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With annual sales of about $6.5 billion, ACS handles paper-based tasks such as billing and claims processing for
governments and private companies. With about one-fourth of ACS’s revenue derived from the healthcare and
government sectors through long-term contracts, the acquisition gives Xerox a greater penetration into markets which
should benefit from the 2009 government stimulus spending and 2010 healthcare legislation. More than two-thirds of
ACS’s revenue comes from the operation of client back office operations such as accounting, human resources, claims
management, and other business management outsourcing services, with the rest coming from providing technology
consulting services. ACS would also triple Xerox’s service revenues to $10 billion.
Integration is Xerox’s major challenge. The two firms’ revenue mixes are very different, as are their customer bases,
with government customers often requiring substantially greater effort to close sales than Xerox’s traditional
commercial customers. Xerox intends to operate ACS as a standalone business, which will postpone the integration of
its operations consisting of 54,000 employees with ACS’s 74,000. If Xerox intends to realize significant incremental
revenues by selling ACS services to current Xerox customers, some degree of integration of the sales and marketing
organizations would seem to be necessary.
Discussion Questions:
1. Discuss the advantages and disadvantages of Xerox’s intention to operate ACS as a standalone business.
As an investment banker supporting Xerox, would you have argued in support of integrating ACS
immediately, at a later date, or to keep the two businesses separate indefinitely? Explain your answer.
Answer: The decision to operate ACS as a standalone unit may have been required to gain ACS and board
management support. Furthermore, operating ACS as a separate entity helps to preserve the brand and
corporate culture of the firm as distinctly separate from customer perception of Xerox as a product
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2. How are Xerox and ACS similar and how are they different? In what way will their similarities and
differences help or hurt the long-term success of the merger?
Answer: Xerox is a product company and ACS is a services firm. Product firms are more familiar with the
manufacturing, sale, and servicing of tangible products. The way in which products are sold and serviced
is different from how services are provided. In contrast, services are delivered in a distinctly different
3. Based on your answers to questions 1 and 2, do you believe that investors reacted correctly or incorrectly
to the announcement of the transaction?
Dell Moves into Information Technology Services
Dell Computer’s growing dependence on the sale of personal computers and peripherals left it vulnerable to economic
downturns. Profits had dropped more than 22 percent since the start of the global recession in early 2008 as business
spending on information technology was cut sharply. Dell dropped from number 1 to number 3 in terms of market
share, as measured by personal computer unit sales, behind lower-cost rivals Hewlett-Packard and Acer. Major
competitors such as IBM and Hewlett-Packard were less vulnerable to economic downturns because they derived a
larger percentage of their sales from delivering services.
Historically, Dell has grown “organically” by reinvesting in its own operations and through partnerships targeting
specific products or market segments. However, in recent years, Dell attempted to “supercharge” its lagging growth
through targeted acquisitions of new technologies. Since 2007, Dell has made ten comparatively small acquisitions
Dell’s global commercial customer base spans large corporations, government agencies, healthcare providers,
educational institutions, and small and medium firms. The firm’s current capabilities include expertise in infrastructure
consulting and software services, providing network–based services, and data storage hardware; nevertheless, it was still
largely a manufacturer of PCs and peripheral products. In contrast, Perot Systems offers applications development,
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Mars Buys Wrigley in One Sweet Deal
Under considerable profit pressure from escalating commodity prices and eroding market share, Wrigley Corporation, a
U.S. based leader in gum and confectionery products, faced increasing competition from Cadbury Schweppes in the
U.S. gum market. Wrigley had been losing market share to Cadbury since 2006. Mars Corporation, a privately owned
candy company with annual global sales of $22 billion, sensed an opportunity to achieve sales, marketing, and
distribution synergies by acquiring Wrigley Corporation.
On April 28, 2008, Mars announced that it had reached an agreement to merge with Wrigley Corporation for $23
billion in cash. Under the terms of the agreement, unanimously approved by the boards of the two firms, shareholders of
Wrigley would receive $80 in cash for each share of common stock outstanding. The purchase price represented a 28
percent premium to Wrigley’s closing share price of $62.45 on the announcement date. The merged firms in 2008 would
Discussion Questions:
1. Why was market share in the confectionery business an important factor in Mars’ decision to acquire Wrigley?
Answer: Firm’s having substantial market relative to their next largest competitor are likely to have lower cost
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2. It what way did the acquisition of Wrigley’s represent a strategic blow to Cadbury?
Answer: Not only did this acquisition topple Cadbury from its number one position in the confectionery
3. How might the additional product and geographic diversity achieved by combining Mars and Wrigley benefit
the combined firms?
