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Tactics which can support a strategy of growth

There are three tactics which can support a strategy of growth. First a firm can adopt internal or organic development. For example Glaxo Smith Klein (GSK) a large UK drugs business reorganised its research and development (R&D) operations to improve expansion. Second, another UK pharmaceutical company AstraZeneca carried out takeovers of bio-science firms (mergers and acquisitions M&A). Compare and contrast these two approaches to growth by discussing their relative advantages and disadvantages. Use examples from any relevant sector, not just "Big Pharma".

Summary

The paper presents a contrast between conservative and aggressive growth options. It discusses mergers and acquisitions, organic growth and alliances using examples from a range of industries which include online businesses, brewery firms, soft drink giants and also a major pharmaceutical industry merger. In examining the interface between the different growth options the paper posits that they are not mutually exclusive and one may lead to the other, whereas a portfolio of growth options is strategically astute to have. The advantages, disadvantages and issues surrounding the growth options suggest that it is a risk-benefit premise that underpins the value perceptions from a chosen growth route. Competitive situations and resourcing s aspects also govern the choice a chosen route.

1. Introduction

This paper discusses the different routes to growth that an enterprise might take. Given the growing popularity and mixed success of aggressive growth option of mergers and acquisitions, the paper compares and contrasts them with more conservative options like organic growth and alliances. It first presents the interface between the different routes and then focuses on their relative advantages and disadvantages. The contrast is also brought out in discussing needs, and in highlighting the issue of achieving synergies for delivering greater value under the different growth routes. The paper focuses on organic growth and mergers and acquisitions in the main, with some development of the context of alliancing in comparing the two. It closes with some strategic highlights from the discussion.

2. The Interface and Non-Exclusive Nature of the Growth Options

Strategic growth options for a firm usually take three forms. These are growth through alliances with other firms in different areas ranging from R&D to distribution and other forms of joint ventures; growth thorough mergers or acquisitions (M&A) – that implies creating a new entity through a merger or an expanded firms through an alliance and; organic development that is essentially about growing as an organism through overtime development using investment from surpluses the firm creates from its operations to acquire more assets, personnel and diversify or expand into business areas (Sudarsanam, 2003, p. 70).

While these are different options they are not necessarily mutually exclusive. An organisation can follow one option or the other simultaneously. For example a global firm can alliance with another in a new market for purposes of accessing its distribution network while continue to grow organically in another market it has a very entrenched position in. In still another market where competition is intense and competitors are vying for key suppliers it may engage in vertical integration with acquisitions along the supply chain. The example of Pepsi is a validation of such simultaneous occurrence. It acquired key bottling firms in Mexico at three times the price they were worth in early 1980s; this affected the growth of its competitor Coca-Cola very adversely. Similarly Pepsi tied up with Thumps-Up the Indian soft drink brand to penetrate the market before making an offer of acquisition that Thumps-UP could not refuse (Weston et al., 2003). This synergetic and partnered penetration also worked well with making a foreign brand get acceptance in India, which had traditionally been very resistance to foreign brands. In the mean time of course Pepsi continued to grow organically in other markets and later in the markets it thus entered through more externally oriented growth options i.e. alliances and mergers and acquisitions.

This example opens up one more dimension of the interface between the different strategic options. This is about one leading to the other. The most familiar one is the alliance option leading to a merger or acquisition- where the former is essentially a taster that builds confidence in the merger. After merger or acquisition the strategising for organic development becomes very crucial, because two different legacies come into play – moving forward as one firm is bereft with challenges (Datta, 1991; Mintzberg et al., 2003, p. 129).

The following figure captures this interface. Organic development is a stable option while an alliance is an option with an external locus that can (but not necessarily will) lead to an M&A, while M&A itself is a function of further and focussed organic development. Alliances can also result in further progress along the partnership trajectory or withdrawal, contingent on how the issue of mutual benefits and over time trust shapes up. An M&A in contrast – if it fails can also lead to disposal or a de-merger as is sometimes called, which is very difficult and costly to do (DePamphilis, 2008, p. 531). It can also require organic development that is not – normal but calls for restructuring as well to co-opt the new organisation that comes into being requiring a merger of two legacies.

