The integration game
                  By Joan Indiana Rigdon
                  Red Herring magazine
                  July 1, 2000

                  Companies are engaging in one of the riskiest business practices around: merging. When consulting
                  firm KPMG studied the 700 biggest mergers that occurred between 1996 and 1998, they found that
                  83 percent of the studied mergers didn't boost the acquirer's shareholder value within a year of
                  consummation. In other words, they failed.

                  Mergers fail for all sorts of reasons: poor choice of partners, poor timing, high-level ego clashes, or
                  paying too much. But more often, they fail because the companies put minimal effort into the
                  process of integration.

                  Integration is the colossal job of combining two separate companies in every way -- an effort that
                  goes far beyond the elimination of redundant operating costs. It covers everything from market
                  philosophies to payroll to the most pedestrian details, like whether meetings are conducted in
                  person or via conference call. As tricky and unpredictable as this can be, it has to happen fast.
                  Just a few years ago, investors gave companies up to two years to recoup the price paid for an
                  acquisition. But now that more companies are buying each other for a billion or more dollars a pop,
                  investors are decidedly getting more antsy. "In this day and age, we've barely got a year to
                  demonstrate to Wall Street that we got the value out of it," says Iain Somerville, an Andersen
                  Consulting partner.

                  You can't combine two companies that fast, and get all the details right, any more than you could
                  choreograph the collision of two tidal waves. But that doesn't mean it's impossible to get enough of
                  it right to increase shareholder value. Companies that have succeeded, like Cisco (Nasdaq :
                  CSCO), say they beat the odds by laying careful plans, and then setting up integration teams (see
                  "Union Jobs") with the authority and the skill to make the plans happen.

                  The task before integration teams is changing along with the nature of the mergers themselves. In
                  traditional mergers, companies buy each other because they want to boost profits by cutting down
                  on the costs of infrastructure. So when banks or manufacturers merge, they typically perform
                  "integration" by the sword: they shut branches, close plants, and lay off "redundant" workers.

                  But in today's technology-driven economy, companies have a different reason for buying each
                  other: speed. As Microsoft (Nasdaq : MSFT) learned the hard way with Netscape, it only takes
                  three years for a couple of corn-fed college seniors you've never heard of to develop a technology
                  that dumps your industry on its head and threatens your multibillion-dollar monopoly. With stealth
                  competition like that, companies can no longer afford to take the time to build all their capabilities
                  in-house. They need fast access to new technologies, patents, markets and -- amid the lowest
                  unemployment rates in three decades -- talent.

                  That's one of the chief motivations for the recent record-setting buying spree. In 1999, there were
                  a total of 9,278 mergers, with prices paid totaling $1.42 trillion, compared to 7,809 deals valued at
                  $1.2 trillion the year before, says Mergerstat, a Los Angeles merger-tracking firm.

                  When companies merge in search of technological innovation and talent, the goal of integration is
                  to grow, not shrink. So, rather than laying off workers, acquirers have to work hard not to scare
                  off the ones they've just paid millions of dollars a head to buy. The more successful acquirers try
                  to preserve huge chunks of the culture of what they bought, even if that means paying -- and
                  coddling -- some employees like baseball stars.

                  After all, why not let acquired employees keep their beer busts, if it makes them happy and doesn't
                  hurt the business? Cisco does. "The last thing we want to do is to make this acquisition and then
                  rip it all apart, and leave nobody there to meet our success metrics," says Mimi Gigoux, Cisco's
                  director of human resources for mergers and acquisitions.

                  FIRST DATES
 

                  Integration starts as soon as any merger overtures start, with top management from each side
                  sitting down to make sure they are compatible on big issues like business goals and culture. A lot
                  of technology companies insist culture isn't a big deal, because -- the reasoning goes -- an
                  engineer is an engineer, and a lot of technology mergers boil down to one group of engineers
                  acquiring another. KPMG doesn't buy that approach. "Cultures are never identical. Our advice is to
                  understand the cultural differences and take action to mitigate the cultural barriers," says Jack
                  Prouty, KPMG's partner in charge of business integration.

                  Another nugget of advice the consultants offer: run screaming if the culture gap looks too big from
                  the get-go. Redback Networks (Nasdaq : RBAK) says it walked away from one deal partly because
                  of the target company's regimented work hours. During due diligence, Carrie Perzow, Redback's
                  vice president of human resources, staked out the target's coffee pots. She noticed that workers
                  materialized at their desks at precisely 9 o'clock, suddenly quit working when a lunch bell rang at
                  noon, and repeated the performance at dinner. Redback employees like to eat too, but they're not
                  Pavlovian. "I knew in a hot second that there was no way those employees would survive at
                  Redback," Ms. Perzow says.