Answer: The broader array of products from chocolate to gum to pet care could insulate the firm to fluctuations
Assessing Procter & Gamble’s Acquisition of Gillette
The potential seemed almost limitless, as Procter & Gamble Company (P&G) announced that it had completed its
purchase of Gillette Company (Gillette) in late 2005. P&G’s chairman and CEO, A.G. Lafley, predicted that the
acquisition of Gillette would add one percentage point to the firm’s annual revenue growth rate, while Gillette’s
chairman and CEO, Jim Kilts, opined that the successful integration of the two best companies in consumer products
would be studied in business schools for years to come.
Five years after closing, things have not turned out as expected. While cost savings targets were achieved, operating
margins faltered due to lagging sales. Gillette’s businesses, such as its pricey razors, have been buffeted by the 2008–
2009 recession and have been a drag on P&G’s top line rather than a boost. Moreover, most of Gillette’s top managers
have left. P&G’s stock price at the end of 2010 stood about 12 percent above its level on the acquisition announcement
date, less than one-fourth the appreciation of the share prices of such competitors as Unilever and Colgate-Palmolive
Company during the same period.
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Discussion Questions:
1. Is this deal a merger or a consolidation from a legal standpoint? Explain your answer.
2. Is this a horizontal or vertical merger? What is the significance of this distinction? Explain your answer.
Answer: It is a horizontal merger since the two firms are competitors in major product lines. This distinction is
3. What are the motives for the deal? Discuss the logic underlying each motive you identify.
Answer: a. Economies of scope.
b. Economies of scale in production
4. Immediately following the announcement, P&G’s share price dropped by 2 percent and Gillette’s share price
rose by 13 percent. Explain why this may have happened?
Answer: P&G’s share price reflected current investor concern about potential EPS dilution. Gillette’s share
5. P&G announced that it would be buying back $18 to $22 billion of its stock over the eighteen months
following closing. Much of the cash required to repurchase these shares requires significant new borrowing by
the new companies. Explain what P&G’s objective may have been trying to achieve in deciding to repurchase
stock? Explain how the incremental borrowing help or hurt P&G achieve their objectives?
Answer: The repurchase is an attempt to allay investor fears about EPS dilution. However, the incremental
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6. Explain how actions required by antitrust regulators may hurt P&G’s ability to realize anticipated synergy. Be
specific.
7. Explain some of the obstacles that P&G and Gillette are likely to face in integrating the two businesses. Be
specific. How would you overcome these obstacles?
Answer: The cultures between the two firms may differ significantly. P&G’s “not invented here” culture may
make it difficult to transfer skills and technologies between product lines in the two firms. Gillette managers
The Man Behind the Legend at Berkshire Hathaway
Although not exactly a household name, Berkshire Hathaway (“Berkshire”) has long been a high flier on Wall Street.
The firm’s share price has outperformed the total return on the Standard and Poor’s 500 stock index in 32 of the 36
years that Warren Buffet has managed the firm. Berkshire Hathaway’s share price rose from $12 per share to $71,000 at
the end of 2000, an annual rate of growth of 27%. With revenue in excess of $30 billion, Berkshire is among the top 50
of the Fortune 500 companies.
He has built a cash-generating machine, principally through his insurance operations that produce “float” (i.e.,
premium revenues that insurers invest in advance of paying claims). In 2000, Berkshire acquired eight firms. Usually
flush with cash, Buffet has developed a reputation for being nimble. This most recently was demonstrated in his
acquisition of Johns Manville in late 2000. Manville generated $2 billion in revenue from insulation and roofing
Discussion Questions:
1. To what do you attribute Warren Buffet’s long-term success?
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2. In what ways might Warren Buffet use “financial synergy” to grow Berkshire Hathaway? Explain your answer.
Answer: Warren Buffest relies on the strong cash generation capabilities of his existing portfolio
America Online Acquires Time Warner:
The Rise and Fall of an Internet and Media Giant
Time Warner, itself the product of the world’s largest media merger in a $14.1 billion deal a decade ago, celebrated its
10th birthday by announcing on January 10, 2000, that it had agreed to be taken over by America Online (AOL) at a
71% premium to its share price on the announcement date. AOL had proposed the acquisition in October 1999. In less
Time Warner is the world’s largest media and entertainment company, and it views its primary business as the
creation and distribution of branded content throughout the world. Its major business segments include cable networks,
magazine publishing, book publishing and direct marketing, recorded music and music publishing, and filmed
entertainment consisting of TV production and broadcasting as well as interests in other film companies. The 1990
Strategic Fit (A 1999 Perspective)
On the surface, the two companies looked quite different. Time Warner was a media and entertainment content
company dealing in movies, music, and magazines, whereas AOL was largely an Internet Service Provider offering
access to content and commerce. There was very little overlap between the two businesses. AOL said it was buying
access to rich and varied branded content, to a huge potential subscriber base, and to broadband technology to create the
Market Confusion Following the Announcement
AOL’s stock was immediately hammered following the announcement, losing about 19% of its market value in 2 days.
