UARK SEVI 3013 Exam 3: CEO Duality & Mergers Insights

Corporate Strategy

Growth Strategy

--> Three Options for Growth:

1) Build

2) Borrow

3) Buy

How firms achieve growth: Build-Borrow-Buy Framework, which represents Costs Vs. Time!!!

Build Borrow Buy Framework

Conceptual model that aids firms in deciding whether to pursue internal development (build), enter a contractual arrangement or strategic alliance (borrow), or acquire new resources, capabilities, and competencies (buy).

1) Build

Internal growth through development

2) Borrow

External growth through contracts, strategic alliances

--> (Contract, Licensing, Equity Alliance, Joint Venture)

3) Buy

External growth through acquiring new resources, capabilities, competencies

--> (Mergers and Acquistions)

(4) Main Issues With Build-Borrow-Buy Framework

1) Relevancy: How relevant are the firms existing internal resources to solving the resource gap?

2) Trade-ability: How trade-able are the available external resources?

3) Closeness: How close do you need to be to your external resource partner

4) Integration: How well can you integrate the targeted firm you acquire

Relevance

Internal Sources are relevant if:

- They are similar to those the firm needs to develop

- They are superior to those of competitors in the targeted area

Are the firms internal resources highly relevant? If so, the firms should develop internally

Closeness

Closeness can be achieved through alliances

- Equity alliances

- Joint ventures

- This enables resource borrowing

M&As are complex and costly

- Used only when extreme closeness is needed

Integration

Conditions for integrating the target firm:

- Low relevancy

- Low readability

- High need for closeness

Why did Lyft enter strategic alliances with GM and Waymo?

Lyft entered a strategic alliance as a joint venture to use GM knowledge of autonomous technology and Lyft's wide range of ride sharing services.

What were the benefits of these alliances for Lyft? For GM? For Waymo?

The benefits of the alliance for Lyft are that their ride sharing technology gets to be used to create new and innovative products, Waymo and GM are benefiting similarly and get to be industry leaders.

What are the BENEFITS of internal development (Build) versus strategic alliances (Borrow) vs. mergers/acquisitions (Buy)?

1) Build: If the internal resource out-performs competitors it gives the company a competitive advantage

2) Borrow: New processes, new services, new products, knowledge, resources, and capabilities

3) Buy: Can be horizontal integration which lessens the pool of competitors

What are the RISKS of internal development (Build) versus strategic alliances (Borrow) vs. mergers/acquisitions (Buy)?

1) Build: The company could think that internal development will solve the strategic resource gap, but it was not and wasted time and money on irrelevant implementations.

2) Borrow: The strategic alliance might not want the same things out of the venture.

3) Buy: Can be a hostile takeover which means that the company being purchased does not want to be bought

Strategic Alliances

Is a voluntary arrangement between firms that involves the sharing of knowledge, resources, and capabilities.

o Intent of strategic alliances - joint development of:

--> New Processes

--> New Products

--> New Services

Examples of Strategic Alliances: Uber and Spotify /// Target and Starbucks

Firms enter these markets too:

o Strengthen competitive position.

---> Change industry structure, influence standard

o Enter new markets.

---> Product, services, or geographic markets

o Hedge against uncertainty

---> Real options perspective - Breaks down investment into smaller decisions

---> Staged sequentially over time

o Access critical complementary assets

---> Marketing, manufacturing, and after-sale service

---> Helps complete the value chain

o Learn new capabilities.

---> Co-opetition: Cooperation among competitors

Learning Races: To exit the alliance quickly

Strategic Alliances can be governed by:

1) Non-Equity Alliances

2) Equity Alliances

3) Joint Ventures

Non-Equity Alliance

- Partnership based on contracts between firms.

o Supply agreements, distribution agreements, licensing agreements, franchise

Equity Alliance:

Partnership in which at least one partner takes partial ownership of the other.

o GM or Lift

Joint Venture:

Standalone organization, created and jointly owned by two or more parent companies.

o Hulu

Tactic Knowledge

The knowledge, skills, and abilities an individual gains through experience that is often difficult to put into words or otherwise communicate.

How does the sharing of tacit knowledge contribute to value creation in equity alliances?

It helps establish best practices and demonstrate an optimal approach to tasks, improving productivity.

--> Another advantage of tacit knowledge is that competitors might be able to steal tools, strategies, or explicit information but cannot lay hands on the tacit knowledge of your company.

What are the three phases of alliance management?

1) Partner Selection and Alliance Formation

2) Alliance Design and Governance

3) Post-Formation Alliance Management

1) Partner Selection and Alliance Formation

Cost vs. Benefits (Expected benefits must exceed the cost)

Partner Selection Based on Alliance Goals:

- Strengthen competitive position.

- Enter new markets.

- Hedge against uncertainty

- Access critical complementary resources

- Learn new capabilities.

