The case studies in this part of the book pertain to the experiences of Chinese companies in foreign direct investment and acquisitions. However, they illustrate the challenges companies, in general, face in global acquisitions. They should be read in the context of theoretical discussions of legal due diligence, cultural integration, and issues arising from the national security concerns of host countries.
Case Study: Ralls Corporation and Acquisition of Terna Corporation
In March 2012, Ralls Corporation, a subsidiary of Sany Group, a Chinese company that manufactures wind energy-conversion turbines, acquired four wind farms called Butter Creek Projects from Terna Energy USA Holding Corporation (Terna), a Greek company, in the State of Oregon.
In September 2012, U.S. President Barack Obama ordered the Ralls Corporation to divest the wind farm investment, located 200 miles from U.S. Naval Air Station Whidbey Island, Oregon, which Ralls Corporation had acquired in March of the same year (Schlossberg and Laciak 2013).
President Obama’s order of divestiture was based on the Exon-Florio amendment to the Defense Production Act of 1950 (DPA), which gives the president of the United States the authority to manage domestic industry in the interest of national defence. Title VII, subsection (d) states that “the President may take such action for such time as the President considers appropriate to suspend or prohibit any covered transaction that threatens to impair the national security of the United States.” Furthermore, subsection (e) of the DPA reads “the actions of the President under paragraph (1) of subsection (d) and the findings of the President under paragraph (4) of subsection (d) shall not be subject to judicial review.” Subsection (f) of the law gives the President the authority to review the national security implications of foreign direct investments or foreign acquisitions of firms inside the United States by stating that
Factors to be considered for purposes of this section, the President or the President’s designee may, taking into account the requirements of national security, consider–. . . the control of domestic industries and commercial activity by foreign citizens as it affects the capability and capacity of the United States to meet the requirements of national security (The Defense Production Act of 1950, as Amended 2009, 44–45).
Additionally, the DPA stipulates that “The Committee on Foreign Investment in the United States (CFIUS), established pursuant to Executive Order No. 11858, shall be a multi-agency committee to carry out this section and such other assignments as the President may designate” (The Defense Production Act of 1950, as Amended 2009, 48). The CFIUS is a multiagency committee and is chaired by the U.S. Secretary of Treasury.
The legal problems of Ralls Corporation started with inadequate legal due diligence before its acquisition in Oregon. Having observed the operations of similar foreign-owned green energy companies in the same areas, Ralls and Terna did not notify the U.S. government authorities about the acquisition, believing that they have met all the national security concerns of the U.S. Naval Air Station regarding the restricted airspace of the naval station.
After closing the deal, and 2 months after the start of the construction activities, Ralls was notified by the CFIUS, a government agency that oversees foreign investment in the United States, that they should stop construction activities until completion of the investigation of the Ralls energy project. Ralls, however, ignored the notification, having confidence that they have met all the necessary national security requirements of the U.S. government, and further knowing that Sino–American cooperation on green energy development was agreed upon by President Barack Obama and the president of China at the time, Hu Jintao.
On July 25, 2012, the CFIUS ordered Ralls to cease all construction and operation activities at the wind farms. Furthermore, CFIUS prohibited all access to the project sites except those U.S. citizens, who were authorized to enter the site by the committee. Ralls Corporation complied and stopped all activities at the locations.
On August 2, 2012, the July order was amended by CFIUS prohibiting Ralls from selling or transferring any products manufactured by Sany to any third party for use at the project sites. Moreover, the August order instructed Ralls to avoid selling the acquired company without first obtaining permission from CFIUS to do so.
President Obama’s September order of divestiture stated that because of the existence of “credible evidence,” Ralls “through exercising control might take action that threatens to impair the national security of the United States” (Feldman and Burke 2013). The order gave Ralls 90 days to divest and 14 days to remove all structures and objects from the sites.
