Mergers and acquisitions (M&As) tend to be complex and time-consuming processes that require vast resources and exceptional levels of attention. In 2015, there was a total $3.8 trillion worth of M&A spending in the United States—the highest amount ever for a single year, according to Bloomberg—and that number may be surpassed in 2016. According to an Ernst & Young study conducted last October, 59% of executives expected to pursue acquisitions in the next year—a six-year high. Globally, in 2015, companies announced over 44,000 transactions with a total value of more than $4.5 trillion.
With increased M&A activity comes challenges for companies managing these sensitive transitions. Companies undertaking these transactions will have a variety of issues to address, particularly from shareholders, and will continue to face a delicate balance of incentivizing and retaining their top management talent, if they are able. With any change in control (CIC), such as a merger or acquisition, shareholders will focus on the details of the transaction and scrutinize them from many angles. Thus, it becomes crucial to adequately approach any obstacles associated.
Obviously, there are a number of critical challenges requiring resolution to effectively ensure a smooth transition in any M&A deal. While working through the array of legal and financial issues—such as analyzing previous financial statements to forecast financial conditions and resolving any filed or pending litigations against the target company—which typically assume top priority, there also awaits the tall task of dealing with the executives involved. A decision must be reached on which employees will remain on board with the newly established organization and which employees will not.
Consequently, with that discussion follows the matter of compensation packages. There are many incentives that could drive the design of a compensation package, including employee motivation. In fact, many organizations may choose to address the issue of new talent motivation through compensation plans, particularly with executives.
Executive compensation structures take many different forms and require high attention to detail. For example, in some cases of inversion, a “merger of equals” umbrella may form, where companies of similar size combine with expected cost or revenue synergies. In these scenarios, executives may be awarded for their ability to create these synergies. Equilar identified six transactions among the S&P 500 since 2010 in which both the target and parent CEOs remained with the combined company and one or both of them received a special merger-related award, taking the form of either a synergy award, a retention grant or a special recognition bonus.
Additionally, larger M&As may require a more thorough approach. To better analyze deals of this nature, Equilar examined transactions valued above $1 billion and completed since 2010, identifying synergy metrics in either the surviving company’s annual incentive plan (AIP), or within a special one-time bonus plan. Among 15 transactions, it was revealed that four companies used synergy as a weighted metric in the AIP and 12 granted special synergy awards, which ranged in value from a target of $62,500 to a target of $30 million, while median value was $1.7 million.
Regardless of whether the deal may be a merger or acquisition, one of the biggest challenges of M&A pay structures is comparing the two organizations’ compensation plans, benefits and other policies related to pay and deciphering whether one particular plan is superior to the other or whether a completely new plan ought to be put in place going forward.
In terms of payments and payouts, executive compensation pay components break down to equity, cash and other benefit provisions embedded within employee contracts. Working through the different executive compensation plans requires a thorough analysis, where factors such as previous pay levels, industry and previous/new peer groups might be significant drivers taken into consideration in the decision-making process. However, without the right data and information in place, making an informative decision that is also in compliance with legal codes becomes an unclear task.
A prime example of how the appropriate data may be desired in these types of situations lies within CIC payments to executives in recent years. According to an Equilar study of M&As involving companies with more than $5 billion in revenue, the median potential CIC payment made to an executive was below $20 million between 2007 and 2014. In fact, in 2014, median potential payments for the four CIC situations that year were just $5.5 million. This information might come as a surprise to many as the number might be lower than expected—especially since high-profile mergers have yielded upwards of $50 million or even $100 million or more for some executives. However, each merger or acquisition is a case-by-case scenario trend that may not be applicable to all companies. (Graph 1)
A thorough statistical breakdown of the type or size of companies that receive a payout and the amount, if any, would allow companies to make the appropriate pay decisions in situations like CICs.
Regardless of the change taking place at a respective organization, having clear data and a concise analysis on hand is crucial in making an insightful and well-thought out decision, particularly for matters dealing with compensation.
Amit Batish is Associate Editor for C-Suite magazine.