                  If both sides survive their first dates, they announce their talks and the real work begins. But
                  there's only so much they can do before the deal is announced. The reason: they are still separate
                  legal entities, so they are not allowed to access each other's competitive data, like planned
                  products, pricing strategies, inventory databases, or even each other's intranets.

                  LEADING QUESTIONS
 

                  Lacking such access, top managers from both sides must try to negotiate a price as best they
                  can, while an integration team decides on a new executive team. The key thing to remember here,
                  says Andersen Consulting's Mr. Somerville, is that someone has to run the company. He remembers
                  one telecom client that named coleaders, hoping to decide on one leader later. It didn't work.
                  "There's no such thing as a merger of equals," Mr. Somerville says.

                  It's much better to lock in commitments early. In some industries, like telecommunications,
                  regulations make it difficult to name a new management team before the deal is done. But in other
                  industries, it's not uncommon for companies to have a verbal understanding early on about who the
                  new leaders will be. Last year, when Xerox announced its intention to buy the color printing
                  business of Tektronix (NYSE : TEK), it also said that the acquired unit's chief, Gerry Perkel, would
                  become the head of Xerox (NYSE : XRX)'s newly combined printing business. The release also
                  named Mr. Perkel's boss, and his boss's boss. By making all this clear early on, Xerox was hoping to
                  remove uncertainty. According to KPMG's study, merging companies who clearly outline the new
                  management team right away are 26 percent more likely to increase shareholder value.

                  FAQS FINDING
 

                  As soon as talks are announced, shareholders, customers and employees want to know what's in it
                  for them -- or whether the merger will muck up business so much that they should take their
                  money or talent elsewhere. To cut down on confusion, KPMG tells its merging companies to prepare
                  FAQs (frequently asked questions, along with answers) for all of their constituencies so the
                  company communicates a consistent message. Even if a company doesn't know all the answers, it
                  can give timelines. It can say, for instance, that it plans to keep the same products and invoicing
                  system for the first three months, and then gradually change over to new products and invoices.
                  "We want everyone scripted," says KPMG's Mr. Prouty. "We don't want somebody, like a salesman,
                  winging it."

                  With FAQs in hand, the merging companies have to visit their biggest customers and shareholders
                  right away. They also have to face their employees. With 58 mergers under its belt, Cisco takes
                  pride in giving every acquired employee a packet on the day the merger closes, telling them about
                  their new pay, bosses, and benefits. The packet also includes new business cards and their Cisco
                  email address.

                  But the most important part of communication is meetings: successful acquirers like to meet with
                  their employees in large groups, small groups, and one-on-ones. Lucent Technologies (NYSE : LU),
                  which has acquired 35 companies since 1996, says it encourages employees to ask anything that's
                  on their minds in such meetings. "We ask them about 100 times a day how they're doing, how's it
                  going, what do you think?" says Mary Jane Raymond, Lucent's vice president of merger integration.

                  HOLY COWS
 

                  The trouble is, companies don't always like to hear the answers to these questions. While many
                  employees are concerned about big issues like product strategy, they're often more worried about
                  what seems trivial. This can be a hair-pulling time for managers. Ask Barry Schuler, America Online
                  (NYSE : AOL)'s president of interactive services. After AOL bought Netscape last year, Mr. Schuler
                  was trying to figure out how to combine the two Internet giants' products and markets. But his
                  phone kept ringing with minutiae. "I used to get my expense check signed by one person and now I
                  have to get it signed by three people," Mr. Schuler says, echoing one of the complaints he heard
                  from his new Netscape charges. Or: "I used to call Joe to install my computer. And whatever I
                  wanted, I got."

                  Myopia? Yes ... and No. Mr. Schuler says as maddening as those calls were, he soon realized that
                  they were a key indicator of employee satisfaction with the merger. Companies should pay
                  attention to the details because each is "a signal of what it's going to be like in the new world," he
                  says. (And obviously, many Netscapers didn't like the new world. Although AOL says it kept all the
                  Netscapers it really wanted, the fact is, many quit).

                  The best way to deal with what looks like inverted priorities is to look at their impact on the
                  business. That's Cisco's approach. If an employee is riveted on some detail or some perk that won't
                  hurt the business, Cisco doesn't want to stand in the way. Taking away something like a beer bust
                  would only scare off the talent it sometimes pays as much as $3 million a head to acquire.

