Director retention does not necessarily facilitate post-acquisition firm performance

Most, perhaps all, Tribe members own shares—either directly or through mutual, pension or superannuation funds. Very often the companies that they own will either take over another or be taken over. There is an iron rule which every professional investor knows: the merger, the takeover will almost always fail to deliver shareholder value. As soon as one of the shares you own indicates that it is in merger talks with another, it may be time to consider selling.

Personally, I have stuck firmly to that rule and have seldom lost by doing so. Occasionally the takeovers work out, but that’s rare. Being an enthusiastic investor, this study caught my interest.

Firm acquisition is a complicated process in which acquiring companies often try to smooth the transition by retaining at least one board-level director from the target company. New research questions the wisdom of this move.

Often, poor post-acquisition outcomes are attributed to the idea that the employees from the target firm never quite feel at home with the new employer, or that the acquirer doesn’t fully understand the target and has a hard time realizing synergies. It therefore stands to reason that retaining a director from the target firm would encourage stronger post-acquisition performance. Primarily, it signals to the employees that their previous leadership is valued and that a director from the target firm might have some unique insight to help smooth the transition.

However, the opposite is true, according to the authors of this study.

The team examined how well firms fare in the period after they acquire a target firm, by empirically studying a factor that might impact post-acquisition value creation for the acquirer’s shareholders. Specifically, they looked at director retention, which occurs when the acquiring firm integrates at least one director from the target company onto its own board.

What the researchers say: “Across several time frames of post-acquisition performance, statistical techniques and different samples of acquisitions, we consistently find that director retention tends to undermine post-acquisition performance compared to firms that did not retain a director,” said the lead author.

The team empirically analyzed more than 550 acquisitions that occurred between 2004 and 2014 and in which the acquiring firm assumed a fully controlled interest in the target firm. They then investigated the composition of the boards of directors both prior to and after the acquisitions to determine whether any directors from the target were retained by the acquiring firm’s board.

They analyzed the relationships between retaining a director and long-term investor value appropriation—a variable that captures value to shareholders—for one, two, three and five years following the acquisition.

“In supplementary analyses, we also offer a preliminary look at factors which might enhance or suppress this relationship, which we hope opens the door for future research to gain a more comprehensive understanding of why this negative relationship exists,” he added.

The research offers an important contribution to leadership understanding at acquiring organizations. It encourages top executives to consider why they might want to retain a director from the target. In extensive supplementary analyses, they found that acquiring managers are typically hesitant to retain a director, but that they might do so either because it’s part of the acquisition bargaining process or because it might ease the machinations inherent in the process. In both cases, the research suggests managers might want to approach director retention with trepidation.

So, what? A while ago a study estimated that in 15 years from that time, fewer than 15% of major existing firms would still be in business. That estimate seems to be borne out by what has happened since.

What we do know is that most mergers and takeovers increase employee stress and misery, reduce productivity and, usually, profitability and generally don’t in sum contribute to societal wellbeing. We live in a time when many companies—for example the FANGS—have grown so big by swallowing their competitors that each of them is now bigger and effectively more powerful than the majority of nation states.

From my experience in dealing with many, many corporations over 25 years, I don’t think it matters a jolt whether a director—or multiple directors for that matter—are retained. What matters is that the original merger or takeover, as other studies have shown, is often driven more by CEO ambition than commercial reasoning, thought for shareholder value or employee wellbeing.