Partner commitment and Partner compatibility

Partner Commitment

Concerns the willingness to make available necessary resources and to accept short-term sacrifices to ensure long-term rewards

Partner Compatability

Captures aspects of cultural fit between different firms

2) Alliance Design and Governance

Governance Mechanisms - Formal and Informal Mechanism

Formal:

1. Non-equity contractual agreement

2. Equity alliances

3. Joint Venture

Informal: Requires inter-organizational trust.

(Note: Inter-organization trust is a crucial dimension of alliance success!)

Best Practices Utilized by Firms to Maximize Value from Strategic Alliances

To create VRIN resource combinations:

o Make relation-specific investments.

o Establish knowledge-sharing routines.

o Build interfirm trusts.

--> Build alliance management capability through repeated experiences over time.

Mergers

The joining of two independent companies to form a combined entity.

Acquisition

o Purchase or takeover of one company by another

o Can be friendly or unfriendly (hostile)

Hostile Takeover

The target company does not wish to be acquired.

Horizontal integration

o Merger with a competitor

o Leads to industry consolidation

Benefits of Horizontal integration

o Reduction in competitive intensity - changes industry structure

o Lower costs - economy of scale

o Increased differentiation - fills product gaps

Why do firms pursue mergers and acquisitions?

o To access new markets, new distribution channels

o To overcome entry barriers

o To access new capabilities and competencies

o To pre-empt rivals

--> Facebook acquisitions of Instagram, WhatsApp, Occulus

--> Google acquisitions of YouTube, FitBit, Nest, Double Click

Benefits of firms pursuing mergers and acquisitions

Reduction in competitive intensity, lower costs, and increase differentiation.

Problems with Acquistions

1) Inadequate evaluation of target

2) Extraordinary debt

3) Too Large

4) Managers overly focused on acquisitions

5) Too much diversification

6) Inability to achieve synergy

7) Integration difficulties

Acquisition strategies are difficult to implement successfully: (Risks)

Research suggests:

- 20% of all mergers and acquisitions are successful

- 60% produce disappointing results

- 20% are clear failures

Mergers and Acquisitions (M&A) and Competitive Advantage

In most cases M&A:

- Do not create a competitive advantage

- Do not realize anticipated synergies

- Result in destroyed shareholder value

Why Mergers take place

- Principal-agent problems

- The desire to overcome competitive disadvantage

- Superior acquisition and integration capability

Principle Agent Problem

Situation in which an agent performing activities on behalf of a principal pursues his or her own interests.

What principal-agent issues impact the ability of mergers/acquisitions to positively impact shareholder value?

- Managers may act in their own self-interest, eroding rather than enhancing value creation (such as to build a larger empire or to receive prestige, power, and higher pay)

Why:

o Income, job security, prestige, power

o Buying a business more interesting than running a business

o Ego, managerial hubris

Often leads to ill-fated business deals

Managerial Hubris

A form of self-delusion in which managers convince themselves of their superior skills in the face of clear evidence to the contrary

Understand how superior acquisition and integration capability a source of competitive advantage can be.

- To overcome competitive disadvantage

- To address principal-agent problems

- To gain superior acquisition and integration capability

Strategic Control and Operational Control are crucial for one to understand...

The relationship between the employees and clients

Strategic Control

The process of monitoring and correcting a firm's strategy and performance.

o Informational-control systems

o Behavioral-control systems

o Corporate governance

- Control mechanisms must be consistent with the firm's strategy.

The traditional approach to strategic control is sequential:

1) Strategies are formulated, goals are set.

2) Strategies are implemented.

3) Performance is measured against goals.

The traditional approach = single feedback loop from performance measurement to strategy formulation

Traditional approach is most appropriate when:

- Environment is stable, relatively simple.

- Objectives can be measured with certainty.

- There is little need for complex measures of performance.

The Contemporary Approach

Relationships between strategy formulation, implementation, and control are highly interactive, utilizing:

- Informational Control

- Behavioral Control

TEXTBOOK STATES:

Adapting and anticipating both internal and external environmental change is an integral part of strategic change.

- Relationships between strategy formulation, implementation, and control are highly interactive.

Informational Control

Is the organization doing the right things?

· Internal, external analysis

· Does the strategy fit the internal and external environment?

Informational Control: Characteristics

- Focus is on constantly changing information: Continuous monitoring, testing, review

- Data is interpreted and discussed face-to-face

- Ongoing debates challenge assumptions

- Time lags are shortened, with changes detected earlier

- Speed and flexibility of response is enhanced

Informational Control: Issues

Informational control deals with both the internal and external environment

--> Is the organization doing the right things?

--> Do organization's goals and strategies still fit within the context of the current strategic environment?

For informational controls to be effective, managers must:

- Scan and monitor the external environment

- Continuously monitor the internal environment

Behavioral Control

Is the organization doing things right in the implementation of the strategy.

· Using culture, rewards, boundaries to influence employee actions.

Behavioral Control 3 Essential Elements

o Culture

o Reward

o Boundaries

Organizational Culture

Is a system of:

- Shared values: What is important?

- Beliefs: How things work

A strong culture provides common purpose and identity, leads to greater employee engagement.

--> But - culture can introduce core rigidities.

