From two to one, then one to three
As an apotheosis to close a year that has seen a number of mega-mergers, America’s two largest chemical companies Dow and DuPont announced on 11th December a $130bn deal of extraordinary ambition, but also of unprecedented complexity.
To achieve their promised $3bn annual cost synergies, which would augment the value of the combined businesses by some $ 30bn, Dow and DuPont propose merging as “DowDuPont” (nothing too original until that point), and then breaking up the newly created behemoth into three distinct entities, each one focused on one of the three sectors previously covered by Dow and DuPont nowadays, namely: agriculture (seeds and crop protection); material science, and speciality products.
Evidently, shaping three focused companies from the combined resources of Dow and DuPont will eliminate the current duplication of resources and investments, particularly the vast sums allocated to research and development. The plan foresees headcount reductions of some 10%, although breaking up the giant into three distinct companies might reduce the potential for central overhead savings compared with what occurs in other mergers.
In addition to the $3bn planned savings, Dow and DuPont believe that the three focused entities that will emerge at the end of this plan can generate an additional $1bn in annual top-line revenue as a result of being more nimble and better suited to their respective markets’ demands and challenges.
Some of Dow and DuPont’s more active shareholders had been exerting pressure for some time for these companies to sharpen their act, focusing on their higher margin products and seeking to spin off some of the activities that would develop better in a more streamlined environment. The announcement made on 11th December addresses those concerns, and the prospect of added value to the tune of an annual $4bn is more than enough to get many investors excited.
The uncertainty of an unusual deal
Beyond the enthusiasm of some activists, there appears nonetheless to be a fair degree of scepticism amongst the more conservative shareholders as to whether an incredibly complex merger can be followed by a trilateral carve-out within the space of two years without destabilising those businesses beyond repair. And before any of this can even begin, obtaining regulatory approval for the merger of the two market leaders is far from certain.
Indeed, the current mood in the US regulatory body does not favour mega deals, as we saw in recent cases which faced strong opposition from the US authorities, such of General Electric & Electrolux, Staples & Office Depot, or Time Warner Cable & Comcast. An irrevocable promise to carve the merged business into three independent listed companies shortly after the merger deal is effective might be the only way of securing the regulators’ approval of the proposed DowDuPont merger.
A Herculean task
It must have come as somewhat of a disappointment to the gleeful CEOs of Dow and DuPont that the announcement of their ambitious plan was not greeted by the markets with delirious cheers: their shares, which had enjoyed gains when it became apparent that the two companies were in merger talks, went on to lose 5.5% (DuPont) and 2.8% (Dow) respectively when the full details of the plan were revealed.
Are Messrs Liveris and Breen over-optimistic, or is the shareholder community over-cautious?
Anyone who has been closely involved in post-merger integration will know that some aspects of any merger, particularly I.T. infrastructure and applications, manufacturing foot-prints and to a fair extent financial processes, can take a notoriously long time to fully integrate. What exists in the meantime is a series of work-arounds that add complexity to the daily running of the business.
Carve-outs are even more complex, as they almost inevitably rely on transitional service agreements that safeguard business continuity until the business unit that is being spun off has gained full autonomy. Assuming that Dow and DuPont’s infrastructures and respective processes will not be fully integrated by the time the carve-up begins, transition service agreements will need to be set up between both of the legacy entities and all three of the future autonomous companies, resulting in a complex web of reciprocal rights and obligations which cannot be easy to manage.
Superimposing a global integration of the magnitude of Dow and DuPont with not a two-way but a three-way splitting of the company within two years of beginning its integration has to my knowledge never been achieved on this scale. That is certainly not to say that this cannot be done; the principles of how such a venture should be organised and driven to completion are well known, but the complexity of the task will grow exponentially as a result of the integration and carve-out overlap.
A possibly more reasonable way forward
A half-way solution that would almost achieve the same results would be to merge and integrate Dow and DuPont, and then to reorganise them into three major divisions that would provide the same focus as the three independent listed companies proposed in Liveris and Breen’s plan, without the need to break-up the technical and manufacturing infrastructure. This could provide a similar focus in terms of product range groups and avoid the current duplication in research and development expenditure. It would still be a huge merger, but without the pain of the carve-out. Importantly, it would also allow greater flexibility in terms of the pace of implementation, thereby reducing the risk of destabilising the business to the point of damaging on-going commercial performance.
It might have been prudent to submit this slightly more cautious approach to start with, and only add the three-way break-up proposal as a back-up plan if the regulators refuse the idea of a permanent amalgamation of Dow and DuPont.
A world premiere to be observed closely
The current state and breadth of both Dow and Dupont is the result of numerous acquisitions carried out over many years, as the two companies competed against each other and may each have made strategic acquisitions to bar the way for the other. As they stand today, it is clear that the business would be more effective if the constituent elements of those two companies had been clustered in a more coherent and homogenous manner, and this is precisely what the proposed merger and carve-out attempts to re-create.
Many other large companies and conglomerates are in a similar position, and thus far their attempts to optimise has been piecemeal through a series of disposals and acquisitions rather than a big bang merge and almost immediate re-distribution of the cards.
If the regulators accept the DowDuPont merger and split-up scheme, the world will be watching to determine how well the integration and simultaneous carve-outs can be managed; and if all appears to be going to plan, this could pave the way to a tidal wave of similar deals by large companies attempting to re-focus their act, thereby transforming several industries over the next five to ten years.
In theory this is good news as it would lead to greater efficiency; it is also in line with the trend towards a fragmentation of markets and businesses operating as networks of discrete units rather than amorphous conglomerates. However, given that over 50% of “simple” post-acquisition integrations fail to reach their goal, succeeding in a simultaneous merger/break-up scenario will require real mastery.
Dow and DuPont have the resources and the means to run a world-class act; what happens next will deeply influence the next strategic moves of numerous of other companies across the world in the coming years.