short note 2 corpculturem&a dec2012

7/27/2019 Short Note 2 CorpCultureM&a Dec2012

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TheRoleofCorporateCultureinMergers&Acquisitions

In: Etienne Perrault (ed.), Mergers and Acquisitions: Practices, Performance andPerspectives,

NOVA

Science

Publishers,

May

2013

CHRISTAH.S.BOUWMAN

AssociateProfessorofBankingandFinanceatCaseWesternReserveUniversity

FellowattheWhartonFinancialInstitutionsCenter

ABSTRACT:

Corporatemergersarean importantdriverofgrowth,andyetmanymergers fail toproduce

valuefortheshareholdersoftheacquiringfirms. Surveyandanecdotalevidencesuggeststhat

corporatecultureiscentraltothesuccessofmergersandacquisitions(M&A),andthatcultural

differencesareanimportantcausalfactorinmergerfailures. However,thereislittleeitherby

wayoftheoryorbywayof largesampleempiricalevidence inFinanceandEconomicsonthe

importanceof

culture

for

M&A

performance,

although

there

appears

to

be

growing

interest

in

this area.There is a fairly substantial literature inOrganizationalBehavior,however,on this

subject.

Toprovideaperspectiveon the roleofculture inmergersandoutlineanagenda for

future research that can be built around the key questions whose exploration promises to

extend the frontiers of knowledge in this important area, this chapter critically reviews the

Organizational Behavior and Economics literatures on corporate culture. Some survey and

anecdotalevidence

on

the

effect

of

culture

on

M&A

is

discussed

as

motivation

and

also

to

surfacequestionsthatcouldbemoresystematicallyaddressedthroughresearch. Thegoalof

thechapteristobothacquaintthereaderwiththeresearchthathasalreadybeendoneinthis

somewhatnascentareaandtofacilitatethedevelopmentofanagendaforfutureresearch.


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1

TheRoleofCorporateCultureinMergers&Acquisitions

1.

Introduction

Corporatemergersareanimportantdriverofcorporateandeconomicgrowth. Nonetheless,a

large fraction ofmergers fail to produce value for the shareholders of the acquiring firms.1

Anecdotal and survey evidence suggests that cultural incompatibilitybetween acquirers and

targetsisanimportantreasonformergerfailures. Highprofiledealsthatsupposedlyfaileddue

to corporate culture clashes include DaimlerChrysler and SprintNextel, transactions that

endedupdestroyingbillionsofdollars inshareholdervalue. Theseanecdotessuggest thata

deepercomprehensionofhowcorporatecultureaffectsM&Awouldbeofvalue,bothfroman

academicresearchperspectiveandtopractitioners.

Despite the apparent importance of corporate culture, there is surprisingly little

researchonthistopicinEconomicsandFinance. Moreworkhasbeendone inOrganizational

Behavior: variousmodels of corporate culture have been developed, but few have applied

theminanM&Acontext.

Thisraisestwoquestions.First,whathasbeendonebywayoftheoreticalandempirical

researchontheroleofcorporatecultureinmergers? Second,whatmightbeafruitfulresearch

agenda to address thequestions still looming asunansweredby theexisting literature?The

purposeof

this

chapter

is

to

address

these

two

questions.

To

address

the

first

question,

I

review theexistingOrganizationalBehavior,Economics,andFinance literaturesoncorporate

culture inanM&Acontextandsummarizethekeyfindings,aswellasunansweredquestions.

1Bruner(2002)providesanoverviewofalargenumberofstudiesthatdocumentthis.


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2

To address the second question, I tease out interesting issues that have either been

incompletelyaddressedornotatallintheexistingliteratureandputthemforthasissuestobe

scrutinizedinfutureresearch.

The rest of this chapter is organized as follows. Section 2 discusses the different

definitionsofcorporate culture thathavebeenproposed in theOrganizationalBehaviorand

Economics literatures. Section3presentsrecentsurveyevidenceon theeffectofcultureon

M&A,anddiscussesseveralhighprofiledealsthatallegedlydidnotworkout(inpart)because

of culture mismatches. Section 4 reviews the existing theories and empirical evidence on

corporate culture and M&A in Economics and Finance. Section 5 discusses issues to be

addressedintheoriesandempiricalworkonthistopic. Section6summarizesandconcludes.

2.WhatisCorporateCulture?

Differentdefinitionsofcorporateculturehavebeenproposed in theOrganizationalBehavior

andEconomics

literatures.

This

section

reviews

these

definitions

and

draws

out

similarities

and

differences.

2.1.CorporateCultureinOrganizationalBehavior

TheOrganizationalBehaviorliteraturestartedtopayattentiontocorporatecultureintheearly

1980s

when

several

books

discussed

a

link

between

corporate

culture

and

firm

behavior

and

performance(e.g.,PetersandWaterman,1982;andDealandKennedy,1982). Thetopichas

receivedalotofattentionsince. CameronandQuinn(1999)arguethat(virtually)everyhighly

successfulcompanyhasadistinctive,readilyidentifiablecorporateculture. Corporatecultureis


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3

theorganizationspersonality: itssharedbeliefs,values,andbehaviors. Itdescribestheway

we do things here, and hence represents both explicit and implicit rules of organizational

conduct. While culture is typically created by the firms founder (e.g.,Disney), it generally

evolves in ways that are intended to facilitate the achievement of specific organizational

performancegoals(e.g.,G.E.).

The Organizational Behavior literature has produced a variety of ways to classify

corporatecultures. Below,Idiscusstwooftheseclassificationsthathaverecentlybeenusedin

thefinanceliteraturetostudytheeffectsofcorporatecultureonM&Aperformance.2 Details

ontheempiricalimplementationareprovidedinSection5.2.

Cartwright andCooper (1993)buildonHarrison (1972) anddistinguishbetween four

culture orientations:

// . A roleoriented culture is highly centralized,

bureaucratic,andfocusesonjobdescriptionandspecialization. Workiscontrolledbyrulesand

procedures. Peoplearetreatedas interchangeable insteadofas individualhumanbeings. A

task/achievementoriented culture emphasizes team work, values flexibility and worker

autonomy. Itisverytaskoriented,creative,andofferscustomerstailoredproducts. Apower

orientedcultureishighlycentralized,ruleoriented,andfocusesonrespectofauthority. Those

in control tend to use implicit rules, seek to maintain absolute power, and may practice

nepotismandfavoritism. Individualsaremotivatedtoactbyasenseofloyaltytothebossor

fearof

punishment.