How are Organizational Cultures Built:

- Cultures cannot be "built" or "assembled"

- Effective cultures must be cultivated, encouraged

How are Organizational Cultures Maintained:

Organizational cultures can be maintained by:

o Storytelling

o Behavior and actions of leaders

o Events and outings that reinforce company ideals, build stronger connectedness among employees

Behavioral control: Rewards

- Reward systems and incentive programs are powerful tools for influencing culture:

o Focus employee efforts on high priority tasks.

o Motivate individual and collective task performance.

o Can be an effective motivator and control mechanism.

Reward System Characteristics (Behavioral Control)

1) Objectives are clear, well understood, and broadly accepted

2) Rewards are clearly linked to performance and desired behaviors

3) Performance measures are clear and highly visible

4) Feedback is prompt, clear, and ambiguous

5) The compensation "system" is perceived as fair and equitable

6) The structure is flexible; it can adapt to changing circumstances

Downsides of Reward System (Behavioral Control)

1) Individual actions are not related to compensation; employees are rewarded for the wrong things

2) Different business units have differing reward systems

3) Behavior reinforced within subcultures may reflect value differences in opposition to the dominant culture

4) Reward systems may lead to information hoarding, working at cross purposes

Behavioral control: Boundaries and Constraints

Rules that specify behaviors that are acceptable and unacceptable.

Boundaries and constraints can be useful in:

o Focusing individual efforts on strategic priorities

o Providing short-term objectives and action plans to channel employee efforts.

o Holding individual managers accountable for implementation

o Minimizing improper and unethical conduct

--> Explicit rules

--> Policies that contain an ethical code of conduct

Corporate Governance

A strategic control mechanism focused on relationships among shareholders, management, and the board of directors

--> Assumes the separation of owners (shareholders)and management.

--> Key focus is on aligning managerial motives with:

o Interests of shareholders

o Interests of the board of directors

Corporate Governance is concerned with:

o Strengthening the effectiveness of a company's board of directors

o Verifying the transparency of a firm's operations

o Enhancing accountability to shareholders

o Incentivizing executives

o Maximizing value-creation for stakeholders and shareholders

External Governance - (And Control Mechanisms):

Methods that ensure that managerial actions lead to shareholder value maximization and do not harm other stakeholder groups that are outside the control of the corporate governance system.

Internal Governance

Board of Directors, Executive compensation/incentives, Shareholder concentration

Agency Theory

In favor of separation:

o Safeguards against corruption or incompetence

o Removes conflict of interest, particularly regarding CEO succession

--> Has to do with CEO duality and is in favor of separation between the CEO and chairman of the board of directors.

Agency Problems

Is conflict of interest where on party is expected to act in another party's best interest.

Unity of Command

In favor of Duality:

o Provides clear focus

o Eliminates confusion and conflict

o Enhances a firms responsiveness

o Enables quick decisions based on first hand knowledge

What are the three primary internal governance mechanisms for monitoring and managing the behavior of managers?

o A committed and involved Board of Directors

o Active engagement of shareholders and shareholder activism

o Managerial rewards and incentives - with compensation agreements that align management and shareholder interests

Characteristics of an effective Board of Directors

o Active, critical participants

o Focus on forward-looking, strategic issues

o Evaluate CEO's against high performance standards

o Balance of insiders and independent outsiders

--> Insiders: strong operational knowledge, relationships with non-board member executives

--> Outsiders: outside-industry experience, independent oversight of strategy

Shareholder Activism

Is when a shareholder of the company tries to use their equity to achieve a goal.

o This plays a role in corporate governance because it allows many different equity owners have to opportunity to voice opinions and not just leave the "best interest of the company" in one group of people hands.

Key mechanisms to align managers' and shareholders' interests:

o Require that CEO's become substantial owners of company stock

o Structure salaries, bonuses, stock options to provide rewards for superior performance, penalties for poor performance

o Dismissal for poor performance should be a realistic threat

CEO Duality

Textbook Definition: Refers to the dual-leadership structure wherein the CEO acts simultaneously as the chair of the board of directors.

Is when the someone is both the CEO and head chairman of the board of directors.

Benefits and Disadvantages of CEO Duality

Benefits: Unity of demand provides clear focus, eliminates confusion, enhances firms' responsiveness, and allows for quick decisions based on first-hand knowledge

Disadvantages: Agency Theory is in favor is separation which safeguards corruption and removed conflict of interest

Market is Corporate Control

Individuals or firms buy or takeover undervalued firms.

Auditiors

Verify financial information

Banks and Analysts

Conduct and publish in depth studies of firms.

Governmental Regulators

Require disclosure of financial information

Media

Influence public perceptions

Understand key global differences in corporate governance issues and solutions.

Issues:

- Concentrated ownership

- Motivation to pursue strategies that benefit controlling shareholders

- Few formal or informal constraints

Institutional Investors

Large organizations - such as pension funds, mutual funds, and insurance companies - that invest their own funds or the funds of others

--> The power of shareholders has intensified in recent years because of the increasing influence of large institutional investors such as:

----> Asset managers, mutual funds, and retirement systems.