On September 12, 2012, Ralls Corporation filed a lawsuit against CFIUS and Timothy Geithner, the then secretary of the Treasury, and subsequently amended the lawsuit to include President Obama’s order for “unconstitutionally taking property” without due process of law stating that
CFIUS’s powers under Section 721 and related executive orders and regulations are limited. It may only review certain “covered transactions” that could result in foreign control of a person engaged in interstate commerce in the United States. It may not bar a covered transaction from taking place. And, like all agencies, it may not arbitrarily or capriciously render determinations absent any evidence or explanation or by unexpectedly and inexplicably abandoning a prior position or policy, and it may not engage in the unconstitutional deprivation of property absent due process.
Moreover, the lawsuit claimed that
CFIUS violated the foregoing principles and well-established law when it issued an order subjecting plaintiff Ralls Corporation to draconian obligations in connection with Ralls’s acquisition of four small Oregon companies, whose assets consisted solely of wind farm development rights, including land rights to construct the wind farms, power purchase agreements, and necessary government permits. Without identifying any evidence or providing any explanation, CFIUS concluded that the acquisition was a “covered transaction” subject to its authority and that “there are national security risks to the United States that arise as a result of” the acquisition. Moreover, rather than propose measures that would have mitigated the purported (yet unidentified) national security risks, CFIUS–again without any evidence or explanation–instead required Ralls immediately to cease all construction and operations and remove all items from the relevant properties; prohibited Ralls from having any access to the properties; and forbade Ralls from selling the properties until all items had been removed, CFIUS was notified of the buyer, and CFIUS did not object to the buyer. CFIUS asserted that these obligations were enforceable via injunctive relief, civil penalties, and criminal penalties (Ralls Corporation v. Committee on Foreign Investment in the United States Document 1 2012, 2).
On February 26, 2013, the U.S. District Court for the District of Columbia, where the Ralls Corporation lawsuit was filed, issued a ruling dismissing Ralls’s claims pertaining to the presidential statutory authority to order divestitures, but allowing further judicial review of the claim of unconstitutional violation of property rights of the plaintiffs without due process of law. Citing the defendants’ argument that the courts have no jurisdiction to hear cases involving a presidential order according to DPA of 1950, the district court ruled that
The statute is not the least bit ambiguous about the role of the courts: “The actions of the President . . . and the findings of the President . . . shall not be subject to judicial review” 50 U.S.C. app. § 2170(e). Nonetheless, Ralls asks the Court to find that the President exceeded his statutory authority in imposing the conditions in the order and that he acted in violation of the Constitution by treating these foreign owners of wind farms differently than foreign owners of other wind farms. This artful legal packaging cannot alter the fact that what plaintiff is urging the Court to do is assess the President’s findings on the merits, and that it cannot do. Since the finality provision bars review of the ultra vires and equal protection challenges to the President’s order, the Court will dismiss those claims for lack of jurisdiction. But, plaintiff has also brought a due process claim that raises purely legal questions about the process that was followed in implementing the statute, and that claim will stand. The Court notes that it is not ruling that the due process claim has merit–simply that it is bound to go on to decide the claim on its merits. The Court will reach that question after further briefing by the parties (Ralls Corporation v. Committee on Foreign Investment in the United States Document 48 2013, 2).
On October 10, 2013, the U.S. District Court Judge ruled on the plaintiffs’ claim of failure of the president to follow due process of law in issuing the order to divest, by stating that
Defendants have now filed a motion to dismiss the remaining claim, and that motion has been fully briefed by the parties. Because Ralls has not alleged that it was deprived of a protected interest and because, even if the Court were to find a protected interest, Ralls received sufficient process before the deprivation took place, the Court will grant defendants’ motion to dismiss (Ralls Corporation v. Committee on Foreign Investment in the United States Document 58 2013, 2).
The ruling was very specific in its reasoning for rejection of Ralls’s claim, by stating that
Ralls had the ability to obtain a determination about whether the transaction would have been prohibited before it acquired the property rights allegedly at stake, but it chose not to avail itself of that opportunity, Ralls cannot predicate a due process claim now on the state law rights it acquired when it went ahead and assumed that risk (Ralls Corporation v. Committee on Foreign Investment in the United States Document 58 2013, 8).