                  Redback had a lot of incentive to preserve the holy cows that came out of its merger with Siara
                  last November. After all, Redback paid $4.3 billion for Siara, a 225-person startup with no
                  revenues, products, or customers -- that works out to about $19 million a head. And some of
                  those heads are well fed. Before the merger, Siara had a tradition of serving dinner every
                  weeknight for an average of 80 workers who stayed late. Redback decided to maintain the
                  expensive tradition. "People are more productive if they talk over dinner," says William Kind, senior
                  vice president of marketing and product management. If each meal results in just ten extra minutes
                  of work a night "it's worth it," says Pankaj Patel, Redback's senior vice president of engineering. So
                  Redback now caters dinners for 100 (not everyone stays late).

                  SALARY STICKS
 

                  With the unemployment rate the lowest it's been in 30 years, a lot of companies are offering big
                  money for talented workers. So in order to keep the ones it buys, acquired companies have to
                  make sure their pay is competitive. For a lot of mergers, that's not so difficult. Redback, for one,
                  says most of the Siara employees fit right in with its pay practices.

                  But other companies have very different pay practices, like Xerox and Tektronix's color printing
                  business. The best way to bridge that gap is to make sure the acquired employees don't lose
                  anything. That means giving them raises if they tend to be paid less, or letting them keep their pay
                  if they tend to be paid more.

                  Xerox estimates that 70 percent of the acquired employees fit in with its pay scales. Most acquired
                  employees didn't have any change in pay at all, says Erin Isselmann, spokeswoman for Xerox's
                  newly combined office printing business.

                  But the other 30 percent were a headache. The Tektronix side of the office printing business pays
                  its office administrators more, because they're hard to find in Wilsonville, Oregon. The Tektronix
                  side also has a few employees in far-flung offices who get paid significantly more than their
                  counterparts at Xerox. The solution? "You just live with that," says John Vester, Xerox's vice
                  president of strategy and business development, and one of the key people in charge of the
                  integration. Over time, Xerox hopes to even out the scales by giving higher paid people more
                  responsibilities.

                  BIG DEALS
 

                  There are no easy rules for combining huge areas, like sales, information systems, inventory, office
                  equipment, and real estate. The best approach here comes from medicine: do no harm. If two
                  companies were making products and shipping them before the merger, they shouldn't take any
                  steps that might jeopardize that. Instead, KPMG's Mr. Prouty suggests that companies look for
                  "quick wins," or relatively easy changes that can have a high impact on moving a merger forward.

                  For instance, during talks, the two companies might figure out that their combined product line
                  allows them to go after customers that neither one of them could have won on its own. If merging
                  companies can announce such a deal soon after the merger closes, that's a quick win. Or maybe
                  they can switch to a single supply vendor within 30 days.

                  The key here is to prioritize, and not necessarily around cost. Xerox, for instance, wanted to save
                  money by installing its own copiers at its newly acquired Tektronix unit, which was renting copiers
                  from a Xerox competitor. Xerox could have swapped all the copiers out right away, but that was a
                  low priority. "That was something you didn't need to change, so why mess with it. It disrupts the
                  normal business," says Xerox's Mr. Vester. The company decided to make the change gradually,
                  over a few months.

                  Instead, Xerox put its energies into solving more immediate problems, like business cards. After the
                  merger, Mr. Vester learned that it would take six months to get new business cards for employees
                  at the newly combined office printing business (OPB). Rather than wait that long, Mr. Vester
                  decided to print the new cards on OPB's own printers. (But since Xerox wants OPB to have official
                  cards, he had to place an order for those, too.)

                  ENCOUNTERING CULTURES
 

                  The most difficult part of any merger is combining cultures from both sides. That goes well beyond
                  issues of pay and a few holy cows. Culture shows up everywhere -- dress, meetings, and how
                  many phone calls it takes to get the answers to a single question. Consultants say that in the best
                  mergers, no one side absorbs another. Instead, the companies try to pick the best practices from
                  each.

                  To that end, when Xerox acquired the Tektronix unit, it announced that the merger wasn't just
                  about expanding its copier business, but learning some new, nimbler business practices. And Xerox
                  could use some: in May, it ousted CEO G. Richard Thoman amid keen competition, deteriorating
                  earnings, and falling stock prices. The stock had tumbled from the $60 range last summer to the
                  mid-$20s at press time. In March, Xerox announced its second restructuring in two years. The
                  latest one came with 5,200 job cuts and a $625 million write-off.