Despite a greater than 20% jump in Time Warner’s stock during the same period, the market value of the combined
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Integration Challenges
Integrating two vastly different organizations is a daunting task. Internet company AOL tended to make decisions
quickly and without a lot of bureaucracy. Media and entertainment giant Time Warner is a collection of separate
fiefdoms, from magazine publishing to cable systems, each with its own subculture. During the 1990s, Time Warner
executives did not demonstrate a sterling record in achieving their vision of leveraging the complementary elements of
their vast empire of media properties. The diverse set of businesses never seemed to reach agreement on how to handle
online strategies among the various businesses.
Top management of the combined companies included icons such as Steve Case and Robert Pittman of the digital
world and Gerald Levin and Ted Turner of the media and entertainment industry. Steve Case, former chair and CEO of
The speed with which the merger took place suggested to some insiders that neither party had spent much assessing
the implications of the vastly different corporate cultures of the two organizations and the huge egos of key individual
managers. Once Steve Case and Jerry Levin reached agreement on purchase price and who would fill key management
positions, their subordinates were given one weekend to work out the “details.” These included drafting a merger
agreement and accompanying documents such as employment agreements, deal termination contracts, breakup fees,
The Disparity Between Projected and Actual Performance Becomes Apparent
Despite all the hype about the emergence of a vertically integrated new media company, AOL seems to be more like a
traditional media company, similar to Bertelsmann in Germany, Vivendi in France, and Australia’s News Corp. A key
part of the AOL Time Warner strategy was to position AOL as the preeminent provider of high-speed access in the
world, just as it is in the current online dial-up world.
Moreover, cable companies are competing head-on with AOL’s dial-up and high-speed services by offering a tiered
pricing system giving subscribers more options than AOL.
Epilogue
The AOL Time Warner story went from a fairy tale to a horror story in less than three years. On January 7, 2000, the
merger announcement date, AOL and Time Warner had market values of $165 billion and $76 billion, respectively, for
a combined value of $241 billion. By the end of 2004, the combined value of the two firms slumped to about $78
billion, only slightly more than Time Warner’s value on the merger announcement date. This dramatic deterioration in
value reflected an ill-advised strategy, overpayment, poor integration planning, slow post-merger integration, and the
confluence of a series of external events that could not have been predicted when the merger was put together. Who
knew when the merger was conceived that the dot-com bubble would burst, that the longest economic boom in U.S.
history would fizzle, and that terrorists would attach the World Trade Center towers? While these were largely
uncontrollable and unforeseeable events, other factors were within the control of those who engineered the transaction.
Discussion Questions:
1. What were the primary motives for this transaction? How would you categorize them in terms of the historical
motives for mergers and acquisitions discussed in this chapter?
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AOL is buying access to branded products, a huge potential subscriber base, and broadband technology. The
new company will be able to deliver various branded content to a diverse set of audiences using high-speed
transmission channels (e.g., cable).
This transaction reflects many of the traditional motives for combining businesses:
a. Improved operating efficiency resulting from both economies of scale and scope. With respect to so-
called back office operations, the merging of data, call centers and other support operations will enable the
b. Diversification. From AOL’s viewpoint, it is integrating down the value chain by acquiring a company
that produces original, branded content in the form of magazines, music, and films. By owning this
content, AOL will be able to distribute it without having to incur licensing fees.
c. Changing technology. First, the trend toward the use of digital rather than analog technology is causing
many media and entertainment firms to look to the Internet as a highly efficient way to market and
distribute their products. Time Warner had for several years been trying to develop an online strategy with
d. Hubris. AOL was willing to pay a 71 percent premium over Time Warner’s current share price to gain
control. This premium is very high by historical standards and assumes that the challenges inherent in
e. A favorable regulatory environment. Growth on the internet has been fostered by the lack of government
2. Although the AOL-Time Warner deal is referred to as an acquisition in the case, why is it technically more
correct to refer to it as a consolidation? Explain your answer.
3. Would you classify this business combination as a horizontal, vertical, or conglomerate transaction? Explain
your answer.
If one defines the industry broadly as media and entertainment, this transaction could be described as a vertical
transaction in which AOL is backward integrating along the value chain to gain access to Time Warner’s
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4. What are some of the reasons AOL Time Warner may fail to satisfy investor expectations?