Ralls Corporation has appealed both the February and October decisions. Finally, the parties in the litigation reached a settlement agreement on 9 October 2015. In a joint status report, they stated “The parties have executed a settlement agreement in this matter. The parties anticipate that, in light of the settlement agreement, they will soon stipulate to the dismissal of this action.” (Ralls Corporation v. Committee on Foreign Investment in the United States Document Case 1:12-cv-01513-ABJ Document 79 Filed 10/09/15).
This case is an excellent example that illustrates the dire financial consequences of inadequate legal due diligence, especially in cross-border M&A transactions.
Case Study: Fujian Grand Chip Investment Fund Attempted Acquisition of AIXTRON SE
In a press release on May 23, 2016, the German-based company AIXTRON SE announced that Chinese investor Fujian Grand Chip Investment Fund LP (FGC) would make a public offer for the outstanding shares of AXITRON SE including the shares of the company sold in the United States, which are known as American depository shares. The goal of FGC was to take over its indirect German subsidiary Grand Chip Investment GmbH (GCI) for AIXTRON1 SE. The Chinese firm had offered 6.00 euros in cash for each share of AIXTRON, or a total of 670 million euros.
AIXTRON is a high-tech, university spin-off German firm that employs hundreds of highly skilled engineers. The company manufactures advanced tools that are used in the production of semiconductors. The chip-manufacturing system AIXTRON has invented deposits a thin layer of chemical that grows light-emitting crystal in chips production.
AIXTRON announced that the goal of the merger transaction was not to reduce cost or staff, but intended to meet the short-term financial challenges, the long-run robust technological growth, and gain access to the vast Chinese market. Moreover, the German company announced that the legal status and the headquarters of AIXTRON would remain in Herzogenrath, Germany and that the executive and Supervisory Board would support the transaction. Additionally, the AIXTRON global technological hubs in Herzogenrath (Germany), Cambridge (UK), and Sunnyvale (USA), in leveraging their proximity to leading high-tech areas will be maintained, and more international technological hubs may be established (Axitron 2016).
FGCI experts are to purchase the shares in July 2016 after receiving approval from the German Federal Financial Supervisory Authority (Bundesanstalt für Finanzdienstleistungs-Aussicht/BaFin). The transaction will close in the second half of 2016.
On December 2, 2016, U.S. President, Barack Obama, based on the recommendation of the Committee on Foreign Investment in the U.S. ordered the parties to entirely and permanently abandon the deal. The ruling was on the grounds of the dual nature of the chips-manufacturing system by the German company, and the national security of the United States. The statement by the U.S. Department of Treasury stated: “The national security risk posed by the transaction relates, among other things, to the military applications of the overall technical body of knowledge and experience of Aixtron” (McLaughlin 2016).
The CFIUS’ jurisdiction to rule on the merger of a German company hinges on the fact that AIXTRON has a subsidiary in California, employing 100 workers and contributing to 20 percent of the total sales of the AXITRON.
Case Study: Canyon Bridge Capital Partners, Inc. to Acquire Lattice Semiconductor
On November 3, 2016, Lattice Semiconductor Corporation and Canyon Bridge Capital Partners Inc. announced that the Lattice Company and an affiliate of Canyon Bridge Capital Partner, Canyon Bridge Acquisition Company, Inc., have signed an agreement according to which the Canyon Bridge Acquisition Company will acquire all outstanding shares of Lattice for $8.30 per share in cash or a total payment of approximately $1.3 billion inclusive of Lattice’s net debt.
Lattice Semiconductor Corporation’s headquarters is located in Portland, Oregon, with development centers in Portland, Oregon, San Jose, California, Shanghai, China, and Hyderabad, India.