Figure 1: Interface and Non-Exclusive nature of the Growth Options

3. Advantages and Disadvantages of the Growth Options

This section extends the contrasts the organic development and the mergers and acquisitions option, building on the prior section that outlines there nature and mutual interface. In doing so it also invariably engages a comparison with the ‘alliances’ perspective which is the third and arguably the midway perspective intertwined with the other two as explained in the preceding section. The disadvantages and advantages of the growth options are discussed and then summarised.

Because of its internal locus of control organic development is easier to control. It is an incremental growth option which builds on core competencies and feeds on rents the firm draws from its operations to fuel expansion. To this extent while it is slower relative to other options it also entails lower risk. Even if debt financing is subscribed to – it is leveraged on current operational throughput and not on future estimates as in mergers and acquisitions, where such estimates are highly contingent on the success of a complex post merger acquisition process (Ghoshal and Gratton, 2002, p. 34). The organics growth option often involves more upfront revenue costs even if debt financing is subscribed to. Furthermore its value in terms of surprising competition because of its slow trajectory is low. Competition is likely to predict the outcomes and resultant value a firm will draw from its investments in organic growth.

Alliances and Joint Ventures are a step up from the mergers and acquisition process they transcend limited competencies by alliancing and drawing the resources of the partner. In many cases such alliances lead to much superior value than would be possible given the constrained and limited scope of one enterprise’s resources and capabilities. This unlike organic development moves can usually surprise competitors but can also crumble easily because it is a partnership based on a perception of mutual benefit. Only when it goes beyond benefits to trust can it be rather stable. It does not give real control to anyone enterprise and usually each tries to get more value out than the other. Relative dominance of collaborators may shape an alliance that is not only stressful but is likely to sometimes result in sub-optimal value for both parties. However, when it transcends the benefit harnessing premise to trust between partners it can sometimes sow the seeds for a rather amicable merger and acquisition (DePamphilis, 2008, p. 539).

Mergers and acquisitions do not usually arrive by joint ventures but independent of it. They are closely guarded secrets even if deliberated for considerable period of time. When they occur and/or are announced they can cause a ripple in the industry and also surprise competition. Mergers and acquisitions fundamentally extend competencies by integrating new ones provided these new ones do not conflict with the old ones/ the other set of competencies, but act as complements. The economies scale and scope in production and in reach to markets also stands extended if there is not much duplication or conflict in drawing synergies (Harrison, 1991, p. 178; Sirower, 1997, p. 17). In essence the search for parties with true complementary resources is critical for drawing synergies for benefits from an M&A. Not only the merger and acquisition costly but it hits profits in the short run due to market uncertainty in the short run and also focus on integration than operational excellence that is required in the immediate aftermath. This aftermath can extend to several years as in the case of GlaxoSmithKline (GSK) than came together as a consequence of the merger between GlaxoWellcome and SmithKlineBeecham in 2000. The post merger integration activities continued for almost the next few years. For instance, the post merger integration of project practices was rolled out after initial smoothening and alignment of resources only in 2003 and then took another few years of refinement based on feedback to get firmly in place. Though this was a successful merger the process itself was costly in terms of resource commitment (Weston et al., 2003, p. 151).

Similarly the dilemma faced by AmBev the merged entity from the coming together of Anthartica and Brahma took even longer to stabilise because of fundamental nature of the business of these two Brazilian brewery firms. One was conservative and the other rather ambitious in terms of marketing and product selection. This impacted some incongruence in how the combined top leadership made strategic decisions post merger. Another important thing to note is that in the rushed market manoeuvres of the 1990s it was always an explicit dilemma – whether to focus on integration or go for more mergers and acquisitions. Though AmBev opted for the latter and was successful- it was a risky manoeuvre to invest in M&As without realising true synergies from past M&As (Mintzberg et al., 2003, p. 130). This also brings forth another aspect of managerial hubris that can be fuelled by successful M&As initially and making the top leadership run on this trajectory of high risk for very long periods. The case of Saatchi and Saatchi that found this to be its nemesis is aft cited as an example of M&A moves that went on for too long, were led by managerial hubris and eventually led to organisational decline, because synergies were not appropriated (Minztberg et al., 2003, Haleblian et al., 2009).