                  In addition to keeping on Tektronix's Mr. Perkel as the head of Xerox's new OPB, Xerox also decided
                  to headquarter OPB in the Tektronix unit's Wilsonville, Oregon offices. Just to make sure no one
                  missed the significance of these moves, top Xerox executives, including former CEO Mr. Thoman,
                  have flown to Wilsonville to tell the former Tektronix workers that they hope to not only preserve
                  the Tektronix culture, but copy the best parts of it -- even if that means breaking Xerox rules and
                  pissing off people in the Stamford, Connecticut headquarters.

                  "We were acquired for our DNA," says Duane Schulz, a former Tektronix executive who is currently
                  vice president of new business ventures for OPB. "And part of the frustration is making sure not to
                  let our employees copy the Xerox DNA."

                  That cultural transfusion will be extremely difficult. While Xerox likes to think of itself as a
                  cornerstone of the new economy -- its press releases say Xerox invented the first personal
                  computer and the graphical user interface -- its culture definitely hails from the old school. Suits
                  and ties are de rigueur in Stamford, and casual Friday means you get to wear a sports coat.
                  Tektronix, at age 53, is no startup. But its culture is decidedly left coast. In Wilsonville, Tektronix's
                  former color printer workers wear Dockers and even jeans with holes. They live and die by email,
                  while some of their Xerox counterparts go a week without checking.

                  MEET GRINDERS
 

                  As Xerox and Tektronix worked on combining their businesses, they learned just how different their
                  cultures were. Sometimes it manifested in small ways, like on January 3, when Mr. Vester arrived in
                  Wilsonville to celebrate the merger's close. He had met three of the Tektronix division's executives
                  several times before, and they were wearing suits each time. So Mr. Vester wore his, only to
                  discover that everyone else was dressed casual. He wanted to change, but his casual clothes
                  were in his luggage, which had been delayed in Seattle.

                  That was easy to fix, but it's the clashing business habits that really strain patience. Xerox favors
                  large meetings, both in person and over the phone. Tektronix prefers email. It's not unheard of for
                  someone from Xerox headquarters to ask a Tektronix alumni to take a 10-hour round-trip plane ride
                  in order to attend a two-hour meeting, says Mr. Schulz. It's not uncommon for the Tektronix alum
                  to say No.

                  Mr. Vester hears both sides of it. "Why can't I get three guys to get on a plane and fly to
                  Rochester?" he says, echoing a headquarters complaint. "And then I had an email (from the
                  Tektronix side): 'This drives me bananas. I solved this problem three times. Why do I still have to
                  talk to this guy?'"

                  BUBBLE WRAP
 

                  The solution: since one of the Tektronix division's biggest assets is its business culture, Xerox,
                  working with KPMG, has taken great pains to build a "bubble" around OPB. To that end, Xerox
                  tapped some of its executives to serve as coaches (it won't call them that). These are people from
                  the Xerox side whose job is to run interference between Wilsonville and headquarters. They help
                  the people in Wilsonville figure out what Mr. Vester calls Xerox's "process-laden" culture. Among
                  other things, they tell OPB employees which meetings really are important and which can be
                  missed.

                  Mr. Vester has tried to get both Wilsonville and headquarters to funnel all communications through
                  his integration team. But they don't always listen. In that case, Mr. Vester wants OPB workers to
                  defend themselves. When someone from Stamford calls to explain the "Xerox way," he tells OPB
                  workers to remember that they aren't necessarily supposed to snap to it. At first they did, and
                  bogged down OPB's business because they wanted to please their masters. Now they have orders
                  from the top to stand up for themselves and follow guidelines that Xerox's upper echelon has
                  established for OPB.

                  Among other things, the guidelines call for efficiency. Against that test, the email-versus-meeting
                  question looked like this: "What's more efficient, sending 784 bytes over the Web or spending a
                  bunch of money on a plane ride for a meeting?" asks Mr. Schulz. Email won.

                  Mr. Vester had to loosen requirements for his own meetings, too. He used to host large, three-hour
                  conference calls once a week. After many complaints, he has whittled them down to just one hour,
                  once or twice a month, with only half the people.

                  TRACK RECORDS
 

                  A lot of executives get into the merger for the thrill of the deal, and then lose interest once the
                  integration is under way. Andersen Consulting's Mr. Somerville says this is the biggest pitfall for
                  mergers. "Executives lose sight of the fact that they got into this for the value," he says.