In late December 2016, the parties filed the proposed transaction twice for review and discussion by the CFIUS, but then withdrew their filing. However, after a third filing and three investigations, CFIUS informed the parties that it would recommend that President Trump block the deal. In contrast to many another applicants seeking approval of the proposed merger, which withdrew their application after an unfavorable ruling by CFIU, Lattice did not withdraw the filing. The decision by Lattice to pursue the filing was based on the Lattice’s executives’ belief that President Trump would not block the transaction because of the number of jobs Lattice intended to create in the United States after the conclusion of the acquisition. Nevertheless, President Donald Trump’s decision to block the transaction was announced and it was to be based on the following factors: potential transfer of intellectual property; the role the Chinese government played behind the deal; the significance of the semiconductor technology for the United States Government, and the U.S. government’s procurements of Lattice’s products (Bergin and Talati 2017).
Case Study: CITIC Group and Investment in Australian Mines
In 2007, CITIC Pacific, a subsidiary of CITIC Group, which is a state-owned financial services enterprise, purchased a mining license to extract two billion tons of magnetite iron ores for 25 years in an isolated region in Western Australia. The mining project was the most significant cross-border mining investment of its kind by a Chinese enterprise with 100 percent Chinese ownership.
In October 2008, CITIC Pacific announced a loss of 14.7 billion Hong Kong dollars (roughly $1.9 billion) due to investment in forward contracts to hedge against currency fluctuation. In addition to the 1.6 billion Australian dollar initial investment, the operations required an annual investment of at least 1 billion Australian dollars for 25 years for the mining operations.
Initially, CITIC Pacific was to invest $4.2 billion with the starting date of mining operations to be in the first half of 2009. However, due to several setbacks, the required investment increased to $5.2 billion, and its operations were postponed to early 2011. To prevent CITIC Pacific from bankruptcy, CITIC, the parent company, had to inject $1.5 billion into CITIC Pacific.
What factors contributed to the ill-planned Chinese greenfield investment project in Australia? Many factors contributed to the unpleasant situation for CITIC Pacific. These included labor issues; Australian nationalism; a hostile attitude toward Chinese investment in Australia; and global oligopolistic control of the iron mining industry by two large mining firms–namely BHP Billiton and Rio Tinto. Additional factors were the government regulations regarding environmental protection and tax policies as well as the significant investment in infrastructure such as investment in the construction of piers, ports, water, and electricity plants, telecommunications, and roads in the barren mining region.
As an example of labor issues, which emerged due to the cultural differences between the Chinese and Australians, we noted the Chinese executives’ complaints about the work habits of CITIC Pacific’s Australian employees. The Chinese executives of Sino Iron found that
Despite the urgent situation . . . the local managers still left work at the regular time, took vacations, and expected a bonus at the end of the year. Sometimes engineers would be in the middle of processing concrete when it was time for them to leave, without worrying whether this would cause problems. When there were problems, employees would try to blame each other, and the sense of belonging and loyalty from Chinese firms was nowhere to be found (Sun et al. 2013, 316).
CITIC Pacific problems were not confined to Australian workers’ attitude toward work. Australian nationalism created resentment among many Australian employees of the company. Some workers reasoned that since the company’s money belonged to the Chinese government, they need not care for the welfare of the company that has employed them. Moreover, the Australian government had also increased taxes and began regulation of cross-border M&A in Australia. For example, the Australian government announced a 40 percent resource tax on mining firms starting in July 2012.
The Australian environmental protection regulations were expensive, and they were stumbling blocks too. For example, as per Australian environmental laws, the CITIC Pacific “. . . had monitored the underground water, animals in caves, sea turtles and birds on land, and audited the environmental performance of its contractors to ensure the protection of the natural environment” (Sun, Zhang, and Chen 2013, 320).
In addition to labor relations, labor costs were also issues. Because of the remote location of the mining operations, many mine workers had to come from big Australian cities. High demand and a limited supply of labor had pushed the annual salary of an average mine worker to over 100,000 Australian dollars, a sum that is twice as large as the average annual income in Australia or at a level of annual income earned by professors in Australia. Moreover, some workers could take 1 week off for every 3 weeks of work or sometimes the workers took 2 weeks off for every 3 weeks of working. The workers required the company to pay for their airfare so that during their break, they could fly to their homes.
