Chain reaction: The key role of supply chains in mergers & acquisitions

For many major industries, consolidation and restructuring are long-term trends. Can their supply chains keep up with all the big moves?

In an uncertain world, there are a few traditions that persist year after year. The Tour de France happens in July. The smartphone you bought last year is superseded by a crop of more powerful models. And around 650 mergers and acquisitions take place annually in the chemicals industry.

The picture is similar in other sectors. Biotech and pharma averaged between 1,000 and 1,350 in the past three years, while energy and power, a much more fragmented industry, completes between 3,000 and 3,500 acquisitions a year. Across all industries and regions, around 50,000 acquisition transactions take place each year, with a total value of around $4 trillion.

No two mergers are alike, of course, and the steady rhythm of transactions in some industries hides a more complicated and volatile picture. In chemicals and life sciences, the middle of this decade saw a dramatic upswing in the value of mergers and acquisitions activity, driven by a handful of megadeals between global giants.

Reasons to buy

The drivers behind acquisitions are as varied as the companies involved. Some acquisitions are driven by the quest for intellectual property. Aero engine-maker Rolls-Royce recently completed a deal to buy Siemens’s electric and hybrid-electric aerospace propulsion unit. It hopes the move will improve its position in a market that will be under pressure to transform efficiency and cut emissions in the coming decades. In pharmaceuticals, meanwhile, in one of the largest deals of 2019, drug company AbbVie bought Allergan, the manufacturer of Botox, a cosmetic and medical treatment. The $63 billion deal gave AbbVie a new blockbuster product just as patent protection expired on its rheumatoid arthritis treatment Humira, the world’s biggest-selling drug.

The most fundamental M&A motivator is the quest for growth: Buying the product portfolio and customer base of an existing business can be faster and easier than building one from scratch. The automotive sector has been consolidating for decades, with last year’s announcement of a merger between Fiat Chrysler and Groupe PSA the latest in a long history of big deals.

ROBOT REVOLUTION: A deal with Hitachi will allow tech company ABB to focus on robotics and automation.

The same reasoning applies in Manufacturing and the supply chain, especially in asset-intensive industries. Manufacturing plants are expensive, long-lived and difficult to relocate, for example. Often the quickest and most cost-effective way to access a particular market segment or geography is to buy existing assets from a competitor.

From signature to synergy

Realizing the promised benefits of a merger – especially a big one – can be extremely challenging. Turning two companies into one is a daunting technical task, as managers must combine previously separate functions and IT platforms. They will have to find ways to align their internal processes and culture so that employees from different sides of the deal can work effectively together. And they need to reconfigure their supply chains to make the best use of the merged organization’s supplier base, manufacturing footprint and market presence.

This creates significant new challenges for logistics, already a complex and costly business for many sectors. Decisions about the design and operation of logistics networks have big strategic implications, too. To gain a foothold in a new market, it can be quicker for a company to invest in logistics assets, such as extra transport capacity or local storage facilities, than to buy or develop regional production capacity. The choice of transport lanes and modes requires careful trade-offs. The unit-cost advantages of shipping products in bulk by sea, for example, can be eroded by poor flexibility and the need to tie up large amounts of working capital in in-transit inventory. For some companies, smart, agile logistics capabilities are the primary factor differentiating their offerings from competitors supplying identical products.

The integration game

Optimizing logistics flows after a merger can be a multi-year effort, says Michael O’Hara, Global Sector Head, Chemicals, at DHL Global Forwarding, and the real work usually doesn’t get underway until the deal has been completed. “Data is the starting point for everything you do in logistics,” he says. “But just getting the data can be a significant challenge. Some companies have sophisticated global supply chain management systems, but others devolve everything to individual sites or business units, making it difficult to get an overview of their networks, volumes and trade lanes.”

SEEING THE LIGHT: In 2019, chemicals group Dow DuPont completed a plan to split its business into three parts.

Big mergers often set off a chain of after-deals, as the combined organizations sell off the parts of their business that don’t fit their strategic plans. DowDu-Pont, for example, never intended to hold on to its position as the world’s largest chemicals group. In 2019, it completed a plan to split its business into three parts along sector lines, with Dow focusing on material science, DuPont on the speciality sector and Corteva on seeds and agricultural chemicals. While two of these new businesses have the same name as their pre-merger antecedents, they each comprise parts of both parents.

In fact, shareholders are increasingly nervous about sprawling conglomerates. Juggling operations in multiple sectors, managers find it difficult to allocate resources efficiently, or ensure that each business unit receives the attention and oversight it deserves. Big players have struggled to move quickly in response to changing markets and technologies, creating opportunities for new market entrants.

Network effects

To address these challenges, companies across the industrial space have sought to align themselves more closely with strategically important sectors. They have sold non-core businesses, or spun them out as autonomous units, and looked for acquisition opportunities that give them access to growth markets.

While this restructuring has been underway for some years, there are signs that the pace of acquisitions and divestitures is accelerating. The total value of M&A deals in industrial manufacturing rose by 11% in 2018, for example. And many of the biggest recent deals have been clear examples of strategic realignment. After acquiring oil field services company Baker Hughes in 2017, for example, General Electric has now announced plans to divest its oil and gas business as part of a wider streamlining strategy. At the end of 2018 ABB agreed the sale of an 80% share of its power systems business to Hitachi for $6.4 billion. That deal will allow ABB to focus on robotics and automation, while Hitachi strengthens its position in the power sector, reducing its reliance on nuclear technology. United Technologies has already spun off two non-aerospace-related divisions: Otis, a manufacturer of elevators, and Carrier, which makes building services equipment. Last year, the company agreed to merge its remaining aerospace business with Raytheon, turning the combined group into one of the world’s largest defence companies.

Supply chain and logistics activities can be more straightforward in demerger situations, says Klaus Dohrmann, Vice President Strategy and Development for the Engineering, Manufacturing & Energy sector at DHL. “By their nature, supply chain operations are closely tied to an organization’s manufacturing and customer footprint. That can make them easier to disentangle than more centralized activities.”

That doesn’t mean that the supply chain deserves any less attention post-merger or post-divestment, however. “Proper management of the supply chain is essential if a merged or divested organization wants to maintain customer value,” says Dohrmann, adding that the inherent flexibility of supply chain activities means that optimization can deliver rapid and significant value. “A company might want to change their supply chain setup, for example, or consider new outsourcing approaches.”

And integrating or dividing networks isn’t the only post-merger supply chain task. Merging organizations also need to bring contract terms and operating procedures into alignment. “Companies have a lot to do after a merger, and the supply chain is sometimes a low-priority item,” says O’Hara. “But the complexity of the challenge means it’s vital to start discussions early. The supply chain really needs to be part of integration planning from the very beginning.”

Integration teams should also keep an open mind as they review their supply chain options. “The bigger partner in a merger may be tempted to apply their existing processes and standards across the combined organization,” says O’Hara. “But the company they buy may have ideas, relationships and expertise that could benefit the entire group. It’s not just about cost reduction; there will also be opportunities to drive new value from smart logistics and supply chain decisions.”   —  Jonathan Ward

Published: January 2020

Images: Ferbies/Shutterstock; ITAR-TASS/imago; Dow