A

person/support

oriented

culture

emphasizes

egalitarianism,

nurtures

personal growth and development of its members. This culture tends to be found in

cooperativesandcommunitiesinsteadofinforprofitorganizations.

2Other frameworks include those proposed byHandy (1976), Deal and Kennedy (1982),Denison (1990), and

OReilly,Chatman,andCaldwell(1991).


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Cartwright and Cooper argue that, depending on howmuch integration and culture

change is needed, mergers will fall into one of three types: extension mergers (open

marriages inwhichdifferences inculturebetweenmergerpartnersareacceptedandviewed

as rather unimportant), collaborative mergers (success depends upon the ability to fully

integratebothculturesandcreateabestofbothworldscultureandthuscreateawin/win

scenario), or redesignmergers (traditionalmarriages, themost typicalmerger scenario in

whichtheacquirer isthedominantpartnerthat intendstoreplacethecultureofthesmaller

and/or less successful target, thus creating a win/lose situation). Key insights include the

following. First,mergersoftenfailbecauseonemergerpartnersdoesnotrecognizeoragreeto

the others perception of the marriage terms. Second, in a collaborative merger, culture

changesthatareperceivedtoimposemorecontrolonemployeesareresistedmorethanthose

perceived to increase employee autonomy, so an acquirerwith aRole culturewillbemore

easilyacceptedbyatargetwithaPowerculturethanbyatargetwithaTaskculture. Third,ina

redesignmerger,

the

greater

the

degree

of

dissimilarity

in

cultures,

the

harder

the

integration

andthelongertheintegrationprocesswilllast.

Cameron, DeGraff, Quinn, and Thakor (2006) rely on the previous Organizational

Behavior literaturetodescribe theCompetingValuesFramework. The frameworkhas four

quadrants,eachofwhichstandsforaparticulartypeofcorporateculture:

.

Acollaborate

oriented

culture

focuses

on

building

skills,

developing

people,

building

cohesion

via consensus, and strengthening satisfaction through involvement (human development,

humanempowerment,humancommitment). Considerableattention isgiven to teamwork,

decentralized decisionmaking, and training and development. A createoriented culture


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focuses on product, process and service innovation (create, innovate, and envision the

future). Emphasis isputoncomingupwith innovativeproduct lineextensions, radicalnew

processbreakthroughs,developingnew technologies,etc. Acontrolorientedculture focuses

on improvingefficiencyby implementingbetterprocesses (better,cheaper,surer). Agreat

dealofemphasis isputon costandproductivityenhancements,decreases inmanufacturing

cycletime,efficiencyimprovementmeasures,riskabatement,etc. Acompeteorientedculture

pursuescompetitivenesstothefullest(competehard,movefast,andplaytowin). Thefocus

of attention is external competitiveness that is measured by customer satisfaction, market

share,sales,shareholdervalue,andsoon.

Thisframeworkyieldsimportant insights. First,whileaspectsofallfourquadrantsare

typicallypresentinanyorganization,oneortwoaspectstypicallydominate. Forexample,while

onefirmmaybestrong intheControlquadrant(e.g.,EmersonElectric),anothermayexcel in

the Create quadrant (e.g., Ideo). Second, tensions or competing values exist between

diagonallyopposite

quadrants:

Control

tends

to

clash

with

Create,

and

Compete

tends

to

clash

withCollaborate. Thisoccursbecauseoppositequadrantsemphasizeoppositeformsofvalue

creation. Sincethesetensionsexist ineachfirmtoagreateror lesserextent,theycouldalso

helppredictwhich typesofmergerssucceed. For instance, ifa firmwhoseculture is largely

CreatemergeswithafirmwhosecultureislargelyCompete,therulesofconductmaydiffer

so

dramatically

across

the

two

organizations

that

it

may

be

difficult

to

reconcile

them,

resulting

in employee attrition in one of the two groups, with a consequent decline in postmerger

performance.


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Tosummarize,theOrganizationalBehaviorliteraturetendstodefinecultureintermsof

thedescriptivecategorizationsofbehaviorassociatedwithspecificcultures,sothatculturecan

beviewedfromthelensofwhatpeoplebelievewillcreatevalueandhowtheybehave. Thus,

culturebecomesavariablethat influences individualandgroupbehavior,andthisbehavioral

influenceisoverandabovetheeffectofexplicitcontracts.

2.2.CorporateCultureinEconomics

TheEconomicsliteraturestartedtoaddresscorporatecultureadecadeaftertheOrganizational

Behavior literature. Ina seminalpaper,Kreps (1990)definescorporateculture in twoways:

corporatecultureactsasacoordinationmechanisminsituationswithmultipleequilibria,andit

is also away todealwithunforeseen contingencies. Krepsmodel focuseson situations in

which cooperation amongdifferentparties is crucial. Oneway to induce cooperation is via

contracts. However,therearemanysituationsinwhichformalcontractsarecostly(becauseof

costsassociated

with

bargaining,

monitoring,

and

enforcement)

or

infeasible

(because

states

or

actions may not be verifiable or difficult to specify in advance). Another way to induce

cooperation is via repeated interaction. Repeatedplay can be superior to formal contracts

becauseitmaybecheaperandmaysupportdesirableoutcomeswhencontractsareinfeasible.

A potential problem, however, occurs when repeated games have multiple equilibria. For

example,

suppose

that

when

players

1

and

2

both

play

A,

their

payoffs

are

(6,4);

if

both

play

B,

theirpayoffsare(4,6);andif1playsAwhile2playsBorviceversa,theirpayoffsare(0,0). In

thisgame,therearetwopurestrategyNashequilibria:bothplayAorbothplayB. Theproblem

isthatgametheorydoesnotpredictwhichofthesetwoequilibriawillbeplayed. Corporate


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culture,however,isabletodoso. Ifplayer1isseniorandplayer2isjunior,theculturalnorm

maybe thatbothplayA,which is thebetteroutcome for thesenior.3 Clearly, thisoutcome

couldalsohavebeenachievedviacontracts,so itmaynotbeobviouswhyculturehas tobe

introduced.