The CITIC Pacific management decided to bring in Chinese workers, who would perform the same kind of labor at substantially lower wages, to Australia to deal with the high labor cost. However, the Australian government refused to issue visas for Chinese workers, requiring that the applicants for a work visa to Australia must have a certificate showing their high proficiency in the English language (Sun, Zhang, and Chen 2013).
This case study demonstrates that without foresight and adequate planning, cross-border investment, either in greenfield form, as was the case above, or in M&A transactions, could face significant obstacles in achieving the goals of the acquisition.
Case Study: Shuanghui International Holding Buys Smithfield Foods
In May 2013, Shuanghui International Holding Ltd, a privately owned Chinese company, announced that it would acquire Smithfield Foods for USD7.1 billion. The acquisition of Smithfield Foods places advanced technology in food production and the know-how in food safety regulations, which are deemed to be essential in China’s ongoing Five-Year Development Plan (2011–2015), at the disposal of the acquirer. In a surprisingly short time, the parties were able to reach an agreement in September 2013. On January 21, 2014, Shuanghui International Holding Limited announced that it had changed its corporate name to WH Group Limited.
Shuanghui International Holding was formerly a state-owned enterprise, which was privatized. Currently, roughly 50 percent of its stocks are owned by Goldman Sachs, CDH Investments, Singapore’s sovereign wealth fund, and New Horizon Capital, a Beijing-based private equity firm (Gong 2013).
In addition to being the largest Chinese acquisition in the United States, the negotiation that led to an acquisition agreement is unique in several other respects, by including an offer that was valid for a limited time, containing a “qualified pre-existing bidder” provision, setting up a single debt financing structure, and by adopting a strategic approach to the CFIUS review process (Hasting 2013).
The time-sensitive offer was submitted to Smithfield Foods on May 13 and a reply was received from the target on May 24. On the same day, it was learned that the target was in discussions with two other bidders. On the same day, Shuanghui’s attorneys delivered a revised merger agreement to Smithfield, which included an ultimatum that if a deal was not reached by 6:00 p.m. Eastern time, Shuanghui will withdraw the offer. The strategy was to avoid a lengthy, costly bidder war.
The second “qualified pre-existing bidder” provision allowed Smithfield to negotiate with the two existing bidders for 30 days only. However, by signing the merger agreement, Smithfield had to give up its right to seek other bidders.
The third unique feature of the negotiation was creating a two-tier financing arrangement. After reaching an agreement for acquisition, Shuanghui’s executives, who already had a financing plan, collaborated with the executives of Smithfield Foods to arrange for an alternative financing plan. The basic idea of the dual financing structure was to optimize Smithfield’s postacquisition debt structure. Based on the dual financing plan, Shuanghui entered the U.S. capital market to raise $900 million as part of financing the acquisition.
The fourth unique feature of the deal was a low termination fee of $75 million if Smithfield terminated its agreement with Shuanghui within 30 days of signing the merger agreement. The termination fee is substantially smaller than the usual $100 million termination fee.
Finally, another unique feature of the agreement was the exclusion of a $275 million termination fee to be paid to Smithfield in case of Shuanghui’s failure to secure approval from CFIUS for the acquisition, as per terms of the merger proposal initially submitted by Smithfield Foods.
Case Study: Labor Conflict in Postmerger Integration
On November 29, 2013, China Daily reported that many workers of the Nokia factory in the southern Chinese city of Dongguan went back to work after they went on strike against the company on November 19, 2013. The workers were concerned about a possible wage and benefit cut due to a merger between the Finnish telecom company Nokia and U.S. giant Microsoft Corporation.
The strike began on the same day that Nokia announced that its shareholders had approved of the $7.2 billion acquisition deal according to which Nokia would be acquired by Microsoft in early 2014.
Established in 1995, Nokia’s plant in Dongguan employs roughly 32,000 workers with 4,900 staff members producing mobile devices for the company.
