By Sharad Vishvanath, Principal, M&A Solutions, Aon Hewitt and

Jaidev Murti, Senior Consultant, M&A Solutions, Aon Hewitt

As the global focus on growth through mergers and acquisitions continues, key people issues that can influence the realization of the deal objectives and synergies in a transaction have taken on increased importance. In a study¹ recently conducted by Aon Hewitt across 103 global companies, the number one factor in the minds of acquiring companies was "Total Rewards"². In conjunction with the retention of key leadership and talent – total rewards is a critical aspect in the valuation and realization of deal synergies.

The design and execution of the rewards packages for key talent and leaders can often determine the likelihood of their retention in the new organization. With nearly three quarters (71%) of organizations providing a retention package to targeted employees in the acquired firm, 57% of these companies continue to lose critical employees at the same or a higher rate than the non-critical staff. Given these rates of key talent loss, it is easy to see that less than 50% of the deals have successful outcomes, whereby they actually realize the deal objectives and synergy targets that were originally forecasted.

Core elements of total rewards

Aon Hewitt research shows that traditional elements of rewards—pay benefits and stock awards—are no longer the differentiating factors for organizations. And with employee trust and engagement at a low, focusing on the total package of pay and rewards—and not just the pay—provides acquiring companies with a more compelling platform to engage and retain key talent.

In the context of a merger deal, there is even greater opportunity and need to address total rewards—both for incumbent employees and new employees from the acquired organization. It is insightful to note that even with total rewards cited as a top human capital lever of deal success, only half of the companies rated their total rewards initiatives as effective. It is clear that considerable opportunity exists for better leverage of total rewards during deals.

There was a clear distinction in the total rewards strategy of "overachievers" vs. "underachievers"². In fact, the research corroborated this by demonstrating the ability of overachievers to retain critical talent at a rate two-and-a-half times (2.5 times) higher than that of underachievers due to a rigorous focus on total rewards, among other aspects.

So, what are these strands of total rewards that a firm should weave into its M&A strategy?

Strand #1: Overachievers are more laser-focused on key total rewards liabilities while doing due diligence

There is a wide range of human capital considerations in due diligence. They include the review of leadership and key talent, assessment of total rewards liabilities and comparability of designs, cultural analysis, and assessment of compliance. Overachievers not only spend a higher amount of time on total rewards liabilities and costs in due diligence, they are laser-focused on specific liabilities during this phase.

As opposed to evenly spreading their efforts across total rewards elements in due diligence, overachievers put extra time and effort into (a) employment contracts as well as change in control and severance agreements; (b) executive compensation; (c) executive benefits/perquisites; and (d) defined benefit retirement plans. These areas are most likely to create total rewards liabilities, and overachievers especially focus on these to ensure that their deal model has realistically captured these liabilities and costs.

Strand #2: Overachievers look at total rewards in the aggregate

Increasingly, leading companies are managing total rewards as an integrated portfolio and in alignment with the broader employee value proposition. When we examined overachievers and underachievers, we found that overachievers consider total rewards in the aggregate when negotiating the purchase agreement and determining their go-forward total rewards approach.

For example, 67% of overachievers most often agree to provide compensation and benefits that are substantially similar in the aggregate to the existing target company plans for a stated period after closing (compared to 50% of underachievers). They are also more likely to require this commitment for their employees in a divestiture situation (69% of overachievers vs. 41% of underachievers). Further, 63% of overachievers (compared to 34% of underachievers) consider design changes "across all total rewards programs", when integrating acquired organizations.

Strand #3: Overachievers make performance-based retention a key element of total rewards in acquisitions

Organizations have not lost sight of the importance of leaders and critical talent in driving deal success. In fact, our study respondents indicate a strong commitment to retaining key employees, with 70% of them always using personal communications and/or conversations with acquirer leaders in these efforts and 71% typically providing a retention package to acquired employees. Underscoring this, 66% of all respondents identify addressing and implementing retention plans as one of the top three actions in total rewards contributing most significantly to acquisition success.

One striking finding from our analysis is the basis for payment of retention incentives. Years ago, the payment of retention incentives was invariably based on the passage of time—stay with the combined organization for a period of time. The data now shows that at almost all levels, retention incentives include some element of post-closing performance or achievement of deal objectives as a partial basis for payment.

What drives the success of overachievers is how they structure their retention package. Not only do overachievers tend to develop a special retention vehicle using a mix of cash and stock above the individual contributor level, and uniformly pay retention within one-to-three years (and not beyond), they also measure their success more deeply in the organization – across all employee levels, with a combination of time and achievement of post-closing metrics.

Strand #4: Overachievers are more equipped, more focused and more effective

Overachievers ensure they have capable and adequate resources (internal or external) to support total rewards during the life cycle of a deal and drive their effective execution. While most organizations in our study indicate relevant experience in different aspects of total rewards in both acquisitions and divestitures, 72% characterize their capabilities to address total rewards challenges in M&As as "inexperienced" or "building capability".

In our study, overachievers not only indicated higher levels of experience for negotiating total rewards approaches when compared to underachievers, they were more than twice as effective at executing these initiatives in transactions. Perhaps, more importantly, overachiever organizations were most effective at retention planning, addressing retirement benefits, and addressing executive compensation plans—all consistent with the areas of focus in due diligence provided in total rewards Strand #1.

The emerging market perspective

The total rewards elements outlined are especially critical in relation to emerging markets, such as India and China. But there are pronounced nuances due to the dynamic nature of these markets. Let's examine a few of the emerging market's total rewards strands.

Firstly, retention of talent in emerging markets is even more critical, given the severe talent crunch and rising cost of talent. An interesting insight is that most successful firms look equally closely at the "mighty middle" or "solid performers", rather than just high performers. This results in two specific strategies. One, their retention strategies have to also focus on the non-cash lever of "career and growth" -- without which pure cash-based retention levers can easily be bought out in the market, especially if the talent is disengaged with the merger story. Two, successful firms will have an articulated retention strategy and fanatical execution for the larger 50% of their solid performer population as well, because attrition at any level can be crippling for the growth strategy (which was inevitably a key rationale for the deal).

Secondly, our research indicates that in deals involving family-owned businesses in emerging markets, successful firms spend a lot more time and attention on rewards compliance and liability issues than in normal deals. This is critical as sometimes the "operating in the gray area" factor for such targets can have significant compliance and monetary consequences.

Thirdly, in emerging markets, executive compensation design, though not always complex, is very important, given the leadership talent crisis in these market.s (Aon Hewitt research predicts a 75% shortfall of leaders in these markets). Thus, successful, overachiever firms spend a lot of time in the design of executive compensation with sometimes granular details.

In summary

Our research clearly illustrates the strategic importance of total rewards as a critical aspect of M&A activity. By being able to identify material liabilities in due diligence and drive better retention of employees through total rewards designs and retention packages, overachievers have a clear advantage over their counterparts. In a nutshell, overachievers are simply better at managing their money, saving it in due diligence through liability identification and in integration through holistic, performance-driven, cost-based designs and also spending it through well-designed, timely stay-and-play retention approaches. This leads to a retention rate and transaction success for overachievers that is materially higher than that of their competitors.

Contact us

For more information about Aon Hewitt's M&A solutions in Asia Pacific, please contact
Sharad Vishvanath or Jaidev Murti.

Notes