Assisted Suicide for Corporations
By Donald Luskin
EVERY BUSINESS JOURNALIST in America must use the same word-processing software, because it seems that there's a macro that automatically inserts the word ``blockbuster'' whenever they type the phrase ``technology company merger.''
That's the only explanation for the virtually universal breathlessness expressed Tuesday by the financial media about the merger of Hewlett-Packard (NYSE:HWP - news) and Compaq Computer (NYSE:CPQ - news). Blockbuster? Not. In truth and at best, this deal should be understood as nothing more than the desperate coupling of has-beens — as, to be fair, a few media outlets (this one included) quickly came to realize.
But the real story behind all the false enthusiasm is that H-P and Compaq aren't the only ones who are desperate. We all are — investors, and the media that serves investors. We're all desperately seeking any catalyst that will breathe some life into this death spiral of a market, and make investing fun again.
Fun? Hey, at this point we'd be happy if it just stopped hurting. Why do you think we give Cisco Systems (NASDAQ:CSCO - news) a standing ovation simply because they claim their business is ``stabilizing''? And why do you think we call it a blockbuster when the company whose major claim to fame is that it has cornered the market in toner dust marries the box maker that serves as an elephant graveyard for the computer giants of the 1970s? Well, mergers and acquisitions do always get the blood stirring a bit. The vast scale of their strategic potential, and simply the huge amounts of money at stake, force investors to look at the market in new ways. And sometimes those new ways imply important catalysts.
Some mergers unlock great hidden vaults of potential earnings by consolidating redundant capacity. A textbook example would be Wells Fargo's (NYSE:WFC - news) string of acquisitions of California banks in the 1980s. After each acquisition, Wells closed most of the acquired bank's branches (most of which were right across the street from Wells branches to begin with), merged their records into Wells Fargo's computer systems and fired all their employees. Ditch all the expenses, keep all the revenues. Free money. Consolidation deals like that should excite the market, because they point the way to hidden value.
Some mergers are about helping little companies think big, and at the same time helping big companies think young. Cisco stoked its growth engine during the late 1990s through a string of acquisitions of smaller companies that had developed advanced technologies that could have been born only in go-for-broke start-ups. Grafted onto Cisco's mighty financial and marketing platform, these technologies could be projected into the marketplace with a force that the smaller companies could never have achieved alone. Technology deals like that should excite the market, because they renew the cycle of innovation and growth.
Some mergers are attempts to harness that elusive force so often cited by executives and investment bankers but so rarely actually seen — synergy. America Online's merger with Time to form AOL Time Warner (NYSE:AOL - news) was an attempt to build a unique synergistic franchise: The only global media company to combine online and offline media, and to control both the content and the conduit of those media. Synergy deals like that should excite the market, because they alchemically convert one and one into three.
There are other very positive, very exciting reasons for companies to merge, too. Sometimes it's nothing more exotic than to achieve greater operating scale. Or sometimes it's purely financial: The acquirer simply believes that the target company's stock is cheap, so he buys the whole darn thing. But there's another type of merger that isn't very positive, and it isn't very exciting. I'm talking about those mergers that seem to have no other purpose than to allow exhausted, uncompetitive, dying companies a way out.
Think about it — big public companies really have no way to die, even if they've totally outlived their usefulness. Unlike people, who eventually grow old and expire, companies are effectively immortal. Have you ever heard of a public company that just said, ``OK, game over, we're cashing in and giving the money back to the shareholders?'' Never happens. Finance academics call this ``the problem of exit.'' For companies with the problem of exit, getting acquired is the answer — the corporate form of assisted suicide.
In early 1998 Digital Equipment Corp. needed a way to shuffle off this mortal corporate coil. And none other than Compaq was happy to play Dr. Kevorkian. Compaq's then-CEO Eckhard Pfieffer was looking for ways to enlarge his empire and get his mug on a few more business-magazine covers, and what better way than for his PC upstart to acquire the vanquished mini-computer king? With Digital's scalp hanging from his belt, maybe IBM (NYSE:IBM - news) would be next. But buyer's remorse quickly set in, as Digital's moribund business went from bad to worse, while Compaq's dealer-based PC business got compaqted by Dell's (NASDAQ:DELL - news) Web-based cut-out-the-middleman model. Pfieffer was out of a job within months. At least Digital's problem of exit was solved.
Now H-P wants to do the same thing for Compaq that Compaq did for Digital. CEO Carly Fiorina could use a ``blockbuster'' just about now to rescue what's left of her reputation as a leader (you remember her — the one who came from Lucent (NYSE:LU - news) when Lucent was still a cool place to come from). But when second-rate companies buy third-rate companies, synergy works in reverse, and the problem of exit becomes contagious. I predict that Carly will be the next to exit. And then H-P itself will start looking for those lighted signs. It's no surprise that the market thumbed its nose at the Hewlett/Compaq ``blockbuster'' on Tuesday. It's because this blockbuster is a busted flush.
So investors continue to wait for a real catalyst. And with every day that goes by without one, it becomes clearer and clearer that the best thing we can hope for is a Cisco-like vision of ``stabilization.'' Forget about anything good happening. Now the market is all about not bad. And that's just plain not good for equities. Because equities are all about the upside. And when there's no upside, there's no reason to take the risk of holding equities. Which is why everyone is selling them.
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