The striking workers demanded a new contract with equal or better compensation terms for workers to be signed by Microsoft, before closing the merger deal.
The workers ended the industrial actions after Microsoft agreed that the workers’ salaries and benefits would remain unchanged for 12 months after the completion of the acquisition.
China Daily also reported that the managers of Dongguan factory rewarded nonstriking workers 1,000 Yuan or $164 for not taking part in the strike, and terminated the employment of those who did strike. In fact, at the time of reporting, more than 200 striking workers were terminated.
Moreover, similar types of Chinese worker strikes concerning cross-border M&As in China have occurred. These strikes involved cross-border deals such as Western Digital’s purchase of Hitachi Global Storage Technologies and Indian tire maker Apollo’s attempted acquisition of Cooper Tire & Rubber, a U.S. Company (Xinhua 2013).
China’s Acquisition in Italy
Case Study: Qianjiang Motors Acquires Benelli Motorcycles
We use a case study presented by Spigarelli, Alon, and Mucelli (2013) to illustrate the cultural challenges faced in the postacquisition integration process by a Chinese acquirer.
Qianjiang Motors, a Chinese SOE, which is located in the Zhejiang province in Southeast China, is a manufacturer of motorcycles and engine parts among other products. The company has 7 percent of the market share in China and exports to more than 110 countries. The target company, Benelli Motorcycles, is a small, family-owned Italian manufacturer of motorcycles and scooters, which was established in 1911. The Italian company was started as a repair shop for automobiles and motorcycles, which also manufactured automobile parts. With the acquisition of new technical know-how, the firm introduced one of its manufactured motorcycles at the Third International Bicycle and Motorcycle Exhibition in Milan in 1921. After winning many national and international awards for manufacturing and design excellence, the firm became very successful in the European market. However, the success of the company ended in the 1960s when Japanese-manufactured motorcycles entered the European and world markets. By 2005, the company had to cease production because of loss of the market share and massive financial losses. The company went bankrupt in 2005.
The Chinese SOE acquired the Italian firm in September 2005, and the combined operations began a month later in October. Given the technical know-how and advanced design skills of the Italian firm, the Chinese company’s goal to acquire it was based on its strategic move to access the technological capabilities of the target. Additionally, the Italian company enjoyed a reputable brand name. The acquirer’s strategy was to combine the technical and marketing skills of the Italian company with its own favorable cost of production, so that it could compete with the Japanese producers of motorcycles globally.
The location of Benelli Motorcycles is in a province in Italy where the local government and trade unions are very involved in economic activities, and they played an essential role in completing the deal.
In the postacquisition phase, the Chinese-acquiring company restructured the production processes to increase efficiency, raise production capacity, and by doing so lowered the costs of production. The new entity planned to double the workforce and introduce six products within 2 years. However, no significant change in the administration was planned. Only the sales director, the part quality manager, and the managing director were relocated from China to Italy. Despite the minimal changes in the management of the target firm, several postmerger integration issues, including national cultural differences concerning attitudes, lifestyles, and approaches to business management, appeared.
Using the sales revenues as a measure of postmerger performance of the new company shows that the acquisition was not entirely successful. Despite more or less steady sales of the rivals, the new company’s products sold in Italy dropped from 848 in 2008 to 163 in 2009. Specifically, the total value of production of the acquired company fell from 13.972 million euros in 2006 (the year after acquisition) to 7.747 million euros in 2010. Nevertheless, while both the debts and assets of the company decreased, its equity increased between 2006 and 2010 (Spigarelli, Alon, and Mucelli 2013).
Moreover, difficulties in coordination of human resources mostly in the form of communication because of languages and cultural background and work habits delayed the development of new products. English was used as a language of communication, but neither side was proficient in English. The Chinese would speak in Mandarin during official meetings on occasions where the two parties disagreed on certain issues. In such conditions, building trust became very challenging.
The differences between Chinese and Italians, in the issues of belonging and work habits, created another challenge. The Chinese showed a strong commitment to the success of the company, and were willing to work in the evenings and on weekends; the Italians found such work habits unacceptable, even under urgent situations.