                  To keep things on track, merging companies have to keep checking to make sure that they are
                  integrating various parts of the company on schedule. For relatively simple mergers between small
                  companies, like the one between Redback and Siara, this can be relatively easy. Redback's vice
                  president of human resources, Ms. Perzow, worked from a spreadsheet that listed deadlines for
                  things like creating an internal communications plan and forming common policies for expense
                  reports and purchase orders.

                  It's much harder to track how well two cultures are meshing. Most companies rely on meetings and
                  internal Web sites with email links for this. But that assumes that employees will always speak up
                  about what's bothering them. Xerox and the Tektronix unit went one better: during talks, Tektronix
                  employees spontaneously started their own Yahoo chat board, a kind of anonymous online bitch
                  session. Mr. Vester and others on the integration team didn't formally monitor it, but they did look
                  in often enough to get a feel for how the merger was going.

                  The integration team posted some of the chat board's comments, with answers, on Xerox's internal
                  Web sites -- unless the comments were "nasty or snotty," Mr. Vester says. He didn't actually mind
                  those. "Over time, if they were getting nastier and snottier we knew we weren't doing something
                  right," he says. These days, he says, the snottiness index is way down. "Not many people use it
                  anymore," Mr. Vester says. "People are past the integration. They're back to running their
                  business." He hopes.

                  Joan Indiana Rigdon is a freelance writer living in San Francisco. Write to letters@redherring.com.


                 SIDEBAR

        Union jobs
                  By Joan Indiana Rigdon
                  Red Herring magazine
                  July 1, 2000

                  Companies who have successful large mergers under their belts are using a not-so-secret tool that
                  helps them get their arms around what could otherwise be unwieldy work: integration teams.

                  Sometimes the teams include a few outside consultants, but the best teams are led by top
                  managers from each side, from the CEO down to line managers in charge of large areas of business,
                  like operations and human resources. Some executives plead they don't have time to spend on
                  integration, because they are running their business. What they don't realize is that without
                  integration, there is no business. What happens after the deal is "where you win or lose it," says
                  Iain Somerville, a partner at Andersen Consulting.

                  Integration teams will vary as much as the integrating companies, but some parts of the process
                  are common to any company. As soon as they announce merger talks, both companies should form
                  a single steering committee comprising their CEOs and chiefs of finance and operations, advises
                  Jack Prouty, a partner in charge of business integration at consulting firm KPMG. Between the
                  announcement and the day the merger closes, the steering committee should work out large issues
                  that haven't yet been resolved, such as which business units to keep or drop.

                  If the merger is more of a combination of businesses -- as opposed to an absorption, as when
                  Cisco Systems (Nasdaq : CSCO) buys a startup -- it's important to have people from both sides at
                  all levels on the integration team. If an acquired executive doesn't see many of his former
                  colleagues on the integration team, he can only form one conclusion: "You've just told me it's going
                  to be your way or the highway," says Mr. Prouty. "That's a signal we don't want our clients to
                  send."

                  The steering committee also names an integration director. It doesn't matter what the director's
                  expertise is. "We don't care if they don't know anything about integration," Mr. Prouty says.
                  Instead, what's important is that they are up-and-comers who know their company's culture well,
                  so they know who to call for what information. And a touch of diplomacy doesn't hurt either.

                  Under the integration director should come vice presidents from the main areas of both companies,
                  Mr. Prouty advises. They aren't expected to work full time on integration. Instead, they're more like
                  "executive champions," Mr. Prouty says. They name middle managers to handle specific tasks, and
                  intervene only when the work hits a snag.

                  So, for instance, vice presidents of human resources from both sides might each assign small
                  groups of their own managers to integrate benefits, payroll, and expense reporting policies. If the
                  benefits teams disagree over options vesting, the vice presidents of human resources would
                  intervene. If the vice presidents can't solve the problem, they take their question to the steering
                  committee.

                  Since it's against the law for separate companies to share competitive information, the teams can
                  only do so much before the merger closes. The team can work out new benefits packages early on,
                  but it can't announce them until the deal is done. Other tasks, like merging databases, will take a
                  lot longer.

                  The important thing to remember is that while speed is key, too much of it can be a bad thing.
                  "We've learned there's a right speed," says Andersen Consulting's Mr. Somerville. "If you try to go
                  too fast, you lose customers and employees. If you go too slow, you may be outpaced by
                  competitors."
 

                    -30-

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