Krepspointsoutthattheusefulnessofcorporateculturebecomesapparentwhenthe

playersarefacedwithunforeseencontingencies.4 Forexample,inthegameabove,itmaynot

beknownexantewhatAandBwillbe,norwhat theexactpayoffs fromplaying these two

strategieswillbe. In suchanenvironment, formalcontracting ishard,whileaculturalnorm

thateveryoneplayswhatisbestfortheseniorensuresanefficientoutcome. Anotherexample

involves a game with more complex payoffs in which the two players are a boss and an

employee. Thebosscantreatanemployeefairlyorexploithim,whiletheemployeecantrust

herbossornot. Supposethatexploitingisthebosssdominantstrategywhiletheemployees

bestresponseinthatcaseistonottrustherboss. Inaoneshotgame,theequilibriumwould

theninvolve

the

boss

exploiting

the

employee

and

the

employee

not

trusting

the

boss.

If

the

likelihoodofanotherperiod ishighenough,however, itmaybeoptimalforthebosstotreat

the employee fairly and for the employee to trust her boss, knowing that the boss has an

incentive to protect her reputation. This will be optimal if both parties have an ex ante

understandingofwhatfairmeans. Interestingly,thebossandtheemployeedonothaveto

be

infinitely

lived.

It

is

important,

however,

that

the

boss

cares

about

the

future

(which

can

be

achievedby,forexample,linkingherpaytothevalueofthefirm),andthatfuturetransaction

3Ifthegameisplayedonlyonce,thisoutcomemaynotbeattained,butifthegameisplayedrepeatedly,itcanbe

attained.4 Unforeseen contingencies are not the same as difficulttospecifyinadvance contingencies. Unforeseen

contingenciesarecontingenciestheplayersdonotevenforesee.


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partners can observe the treatment the employee receives.5 Thus, corporate culture can

sustaindesirableoutcomesinaworldwithunforeseencontingencies.

Cremer(1993)definescorporatecultureastheknowledgesharedby(asizeablepartof

the)membersofanorganization,butnotbythegeneralpopulation. Hearguesthatacultureis

strongerthemoresharedknowledgeexistsintheorganization. Heassumesthatindividualsare

trustworthybutare limited in theirability toprocess, receiveand transmit information. The

keybenefitofculture is that itactsasasubstitute forexplicitcommunication. Itdoessoby

providing three things:acommon languageorcoding (companieshave theirownvocabulary

andcansignalviaactions,suchasallocatingabiggerofficetosignalsomeoneshigherstatus,

etc.),asharedknowledgeofrelevantfacts(obtainedviatrainingprograms,newsletters,etc.),

and a shared knowledge of key behavioral rules (whether or not to share informationwith

colleagues,howfasttorespondtocustomerrequests,etc.). Corporateculturecanbeasource

ofefficiencysince itallows individuals facedwith timeconstraints tousesimplifieddecision

makingrules.

The

main

cost

of

culture

is

that

the

members

of

the

organization

need

to

invest

to acquire this knowledge. Viewed this way, culture is an upfront investment to reduce

subsequentcommunicationcosts.

Cremer alsopointsout that corporate culturemayexplainwhy there aredecreasing

returnstoscaletofirmsize. Differentsubgroupsinaconglomeratemayhavedifferentcultures

and

there

may

be

a

lack

of

synergy

between

the

cultures

of

the

subgroups.

Lazear(1995)viewscorporatecultureassharedbeliefsorpreferencesthatarise from

an evolutionary process. Specifically, his model assumes that individuals in a firm have

5Viewedthisway,corporatecultureisessentiallythesameasorganizationalreputation.


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preferences (genetic endowment), and that when two individuals meet (mate), each

individual produces an offspring with preferences that are a mix of the two mates. Top

managementcanensurethatcertainpreferencesaremorelikelytosurvive,i.e.,itcanfostera

particularculture. Inpractice, itcandoso intwoways:selectionand internalization. Tosee

this,supposethatindividualshavepreferencesAorBandthatmanagementfavorsA. Whenan

AmeetsaB,theAmaycomplaintotopmanagementabouttheB,andtheBmayendupbeing

fired and replacedwith anA. In this case, selection takesplace sincemanagementactively

replaces badpreference individuals with goodpreference individuals. Alternatively,

managementcanactivelyadvocate (via training,speeches,etc.) that it favorsA. WhenanA

meetsaB,thepayoffoftheirinteractionmaybelow,andtheBmayrecall(internalize)that

heisworkinginanAorganizationandswitchtoplayingA.

Hermalin (2001) uses an industrial organization (IO) approach to studying corporate

culture,whichhe assumes tobe a technology that affects costs. Hedistinguishesbetween

firmswith

strong

corporate

cultures

cultures

that

are

strategically

appropriate

and

widely

acceptedwithin the firmand firmswithweakornonexistent cultures (uncultured). He

starts with the premise that firms with strong cultures have lower marginal costs than

uncultured firms (becausehaving a cultureeconomizeson communication costs)andhigher

fixedcosts (because individualshave to learn about the culture). Usingawellknown result

from

the

IO

literature

that,

in

a

competitive

industry,

only

firms

with

the

lower

minimum

averagecostsurvive,hederivesseveralinterestingresults. First,iftheproportionaldecreasein

marginal costs from having a culture exceeds the proportional increase in fixed costs from

havingaculture,thenonlyculturedfirmssurviveinthelongrun. Second,keepingeverything


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else constant, each firm produces more in a culturedfirm equilibrium than in an

unculturedfirm equilibrium. This implies that a competitive industrywith cultured firms

shouldhavefewerbutlargerfirmsthanacompetitiveindustrywithunculturedfirms.6

Hermalin also uses insights from IO to examine intraindustry heterogeneity in

corporateculture. HeassumesanindustryhastwoCournotcompetitors. Heshowsthatifthe

cost of adopting a culture is low, then both firms adopt a strong culture; if the cost is

intermediate,thenone invests inastrongculturewhiletheotherremainsuncultured;and if

thecostishighthenbothfirmsremainuncultured. Henotesthatalternativemodelscanalso

generateheterogeneousequilibria. Forexample,ifthereisuncertaintyaboutfutureoperating

environments,thenitispossiblethatonefirminvestsinastrongculturewhiletheotherdoes

not,evenwhentherearenocostsassociatedwithadoptingaculture. Animportantinsightof

hisanalysesisthatwhilethecostsofastrongcorporateculturecanbegaugedbyfocusingon

thefirm itself,thebenefitsdependgreatlyonthecompetitiveenvironment inwhichthefirm

operates.

