06 Feb 2010

Sample Essay: Oil Industry Mergers

Introduction

Borenstein and Moritsugu (2004) indicate that the Exxon and Mobil companies merged at the end of November 30, 1999 (ExxonMobil, 1999) when they were the two leading oil companies in the US. Their merger was motivated by a need to cut costs through economies of scale, in the face of rising operation costs. I must be added that the two companies did originate fro the same company the Standard Oil Company, which was ordered in 1911 by the Supreme Court of the US to be split into 34 companies. Out of these splinter companies Exxon and later on, Mobil emerged. This historical piece however did not have anything to do with their eventual regrouping.

In all, there were some 2,600 mergers of smaller firms between 1990 and that year. It emerges here that the main drive for mergers was the need to cut costs by approaching the market and the logistics together (Cartwright & Schoenberg, 2006, p 11).

This paper sets to discuss the merits and demerits of such mergers with special emphasis on their benefits and demerits to the project teams, stakeholders and the public at large, with the aim of making recommendations on how management of such processes can be improve.

Background

Industry mergers are a phenomenon that has been commonplace for quite sometime now. They basically involve two organizations coming together to form on large corporate under which they operate. The new organization which may have a combination of the names of the merging components or a totally new name operates as a new entity. The new rules under which the new entity operates depends in the agreement on the terms of the merger.

The history of mergers can be traced back to the 1895 to 1905 period in the US when the small companies with small market shares combined forces to form larger entities that dominated the target markets. In this way their collective value accounted for 20% of the total GDP (Cartwright & Schoenberg, 2006, p 3). Since then mergers have remained a popular way of market consolidation and strengthening of the capital base of the various firms involved.

The rise of globalization in the 1990s further increased the market for international mergers with firms located in different countries and continents coming together. These multinational mergers have resulted in huge conglomerates across borders with multibillion dollar financial bases and thousands of international shareholders.

The Exxon-Mobil Merger

The merger that took place between Exxon and Mobil falls into a broad category of mergers known as a Horizontal Merger. DePamphilis (2008, p740) states that this is where two competing companies with a similar product line and the same target market come together to fortify their presence. They turn all the energies that went into competition before to promote their joint product together. This kind of merger is easier than others since the two merging groups already understand their market and understand each others product perfectly.

In December 1 1988, the Exxon and Mobil oil companies announced their intent to carry out a horizontal merger valued at $80 billion (Cable News Network {CNN} Money, 1998). The aim of this merger was to “Create an oil entity rivaling the biggest in the world”. Under the terms of the agreement the new company would be called the Exxon Mobil Corp.

The two chief executives Exxon’s Lee Raymond and Mobil’s Lucio Noto announced then that the main motive of their merger was to compete more effectively in the face of sharp drops in oil prices. One objective the bigger company was set to achieve would be to cut costs of operation so as to maximize profit. Industry analysts said it was a good prospect for the two firms to merge since many organizations at the time were slashing the pay of employees and making capital spending plans to cut costs.

The new Company Exxon Mobil Corp indeed posted a profit of $ 9.8 billion in 1999 up from a joint $ 5.5 billion the year before, when the two firms were still separate entities (Slocum, 2009, p 8). So by all indicators the merger worked wonderfully for the two merger project teams. But the cost of merger to the other stakeholders was another story all together.

The Stakeholders

The stakeholders of this and the other similar mergers involving BP-Amoco, Chevron-Texaco, Total-Petrofina and Conoco-Phillips; are the project teams, the employees, the shareholders, the trading partners and the consumers. These stakeholders have been affected differently every time a merger of this magnitude is carried out (Kroger & Tram, 2000, pp 2-3).

Choices Facing The Project Teams

The main stakeholders in any merger are the project teams of both firms responsible for working out the merger. Much as mergers are profit and survival driven and just have to be done, there are many problems therein (Deans et al, 2002 pp 2-3). The issues to be faced include liability consolidation, welfare of all stakeholders, terms of engagement and planning for a joint future. All of these must be set into a game plan that can be executed swiftly and efficiently so that all those involved are not affected or disrupted for too long.

Those working out the merger must closely consider what their future partners are bringing on the table in terms of assets, liabilities, personnel, opportunities and previous profit margins (Kroger & Tram, 2000, p 30). This ensures that all cards are played on the table and no nasty ones are kept aside to be unleashed later. The past profitability, the market prospects, the scale of operations and the asset base and liabilities must all be declared to know the exact situation each party is getting into. This is usually easier said than dome since the temptation to hide weaknesses such as bad past business decisions usually very high on both sides.