The risk mergers and acquisitions entail puts an argumentative quotient to their speed. They are not really fast if one were to look at the time it takes to draw synergy, and if done careful require more time than usually appreciated to scope a relationship like in an alliancing arrangement. As Faulkner and Bowman (quoted in: Gaughan, 1994) say: “Of the various opportunities to growth which may exist, the option of acquisition [and merger!] is by far the riskiest, unless pursued after an extended period of close collaboration with the target company [between the target companies] as a partner”

In summary the relative advantages and disadvantages can be summarised as follows:

Table 1: Summary of Advantages and Disadvantages of growth Options

ROUTES TO GROWTH

Organic Development

M&A

Alliance and Joint Ventures

Advantages

Easier to control

Arguably perceived to be Fast (but in reality could be painstakingly slow if Post merger integration issues are  not tackled well)

Opens exciting opportunities

Builds around core competencies

Extends Competencies and opportunities

Transcends limited competence

Lower Risk

Surprises Competitors in many cases

Surprises Competitors in some cases

Disadvantages

Slower

Costly

May crumble easily-backing out easier

May involve upfront revenue costs

More Difficult and riskier given the history of M&A –performance indicators ambiguous

Collaborators may dominate

Unlikely to surprise competitors

Hits Profits

Doesn’t give control-arguably lower quality earnings

(Adapted from Gaughan et al., 1994, p. 355-412)

4. Synergetic Growth and Drawing Synergies

In organic growth option synergetic growth is a given because the locus of control is internal. Any improvements in profitability and performance say in R&D and market growth indicate the synergies that have been accumulated and delivered for growth. The incremental value is usually slow but clearly aligned to organizational resources and capabilities. The idea becomes more nuanced when one speaks of two entities coming together to shape a new one as in an M&A. The sense for doing this will only when the combined value is greater than the sum of the parts i.e. greater that the sum of their value generation when they were apart. This is where the contrast of value, synergies and also expectations between organic growth and mergers and acquisitions becomes much amplified from a perspective of ‘rationale’ (Larsson and Finkelstein, 1999, p. 21; Sirower, 1997, p. 41) .

Synergy theory expects that there is really “something out there” which enables the merged /combined entity to create shareholders value. In other words synergy is ability of merged/combined entity to generate higher shareholders wealth than the stand alone entities. Economically it can be said to translates into ability to further limit competitors’ ability to contest their or the targets’ current input markets, processes, or output markets, and/or ability to open markets and/or encroach on their competitors’ markets where these competitors cannot respond. Clearly the shift in synergies or expectations about it is only incremental in the case of organic development in the case of mergers and acquisitions this is rather radical (Sirower, 1997, p. 34, 45)

The two main types of synergies are operating and financial synergy- as discussed in literature that tried to examine the efficacy of merger and acquisition cases. Operating synergy refers to the efficiency gains or operating economies that are derived in horizontal and vertical mergers. Financial synergy in the main refers to the possibility that the cost of capital can be lowered by combining one or more companies. One of the main sources of operating synergy is the cost reductions that occur as a result of corporate combination. These cost reductions may come as a result of economies of scale (decrease in per unit cost due to the increase in size or scale of the company). The other is economies of scope which is the ability of the firm to utilize one set of inputs to provide a broader range of products and services. Financial synergy refers to the impact of a corporate merger or acquisition on the costs of capital to the parties in the M&A transaction. However whether financial synergy actually exists is a matter of dispute within corporate finance. The combination of firms can reduce the risk if the firm’s cash flows are not perfectly correlated. If the transaction lowers the volatility of cash flows then the suppliers may consider the firm less risky (Filatochev and Toms, 2003, p. 900).

