Though mergers and acquisitions bring companies together in expensive and thoroughly documented transactions, many end eventually in ruptured unions. In a recent study of 1,365 mergers and acquisitions by S&P 500 firms between 1983 and 2010, we found that 46 percent of corporate unions resulted in divorces, with up to 77 percent of the breakups representing failures of the parties to build lasting relationships. But what accounts for the unsuccessful bonds?
We answer this question and discover statistical trends by constructing a new and comprehensive data set of corporate divorces. To identify solid evidence about traceable mergers and acquisitions, we look at deals by the largest public companies in the United States, outside of heavily regulated industries (such as utilities or railroads), in which the acquirer owns 100 percent of the target upon completion of the deal. We exclude transactions involving indeterminate assets, as well as individual assets like airplanes or media stations that are merely pieces of a target. Further, we focus only on deals of at least $1 million and that represent at least 5 percent of an acquirer’s market capitalization as of 20 days before the acquisition announcement. In this manner, we ensure analysis of only economically sizeable transactions with relatively straightforward post-acquisition histories that we then trace manually.
To detect instances of corporate divorce, we review a variety of public sources, including several news and non-news databases, newspapers, internet searches, and corporate websites. Our examination pinpoints divestitures in which the acquirer completely sells all assets of the target firm, or conducts a spin-off, equity carve-out, or sale of majority ownership. “Divorce” also occurs when a new company purchases the acquirer and subsequently divests all assets of the original target firm. Tracking the performances of the transactions and applying duration models, i.e., a survival model analysis, and industry measures to the data set, enables us to identify the deeper socio-economic implications that help explain the ruptures. We find that two main factors drive the breakups: post-acquisition industry shocks and cultural dissimilarities.
Shocks to the industry, or unforeseeable distresses that alter industry structures, cause disruptions to the economic landscape that lead many mergers and acquisitions to deteriorate even if they started with well-thought-out strategies. The current COVID-19 global pandemic may represent such a shock and an opportunity for investigation. Importantly, and by the same token, positive industry changes reduce the likelihood of divestiture.
Though adverse industry changes in the years following a deal account for many of the divorces, cultural disparity among parties proves the bigger culprit. The majority of corporate divorces occur due to incongruencies in culture of the acquiring and target firms, signaling the failure of CEOs to adequately assess cultural environments prior to merger and pointing to ruptures that could have potentially been avoided. Studying cultural values and asymmetries based on zip codes allows us to attain this insight at a national level within the United States. Whereas previous studies extend to cross-border M&A to ascertain more distinct cultural differences, our study gives a first look at cultural disparity as a main cause of M&A splits within the country.
Since lack of pre-acquisition due diligence frequently leads to failing deals, many CEOs choose to hide bad decisions by hanging on to the deteriorated assets. Their efforts may include divesting acquired assets, in parts or bundles to mask failure and give the general public the false perception of successful unions. Not surprisingly, new CEOs often correct the failures by quickly undoing the losing mergers. In fact, 40 percent of divorces occur in the first four years of a new CEO’s tenure. These revelations tap into the behavioral biases and tendencies that influence important decisions by heads of companies, who often act to protect their careers despite incurring losses for the company.
The study’s evaluation period of a quarter of a century captures both M&A and divestiture patterns, identifying a merger wave as a leading indicator of a divestiture wave in the subsequent decade. Acquisitions made during M&A peak years, such as during the 1990s dot-com era, resulted in an elevated number of divorces 10 years later – the average number of years that companies hold on to acquired companies before divestment. Findings should encourage CEOs to carry out thorough due diligence of target firm culture even during economic booms. Executives should resist discounts or bonus offerings, for example, and instead assess whether the cultures of the target and their own firm complement each other, to ensure a strong corporate culture post-acquisition.
Understanding the patterns and reasons behind corporate divorces can alert CEOs to potential pitfalls when considering an M&A deal. While structural changes at the industry level cannot be anticipated, company leaders may take proactive steps to avoid drawbacks due to inadequate pre-merger assessments. The study’s results offer clear implications for the decision-making process that can help executives steer away from costly mistakes and enable more enduring unions.
This post comes to us from Henrik Cronqvist, vice dean for Graduate Business Programs and Executive Education, Bank of America Scholar, and professor of finance at the University of Miami’s Patti and Allan Herbert Business School, and from Désirée-Jessica Pély, post doctoral researcher of social and behavioral finance at the Ludwig Maximilian University of Munich, Institute for Capital Markets and Corporate Finance. It is based on their recent paper, “Corporate Divorces: An Economic Analysis of Divested Acquisitions,” available here.