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Why mergers fail

(MoneyWatch) COMMENTARY While mining industry giants Glencore (GLEN) and Xstra (XSRAF) grind their way toward a merger, the silence surrounding the deal is intriguing. Everyone assumes it will produce value. But for whom? Of course it's great for the bankers and lawyers -- but will anyone else benefit?

Depending on whose research you choose to rely on, mergers have a failure rate of anywhere between 50 and 85 percent. One KPMG study found that 83 percent of these deals hadn't boosted shareholder returns, while a separate study by A.T. Kearney concluded that total returns on M&A were negative.

Anyone who has actually lived through a merger knows these are gruesome and traumatic experiences. Some companies, of course, buy other companies just to shut them down and eliminate a potential competitive threat (Microsoft (MSFT) used to be notorious for this.) Other deals make sense on paper but end up as very expensive mistakes. Here's why they so often go wrong.

Why mergers succeed

Momentum. Once a company starts even considering a merger or acquisition, the starts to generate momentum. Lawyers, accountants, and bankers pile in, and it is fully in their interest to keep the bandwagon moving. Once press coverage begins, CEOs often feel they'll look weak if they don't do a deal somewhere with someone. So nobody has the courage or the power to stop a deal once it's started, even though everyone often knows it's a stinker.

Undue diligence. Due diligence is supposed to uncover the truth about companies, but it rarely does. In part, this is because it is too fast. It's also often done by the wrong people -- not by those who will have to make the deal work, but by those who will walk away. When bankers are assigned to due diligence, they often don't understand what they're looking for. They aren't, and usually have never been, operators, so the critical dependencies within a business operation can elude them altogether.

Debt. Acquisitions are expensive, and the money has to be found from somewhere. This is why they're invariably followed by cost-cutting and job losses. Perhaps the most spectacular example of this is British Petroleum (BP), which grew into an oil industry behemoth through pursuing an aggressive M&A policy. Once completed, cuts were imposed every year for three years; everything was chopped, down - it was said - to the number of pencils.

Fudge. No one ever quite calls it as they find it. Mergers aren't mergers -- they're really takeovers. When people say they'll keep brands and company names, it's almost never true. When CEOs say that they'll share power, it's definitely not true. These things are said to paper over cracks in relationships that customarily explode within the year.

So why do these deals persist? They're glamorous, high-profile, and make vast amounts of money for intermediaries. They feed CEO vanity and a love of size. They also persist because they are often decided by rank-and-file shareholders, who are those at the furthest remove from the company's operations. Those with the most power are also those with the least insight.

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