Bigger Yes, But Better?

By John Greenwald

It is 1999, and by this time every company west of the Mississippi will have merged into one giant corporation known as Samson Securities. Every company east of the Mississippi will have merged under an umbrella corporation known as the Delilah Co.

So wrote Humorist Art Buchwald 19 years ago, during the last big wave of corporate mergers. These days the prospect that he wryly foresaw seems considerably less farfetched. In recent months such household names as ABC, TWA and Nabisco have agreed to sell out to other firms and cease to be independent enterprises. They will follow Bendix, Gulf Oil, Conoco and other giants that have already surrendered their separate identities. Since 1980, no fewer than 62 members of the FORTUNE 500 list of industrial behemoths have been swallowed by other companies.

The relentless pace of blockbuster deals is raising profound and disturbing questions. While economists generally praise mergers as good for the economy, many critics voice strong doubts. They charge that even the friendliest consolidations can derail careers, disrupt communities and create unmanageable mountains of debt. Perhaps worst of all, evidence is accumulating that many celebrated past mergers have been colossal failures. Warns Sigurd Reinton, a partner in the management-consulting firm of McKinsey & Co.: "The benefits of mergers and acquisitions are often overrated. You cannot generalize and say all acquisitions are bad, but there is a sufficient number that, at least in hindsight, should not have taken place to suggest a need to tread carefully."

Corporate executives, however, have been anything but cautious. Beginning with a spate of billion-dollar oil-company buyouts in 1981, the merger wave has rolled over virtually every industry. This year alone, acquisitions have produced the largest U.S. gas distributor (Internorth-Houston Natural Gas), a medical giant (Baxter Travenol-American Hospital Supply), a vast food-processing concern (Nestle-Carnation) and one of the mightiest high-technology combinations (Allied-Signal). Last week even brought a proposed sports marriage between the New Jersey Generals and the Houston Gamblers of the U.S. Football League. The number of megadeals this year could wind up challenging the pace of 1984, when companies made 2,543 acquisitions worth a record $122.2 billion.

Ironically, this frenzied activity is occurring at a time when many corporate empires built on mergers are crumbling. Conglomerates like ITT, Gulf & Western and Litton, which grew into unwieldy monsters by gobbling companies in a wide range of unrelated industries, are now disgorging myriad properties. Last June, for example, G & W sold $1 billion worth of subsidiaries to Wickes, which was itself once forced into bankruptcy partly because of a disastrous acquisition. Smaller companies, too, are finding that it pays to get back to basics. Last week Colgate-Palmolive said it plans to sell its athletic-equipment division and several other units in order to concentrate on its health-care lines.

The poor record of conglomerates is well documented. In a study of the merger programs that 58 large firms pursued between 1972 and 1983, McKinsey & Co. concluded that in at least 28 of the cases the acquisitions did not earn enough money for the company to justify the purchase price. In only six instances did the merger program seem to be a clear-cut success. Companies stumbled most frequently when they bought firms in a totally different industry. F.M. Scherer, a Swarthmore College economist who surveyed 6,000 mergers from 1950 to 1977, discovered that the profitability of most acquired companies slumped after they were taken over and that fully one-third of the conglomerate acquisitions of the 1960s were later sold. Says he: "We typically found managerial failure. The acquirers didn't know how to manage their acquisitions."

Many of today's consolidations are fundamentally different from conglomerate mergers. Companies are now snapping up firms in fields linked to their own rather than amassing jumbles of unrelated enterprises. Conglomerates were based on the idea that "if you're a good manager, you can manage anything," says Alfred Rappaport, professor of accounting and information systems at Northwestern's graduate school of management. "That wasn't necessarily true." Now, adds Rappaport, the thinking is "Let's go back to the core where we have the technology and the knowledge and a comparative advantage. Let's stick to things where we're better than the rest." As a result of this change in attitude, says Scherer, "mergers of today have somewhat better chances of success than did the conglomerates."

Still, some companies continue to range outside their industries. Ford Motor last week agreed to acquire San Francisco-based First Nationwide Financial, owner of the ninth-largest U.S. savings and loan, for nearly $500 million in cash. The purchase will expand Ford's credit business, which now includes financing the purchase of new cars. General Motors and Chrysler are also increasing their lending activity.

When executives do venture into new fields through mergers, they are now more likely to adopt a hands-off policy toward the acquired companies. IBM last year completed the $1.9 billion purchase of Rolm Corp., a Silicon Valley maker of telecommunications equipment. The button-down computer giant has since left its freewheeling subsidiary largely alone. "We didn't come here to fill up the swimming pool with gravel," an IBM official assured Rolm employees, who have happily retained their corporate hot tubs, saunas and water-polo team. General Motors has vowed to pursue a similar strategy with Hughes Aircraft, which the automaker acquired in June for about $5 billion. GM said it bought Hughes for its technical know-how, and will refrain from meddling in the California company's business.

