The Penalty for Failing To Grow Revenues

Acquirers are doing a dismal job in generating revenue growth from their mergers while pursuing an obsession with cutting costs. The misplaced emphasis, say three McKinsey & Co. consultants, is a key reason for a high rate of merger failures, including erosion of the acquirers’ shareholder value. “Why worry so much about revenue growth in mergers?” they asked in an article in a recent issue of the McKinsey Quarterly. “Because, ultimately, it is revenue that determines the outcome of a merger, not costs; whatever the merger’s objectives, revenues actually hit the bottom line harder.” Consultants Matthias M. Bekier, Anna J. Bogardus, and Tim Oldham stated in the article that studies consistently have found that acquirers lagged the growth of peer companies following their deals. One survey that covered 160 acquirers active from 1992 to 1999 found that only 12% posted organic growth rates significantly ahead of peers and just seven generated total returns above their industry averages. To amplify their point, the authors said “fluctuations in revenue can quickly outweigh fluctuations in planned cost savings.” “Given a 1% shortfall in revenue growth, a merger can stay on track to create value only if a company achieves cost savings that are 25% higher than those it anticipated,” they said. “Beating target revenue-growth rates by 2% to 3% can offset a 50% failure on costs.” But cost savings can be elusive and turn into a trap if not achieved. “The market penalizes this slippage hard: failing to meet an earnings target by only 5% can result in a 15% decline in share prices,” the authors wrote. “The temptation is then to make excessively deep cuts in inappropriate places, thus depressing future earnings by taking out muscle, not just fat.” So where did the revenue growers go right? The authors say for openers that they look after their customers from the outset and hang on to revenue-generating talent – “especially the people who handle relations with customers.” They also emphasize three “complementary strengths”: * Cost disciplines are “hardwired” at every level so senior management “can focus on revenue”; * Application of a “merger discipline that improves with experience”; and * Emphasis on a “performance culture geared for growth,” spearheaded by entrepreneurial teams with “ambitious targets and incentives.”