Akerlof and Kranton (2005) examine how an employees identity may lead him to

behavemoreorlessinlinewiththefirmsgoals. Whilenotapaperoncorporatecultureperse,

theextenttowhichemployeesidentifywiththefirmandadoptitsgoalscanbeinterpretedas

such. Inastandardprincipalagentmodel,anemployeesutilityonlydependson incomeand

effort.

In

Akerlof

and

Kranton,

it

also

depends

on

the

employees

identity.

Specifically,

they

assumethatanemployeecanhavetwoidentities. Ifheisaninsider,thenormistoactinthe

6 Interestingly, this seems togoagainst Lazear (1995)whopredicts that corporate culture iseasier to instill in

smaller firms,and thatasaresult,smaller firms tendtohavestrongercultures. Hermalinpointsout,however,

thatLazearonlyfocusesonhowthecosts(notthebenefits)ofhavingacorporateculturerelatetofirmsize.


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interestofthefirmandtoputinhigheffort. Ifheisanoutsider,thenormistoputintheleast

amountofeffort. Inbothcases,theemployeelosesutilityifhedivergesfromtheidealeffort

level for employeeswith similar identity. They show that if the employee identifies as an

insider,thepresenceof identityutilityreducesthewagedifferentialnecessaryto inducehigh

effort,while foranemployeewiththe identityofanoutsider, it increases it. Firmsareeven

willing to invest to change an employees identity if the reduction in wages exceeds the

investment. The authors predict that firms aremore likely to use identitybased incentive

schemesifitischeaptoinstillidentity,ifeffortishardtoobserve,andifhigheffortiscrucialfor

thefirmsoutput.

AkerlofandKrantonalsodiscusswhathappenswhenemployeesareallowedtoidentify

with their workgroup rather than with the firm as a whole. To do this, they introduce a

supervisorwhocanbestrict(thesupervisorinformstheprincipalabouttheemployeesactions)

or lax (the supervisor does not report). If supervision is strict, the employee views the

supervisoras

part

of

management

and

regards

himself

as

an

outsider.

If

supervision

is

lax,

the

employee regards the supervisor as part of theworkgroup. In this setup, the firm faces a

tradeoff:whilestrictsupervisionmayleadtohighereffort,wagecostsgoupbecausethefirm

needstocompensatetheemployeeforhislossinidentityutility. Thus,thefirmmayoptimally

decidetoimplementlaxsupervision.

Van

den

Steen

(2010a)

examines

the

origins

of

corporate

culture,

defined

as

a

sense

of

sharedbeliefsandvalues. Hestartswiththeobservationthatpeoplemayhavedifferentprior

beliefs(as,e.g., inKreps,1990;HarrisandRaviv,1993;andBoot,Gopalan,andThakor,2006,

2008). Inotherwords, theymaydisagreeonoptimalactionsevenafter sharingall relevant


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information. Heshowsthatfirmsthatoperateinsuchaworldtendtodevelophomogeneous

beliefs. That is, they develop their own corporate cultures and do so through three

mechanisms:screeninginthehiringprocess(ifoutcomesdependoncorrectdecisions instead

of effort, employeeswant toworkwith otherswho share beliefs that are identical to their

own), selfsorting (since an employees utility depends on the actions of his boss and co

workers, he may prefer to work / not to work in certain firms), and joint learning (the

employeesexperiencethe firmsbehaviorandperformancetogetherand learn from it). The

modelpredictsthatcorporatecultureisstrongerinolderfirms(sincetheiremployeeswillhave

more shared experiences), in smaller firms (since small sizemakes it easier to observe and

communicate experiences), inmore successful firms (since very high payoffsmake it highly

likely that employees agree on the right course of action), in firmswhere employeesmake

more important decisions (so homogeneity will be greater in consulting firms than in an

assemblyplant),andinfirmswherethemanagerhasstrongerbeliefsabouttherightcourseof

action.

BenabouandTirole (2011),whilenotapaperoncorporatecultureperse,developsa

model of identity inwhich individuals care about their own reputation. They assume that

peoplehaveimperfectmemory,andthereforemakeidentityinvestmentsasselfsignals. When

contemplatingalternativeactions, they consider thekindofpersoneachactionwouldmake

them

and

how

desirable

those

self

views

are.

One

of

the

models

predictions

is

that

people

resistassimilation:whenplacedinanewculture,anindividualsidentityisthreatenedandthis

stimulatesadditionalidentityinvestments. Beingaskedorrequiredtoadoptthenewcultureis

viewedasabetrayaloftheoldcultureandmaythereforeelicitopposition.


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We can compare the Economics view of culture with the view developed in

OrganizationalBehavior. WhileOrganizationalBehaviorviewscultureasamediatingvariable

thataffects individualandgroupbehavior,thefocus inEconomicshasbeenonattemptingto

providethemicrofoundationsofwhyculturemattersforeconomicoutcomes. Onecanmakea

numberofobservationsabouttheEconomicsviewofcorporateculture. First,differentpapers

inEconomicsusedifferentnotionsofculture. WhileKreps(1990)definescultureasaparticular

selected equilibrium out of multiple equilibria, Cremer (1993), Lazear (1995), and Van den

Steen (2010a) view corporate culture as shared beliefs and values and thus link culture to

sharedcharacteristicsofindividuals,aviewthathasmuchincommonwiththeOrganizational

Behaviorliterature. Second,economistshavedifferentperspectivesontheissueofcorporate

culturestrength. Cremer(1993)arguesthatcultureisstrongerwhenmoresharedknowledge

exists. VandenSteen(2010a)agreeshepredictsthatcultureisstrongerinolderfirmforthe

samereasonbutalsoarguesthatitisstrongerinothersituations(e.g.,insmaller,andmore

successfulfirms)

for

avariety

of

reasons.

In

contrast,

Lazear

(1995)

predicts

that

culture

is

stronger in small firms since culture is easier to instill in such firms. Hermalins (2001) IO

perspective assumes that strong cultures have lowermarginal costs and higher fixed costs.

Third,whilemostofthemodelsassumethatthefirmhasasingleculture,somepapershave

recognizedthepossibilityofsubcultureswithinorganizations (seeCremer,1993;andAkerlof

and

Kranton,

2005).


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3.SurveyandAnecdotalEvidenceontheImportanceofCultureforMergerSuccess

There is surveyevidenceonhowmuchculturematters formergerperformance. Moreover,

therehasbeenquiteabitofanecdotalevidenceonthe importanceofculturalalignment for

merger success. In this section, Idiscuss the surveyevidenceand thendiscuss severalhigh

profiledealsthatallegedlydidnotsucceed(inpart)becauseofculturemismatches.