Differences between Chinese and Italian executives on policies such as expenditure of resources for the image of the firm, advertising, and customer care also created friction. The Chinese did not place these items on the top of the priority list, while the Italian executives considered them to be very important. Moreover, persistent efforts on the part of Chinese executives to reduce costs resulted in delays in investments.
The accounting and management information systems of the two companies were not integrated. Finally, the hierarchy, line of command, and responsibility of human resources were not well defined, and the power was mostly at the disposal of the managing director.
Case Study: Lenovo Acquires IBM’s PC Division
In 2005, Lenovo, a Chinese computer company, acquired IBM’s personal-computer division. Lenovo’s strategy for the acquisition of IBM PC division, as stated by Liu Chuanzhi, the founder and chairman of Legend Holding Ltd, was capturing synergies by “leveraging Lenovo’s strength in China and IBM PCs strength in advanced countries, integrating procurement capabilities, optimizing supply relationships, and streamlining end-to-end processes from order taking through fulfillment, all contributing to become more efficient” (Rui and Yip 2008, 220). The motive for Lenovo’s globalization efforts despite its pre-eminence in China’s personal-computer (PC) market, which emerged from the company’s competitive advantages such as its technological advantage in China’s niche PC market over its foreign competitors, its significant market share, and its profitability in China, is based on the potential threat the foreign competitors posed for Lenovo. Both Dell and Hewlett Packard were acquiring more knowledge of the local Chinese market.1
Qiao Song, Lenovo’s senior Vice President and chief procurement officer, was assigned the task of the rapid integration of the purchasing departments of IBM PC division and Lenovo, departments that had different processes, management systems, and cultures. Three months before the closing date, the top management of Lenovo also mandated that Mr. Qiao Song save the merged companies over $150 million in direct spending on materials and show an overall annual saving of $300 million within 18 months after closing. Mr. Song met and exceeded the target cost reduction by creating a general-procurement function for the company that was responsible for managing overheads and expenditure such as travels and office supplies. How did Mr. Qiao Song achieve his goal?
In an interview given to McKinsey & Company in May 2008, Mr. Qiao Song (Hexter 2008) stated that despite vast differences between the two purchasing departments, the purchasing teams of both companies considered full integration of the purchasing departments to be a top priority because of the sum of money that was to be saved. The managers of the purchasing departments realized that the system differences included processes, information technology (IT), management systems, key performance indicators, and cultures. Given such incongruities, the first set of tasks was determining the production costs for each company, identifying the immediate saving opportunities after closing, and integrating the purchasing departments.
One of the first tasks was the identification of costs of the companies. Due to legal restrictions during the negotiations, direct comparison of costs was not permitted. The companies had to select certain members from both purchasing departments so that they could review and analyze cost data for both companies. During these review sessions, the combined team was able to identify common supply categories where Lenovo could share supplies with IBM. Next, synergies from Lenovo’s newly found global access to supplies were realized.
The third source of cost saving was a reduction of material costs by redesigning products or eliminating internal items in the products that were not valued by customers. Cost structures of all products of the new company were analyzed. The idea behind such an examination was to determine whether a new product design was required or, in some cases, whether the excessive specifications for a product, for example, internal items that customers could not see, value, or were willing to pay for, were to be eliminated. Moreover, the process allowed standardization of products, which allowed the company to realize synergy from economies of scale by increasing the volume of purchases from some suppliers.
The net effect of these preclosing costs of production analyses was that the new Lenovo company had a clear understanding of the savings they needed to get, the methods they had to adopt to get them, and the required time to obtain the savings.