Drivers of synergy are thus a whole gamut of factors in mergers and acquisitions in contrast to routine and linear combination of production and operations feeding into strategy in organics development. This relative complexity in mergers and acquisitions is as outlined in the figure below. These combine and augment each other for delivering synergy which is the indicator of an M&A transaction. Factors such as strategic relatedness, culture and modus operandi of the transaction influence the extent of and time taken to achieve synergy levels that are stated in the transaction objectives. It is not that these factors do not appear in organic development scenario – only that they are streamlined and dormant as concerns because of the stable platform of incremental and slow pace of investment with mostly lower expectations of returns compared with M&As (Haleblian and Finkelstein, 1999)


Figure 2: Amplification of a complex set of factors in M&A relative to organic growth
(Adapted from: Weston et al, 2003, p. 43)

For example, in the case of the eBay –Skype transaction in the middle of the last decade operational synergy in this vertical integration is argued in context of economies of scope given the ideas of ‘creating more users’, ‘‘increasing presence abroad’, ‘the role of real time communication in e-commerce’ e.t.a. Economies of scale have been implied in the idea of ‘creating and enabling faster communication between buyers and sellers’. EBay also acquired resources to compete with rivals ranging from Google, Microsoft et al from a perspective based on Porter’s five forces model (discussed in - Mintzberg et al,, 2003, p. 131).

There is some argument about how the markets would see this integration given that Skype was seen as potentially more volatile. Though there is insufficient financial information to comment further on financial synergy, the mode of acquisition payout being linked to performance and with sales improvement- the argument may contribute to stability and financial value perception of the M&A deal. The rolling acquisitions eBay made also resulted in making the suppliers of capital a bit apprehensive like : is it too many too quickly, will it be a case of indigestion. Clearly the M&A mode brings external control and external interface into play that goes beyond just the external entity being merged with or acquired.

Also, the eBay and Skype deal looked at a gestation period contingent on performance. This was de-facto not a complete deal in conventional M&A terms but arguably a progression from a quasi-alliancing kind of a mode to a complete acquisition. Organic development at eBay was argued to be costly relative to just acquiring Skype (given video-voice based real time communication technologies). However, this perception of cost as argued in acquisition justification talks is sub-optimal; the costs have to include the risks of integration, investment of resources in facilitating and internalizing the acquisition – among others. The Ebay and Skype integration did not last long, with eBay selling off Skype in 2009 (TC News, 2009).

From a true cost perspective that sometimes includes unforeseen elements including firm reputation, it is rare to find an M&A that is less costly than organic development. Of course when a success and with returns factored in M&A is a option that promises returns that are much higher- I a typical high risk high return setting that characterizes growth options. Also while an alliancing though could be a competitive strategic option in the case of Ebay-Skype, Skpye was an acquisition target for competitors like Goggle and Microsoft, making it sensible for eBay to go for an acquisition. However, in hind sight eBay could do with a mix of growth options across the transactions it has made with the 18 companies (all acquisitions) to closely ponder where and if, it could go for alliancing or organic development in some cases instead of acquisitions to optimize usage of company resources (TC News, 2009; Harrison, 1991).

5. Contrasting Key Performance Indicators and amplified needs

Another complex process that entails Mergers and Acquisitions is a view on the key performance indicators that becomes inherently complex. As the list of generic key performance indicators suggests- almost all become amplified. For example retention of existing customers while in organic growth is subject to standard marketing strategies in M&A it also becomes a function of realigning brand equity related perceptions. The list in the table below also have some elements that are explicit in terms of mergers and acquisitions like on achieving synergy and integration and also systems alignment and personnel leaving (turnover). This creates new pressures for management- alternate processes and even internal change projects have to be set up. This is also a validation for the earlier assertion that it can in effect be time consuming and because of such diverted attention, among other things M&A can hit profits in the short run.
Table 2: A perspective on performance concerns

Perspective Key Performance Indicator
Customers - Retention of Existing Customers
- Efficiency in Delivering Services
Financial - Synergy Components Captured to Date
- Timely Financial Reporting
- Timely Cash Flow Management
Operational - Completion of Systems Analysis
- Reassignments to all Operating Units
- Resources Allocated for Workloads
Human Resource - Percentage of Personnel Defections
- Change Management Training
- Communication Feedbacks
Organizational - Cultural Gaps between companies
- Number of Critical Processes Defined
- Lower level involvement in integration

(Adapted from: Weston et al., 2003, p. 55)