3.1.SurveyEvidenceonM&AandCulture

A variety of surveys have shown over the years that corporate culture matters for M&A

performance. Here,IfocusonarecentstudybyAonHewitt(2011). Thisreportpresentsthe

results of a survey of 123 firms around theworld from a variety of industries. Half of the

respondents indicated that theirM&Adeals failed tomeetexpectations. Whenaskedabout

factors leadingtodeal failure,33%of the respondentsmentionedcultural integration issues,

making it the secondmost important direct driver. However, as highlighted in the report,

culturalintegration

is

also

an

indirect

driver

to

various

other

immediate

causes

of

deal

failure.

For example, 60%of the respondents indicated thatunsuccessful cultural integration led to

delayeddealintegrationandimplementation,whichwasthemostcommondirectfactorcited

fordealfailure.

Interestingly,while firmsunderstand that cultural integration is vital todeal success,

58%

of

them

responded

that

they

do

not

have

a

specific

approach

to

assessing

and

integrating

cultureinadeal. Theonesthatdidnothaveaspecificapproachforculturereportedahigher

thannormallossofcriticalemployeesduringatransaction. Moreover,noneofthefirms(0%)

reportedthattheirculturalintegrationpracticeswereeffective. Thetopthreereasonscitedfor


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unsuccessfulculturalintegrationincluded:alackoftopmanagementagreementonthedesired

culture(48%),culturerisksnotrecognizedduringtheduediligencephase(48%),andalackof

topmanagement support (44%). Firmswith good records in terms of exceeding their own

targetsinpastdealsreportedlyfocusoncultureearlieron,spendmoretimeonchangingtheir

cultures,andmanagethosechangesmoreactivelythanfirmswithbadtrackrecords.

3.2.HighProfileM&ADealsandCulture

CulturaldifferenceshaveallegedlycontributedtothefailureofmanyhighprofileM&Adeals.

Bywayofillustration,Idiscussfourofthose:DaimlerChrysler,SprintNextel,CiticorpTravelers,

andHPCompaq.

In1998,GermanbasedDaimlerBenzandU.S.basedChryslerCorporation,twoleading

globalcarmakers,decidedtocombineforcesinamergerofequals. The$37billionstockswap

dealwasthebiggesteveramongcarmanufacturersandwastoresultinacombinedfirmwitha

marketcapitalization

of

$95

billion

that

ranked

third

in

the

world

in

terms

of

revenues

and

fifth

intermsofthenumberofvehiclessold. Analystsinitiallyapplaudedthedeal,arguingthatthe

merger made sense strategically. It would combine Mercedes engineering prowess with

Chryslers design andmarketing savvy. Itwould giveDaimlerBenz easy access to theU.S.

marketwhereitenjoyedalessthan1%marketshare,andwouldenableChryslertosellitscars

in

Europe.

By

sharing

parts

and

development

costs,

it

would

be

highly

competitive.

By

all

accounts,thiswasamarriagemadeinheaven,withacornucopiaofproductdevelopmentand

market synergies.Nonetheless, roughly 15months after the socalledmergerofequals, the

new company,DaimlerChrysler Corporation,was trading at about $30 billion less than the


17/31

16

combinedpremergermarketvaluesofthetwo firms. Itappearsthatstarkdifferences inthe

corporateculturesofthetwocompaniesresultedinaninabilitytorealizemostoftheprojected

synergies. Chryslerencouragedcreativity,adaptability,efficiency,anddecentralizeddecision

making. In contrast, DaimlerBenz valued hierarchy, detailed planning, and centralized

decisionmaking. From the very beginning, the two management teams resisted working

together,werewaryofchange,andunabletodecidewhichparts imageconsciousMercedes

BenzwouldsharewithmassmarketerChrysler. In2007,lessthantenyearsafterthemerger,

DaimlerBenz sold Chrysler to private equity firm Cerberus CapitalManagement for amere

pittance.7

In2005,SprintboughtNextelfor$35billioninadealthatwasclassifiedasamergerof

equals. TheCEOsofthetwocompaniesbelievedthattheirrespectivestrengthscomplemented

eachother. Sprintwas a leader inwirelessdata communications andhad consumers as its

primary customer base. Nextel had been a pioneer in thewalkietalkie service and had a

strongerpresence

in

the

business

segment.

The

deal

was

expected

to

create

a$70

billion

firm

withastrongercustomerbaseandgeneratecostsavingswithapresentvalueof$12billion.

However, the benefits failed to materialize largely due to a culture clash. Nextel had an

informal, aggressive,entrepreneurial, customercentric culture that valued flexibility and the

ability to respondquickly tomarketchanges. Incontrast,Sprinthada formal,bureaucratic,

top

down,

number

driven

culture.

These

sharply

different

cultures

led

to

mistrust

and

clashes

ineverythingfromcellphonetechnologiestoadvertisingstrategy. Whenthecombinedentity

decided to use Sprints numberdriven approach, service quality dropped dramatically, and

7IteffectivelypaidCerberus$650milliontotakeoverChryslerincludingitsongoinglossesandliabilityforfuture

healthcarecosts. Thus,DaimlerBenzendeduplosingmorethanthepurchasepricepaidforChryslerin1998.


18/31

17

manysubscribers fledoutof frustrationaboutcustomerservicequality. By2008,Sprinthad

writtendown80%ofNextelsvalue. Inlate2010,Sprintannounceditwouldtotallyshutdown

theNextelnetworkbymid2013.

In1998,CitibankCorp(Citicorp),oneofthelargestcommercialbanksintheworld,and

TravelersGroup,an insurancecompanywithamajor investmentbankingsubsidiary(Salomon

SmithBarney),announced theywouldmergeto formCitigroup. Themergerwashistoric for

tworeasons. First,itwasthelargestcombinationever,withacombinedmarketcapitalization

of around $140 billion. Second, it was in direct violation of the GlassSteagall Act, which

forbadebanks tomergewith insuranceunderwriters,andwas thusbasedon thebelief that

GlassSteagallwouldberepealedinthenearfuture. ThepassingoftheGrammLeachBlileyin

1999vindicatedthisview. Therationalebehindthemergerwastocreateafinancialonestop

supermarket:itwouldenableCiticorptoprovidebankingproductstoTravelerscustomersand

TravelerstosellmutualfundsandinsurancetoCiticorpcustomersthroughitsbranchnetwork.