While AOL has control of the new company in terms of ownership, the extent to which they can exert control
in practice may be quite different. AOL could become a captive of the more ponderous Time Warner empire
and its 82,000 employees. Time Warner’s management style and largely independent culture, as evidenced by
their limited success in leveraging the assets of Time and Warner Communications following their 1990
5. What would be an appropriate arbitrage strategy for this all-stock transaction?
Arbitrageurs make a profit on the difference between a deal’s offer price and the current price of the target’s
stock. Following a merger announcement, the target’s stock price normally rises but not to the offer price
reflecting the risk that the transaction will not be consummated. The difference between the offer price and the
Mattel Overpays for The Learning Company
Despite disturbing discoveries during due diligence, Mattel acquired The Learning Company (TLC), a leading
developer of software for toys, in a stock-for-stock transaction valued at $3.5 billion on May 13, 1999. Mattel had
determined that TLC’s receivables were overstated because product returns from distributors were not deducted from
receivables and its allowance for bad debt was inadequate. A $50 million licensing deal also had been prematurely put
on the balance sheet. Finally, TLC’s brands were becoming outdated. TLC had substantially exaggerated the amount of
money put into research and development for new software products. Nevertheless, driven by the appeal of rapidly
becoming a big player in the children’s software market, Mattel closed on the transaction aware that TLC’s cash flows
were overstated.
For all of 1999, TLC represented a pretax loss of $206 million. After restructuring charges, Mattel’s consolidated
1999 net loss was $82.4 million on sales of $5.5 billion. TLC’s top executives left Mattel and sold their Mattel shares in
Discussion Questions:
1. Why did Mattel disregard the warning signs uncovered during due diligence? Identify which motives for
acquisitions discussed in this chapter may have been at work.
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Answer: Deeply concerned about the increasingly important role that software was playing in the development
and marketing of toys, Mattel may have been frantic to acquire a leading maker of software for toys to remain
2. Was this related or unrelated diversification for Mattel? How might this have influenced the outcome?
Answer: The Learning Company represented the application of software to the toy industry; however, it was
3. Why could Gores Technology do in a matter of weeks what the behemoth toy company, Mattel, could not
do?
Answer: Gores was in the business of turning around companies. They knew what to do and appreciated the
need for speed. Gores also exhibited the ability that eluded Mattel to make quick decisions. Mattel may have
Pfizer Acquires Pharmacia to Solidify Its Top Position
In 1990, the European and U.S. markets were about the same size; by 2000, the U.S. market had grown to twice that of
the European market. This rapid growth in the U.S. market propelled American companies to ever increasing market
share positions. In particular, Pfizer moved from 14th in terms of market share in 1990 to the top spot in 2000. With the
acquisition of Pharmacia in 2002, Pfizer’s global market share increased by three percentage points to 11%. The top ten
drug firms controlled more than 50 percent of the global market, up from 22 percent in 1990.
Pfizer and Pharmacia knew each other well. They had been in a partnership since 1998 to market the world’s leading
arthritis medicine and the 7th largest selling drug globally in terms of annual sales in Celebrex. The companies were
continuing the partnership with 2nd generation drugs such as Bextra launched in the spring of 2002. For Pharmacia’s
management, the potential for combining with Pfizer represented a way for Pharmacia and its shareholders to participate
in the biggest and fastest growing company in the industry, a firm more capable of bringing more products to market
than any other.
The deal offered substantial cost savings, immediate access to new products and markets, and access to a number of
potentially new blockbuster drugs. Projected cost savings are $1.4 billion in 2003, $2.2 billion in 2004, and $2.5 billion
in 2005 and thereafter. Moreover, Pfizer gained access to four more drug lines with annual revenue of more than $1
billion each, whose patents extend through 2010. That gives Pfizer, a portfolio, including its own, of 12 blockbuster
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stock. The total value of the transaction on the announcement was $60 billion. The offer price represented a 38%
premium over Pharmacia’s closing stock price of $32.59 on the announcement date. Pfizer’s shareholders would own
Discussion Questions:
1. In your judgment, what were the primary motivations for Pfizer wanting to acquire Pharmacia? Categorize
these in terms of the primary motivations for mergers and acquisitions discussed in this chapter.
Answer: The deal was an attempt to generate cost savings from being able to operate manufacturing facilities
at a higher average rate (economies of scale), to share common resources such as R&D and staff/overhead
2. Why do you think Pfizer’s stock initially fell and Pharmacia’s increased?
Answer: As a share swap, the drop in Pfizer’s share price reflected investors’ concern about potential future
3. In your opinion, is this transaction likely to succeed or fail to meet investor expectations? Explain your answer.
Answer: The size of the premium Pfizer is willing to pay may suggest that it is overpaying for Pharmacia and
4. Would you anticipate continued consolidation in the global pharmaceutical industry? Why or why not?
Answer: With the industry focused on growth in EPS, increasing consolidation is likely as firms seek to
generate cost savings by buying a competitor, by gaining access to hopefully more productive R&D