Likely challenges for eBay are going to be related in the main to systems analysis to integrate Skype voice and video communication into the auction-sale-purchase system it has. Skpye is seen as a smaller more ‘rebellious’ company intent on keeping its individuality even when it is a part of eBay. In this sense cultural gaps and communication-feedbacks between companies will need to be addressed very carefully (Weston et al., 2003, p. 114). Performance monitoring i.e. synergy components captured over time for the proposed performance linked payout may also need clear upfront guidelines. The resources of eBay are stretched given the rolling acquisitions it has made; it was initially interesting to see how it deployed resources for the post merger integration initiative (TechDirt, 2006).

There are also other issues that can be used to contrast the needs of the M&A process versus the organic growth option. One of these that merit a mention at the close of issues and characteristics discussed in the paper is the role of regulatory bodies and how they perceive either. In the case of organic growth the impacting regulations are mostly operational but in the case of M&A regulatory authorities pay close attention to what is the impact of an M&A on the industry competition and consumer interests.

6. Conclusions

This paper has shown a clear case for contrast between mergers and acquisitions and organic growth, and has also contextualized the midway route of alliancing. In highlighting issues, concerns and relative merits and demerits the paper is particularly oriented towards highlighting the relative risk of M&A and clarifying the mistaken perception that they are quick. They can be rather slow as well given the need for achieving synergies through post merger acquisitions. Among other things another highlight has been the implications for organizations to adopt a mixed portfolio of growth strategies contingent on the situation and resourcing strengths.

REFERENCES

Datta, D. K. (1991). Organizational fit and acquisition performance: Effects of post-acquisition integration. Strategic Management Journal, 12(4): 281-29

DePamphilis, D (2008). Mergers, Acquisitions, and Other Restructuring Activities. New York: Elsevier, Academic Press. pp. 520-543

Filatotchev, I. and Toms, S. (2003) ‘Corporate Governance, Strategy and Survival in a Declining Industry: A Study of UK Cotton Textile Companies’, Journal of Management Studies, 40, 4: 895-920

Gaughan, P. (1994). Readings in Mergers and Acquisitions. Blackwell, pp. 127-444

Ghoshal, S. and Gratton, L. 2002. Integrating the enterprise. MIT Sloan Management Review, 44(1): 31-38.

Haleblian, J. & Finkelstein, S. (1999). The influence of organizational acquisition experience on acquisition performance: A behavioral learning perspective. Administrative Science Quarterly, 44(1): 29-56.

Haleblian, J., Devers, C. E., McNamara, G., Carpenter, M. A., and Davison, R. B. (2009). Taking stock of what we know about mergers and acquisitions: A review and research agenda. Journal of Management, 35: 469-502

Harrison, J. S.(1991). Synergies and post-acquisition performance: Differences versus similarities in resource allocations. Journal of Management, 17(1): 173-190.

Larsson, R. and Finkelstein, S. (1999). Integrating strategic, organizational, and human resource perspectives on mergers and acquisitions: A case survey of synergy realization. Organization Science, 10(1): 1-26.

Mintzberg, H. Lampel, J. Quinn, J.B. and Ghoshal S (2003) The Strategy Process: Concepts, Contexts Cases, Prentice Hall, pp. 123-134, 231-327.

Sirower, M. L. (1997). The Synergy Trap. New York: The Free Press, p. 13-71.

Sudarsanam, S (2003). Creating Value Through Merger and Acquisitions: The Challenges, an Integrated and International Perspective, 1st Edition, Prentice Hall. pp. 33-78

TC News (2009) EBAY sells Skype, Available online from http://techcrunch.com/2009/09/01/confirmed-ebay-sells-skype/ [Accessed 21 November 2011]

TechDirt (2006) Still Waiting To See The Magical Synergies Of The eBay-Skype Mergerhttp://www.techdirt.com/articles/20061113/005402.shtml [Accessed 22 November 2011]

Weston, J.Fred, Mark L. Mitchell, J.Harold Mulherin (2003) Takeovers, Restructuring, and Corporate Governance, 4th Edition, Prentice Hall. pp. 13-56, 112-167

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