Another challenge for both parties is to separate dreams from reality. The two companies always come together with the ego and vision of their directors and management teams. Consolidating these dreams into one solid vision may be a make or break issue for the two parties. It is imperative therefore to be able to balance dreams with reality. If one firm is wishing to expand its market presence while the other wishes to expand its capital infrastructure, then the two issues must be carefully synergized by considering the advantages and disadvantages of both against the background of the most urgent under the new circumstances. In fact, in most cases one of the parties is forced to take a backseat and give some space to the other.

One of the paradoxes is that while employees are being laid-off to cut costs, the costs of the laying-off exercise must be catered for instantaneously. The most direct way of doing this is to borrow the money to pay off employee gratuity so to borrow the money to pay off employee gratuity so as to spread the cost over many years of repaying the loan. Ultimately it is cheaper to have the employees out of the payroll, but the immediate cost of doing that is another undesirable albeit inevitable liability.

Another issue that faces the leaders of the firms is how to consolidate the disparate management practices and traditions of the two firms. It is usually tempting to ignore this factor but the outcome is almost always detrimental. Two organizations operating in the same field such as the oil giants may be completely different in their manner of operation. New rules and traditions have to be worked out that will work for both organizations (Cartwright, & Schoenberg, 2006 p 21). This involves policy and code of conduct. In many mergers those involved opt to leave such nitty- gritty for later, but this only elongates the duration of the merger unnecessarily. Employees and other operatives need to know the new rules as soon as possible since they have to resume work immediately the champagne bottles have been popped.

The other important consideration is that the welfare of the retained employees be looked into. Assuming that they have no role to play, as often happens, does not augur well for the future of the new company. The employees must be given an opportunity to invest in the future company so that they feel apart of it. If they are left floating then they may be disillusioned and disoriented by the whole merger process. When they are left at sea like yet they have a future role in the new company, is not good for its future prospects.

Both firms also have to face up to the fact that they have certain trading partners whose services may have to be terminated in the new setup. Most of these partners including suppliers and service organizations, always feel threatened by such mergers since they may be left out in preference of the firms previously serving the other merging partner. The pragmatics of cost cutting may actually ensure that this is actually the case. All the same, they have to be handled with great care. The partners usually know a plethora of weaknesses of the firms they have been dealing with and can therefore expose this knowledge on the public domain or launch nasty court cases that may delay or derail the merger altogether (Kroger & Tram 2000, p 8).

Problems Facing Trading Partners

The trading partners are all those people including suppliers, transporters, servicing and maintenance firms(Cartwright & Schoenberg, 2006, p 32). This group may have a history of serving either of the merging firms well in the past. The moment the issue of a merger comes up they immediately feel threatened. Unless they are assured by the new managers of the merged firm that they shall be retained or their outstanding credits shall be settled, life becomes very difficult for them. The prospects of going to court to settle certain matters becomes a grim reality since in many mergers they are totally left out to the equation.

The partners may find it really difficult to operate after their services are suddenly terminated as a cost cutting measure of the new arrangement. Some of them face the very real danger of going under especially if the terminated deals were their main lifeline.

Partners’ Gains

Those partners who are retained face real prospects of exponential growth, since they end up dealing with a bigger organization than they did before. They also gain from an expanded network which literally means dealing with more people and thus gaining more contacts. This is a really good prospect for business expansion.

The Employee Problems

The employees of the two companies in the merger find themselves being pushed rudely out of their comfort zones in various ways. First, they may be declared redundant. In the Exxon-Mobil Merger a total of 9000 jobs were set for cutting off out of the total of 123,000 the two firms had worldwide. This accounted for some 8% job cuts with all those workers being declared redundant. The impact of such job cuts are grave indeed on the employees who until then were comfortably working and managing their lives (Kroger & Tram 2000, p 16).

Indeed in the case of mergers it is very common for the welfare of the junior staff members who have kept the companies going for years, to be given the least priority since the main driving force of the merging groups is simply profit (Ferenczy, 2009, p 6). The problem is not just financial as they are usually given a handsome payoff for their dedicated labor. The problem is more about the fact that they have to plan their lives anew.