Nonetheless,it

is

hard

to

see

how

this

merger

was

asuccess.

Not

only

did

the

combined

entity

divestsomeofitsinsurancebusiness,butCitiwasindeepfinancialdistressduringthesubprime

financialcrisis,andittookasubstantialinfusionofequitybythegovernment(inexchangefor

thegovernmentacquiringanownershipclaim)tosavethebank.Whydidthebankgetintoso

much trouble after themerger? While one can find various reasons, there aremanywho

suggest

that

stark

cultural

differences

between

the

two

partners

played

a

prominent

role.

Citicorpsculturewasconservativeandrelationshipbankingfocused.Incontrast,Travelershad

a fast, aggressive, transactionfocused culture. Their compensation policies reflected these

differences too. Crosssellingbanking and insuranceproductsprovedharder thanexpected,


19/31

18

possibly in part because of differences in culture. Citigroup decided to spin off Travelers

insuranceunderwritingbusinessintwoseparatedealsin2002and2005.

In 2001, HP and Compaq signed amerger agreement to create a global technology

leaderwithsalesof$87billion. Themergerannouncementstatedthatthedealwouldbring

clearstrategicbenefitsbycombininghighlycomplementaryorganizationsandproductfamilies,

which would create substantial shareholder value through cost cutting and access to new

growth opportunities. However, this view was not widely shared: there was a lot of

disagreementonwhetherthiswasagooddeal forHP. Thestockmarketreactednegatively.

WalterHewlett,sonoftheHPcofounder,openlyannouncedhisoppositionandstartedaproxy

fight. TheDavidandLucilePackardFoundation,HPslargestshareholder,announceditsintent

tooppose thedealaswell. Analystsalsowonderedwhether therewouldbecultureclashes

since the two cultureswere vastlydifferent. HPwas verymuch focusedon innovation and

highmarginproducts. Incontrast,Compaqhadacommoditybased,lowmargin,highvolume

culture.While

HPs

culture

was

based

on

consensus,

Compaqs

focused

on

rapid

decision

making. Lookingback,whilethemergerwasnotatotaldisaster,theexpectedsynergiesdidnot

fullymaterialize.

InlightoftheOrganizationalBehaviorliteratureonculturethatwasdiscussedearlier,it

iseasy tounderstandwhy thesedeals failed.Forexample, theDaimlerculturewasControl

focused

and

Chryslers

culture

was

Create

focused,

in

the

context

of

the

Competing

Values

Framework(CVF). TheCVFpredictsthatthiscultureclashispotentiallyirreconcilableandthat

theculturethatendsupbeingdominantafterthemergerwilltendtodriveawaythosewhoare


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19

predisposedtofavorthediagonallyoppositeculture. Thishappenedtoacertainextentinthe

DaimlerChryslercase,asmanyseniorChryslerexecutivesquitsoonafterthemerger.

4.TheoriesandEmpiricalEvidenceonCorporateCultureandM&A

The anecdotal evidence presented above highlights the importance of corporate culture in

M&A. ItisthereforesurprisingthatthereisapaucityofresearchonthesubjectinEconomics

andFinance.

There is very littlebywayof theorieson theeffectof cultureonmergers. Vanden

Steen(2010b)isanexception. Hefirstdefinescorporatecultureandexplains itsbenefits. To

doso,heusesamodelinwhichafirmhastodecideonacourseofaction,but itsemployees

havedifferingpriors, i.e., theymaydisagreeon thebestapproach. In this setup, corporate

cultureistheextenttowhichtheysharebeliefs. Thekeybenefitofsharedbeliefs,i.e.,culture,

is that it aligns the objectives of the principal and the agent, and hence reduces agency

problems.As

aresult,

shared

beliefs

lead

to

increased

delegation,

utility,

and

effort;

reduced

information collection, experimentation, and influence activities; and less biased

communication. Cultureclashesarisewhentwo internallyhomogeneousgroups,withbeliefs

andpreferencesthatdifferacrossthetwogroups,decidetomerge. Hepredictsthatafterthe

merger,thedegreetowhichemployeessharebeliefsislowerthanthatintheirrespectivepre

merger

firms.

Thus,

after

the

merger,

agency

problems

are

higher

and

the

above

mentioned

benefits of shared beliefs are reduced. Van den Steens analysis points out how cultural

incongruencescandissipateotherbenefitsofmergers,suchasproductsynergies.


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20

TheempiricalFinanceliteratureonhowcultureaffectsmergersisalsoscant.8 Recently,

thisissuehasstartedtoreceiveattention.

Cronqvist,Low,andNilsson(2009)examinefirmsthatengageintheoppositeofM&A,

namelyspinoffs. Theydocumentthatspinoffsinherittheirparentsbehaviors. Thatis,abroad

rangeofspinoffsfinancingandinvestmentpoliciesappeartobemoresimilartothepoliciesof

their parents than to those of similarsized industry peers. Furthermore, this similarity is

persistent. Theyarguethattheirmainfindingsareconsistentwithaculturebasedexplanation.

First, thepolicy similaritiesaregreateramong spinoffs thatweregrown internallyand those

thatsplit fromolderparents, i.e., incases inwhichthespinoffandparentaremore likelyto

have stronger shared beliefs. Second, the policy similarities are also observed when the

spinoffs are runbyoutsideCEOs, consistentwith the idea that firms select employeeswith

beliefsthataresimilartotheirs.

Bargeron,Smith,andLehn(2012)examinetherelationshipbetweencorporateculture

andM&A

activity.

They

focus

on

five

aspects

in

particular:

acquisition

frequency,

acquisition

size,acquirertargetsimilarity (intermsof industry,keyfinancialratios,and location),bidder

announcementreturns,andculturechanges. Thepredictions ineverycasehingeonwhether

cultureisanassetthatcanbetransferredtothetargetorwhetherM&Adisruptstheacquirers

valuableculture. The resultsaremixedatbest. First, they find thatculturedoesnotaffect

acquisition

frequency,

possibly

because

both

forces

are

at

work.