Mergers, though, can extract a heavy toll, even when companies fit together smoothly. The more alike two firms are, the more overlaps and layoffs there will be. Employees frequently feel the greatest pain. "The advantage of joining two companies is to save money," says Theodore Barry, a Los Angeles management consultant. "That's why companies do it. But if you're going to save money, somebody gets hurt." Hugh McColl Jr., chairman of NCNB Corp., a North Carolina bank holding company, estimates that fully one-third of the staffs of acquired banks are no longer needed after a consolidation. At Chevron, which bought Gulf for $13.3 billion in 1984 in history's biggest corporate merger, officials say that 16,000 of the merged company's 79,000 employees will be off the payroll by the end of this year.

The Gulf deal embittered many of the oil firm's workers, who suddenly found themselves out of jobs. "At the personal level there is a tremendous amount of turmoil and dislocation," says Joanne Shore, 36, who had been a Gulf corporate planner and now works as an energy consultant in Washington. "That's something you can't weigh economically. At the community level it's a terrible problem, and it really can't be accurately measured."

In Pittsburgh, Gulfs headquarters for 78 years, the merger was a blow to the city's civic pride as well as to its pocketbook. The oil firm's 38-story art-deco headquarters, long a downtown landmark, was sold last May to private investors. The consolidation robbed Pittsburgh of a major benefactor of cultural and educational institutions, ranging from the local symphony to Carnegie-Mellon University. To help compensate for the loss, Chevron is donating an 85-acre Gulf research center to the University of Pittsburgh and chipping in $3 million to help the school make use of its new facility.

Mergers can be traumatic for the employees who stay as well as for those who lose their jobs. Stunned workers may suddenly confront new bosses, novel attitudes and radically changed duties. Says UCLA Psychology Professor Richard Barthol: "It's a very important morale problem. Most of us tend to identify with whatever we're doing, whether it is in high school or a company or a country. If it is changed, we lose something. I think the overwhelming thing is the feeling of helplessness."

Some workers, of course, emerge from mergers with increased money and power. Sydney Anderson, 57, was general manager of Gulf's international production division before Chevron acquired his company. Now Anderson is a Chevron vice president with authority for operations in twelve countries, while with Gulf he oversaw programs in only five. Says he: "It's a vastly expanded responsibility and very exciting." Other Gulf managers are running departments in the combined company as well.

Mergers turn many stockholders into winners. Those who gain, however, are usually investors in the acquired company rather than in the firm that makes the purchase. A McKinsey study of more than 400 acquisitions worth at least $100 million since 1975 concluded that mergers boost stock prices. But the report added that "almost all of this increased value is usually captured by sellers." Shareholders of buyers come out ahead in only half the cases, the study found, and lose money the rest of the time.

For executives, the rationale for corporate marriages is often simple. Says Edward Hennessy, chairman of Allied Corp.: "It is cheaper to buy than to start from scratch." Following that logic, Hennessy acquired Bendix for more than $1.3 billion in 1982 in what has turned out to be a profitable purchase. Now he is paying $5 billion for Signal, whose aerospace and engineering lines complement Allied's products.

That deal also looks promising to Signal Chairman Forrest Shumway. Both he and Hennessy confidently predict that the merged company will become a much tougher competitor around the globe. "I think that when you're competing in the international market, size is a very important factor because some of the European and Asian combines are very, very large," says Shumway. "Mergers that you know couldn't have been approved several years ago are now being approved because I think the Government has realized that if you're going to compete with some of these foreign Goliaths, you can't have such a rigid antitrust law that no one can grow by acquisition."

Indeed, regulators in the free-market-oriented Reagan era seem convinced that bigger is often better. "Reagan's people have allowed the pendulum to swing much, much further in the direction of free and easy merger opportunities," says Robert Pitofsky, dean of the Georgetown University Law Center. "Businessmen see the opportunity to put through deals now that they couldn't have ten years ago." A more zealous Justice Department blocked the merger of two Los Angeles grocery chains during the 1960s on the grounds that the combined firms would claim 5% of the area's food-store business. Today corporate acquisitions that result in market shares of up to 20% routinely go unchallenged.

For all the disruptions that big mergers cause, many economists applaud them as a sign of a healthy and competitive economy. Acquisitions are "an important ingredient in a free-market system," says Northwestern's Rappaport. "There's no question that overall they're beneficial." Nor do economists really worry about all the firms in the U.S. eventually blending into one or two gargantuan companies. They note that new concerns are formed at an even faster clip than corporations are consolidating. So while the urge to merge will never end, says Yale Brozen, author of the 1982 book Concentration, Mergers and Public Policy, "that doesn't mean there will be a decrease in the number of companies." Adds the University of Chicago economist: "If there weren't any mergers going on, I'd be worried about the economy." --By John Greenwald. Reported by Stephen Koepp/Los Angeles and Frederick Ungeheuer/New York

With reporting by Reported by Stephen Koepp/Los Angeles, Frederick Ungeheuer/New York