 1985, military spending (after inflation) has fallen one third, reports Richard Bitzinger of the Defense Budget Project. Military contractors aim to survive by merging with competitors. Northrup and Grumman, two aircraft makers, combined. The merger of Lockheed and Martin Marietta, which had bought GE’s aerospace division, would create the largest defense contractor. Banks are also consolidating, mainly because restrictions against cross-state banking are being dismantled. Between 1980 and 1993, the number of banking companies dropped from 12,300 to 8,300.
The advent of fiber-optic cables, digital switching and new wireless (radio) transmission is breaking down barriers between local phone companies, cable companies and long-distance companies. Firms are scrambling to merge or create partnerships that would ultimately allow them to offer customers a full array of services. By purchasing McCaw, AT&T would once again be able to offer local phone service. Regional Bell companies want to enter the long-distance market; AT&T, MCI and Sprint are reportedly seeking mergers with cable firms.
Drug companies have been merging because their prices and profits are being squeezed by cost-conscious buyers of pharmaceuticals (health-maintenance organizations and other big medical groups). By merging, drug companies hope to cut costs and offer a wider range of products to group buyers. Drug companies are also merging with the companies that specialize in negotiating lower prices. In 1993, Merck started the trend by buying Medco, a discounter, for $6.6 billion.
Since the 1970s, divestitures (companies selling entire divisions) have constituted a third to a half of M&A activity. Divestitures often acknowledge that past mergers were ill-conceived. Between 1989 and 1993, Xerox sold 10 separate businesses. Kodak recently sold parts of its drug and health-care division, acquired only in 1988. In theory, companies are concentrating on their “core” businesses.
Some mergers pose specific competitive issues. Will a defense industry dominated by a few big firms be less innovative? Is there a conflict in drug companies owning drug discounters? But the larger question is whether mergers create more efficient companies. Frankly, it’s often hard to say.
Many mergers are gambles. Most communications mergers, for example, anticipate a world in which regulatory obstacles barring phone and cable companies from each other’s business are abolished. But no one knows when that will happen. Or consider banks. Studies find few efficiencies from mergers. Still, banks were more profitable in 1993 than at any time in at least 60 years and are providing more services without more people. Since 1980, the number of branches has risen from 38,000 to 54,000 and the number of ATM machines from 19,000 to 95,000. Meanwhile, employment is the same as in 1980. Mergers may have helped.
But promised savings often don’t materialize. As The Economist notes: “Potential difficulties [seem] trivial to managers caught up in the thrill of the chase, flush with cash, and eager to grow more powerful.” Some takeovers of the 1980s were a reaction to bad mergers. Overdiversified companies were broken up into smaller and more profitable firms; companies with strong cash flows were prevented from wasting their money by being loaded with debt – a mechanism to funnel funds to investors. The RJR Nabisco takeover is the best example. Unfortunately, these takeovers turned too speculative; companies were saddled with too much debt.
Megamergers persist, despite spotty benefits, because they “are the quickest way to grow,” writes economist Dennis Mueller of the University of Maryland. Our business system is bureaucratic capitalism. Corporate executives strive to enhance their companies’ size, prestige and stability (bureaucratic goals) while also maximizing profits (capitalism’s goal). The two sets of goals sometimes clash. Managers have huge power to invest hundreds of billions of dollars. When their companies face mature markets, executives cannot always invest these funds efficiently. A study by Mueller and economist Elizabeth Reardon of 699 big companies found that four fifths achieve below-average returns on reinvested profits.
Still, executives are loath to surrender control over these funds by, say, paying higher dividends. Mergers are one way that corporate cash is used, or misused. The result is constant corporate marriage and divorce. Naturally, the partners say their marriages make sense. Sometimes they do, and sometimes they don’t. The M&A game endlessly exposes ambition and miscalculation with only momentary pauses in the action.
