The world’s biggest cement producers Lafarge and Holcim have announced that they plan to merge. In an industry marked by over-capacity and clear scale benefits this seems to be a smart move. But big mergers often look good on paper while they destroy value during the implementation phase. Christian Stadler of Warwick Business School takes a look at the plusses and minuses.
Mega-mergers have a bad reputation. While they grab the headlines and always look fantastic when first presented, they frequently destroy value.
DaimlerChrysler and TimeWarner are two particularly painful examples. So why would successful companies like Lafarge and Holcim be tempted?
A recent report by Goldman Sachs gives a hint. They write: “M&A that drives an industry toward oligopoly is the good kind.” Why? Well, you are able to cut down costs and dictate terms to customers once they have less choice, so companies “can turn a cut-throat commodity industry into a highly profitable one”.
Even though the cement industry is already dominated by a few big players, it is still marked by over-capacity, and further concentration can bring big benefits. At the same time, of course, this is exactly the type of merger which competition authorities should (and will) be worried about. The Lafarge/Holcim deal is expected to face scrutiny in at least 13 countries, ranging from Madagascar to France.
In an attempt to pre-empt any trouble, the two companies announced substantial divestments. That should not only help with the authorities, but it also allows them to cut out less profitable units and reduce their exposure in Europe and America where less growth has been seen recently.
But even if Lafarge and Holcim were able to clear the regulatory hurdle and move towards the oligopolistic industry they desire, questions still remain. So what should the two companies and their investors look out for?
Christian Stadler is Associate Professor of Strategy at Warwick Business School and author of Enduring Success, a book featuring Lafarge.end of infobox
On the plus side there are three main benefits; the first is scale. The cement industry has been riddled with over-capacity, so this merger should allow Lafarge and Holcim to get better deals with suppliers, sort out their logistics and generally search for synergies across their operations.
Secondly, Lafarge and Holcim’s fortunes depend a lot on how the economy does; a slowdown in building and investment means trouble. For example, during the first oil crisis in 1973 when building slowed down in Europe, Lafarge benefitted from its activities in the Middle East and North Africa where the high oil price allowed more spending on building. By merging, Lafarge and Holcim can spread that risk, as this merger will create the most geographically diverse firm in the industry. Both are strong in Europe and North America, hence the divestments, but Lafarge is also prominent in the Middle East and Africa, while Holcim holds a substantial chunk of the Latin American market.
The third benefit for the merged company is innovation: the new organisation will have the largest R&D budget in their industry. In other words, they will have scale in R&D which is crucial in a mature industry such as cement and building materials.
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It all sounds good for the bank balance, but there are three crucial drawbacks for a mega-merger like this that can wipe out the positives and send it spinning to disaster.
Firstly there is the clash of cultures. It is never seen as much of a problem when investment bankers prepare the documents and everybody politely shakes hands on the deal, but in the day-to-day life of the new business it is a serious headache. For example, when Daimler and Chrysler merged, the Germans were used to setting a target and working towards it, while the Americans made adjustments along the way. From the German perspective, the impression was that Chrysler never stuck to a plan, while from an American perspective the impression was that Daimler stuck to a plan even when it no longer made sense – cue infighting.
On top of this, both companies lack experience in mega-mergers, which is not surprising as, by their very nature, they are rare. Both Lafarge and Holcim have experience in acquiring and integrating sizeable companies - Lafarge bought Orascom Cement in 2008 and Holcim snapped up Aggregate Industries in 2005. And typically lots of small acquisitions work well as the company becomes better and better at integrating them into its operations, but this merger is in another league. The know-how Lafarge and Holcim have gained from deals in the past will only go so far in helping to implement the scale and complexity that this merger with bring.
Lastly, political battles can ensue from a merger that is equally split; neither side is in charge, which will lead to manoeuvring and infighting for influence. The fact that corporate functions will be both in Paris and Zurich may have helped to sell the merger to the respective governments, but it also reflects a political compromise and is bound to lead to duplications and turf wars in the future.
So this is an attractive merger on paper, but when the cement is mixed, it will be a lot more complicated. Whether it will create value will for the most part depend on the implementation.
Regardless of what happens, at least one group will benefit: the Goldman Sachs of this world who will offer advice during the process and bill accordingly.
Warwick Business School