Second,

firms

with

strong

8TherearepapersonthistopicintheManagementliterature. Thesestudiesarelargelysurveybasedandfocuson

one or more senior executives at the acquirer and/or target. For example, Datta (1991) surveys 173 senior

executives (one per firm) at acquiring firms inmanufacturing andmining. Krishnan,Miller and Judge (1997)

examine147 acquisitions and survey topmanagement teammembers atboth the acquirers and targets. The

emphasis in these studies is on (dis)similarities in management styles and top management backgrounds.

Chatterjee,Lubatkin,Schweiger,andWeber(1992)survey15seniorexecutivesat30acquirers. Theyfocusona

broaderrangeofculturalaspects.


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21

culturesacquiresmallerfirms,consistentwiththeperspectivethatM&Amaybedisruptiveand

smallerdeals are easier to absorb. Third, firmswith strong cultures are notmore likely to

acquire firms thataresimilar to them,consistentwith theview thatculture isa transferable

asset. Fourth,firmswithstrongculturesshowannouncementreturnsthataresimilartothose

ofindustrymatchedacquirerswithoutstrongcultures,butthosereturnsaresignificantlylower

whenthesample isrestrictedto largerdeals(at least5%oftheacquirersassets),consistent

withtheviewthatM&Adisruptsavaluableculture. Fifth,strongculturefirmsthatmakelarge

acquisitionsaremore likely to lose their strongculture than strongculture firms that refrain

fromsuchdeals,againconsistentwiththeperspectivethatM&Aisdisruptive.

Fiordelisi andMartelli (2011) examinehow corporate culture affectsM&A success in

banking. TheyanalyzelargeM&Adeals(overE100million)bylistedbanksinboththeU.S.(125

deals)andtheEuropeanUnion(63deals). Theyfocusononeindustrybankingtoavoidthe

difficulty of controlling fordifferences across industries, thusmaking it easier to isolate the

effectof

culture.9

M&A

success

is

measured

based

on

announcement

returns.

A

key

finding

of

thepaper is that culturalhomogeneity (theacquirerand targethave similar cultures) isnot

significantlyrelatedtomergersuccess. Rather,certaintypesofculturalheterogeneitybetween

theacquirerandtargethelppredictsuccess. Forexample,the likelihoodofmergersuccessis

greaterwhen theacquirers culture ismore focusedonefficiency improvementsandquality

enhancements

than

the

target,

and

when

the

targets

culture

is

more

focused

on

being

competitive than theacquirer. These findings suggest thatwhile culturalalignment reduces

9Thisbenefit isarguably reducedby the fact that they includebanks fromdifferentcountries,andconceptsof

culturemaydifferacrosscountries.


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22

conflictsafterthemerger,itdoesnotimplysynergies. Incontrast,someculturaldifferencesdo

implytheexistenceofsuchpotentialsynergies.

5.UnresolvedIssuesthatFutureResearchonCorporateCultureandM&AShouldAddress

Thediscussionsabove raise somekeyquestions. A challenge for the theory is to rigorously

address the question: How does combining two corporate cultures affect postmerger

performance? Akeyempiricalchallengeis:Howshouldwemeasurecorporateculture? While

someprogresshasbeenmadeonthesequestions,ourformaltheoreticalunderstandingofthe

mechanismsbywhichcultureimpactspostmergerperformancehasonlyscratchedthesurface

of this richarea,and theexistingempiricalmeasuresvaryconsiderably,making itdifficult to

settle on a parsimonious set of measures that have broad appeal and endorsement. This

sectionprovidesfurtherelaborationonbothquestions.

5.1.Theory:

How

Does

Combining

Two

Corporate

Cultures

Affect

Performance?

Theories on corporate culture need to be able to answer questions such as:How does the

coming togetherof twoculturesaffectperformance? Isculturalheterogeneitywithina firm

goodorbad? Whiletheexistingliteraturehasofferedglimmersofinsightonthesequestions,

much remains to be done beforewe have satisfactory answers. More on this is discussed

below.

Cremer(1993)emphasizesthatcorporatecultureneedstobestableandshouldnotbe

changedtoooftenfortworeasons. First,cultureisastockofaccumulatedinformationandthis

stockiscostlytoacquire. Thus,culturechangesarecostly. Second,codingandrulesofaction


24/31

23

needtobeconsistentwithintheentireorganization. Iftherearetwomodesoforganizationfor

marketing and manufacturing (e.g., dynamic versus efficient), it is critical that both

departments choose the samemode. A dynamicmarketing departmentworkswellwith a

dynamicmanufacturing department, notwith an efficientmanufacturing department. Such

integration challengesmake itdifficult todeterminehow to change the culture,because all

departmentsneed to changeat the same time,butchangemaynotbedesirable for all the

departments. Inotherwords, incontrastto firstblush intuition,culturalhomogeneitywithin

thefirmmaynotalwaysbeoptimal.

Whenapplying these insights to anM&A setting, it isnotapriori clearwhat typeof

mergerwillexhibitbetterperformanceamergerbetweentwofirmswithsimilarculturesor

onebetweenfirmswithdifferentcultures?. Atonelevel,whentwocompanieswithdifferent

strengthsarebroughttogether,thereismorepotentialforsynergies. Forexample,ifcompany

A is strong in activity X and company B is strong in activity Y, the combined entity has the

potentialto

be

strong

in

both

activities

Xand

Y.

However,

ifboth

companies

have

very

differentcorporatecultures,thecombinedentitymaydestroythestrengthsinbothactivitiesX

andY. It isalsopossiblethatheterogeneity insomedimensions isgood(e.g., iftheacquirer

hasareputationforcostcuttingwhilethetargetdoesnot,synergiesmaybeachieved),while

heterogeneity in other dimensions is bad (e.g., if the acquirer focuses on controlwhile the

target

is

very

creative,

the

targets

creativity

may

be

stifled

after

the

merger).


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24

5.2.Empirics: HowtoMeasureCorporateCulture?

Inordertoassesshowcultureaffectsmergerperformance,itiscriticaltofindgoodproxiesfor

corporate culture. Here, I describe and comment on proxies used in the empirical papers

discussedabove.

Cronqvist,Low,andNilsson(2009)usetwoapproachestomeasuringcorporateculture

atspinoffsandtheirparents. Intheirfirstandmainapproach,firmfixedeffectsactasaproxy

forculture.

While intriguing, this approach raises an important question: Is culture truly a fixed

effect? Ifitisafixedeffect,thenculturedoesnotchangeovertime. However,thisisunlikely

to be true formost firms. The theoretical literatures in both organization behavior and in

economicssuggestthatculture isdynamicandevolvesasthe firmchanges insizeand focus.

