Search for Synergies in Business Realistic or Not - Essay Example

Order: 157496 Search for synergies in business - realistic or not Introduction We intend to discuss in this paper whether the search by many companies for synergies between their businesses is a realistic aspiration or merely like the search after the Holy Grail. In order that the discussion would be both 'light-bearing' and fruit-bearing', it is advisable to define what we understand by the term synergy in business. The dictionary meaning of the term 'synergy' is given as "the simultaneous action of separate agencies, which, together, have greater total effect than the sum of their individual effects" (Webster's New World Dictionary). In general, synergy (from Greek sunergia, meaning "cooperation," and also sunergos, meaning "working together") is the combined working together of two or more parts of a system so that the combined effect is greater than the sum of the efforts of the parts. In business, the term describes a hoped-for or real effect resulting from different individuals, departments, or processes or portfolios of a business or companies working together and bringing about higher productivity and revenues than those of the sum of the individual elements or processes or portfolios of the business. This kind of advantage may be derived from the combined or cooperative efforts of different lines of business of an enterprise and or from the merger of two companies in the same line of business or industry. In fact, synergy is the magic word often bandied about to justify mergers and acquisitions. We shall consider in this paper the nature, content and the extent of synergy that may be generated in both these categories of business combination. However, at the outset itself, it needs to be said as Addison's Sir Roger de Coverly had often declared years ago that "much may be said on both sides of the question". (Joseph Addison) Synergy in strategic management Currently, many of the world economies are 'knowledge-based', heavily dependent on and driven by innovative technology. Any business which cannot adapt itself to the exacting demands of such an economic environment may find it difficult to survive long in the hustle and clamour of the competitive world in which it has its existence. Today's management has to be strategically equipped for the situation. Synergy supplies that strategic equipment. And a management so equipped will focus on the whole, and not on the parts, of a conglomerate business and will work on the interface of components, on their links and binding factors, and on the potential for the whole system to achieve results that are greater than the sum of the parts. A corporation that builds on core competencies utilises skills that combine to strengthen value chains and build greater competitive advantages. This leads to synergies among business units, which help them to become more productive together than independently. The collection of skills used in this situation may be largely intangible, but corporations can and do build synergies by sharing tangible resources. Corporate strategy seeks to develop synergies by sharing and coordinating staff and other resources across business units, investing financial resources across business units, and using business units to complement other corporate business activities. In the language of simple arithmetic logic, if two horses can pull 9,000 pounds, four horses can pull 18,000 pounds. Sounds reasonable - but in the language of synergy, it is wrong! Four horses in combination will be able to pull over 30,000 pounds! It is synergy that makes the difference. A few examples For instance, Ford Motor Company's different brands have their own strengths and systems. The organization unites them together with shared data and compatible systems. Their different high-tech and consumer-focused businesses have imparted the potential of impressive revenue growth, and supplied the synergies for maximum benefit. Another example is that of Toyota. Its global competitive advantage is said to be based on its corporate philosophy known as the 'Toyota Production System'. However, much of Toyota's success in the world markets today is attributed directly to the synergistic performance of its policies in human resources management and supply-chain networks. In the case of General Electric, its former CEO, Jack Welch, had used the term "Integrated diversity" to define business learning culture (Business Bliss). He described "integrated diversity" as the drawing together of the different businesses of the company by sharing ideas, by finding multiple applications for technological advancements, and by moving people across businesses to provide new ideas and fresh perspectives and to develop broad-based experience. Jack Welch transformed the company into a world-class player and the most admired one too. When he handed over control of GE in September 2001 after 20 years of its stewardship, GE was operating in over 100 countries with about 340,000 employees and $130 billion in annual revenues. GE had entered into diversified businesses ranging from aircraft engines to medical diagnostics, from lighting to appliances, from nuclear power to broadcasting and from plastics to financial services. Most of these businesses were added to GE through hundreds of acquisitions made when Jack Welch was its CEO. "Integrated diversity", he had said, "gives us a company that is considerably greater than the sum of its parts." GE has been the quintessence of a conglomerate business which was "the darling" of investors in the 1970s