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Fulfilling the Value Proposition

The Next M&A Wave: If mergers are once again a potential strategy for accomplishing growth objectives, the previous round of transactions offer several lessons.

Fortnightly Magazine - May 2005

to be negotiated at arms-length and stand on their own merits as well, should the deal be terminated. In many cases, the upside of potential synergies will occur when better information access provides broader insight into where and how benefits can be developed. In this sense, synergies estimates often can be thought of as a floor, rather than a ceiling.

The obvious mandate for corporate upheaval that accompanies any merger can serve as a very powerful catalyst. Everyone accepts that change is unavoidable-the only question is how far-reaching it will be.

Poised to Shrink

The industry stands again at an inflection point regarding consolidation. But this time, it is less likely to retreat from the march toward more and larger combinations. Consequently, electric utilities are on the verge of another downward step-change in industry population.

Several factors are driving the renewed interest in M&A. Strategically, the interest of companies in reshaping or repositioning themselves has never waned. Financially, it is apparent that the need to grow soon will catch up to the desire to grow. Opportunistically, coveted options for acquisition are no longer remote dreams, as a level of "fatigue" has crept into the management suite with stand-alone strategy success viewed as overly demanding, unpredictable, and draining. Couple these motivations with the reality that companies have proven that synergies are real and can be captured, and that regulators have generally been reasonable in their treatment of proposed deals, and you have a recipe for moving transactions to the next level.

The focus of managements in considering M&A has evolved from the mid-1990s to the present. As Figure 3 shows, the motivations for mergers have shifted from readiness for competition and scale for survival, to market positioning and earnings enhancement. Although these motivations are not mutually exclusive across time periods, the emphasis of managements reflects the challenges that dominate the current agenda. In today's environment, the search for earnings growth dominates management's attention. This motivation is a powerful incentive for horizontal expansion, particularly when combined with the ability to lift a company to the next level of competitive scale and asset divertity.

Utility managements certainly will pursue the next generation of transactions with a distinctive style and approach. Transactions will focus heavily on communicating a coherent strategic purpose and carefully be crafted to avoid financial risks. Some of the characteristics we expect from the next wave of transactions include:

  • No, to low, premiums. The era of large control premiums is past. Buyers and sellers understand that the interests of the shareholder are not advanced with exchange rates that are unrealistic and excessive.
  • Super-regional positioning. Proximate mergers may appear more justifiable, but are not always the most compelling. Companies will not be afraid to step outside their natural market to pursue a combination that positions them better within a wider geographic territory as a stronger competitive enterprise.
  • Non-regulated business attraction. The focus is shifting back again to finding real earnings growth engines. Inevitably, this leads companies back to those businesses viewed as having the right growth dynamics, albeit with a more sober appreciation of