Culturemayalsochangeaftermajormergers. Totheextentthatculture istreatedasafixed

effect, firm fixedeffects are likely to also captureother aspects thatarepersistent, such as

corporategovernance.

Cronqvist,Low,andNilssons secondapproach tries tomeasureculturemoredirectly

andbuildsonScheins(1985)viewthatemployeerelationsarethemostexplicitexpressionsof

a firms culture. Specifically, they create two culture indicesusing detaileddataon several

dimensionsofafirmshumanresourcepoliciesandorganizationalpractices. DataproviderKLD

Research

&

Analytics

gives

each

dimension

a

rating

of

zero

or

one,

and

the

authors

add

up

the

scores. Theemployeerelations indexcapturesfivedimensions, includingunionrelationships,

the presence of profit sharing programs, employee involvement in decision making or

employee stock / option ownership, health and safety strength, and retirement benefits


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25

packages. Thediversityindexhassevendimensions,includingfemaleorminorityCEO,progress

inthepromotionofwomenandminoritiestotopmanagementpositions,femaleandminority

representation on the board, reputation as employer of the disabled, work / life benefits

packages,andacommitmenttodiversity.

Whiletheattempttodirectlymeasureculture is laudable, it isnotclearthatallofthe

dimensions included in the indices truly capture keyaspectsof culture. Furthermore, some

aspectsthatseemimportanttocaptureculturearemissing.

Bargeron,Smith,andLehn(2012)focusonthestrengthofcorporateculture. Theyview

firmsthatappearedatleastonceontheannuallistofthe100BestCompaniestoWorkForin

America,compiledbytheGreatPlacetoWorkInstitute(GPWI),during19982011ashavinga

strongculture.

Note thatBargeron,Smith, and Lehndonothave a continuousmeasureof strength:

firmseitherhaveastrongcultureortheydonot. Whileconsistentwiththetheoriesdiscussed

above,in

practice,

the

strength

of

culture

is

likely

to

lie

in

acontinuum.

They

also

do

not

distinguishbetweendifferenttypesofcultures. Thatis,somefirmsthatareclassifiedtohave

strong cultures may have cultures that are similar in various dimensions, but the authors

abstractfromthis. Moreover,thereisapotentialselectionbiassincecompanieshavetoapply

tobeevaluatedbyGPWI. Furthermore,thismethodologyfocusesonlarger,moreestablished

firms:

firms

need

to

be

at

least

five

years

old

and

have

at

least

1,000

employees

in

the

U.S.

to

thatappearonthe100BestCompaniestoWorkForinAmericalist. Maybeasaresultofthis,

theydonotexaminewhathappenswhentwostrongculturecompaniesmerge,andwhether

theresultsaredifferentfromwhenfirmsthatdonothaveastrongculturemerge.


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26

Fiordelisi andMartelli (2011) use anOrganizational Behavior approach tomeasuring

corporate culture. Specifically, they focus on the four dimensions of culture identified by

Cameron,DeGraff,Quinn,andThakor(2006),anduseCartwrightandCoopers(1993)approach

ina robustness check. Theyuse textanalysis: foreach culturedimension, they identifyon

average100 synonymsusing theHarvardIV4 PsychoSocialDictionary. The frequencywith

whichthesewordsappearinafirmsannualreport(normalizedbythetotalnumberofwordsin

theannual report) isviewedasaproxy for the importance theorganizationattaches to that

quadrant. Using this approach, they create a corporate culture homogeneity dummy that

equals1 if theacquirerand targethave thesamedominantculturalorientation,and several

culture gap variables which measure the difference in the frequency with which words

associatedwithaparticularquadrantappearintheacquirersandtargetsannualreports.

Thisapproachseemspromising inthat ittriestomeasuredifferentaspectsofculture,

insteadofusingfirmfixedeffectsorfocusingexclusivelyonhumanresourcesrelatedvariables.

Itseems

defendable

to

view

the

firms

vocabulary

as

the

outcome

of

its

culture.

One

key

challengeistoselectproperwordsforeachquadrant,andmoreworkneedstobedoneinthis

area. Anotherimportantissuetobeaddressedistheappropriatenessofusingtextanalysison

theentireannualreport. Topicssuchascostefficiencyandthefirmscompetitivepositionare

likelydiscussedineveryannualreportregardlessofthefirmscorporateculture.

Clearly,

the

nascent

empirical

literature

has

chosen

very

different

approaches

to

measuring corporate culture: firm fixed effects, humanresourcesrelated indices, a strong

culturedummy,andOBrelatedtextanalysisbasedvariables. Asdiscussedabove,thechosen

proxieshavetheirownweaknessesandstrengths. Tobetterunderstandtheeffectsofculture


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27

onmergerperformanceandtoassessexanteacquirertargetcompatibility,approachesthat

trytocaptureseveralaspectsofcultureseemtobeparticularlypromising

6.Conclusion

Fewwouldarguethatcorporateculturedoesnotmatterformergersuccess.Butevenwidely

acceptedtruthsare sometimes shockingly lacking in substantial theoretical foundationand

persuasiveempiricalsupport. Suchisthecasewiththeroleofcorporateculture. Thischapter

has reviewed theOrganizationalBehavior,Economics, andFinance literatureson the roleof

corporate culture in the success of mergers. The overarching conclusion is that there are

numerouswaystocharacterizeandmeasureculture,butacommonthreadrunningthroughall

oftheseseeminglydisparatewaysisthatcorporateculturecansignificantlyinfluenceindividual

andgroupbehavior,andthusaffectpostmergerperformance.

Theimpactofcultureonmergerperformancemaybequite longlasting. Considerthe

recentempirical

evidence

provided

by

Xu

(2012),

which

suggests

that

the

well

known

diversificationdiscount(diversifiedfirmstradeatadiscountrelativetoportfoliosofpureplay

firms)doesnotexistamongdiversifiedfirmsthatgreworganically. Rather,itisconcentratedin

firmsthatbecamediversifiedviaacquisitions,suggestingthatthediversificationdiscountisat

least inpart anacquisitiondiscount. To theextent that theunderperformanceofacquiring

firms

is

driven

by

cultural

misalignment

between

the

acquirer

and

the

target,

the

diversification

discount could verywell, at least in part, be a culturalmismatch discount. Among other

issues,thisisapromisingquestiontoexplorerigorouslyinfutureresearch.


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28

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