That is usually not the easiest thing. Getting another job usually means beginning to build up their careers from scratch, since the past experience they have accumulated may not be considered very much in the new appointment. Secondly, they are faced with the reality of having to take a pay cut if they find a firm that is no able to employ them at the same rate of payment. Thirdly, they find that that feeling of belonging that they shared in with others in the company is suddenly proved to be a cruel illusion. This may result in serious psychological consequences. Lastly, any plans they may have made for career advancement are suddenly rendered useless. This means that life has to begin from a lower level which they thought they had overcome in the past. For some the trauma and disillusionment usually mars all the gains to be made by the merger (Ferenczy, 2009, pp 6-8).

Even the employees who survive do not find it easy either. They suddenly find themselves operating with new bosses, colleagues and clients. They also have to adjust to new rules and more often than not sacrifice part of their pay in the name of cost cutting. In addition, their views may not be considered necessary when the mergers are being discussed. All these disruptions should be carefully taken into cognizance as when terms of merging are laid on the table, but unfortunately, in most cases they are not.

The Employee Gains

Among the gains of the employees are that those who survive usually end up working for higher wages once the merger picks up and the gains begin to be seen (Cartwright & Schoenberg, 2006 p 22). Higher pay packages are offered them and they experience and exciting career growth provided that the merger is successful. This offers them greater opportunities and personal development prospects than they had before.

Secondly, there is a better prognosis for career advancement. Promotion means handling more people over a larger scope. This increases the gains that go with career advancement. Generally speaking the pie is bigger and so the individual share increases as well.

The Shareholders’ Losses

Another group that is adversely affected during most mergers is the shareholders. After the big merger deal at Exxon-Mobil the shareholders found themselves left with the short end of the stick. They were compelled to take a drop in their share value due to consolidation of he new shares. When trading of the new shares opened, Exxon shareholders were staring at a drop in value of 3 points, while Mobil lost 2 points. The combined drop forced the merger value to come down to $ 76 billion from the projected $ 80 billion. This took most of the thrill out of the deal as far as shareholders are concerned (CNN Money).

Another problem that shareholders have to contend with immediately after such deals is the failure to declare dividends for ordinary shares (Cartwright & Schoenberg, 2006 p 23). The oft given excuse is that the new company is still restructuring and thus dividends will be declared later. No matter how big the firm, and how large its profit margin, there are always hidden costs in a merger that have to be attended to and so the stakeholders would be lucky to emerge with anything. Usually, only preferred shares are dealt with until the new forma settles down.

In some cases, shareholders are called upon to dig deeper into their pockets to help the new multinational take shape. This happens where certain pressing liabilities have to be taken care of first. Whatever name it may be given in such an instance, the shareholders are basically required to give more money to keep the firm running

Benefits to the Shareholders

The benefit in the long run to the shareholders is that they can gain when the merged company does grow as profit margins increase. This happens when the new firm finally settles into business and gains new ground by benefiting from the cost cutting measures.

Challenges Facing Consumers

Theses are members of the general public who buy the products of a company. They can do they can buy as individuals or as organizations. The main interests of consumers are availability of what they want at the right price and the correct quality (Kroger F. & Tram, 2000, p 20). Usually these three elements do not occur simultaneously, and so amends have to be made by sacrificing one for the other. One example of a time when such amends are made is when companies start merging.

According to Slocum (2009, p12) the merger of most United States based oil companies left a gaping hole in the pockets of consumers since the mergers meant higher pump prices at the  gas stations. The prices are usually a function of many factors, but among the most important is competition. When firms are in direct competition with each other, price manipulation is one important aspect they use to attract customers. These manipulations may not sometimes directly mean that customers pay less since there are usually hidden charges. However in general prices remain low since arbitrary price increases can be suicidal in an environment of cut-throat competition.

This advantage is lost to the customer once mergers take place. This is a direct consequence of the fact that the consumer’s money is the main target of the merging firms. When they turn their competition into partnership, they become a cartel that controls prices and thus increase it at the earliest sign of financial distress (Kroger & Tram, 2000, 21).

Advantages to Consumers

Even then, loyal consumers, especially the corporate ones are always considered when major decisions are being made. They are the ones who keep the companies going in the lean times, and with time, the companies learn that rubbing such customers the wrong way is economic suicide. So they do not emerge as losers even in a merger.

The main advantage to consumers is the improvement in quality that results from the outstanding features of each individual company’s products being consolidated into one better whole. Apart from that the consumer benefits from wide ranging products over and above what they had in the individual company before, especially in areas where only one of the partner companies was represented.

