Alcatel Lucent merger: Blood, sweat and tears?

Another week, another telecom merger: on Sunday, April 2, Alcatel and Lucent, two telecom equipment suppliers, announced their union. This was not really a surprise: two companies were seen as natural partners for long-time and almost concluded a deal in May 2001. This time, the two companies came to a successful agreement. Not that they have much choice: they had to do something. Consolidation pressures that affect telco operators are even stronger among suppliers. In addition to the continuing shrinkage of traditional customer base, they face major technology shifts, which trigger waves of new entrants.  For Alcatel and Lucent, the merger is a defensive manoeuvre, crucial for their very survival. Once kings of the telecom hill, with glorious history and prestigious lineage, they have fallen on hard times recently. During the 1990s Alcatel got bogged down in the politico-economic strategies of French establishment, which transformed the company into a lumbering conglomerate and as a result largely missed the mobile opportunity. Lucent never lived up to the lofty expectations of its shareholders, who saw it as the heir of the mythical Western Electric and was unable to capitalise on the treasure trove of Bell Labs. Both companies suffered greatly in the Great Telecom Crash of the early 2000s. Their market cap is still lower than it was five years ago and they both underperformed broad market averages. It is a measure of their fall from grace that their combined market cap represents about a third of that of Nokia and is less than a quarter of that of Cisco. It is also worth noting that the merger values Lucent at a discount from its recent market price.  

Essentially defensive, the merger appears to make a lot sense, at least on paper. Geographical and product complementarity is obvious: Alcatel is strong in Europe, Midle-East and Africa; Lucent, in the US. Alcatel is a market leader in ADSL, while Lucent has considerable mobile expertise and experience. Cost synergies are considerable, estimated by the management at some $1.7 billion over the next three years. Leaders of the proposed combination, Ms. Russo and Mr Tchuruk, have impressive turn-around record.

And yet, for its advantages, it is far from clear that the how successful the merger will be.
Past experience shows that in Information Technology domain a merger of challengers rarely leads to a creation of market leader. For instance, despite having absorbed Apollo, Digital Equipment and Compaq, Hewlett Packard has not succeeded in catching up with Sun, IBM or Dell. The advantages of bringing various technologies under one umbrella appears to be largely offset by costs of co-ordination, which include not only increased in-fighting but also, more importantly, loss of focus.
In this particular case, integration challenges look formidable.
Potential for not a single but a serial cultural clash is considerable. Alcatel – Lucent operation is announced at the time when analysts are taking a hard look at DaimlerBenz-Chrysler merger (see the Economist article).  The verdict is mixed: integration was very costly and lengthy and results are only beginning to appear now, after eight years of hard slog. In the meantime, Mercedes lost its leadership position in the luxury segment and Chrysler owes its recent market success as much to the weaknesses of Ford and GM as to its own design prowess.
One of the main reasons for integration difficulties of DB-Chrysler combination was the confusion about the nature of the operation: presented as a merger of equals, it was in fact a German takeover.
A similar risk of confusion exists here.  Both in terms of revenue and market valuation, Alcatel is much bigger than Lucent. The NewCo will be listed on Euronext and the Board composition appears tilted toward Alcatel. Mr. Tchuruk might have ceded the CEO post but he remains Chairman of the Board and he has shown repeatedly that he has notoriously reticent to share decision-making. And Mrs Russo is not exactly a shrinking violet. Power struggle is bound to be endemic.
It will be compounded by the need for further strategic alignment between the two companies. Alcatel has not fully shed its conglomerate mentality: it is still trying to take over Thales, as part of its drive into satellite transmissions. On the other hand, both companies are very light on the media and consumer side. In a fast-moving environment of networking equipment, choices have to be made and made quickly. Players need to be agile and bold. The most successful suppliers won market share by making huge but focused bets: Cisco on routers, Nokia on GSM handsets, Qualcomm on CDMA. In the process, they reinvented themselves not once but two or three times.
The strategic realignment of the NewCo may also be hampered by the economic patriotism temptation, which is present in both companies (particularly if one take into account the defense business of both companies.)
David Faber, the “Brain” from CNBC network, estimates the chances of success of the merger at 50%. He may be an optimist. Not that the NewCo will go bankrupt. But rather that it will struggle mightily to find new identity and positioning.