When Rivals Merge, Think Before You Follow Suit

On October 25, 2005, the Swedish telecommunications equipment maker Ericsson announced the acquisition of key parts of Marconi’s telecom business—thus starting a wave of deals that would reshape the global industry. Many competitors responded to the news by initiating similar moves. Alcatel and Lucent merged in 2006; Nokia and Siemens combined their telecom equipment units the following year. Today Ericsson remains the undisputed market leader. The companies that tried to keep pace by launching mergers of their own not only failed to usurp Ericsson but also found themselves under assault by the only player that abstained from the M&A frenzy: the Chinese company Huawei.

The M&A domino effect occurs in industry after industry. It has played out over the past decade in pharmaceuticals, automotive manufacturing, and financial services. When a major rival executes a headline-making merger, companies often feel under attack. These events can be so emotionally charged that it’s hard not to get drawn into a competitive acquisitions game. But is countering with your own M&A always the smartest move?

Our research, which spans a number of high-tech industries, shows that—contrary to the established wisdom about competitive dynamics—companies that react to a rival’s merger with a head-on merger of their own frequently exhibit poorer performance than companies that carefully develop a less direct response. We’ve identified three interrelated reasons. First, managers under pressure to act quickly are more apt to come up with flawed plans. Second, after a company has made an acquisitive move, others in the industry may engage in a bidding war for the remaining targets, which often results in overvalued transactions that may not be good fits. Finally, the firm making the initial acquisition gets the first pick, leaving rivals to settle for less-optimal targets.

Alternative Responses

For many companies contending with the challenge of a competitor’s merger, the following strategies may prove more effective than an in-kind response:

A strategic retreat.

If the merger attack isn’t in your main market, consider retreating to your core market rather than diverting valuable resources to protect a peripheral one. For example, faced with increasing consolidation in the business-­services industry, Siemens divested itself of its business-services unit and concentrated on its core industrial businesses instead.

An oblique maneuver.

Sometimes you can obtain more advantage by turning to innovation and organic growth. For instance, during the many telecom mergers of the mid-2000s, Huawei opted for indirect counterattacks, in the form of innovation and focused investments, rather than the more direct assault of bidding for competitors. From 2005 to 2010 it gradually increased its R&D budget from just over $800 million to more than $2.5 billion. It leveraged this investment to become one of the top patent holders in the emerging wireless standard called LTE and simultaneously gained share in developed markets once dominated by competitors that had joined the merger fray and were now distracted by postmerger issues. Similarly, from 2004 to 2010 Oracle attacked SAP through acquisitions valued at more than $40 billion. With the exception of its 2008 acquisition of Business Objects, SAP responded not by counterattacking directly but by renewing its focus on product development and improving its capabilities for helping big companies manage complex technologies.

Consider what happened in the personal navigation device (PND) market. In 2007 the dominant manufacturers were TomTom and Garmin. Along with Nokia, which was looking to expand its navigation device business, they began bidding for Tele Atlas and Navteq—the main suppliers of digital maps. When the attacks and counterattacks were over, TomTom owned Tele Atlas, Nokia owned Navteq, and Garmin—which had withdrawn from the bidding—had a long-term content deal with Navteq.

While all this was going on, however, a much bigger threat was looming: competition from Apple’s iPhone and Google’s Android operating system. Both use maps developed by Google, which chose not to participate in the bidding war, innovated its own technology, and eventually ate into the PND market.

A string-of-pearls acquisition strategy.

Instead of trying to match a rival’s deal with an acquisition of comparable size, many successful companies, including the SAS Institute, Novartis, and Microsoft, have used small acquisitions to gradually build a counterposition. With its size and financial resources, Microsoft, for instance, could have easily put together a large deal to challenge Oracle’s acquisitions in the ERP software business. Instead it chose the relatively small acquisitions of Great Plains Software and Navision. This approach allowed it to fill gaps in its portfolio and focus on developing the products it acquired, resulting in a tighter integration of its new and existing products than would have been possible with a single large acquisition.

Choosing the Right Response

Different situations call for different strategies. Four questions can help you decide which one makes the most sense for your company:

What is the nature of the attack?

Not all acquisitions present competitive threats. In fact, a rival’s merger can provide an opportunity for other players to strengthen their positions at the expense of the attacker (and of other rivals who react by making acquisitions themselves). The first step is to determine the merger’s potential for industry disruption. How mature is the market, and how important is it to your firm? Is the attacker exploring a new market or shoring up its position in an established one? If the former, does it have a history of successfully entering new markets through acquisitions? Finally, can the attacker leverage complementary resources or market positions?

Which strategies are best suited to our particular company?

Once the nature of the attack is clear, systematically evaluate your possible responses, weighing the wisdom of a direct counterattack against various alternatives, including the three described above. Are there targets that lend themselves to a string-of-pearls strategy? Will other companies in the industry, or companies in adjacent industries, be available to form an alliance against the attacker? Could you use new-product introductions to retaliate, or could you find other ways to go after your rival’s customers? Although it’s important to consider all options initially, you may find that only some are realistic in a given situation.

What resources and capabilities would we need for each strategy?

Once you’ve narrowed down your choices, determine whether your company has the capabilities to execute them. In addition to financial resources, complementary resources such as your existing customer base, ecosystem, and technological and market assets are crucial. If you’re facing resource gaps or disadvantages of scale, think about whether you could access what you’d need from outside the company. One benefit of an indirect response is that it may demand fewer resources than would be required for a blockbuster deal.

What critical execution challenges would we face?

Before finalizing your decision, you need to look at the factors that would be central to each strategy and consider your ability to manage them. How important is the speed of execution? What are the main risks, and could you minimize them? How well could you maintain your focus on your core business while mounting your response? Could you avoid overstretching managerial and financial resources?

Resisting the impulse to respond to a rival’s merger or acquisition by striking back with a sizable deal of your own requires real fortitude on the part of top managers. When industries consolidate, time pressure and the concerns of external stakeholders, such as customers and investors, can make executives feel compelled to offer a quick, bold counterattack. But recent business history shows that carefully considering a broader set of strategies—and, when appropriate, implementing one of them instead—often helps to avert a catastrophic mistake.