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Utility Mergers and the “Sweet Spot” of Integration

by Hack Heyward

In response to an easing of regulatory wariness of industry consolidation, energy and utility companies have undertaken a spate of merger and acquisition activity.  Eight major deals have been completed over the past 18 months, with more likely on the horizon.

 

Acquirer Acquiree Acquirer Rev. $ MM
Pre-merger
Exelon Corp. Constellation Energy $18,860
AES Corp. DPL Inc. $16,070
Duke Energy Corp. Progress Energy $14,272
FirstEnergy Corp. Allegheny Energy $13,300
PPL Corp. E.ON US $12,740
AGL Resources NICOR Inc. $5,190
Northeast Utilities NSTAR $4,700

 

While the prospect of achieving operational improvement through economies of scale is always a key objective driving M&A initiatives, the ability to actually deliver on anticipated benefits poses a significant challenge.

Expectations for savings within IT operations tend to run high following a merger, since the potential for economies of scale is significant and the process of consolidation appears to be straightforward.  The reality is more complicated.  Assuming that both entities have previously outsourced at least some elements of IT service delivery (they typically have), both enter the agreement with existing service contracts in place.  An immediate challenge is to assess each agreement, compare them against each other, and then develop a plan for a future state that, ideally, incorporates the best elements of each agreement.

The integration process is further complicated by the fact that each party’s IT contract includes exit penalties. As such, while consolidating two agreements into one will produce economies of scale, it will also result in a significant financial hit for termination.  The question then becomes, at what point do the benefits of consolidation outweigh the costs of termination?  The challenge is that both are moving targets: termination charges come down over time, while consolidation benefits go up over time. Because the leadership teams of most utilities don’t have the data to determine  where that “sweet spot” lies, objective third-party advice on the merger and integration process is essential.

While navigating the vagaries of M&A integration is currently a top-of-mind priority for many utility executives, the issue applies to any organization undergoing or anticipating a merger or consolidation initiative.  What’s your perspective regarding the sweet spot of managing the integration process?

Additional information on managing the M&A process.

About the author

Hack Heyward leads ISG’s Energy practice area. He complements nine years of ISG consulting experience with extensive industry senior management experience, which includes leading a technology business unit of GE to 50% annual growth for three consecutive years and leading two turnarounds of privately held Energy Industry information services businesses. Hack’s industry and consulting experience spans acquisition due diligence, merger integrations, Six Sigma, organization design and development, shared services, unionized workforce issues, and senior level operational and change management leadership.