Managing Mergers

Mergers are inevitable especially when markets become saturated and competition reaches its peak (Deans et al, 2002, p2). The main means of survival in those circumstances is to ensure that the merger is well managed so that the attendant problems that may come with it are avoided. Many mergers fail not because those merging have the worst intentions but because they are complacent on certain factors which look unimportant at that point but turn out to be crucial later.

The first thing to bear in mind when handling a merger is how it will affect all the stakeholders and the general public (Baron, 2008, p 17). If all parties are brought on board throughout the merging process, such that all their views are taken into cognizance, then the whole process will be smoother. ExxonMobil set a poor precedent here that saw oil and oil products rises steeply in price in a manner that blighted their reputation. It was this same fall from grace with the public that had caused the forced split of the original mother company, Standard Oil, which had fallen afoul of the public mood with environmentally damaging practices and mistreatment of employees. So the outcry that followed the steep oil price increases was quite reminiscent of the gloomy past.

Another factor that must be borne in mind is the envisaged gains to be made by the merger. Just like one company succeeds because it has a clear vision set in clear achievable and time-bound objectives; so do two or more companies that merge into one. With this in mind, there must be a clear vision that must apply to all parties. The Exxon-Mobil merger clearly had this in mind. The vision of the two oil giants was to cut down on the costs of production, to consolidate their two markets, to strengthen their presence in the stock market and to eliminate the competition between them (ExxonMobil, 1999). Obviously they had their problems while pursuing the merger, but the end result has been splendid so far.

The two managed to cut down on production costs by laying-off a total of 9000 workers and thus having a leaner operation which soon started showing results. They also took care of the issue by putting together their wide international reach and their immense equipment base to control their production and reach an expanded clientele. All these factors worked to their advantage (DePamphilis, 2008, p16).

On the issue of competition, the two companies were accused of causing a steep rise in petroleum and gasoline prices. They were the two hugest oil companies even before their merger save for the BP-Amoco group that had merged before. They therefore had quite a clout in the market. They took full control of the market and dictated prices and supply. Eventually they emerged just as well off as they had planned.

Another issue that is important for the merging companies that they took into full account was the issue of stock markets (Baron, 2008, p 18). Apart from banks, the stock market is an important source of revenue for a company. The self-worth of the company is also seen in terms of its market capitalization. Ignoring this aspect is always misguided and that is a path that the two giants did not take. Instead they consolidated their market base such that ExxonMobil remains to date the true claimant to being the largest company in the world.

One issue that has almost completely eluded the ExxonMobil merger is to have in place environmentally friendly policies. There have been public outcries from such organization as Greenpeace. The oil giant has been accused of carrying out environmentally unfriendly practices and opposing the popular stand on global warming. In fact they have been accused of funding initiatives opposed to the cessation of global warming. Considering that this was one of the issues that faced its great ancestor Standard Oil Company almost two centuries ago, one can only conclude that old habits really die hard.

Conclusion

As time continues to pass and competition tightens between companies competing for the same markets, the drive to merge will continue taking precedence. Because of this it is very crucial the merging companies take into consideration all the factors and stakeholders involved if they are to merge successfully. As Deans et al (2009) warn, if the merger is not properly managed, it will end up in disaster.

References

Baron,  D. P., 2008. Business and the organisation. 6th ed. Chester (CT): Pearson. Borenstein S. & Moritsugu K., 2004. Wave of oil industry mergers helped push up gas prices. The San Diego Union Tribune, 28 May. p 4.

Cartwright, S. & Schoenberg, R., 2006. “Thirty Years of Mergers and Acquisitions Research: Recent Advances and Future Opportunities”. British Journal of Management 17.

Deans K.G., Kroeger F. & Zeisel S.,  2002.  Winning the Merger Endgame: A Playbook for Profiting From Industry Consolidation. New York: McGraw Hill.

DePamphilis, D., 2008. Mergers, Acquisitions, and Other Restructuring Activities. New York: Elsevier, Academic Press.

ExxonMobil, (1999).”Our History.” Last updated November 30, 1999. Retrieved on: August 17, 2009.     <http://www.exxonmobil.com/history>

Ferenczy, I., 2009. Employee Benefits in Mergers & Acquisitions, 2008-2009. New Delhi: Infibeam.

Kroger F. & Tram M., 2000. After the Merger. New Jersey: Prentice Hall

Slocum, T., 2009. No Competition: Oil Industry Mergers Provide Higher Profits, Leave

Consumers with Fewer Choices. New York: Public Citizen.

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