and '80s. For almost half a century the conglomerate business groups were the cornerstone of the American capitalist enterprise system. (Business Bliss) The success of the early conglomerates was based the belief that businesses do find strength in numbers. This strategy of generating synergies between businesses, or cross-subsidising weaker operations with revenues from the more profitable ones was well received by investors looking for safe, reliable earnings from their investments. That, in turn, gave the conglomerates a powerful weapon, namely, their highly-rated stock that could be used to acquire even more companies, further expanding earnings power. Today, however, the conglomerate business seems to be an endangered species. Many 'conglomerates' are splitting into their component units. And those that still remain as conglomerates maintain that their diversified structure has enabled them to safeguard hundreds of their employees who, otherwise, would have had to struggle on their own. For example, the chief executive of Textron which is one of America's first conglomerates recalls that when its Cessna aircraft unit was hit by a downturn in 2001-03, the investment needed to turn it around came from other parts of Textron, the "helicopters-to-lawn-mowers" group. "Where would Cessna's employment level and profitability be now if we were not a diversified, multi-industry company" he asks. (Francesco Guerrera). The conglomerates are not yet dead in America. Warren Buffet's Berkshire Hathaway, with interests ranging across a range of unrelated businesses and Rupert Murdoch's multi-media News Corporation have reaped enviable rewards from operating on several industries. Conglomerates are still a familiar scene in the corporate scenarios of many Asian countries from Japan to India. If then, we still find companies experiencing synergy between the businesses in their portfolio and reaping adequate rewards from them, search for similar synergies by other companies is not an unrealistic aspiration. However, a small caveat is in order at this stage. Dynamism of modern capitalism One of the great strengths of endurance of modern capitalism is its dynamic character, being able to adapt itself the changing categories of time and space, of being able to evolve itself to suit the requirements of new demands made on it by technology and institutional-cultural changes. Modern capitalism is an evolving entity as much as it is a model of imitation for some of the newly industrialising societies. Globalisation and technology have brought about immense changes in business culture. Business conglomerates of yester years are pass. And with it have come the need for a change of gear in the armoury of business practices. Synergy from mergers Search for synergy from a combined working of disparate business units is being replaced by companies seeking synergy from a combination of similar business entities through mergers and acquisitions. Mittal Steel's acquisition of Arcelor and Tata Steels' acquisition of Corus in recent months are instances of such a search for synergy in business. Both Mittal Steel and Tata Steel companies seemed to have been convinced that there were great synergies for their companies from merging with Arcelor and Corus respectively, which were also steel companies, through the acquisition route. These companies persisted in their acquisition efforts in the face of a multitude of enormous hurdles thrown in their path of acquisition. In the case of Mittal, for instance, there were many non-economic and unethical kinds of hostility from the management of Arcelor, which took many different forms, some political, some cultural, some downright "racial" even, at different times (Arcelor-Mittal merger). The CEO of Arcelor, for instance, dismissed Mittal Steel as a "company of Indians" and unworthy of taking over a 'European company'. To thwart the offer from Mittal Steel, Arcelor management also entered into a merger plan with a Russian company. But Mittal Steel persisted in its attempt to acquire Arcelor, raising the offer price because of the great synergies that the merger would generate, which in turn would raise productivity and revenues much more than adequate to compensate the monetary and other costs of acquisition. The same had been the case with the Tata Steel's acquisition of Corus which it purchased through an auction procedure conducted by the statutory take over panel of UK (The Tata-Corus Saga). Another recent case of merger of companies engaged in identical business was that of the Chicago Mercantile Exchange (CME) and the Chicago Board of Trade (CBOT). On October 17, 2006, the Chicago Mercantile Exchange announced the purchase of the Chicago Board of Trade for $8 billion in stock, and merged the two financial institutions as CME Group, Inc. to create an extensive and diverse $25 billion premier global derivatives exchange. The combined company brought together two leading institutions in global derivatives trading in all major asset classes, and was expected to generate an average daily trading volume of nine million contracts and a market value of 25 billion dollars. As recently as March 5, 2007, CME shares rose by $14.15, or 2.6%, to close at $554.40 and CBOT shares gained $3.76, or 2.3%, to close at $164.26 on the New York Stock Exchange. (CBOT Holdings, 2007). Spin-off of businesses Against the merger of companies in similar lines of business, in search of synergy, there have been many occasions when business conglomerates which have been home to many kinds of diverse businesses have split up into their constituent