Mr. Qiao Song described the cultural differences between IBM and Lenovo by stating that Lenovo had an entrepreneurial culture, while IBM’s culture was very systematic and analytical. Moreover, on the issue of overcoming cultural differences between the management teams of IBM and Lenovo, Mr. Song indicated that the balance between flexibility in dealing with the senior executives, who had difficulties adapting to change during the initial adjustment period, and firmness on the performance results was the key to success. He stated that accommodating the senior executives during the adjustment period was fruitful and resulted in complete acculturation and fine performance of those executives. He went on to say that he was focused on results and, after the closing of the deal, he had a bimonthly review for each product. He required the team members to report on their cost-saving efforts. One of the areas that Mr. Song found great resistance from IBM executives was air travel expenses that they thought were very personal. Mr. Song solved the travel expenditure issue by relying on credible insiders, who were very familiar with the issue, rather than relying on outside consultants to remedy the problem.
Further examination of Lenovo Group’s culture is helpful in developing an understanding of how cultural differences in cross-border M&As could pose difficulties to the integration processes.
It is instructive to discuss the pivotal role Mr. Yang Yuanqing played in the development of Lenovo. Mr. Yang, an engineer by training, is the Chief Executive Officer of Lenovo Group, a company that had a humble beginning in 1984. Mr. Yang is described to have a “forceful personality” and is an unrepentant believer in discipline and centralized decision making (Stahl and Koster 2013). Following his disciplinarian instinct, President Yang required that all employees of the company abide by the following company rules:
- Treat customers and suppliers with care and respect
- Be frugal: “save money, save energy, save time.”
- Concentrate on the fundamental leadership tasks: build the management team, develop strategy, and lead the employees
- Do not abuse your position to benefit yourself
- Do not accept bribes
- Do not take second employment
- Do not share information about your salary with your coworkers
- All employees had to use time clock to check in and out
- Employees who were tardy to meetings had to stand behind their chair for 1 minute
- All employees, who were found outside the office building without a reasonable explanation, received pay dock.2
One could easily imagine that enforcing these rules in Lenovo operations in the United States or other Western countries would pose formidable challenges for the management because workers in Western countries are resistant to a rigid work environment.
Lenovo is a global player in the IT industry and has become the number one producer of PCs globally. We present the following interesting stories about the company to learn about some recent developments about Lenovo, and its strategy to become a global entity through M&As.
Bloomberg Technology reported on September 2, 2013, that Chief Executive Officer Yang Yuanqing would share $3.25 million of his bonus with workers for the second year. Lenovo’s staff totaling 10,000 workers in 20 countries received payments in September 2013, in recognition of their contributions to the company. About 85 percent of the recipients are in China (Bloomberg 2013).
The benevolence of Lenovo’s Chief Executive in contrast to practices of some executives of U.S. companies demanding wage and benefit concessions from employees during high profitability, while at the same time awarding themselves hefty salary raises and bonuses (Greenhouse 2012) is another clear evidence of the cultural differences between the companies.
On January 20, 2014, Bloomberg Businessweek (Culpan 2014) reported that Lenovo Business Group Ltd is in serious negotiations in acquiring IBM’s low-end server division. The report indicates that Lenovo has completed due diligence and was trying to diversify into the server business because of falling demand for PCs. IBM plans to spin-off the unit because of its lower profit margin.
According to an e-mail message received by one of the authors from Thomas F. Looney, Vice President and General Manager, Lenovo North America, Lenovo will acquire:
- IBM’s x86 product lines (including towers, racks, blades, and high-density systems)
- All blade networking technology products
- Solutions and converged systems tied to the previously mentioned products
- All associated intellectual property (IP)
- IBM’s x86 sales force, research and development teams, quality and product assurance engineers, key labs, and other facilities supporting these products.
On January 29, 2014, it was announced that Lenovo is in negotiations with Google to acquire Motorola Mobility smartphone business for an initial negotiating price offer of $2.91 billion. With a fast-growing smartphone business, the acquisition, if completed, will give Lenovo a strong position in North and Latin Americas, and a stepping stone into western Europe. These new markets would complement Lenovo’s smartphone business in the emerging markets. According to the proposed offer, Lenovo will pay $1.41 billion, consisting of $660 million in cash and $750 million in Lenovo’s common stocks, at closing. The remaining balance of $1.5 billion will be paid by a 3-year promissory note (Lenovo 2014).