units, mainly because of the absence of synergy in their operations. The acquisition trend business mergers gave way to the new trend of corporate break- ups. A large number of advisors, among whom were venture capital and hedge fund investors, shareholder activists and even some top executives, had come up with the new business strategy that 'the parts are worth more than the whole'. A "textbook example" of such a spinoff of a company from a giant enterprise is Trex, which was spun out of Exxon Mobil Corp. in 1999. During the five years after it became a stand-alone company, Trex has provided its shareholders with a 23.26% average annual return as against 8.96% for the Russell 2000 index and 0.21% for the Standard & Poor's 500 index during the same period. (Gallagher). Another spin-off has been of the Altria Group which has been the parent company of Kraft Foods and Philip Morris, and brands such as Marlboro cigarettes, Oreo cookies, Kraft cheeses, Maxwell House coffee, Nabisco crackers and Philadelphia cream cheese. Yet another conglomerate is Time Warner Inc., which is a media and entertainment company whose businesses include America Online, Time Magazine, Time Warner Cable, Home Box Office, Turner Broadcasting System, Warner Bros. Entertainment and DC Comics. The company management is said to be 'busy repairing this company's debt-laden balance sheet and managing the business', but it has not produced much stock price appreciation. Analysts are of the view that shareholders could realise more value if the businesses of the company could be split up. (Gallagher). Outsourcing Another kind of "spinning off" of business is the practice of 'outsourcing'. It began as a cost-cutting measure, but nowadays it has come to be viewed as a strategic planning and business tool. Many large companies have turned to outsourcing to cut costs. And as a corollary, entire industries have developed to serve companies' outsourcing needs. As a cost-cutting device, it helps companies to convert fixed costs into variable costs, to release capital for investment elsewhere in the business, and to avoid large expenditures in the early stages of one's business. Outsourcing can also help to make the firm more attractive to investors, since more capital may be put directly into revenue-producing activities. Another advantage of outsourcing is that it helps to increase efficiency (Benefits of outsourcing). Companies that do everything themselves incur much higher expenditure on research, development, marketing, and distribution, which must be passed on to customers. An outside provider's cost structure and economies of scale can give the firm an important competitive advantage in that, for one thing, it can reduce labor costs. Outsourcing lets a company to focus on its human resources where it needs them most and avoid undue dependence on temporary workers. "Every business has limited resources, and every manager has limited time and attention. Outsourcing can help the business to shift its focus from peripheral activities towards work that serves the customer, and it can help managers set their priorities more clearly" (Keith Ferrell). There are still other advantages, pecuniary and otherwise which a company can benefit from outsourcing. (Keith Ferrell) Conclusion From the above discussion, a conclusion that can be drawn is that there is no unique method through which one can realise a firm's objective, be it profit maximisation, or constraint market share maximisation, or any other objective. It has to adopt more than one strategy to advance its stated objective. Searching for synergy between its portfolio businesses is one method, which yielded good rewards not long ago; divesting itself of some of its not-so-profitable business and concentrating on its core business element is another; seeking after merging with another company in the same line of business is a third; outsourcing some of its business processes is yet another. As we mentioned above, business is something like a living organism, it evolves, it is dynamic; so what is suitable and good for it today need not necessarily be good and suitable for it tomorrow. It adapts itself to the changing situations, not only for sheer survival, but to be much alive and kicking and to be kicking hard, be it in the domestic market and/or in the global market. References Arcelor-Mittal merger: www.in.rediff.com/money/2006/jun/30mittal.htm Benefits of Outsourcing: at www.allbusiness.com/human-resources/workforce-management-hiring/1084-1.html Business Bliss: Leadership-Innovation, at http://www.100ventures.com/products/bec_mc_business_bliss.html/ Gallagher, Kathleen: Investment Trends; Splitting companies, 2006. Milwaukee Journal Sentinel, Jan 9, 2006, at www.findarticles.com/p/articles/mi_qn4196/is_20060109/ai_n15988928 Gerry Stern and Yvette Borcia: Motivation Strategy for Achieving a High Performance Organization. Management Today, at www.hrconsultant.com Joseph Addison (1672-1719). Sir Roger de Coverly Papers from the Spectator, 2002, University Press of the Pacific Keith Ferrell, TechWeb News, at www.informationweek.com/story/showArticle.jhtmlarticleID=15200441 The Tata-Corus Saga: Complete Coverage at www.inhome.rediff.com/money/2007/feb/06corus1.htm CBOT Holdings, 2007- Financial Services - Business - News: March 05, 2007www.wikio.com/business/financial_services/cbot_holdings Francesco Guerrera, February 2007, Decline sets in at the conglomerate: The Financial Times: Decline sets in at the conglomerate, February 05, 2007 at www.xinkaishi.typepad.com/a_new_start/2007/02/ft_decline_sets.htm Read More