CASE STUDY-MORGAN STANLEY MERGER WITH DEAN WITTER ABSTRACT:
Philip J. Purcell took over as the Chief Executive Officer (CEO) of Morgan Stanley in 1997. Dean Witter Discover & Co was merged with Morgan Stanley in the same year. Although initially the company recorded robust performance, post 2000 the performance started deteriorating and the critics accused Purcell's strategic missteps as the reason. As a result, Purcell had to step down as the CEO of the company on June 13 th 2005. But his supporters were of the opinion that his strategies would have been successful eventually and he was merely a victim of circumstances. By 2005, Morgan Stanley was embroiled in governance and legal problems, which affected its business performance and financial position. A group of eight former executives of Morgan Stanley campaigned against Purcell leading to its ouster in June 2005. This case illustrates the role of top management and good governance in the success/failure of a merger.
A MEGA MERGER
On June 20, 2005, Morgan Stanley & Company (Morgan Stanley), one of the world's largest diversified financial services companies, announced that John Mack (Mack) would rejoin as Chairman and CEO of the company. Mack was brought back on the demand of employees and institutional investors after Philip J Purcell (Purcell), the erstwhile CEO and Chairman of the company, announced his retirement on June 13, 2005. The reasons for Purcell's exit were the widely publicized governance issues and his failure to reap the full benefits of the much hyped merger between Morgan Stanley and Dean Witter, Discover & Company (Dean Witter). On Mack's return, BusinessWeek said, "Mack's return to Morgan Stanley would mark one of the greatest comebacks in Wall Street history." The merger between Morgan Stanley and Dean Witter was announced in February 1997 and the entire exercise was completed on May 31, 1997, to form Morgan Stanley, Dean Witter, Discover & Company (Morgan Stanley Dean Witter).
This merger was the first such in the global financial services industry. The merged entity was a market leader in securities, asset management, and credit services, had a market capitalization of US$ 21 billion and assets under management at US$ 270 billion in mid-1997. As per the agreement, one share of Morgan Stanley was exchanged for 1.65 shares of Dean Witter. The merged entity was expected to benefit significantly since Morgan Stanley had an established range of corporate finance & investment banking products while Dean Witter had a strong distribution network. Morgan Stanley Dean Witter was to offer a range of products and services to clients at a low cost. The merger was expected to bring in revenues from businesses such as retail brokerage, asset management, and credit cards. Purcell from Dean Witter assumed charge as CEO of the merged entity, while Mack from Morgan Stanley was the President and Chief Operating Officer. After the merger, Purcell and Mack announced, "The combination of these three powerful and distinctive brands will create a global powerhouse with unmatched origination and distribution skills and a unique balance between institutional and individual investor capabilities." The stock markets reacted positively to the news. On the day the merger was announced, the Morgan Stanley stock rose by 14% to US$ 65.25 and that of Dean Witter by 5% to US$ 40.62. Ten months after the merger, the name 'Discover' was dropped and the company was called Morgan Stanley Dean Witter. Initially, the merger seemed to be successful. However, there were glaring differences between Morgan Stanley and Dean Witter, especially on the culture front, and these persisted. A few years after the merger, differences between Purcell and Mack came to light and this led to the ouster of Mack in 2001. The merged company could not escape the bear run in the market in the early 2000s. The total revenues of the company dropped from US$ 44.99 billion in 2000 to US$ 32.93 billion by 2002. Net revenues dropped from US$ 25.99 billion to US$ 19.07 billion during the same period. Purcell was also criticized for his management practices, which had led to the exodus of several key executives from Morgan Stanley. These events culminated in Mack returning to the company in 2005, replacing Purcell.
ISSUES:
»Examine the synergies of merger between Morgan Stanley and Dean Witter »Understand the reasons for the success of Morgan Stanley Dean Witter merger during its initial years »Study the role of top management in the success of a merger »Examine the nature of governance issues affecting the business performance of Morgan Stanley Dean Witter merger.
CASE ANANLYSIS
EXECUTIVE SUMMARY
Investment Banks are defined as financial intermediaries that focus on the capital raising needs of firms through the use of debt and equity. In this capacity, Investment Banking firms concentrate primarily on underwriting debt and equity issues, as well as provide valuable consulting information for other firms in need of merger and acquisition expertise. A co-petitive analysis provides the analytical framework for an industry to evaluate its key external relationships relative to the industry's customer base and supply inputs. Some customer competitors identified are investment banks offerings in the same markets, federal and municipal governments, and Big 6 accounting firms. Examples of supply competitors include commercial banks, private investors, and strategic consulting firms. Customer complementors consist of financial media, institutional investors, and software developers.
In determining "what matters" in the external environment, competitive, social/cultural, legal, economic, political, and technological forces are analyzed. Factors such as pressures for globalization, demographic trends, changing legal policies, and strong economies impact the investment banking industry. The opportunities and threats identified here are the critical success factors in the external environment that can help position the industry to be profitable.
The chief opportunities identified include the favorable economic environment that fosters mergers and acquisitions. Further, investment banks themselves have a unique window of opportunity to merge or acquire other investment banks which in turn promotes globalization. Erosion of the Glass-Steagall Act will provide long range opportunities for investment banks to diversify their offerings and lines of business.
BACKGROUND NOTE - MORGAN STANLEY
Morgan Stanley was founded in 1935 as an investment bank by Henry Morgan and Harold Stanley, former employees of JP Morgan, 6 after the Glass Steagall Act, which prevented financial institutions in the US from carrying out both commercial and investment banking activities, came into force. To comply with the Act, JP Morgan & Company had to split its securities and commercial banking businesses and this led to the establishment of Morgan Stanley as a separate entity.
THE MERGER
The origin of the merger can be traced back to 1995, when Morgan Stanley played a major role in the spin-off of Dean Witter Discover from Sears Roebuck & Company. Initially, Morgan Stanley considered a joint venture but later thought about a merger. However, the negotiations with Dean Witter made no headway. By the end of 1996, it was widely believed that NationsBank would be buying Boatmen's Bancshares and Citicorp was negotiating with American Express. These events pressured Morgan Stanley into seriously considering a merger with Dean Witter. In December 1996, Purcell invited Richard B. Fisher (Fisher), CEO of Morgan Stanley, and Mack, President of Morgan Stanley, for negotiations. After two months, the final deal emerged. Dean Witter was to acquire Morgan Stanley through an all stock deal, after which the shareholders of Morgan Stanley would own 45% of the combined entity. The ticker symbol would become MWD, a combination of Morgan Stanley's MS and Dean Witter's DWD.
POST MERGER DEVELOPMENTS
Defying the analysis of industry experts, the merger delivered positive results during the first three to four years. When the revenues for 1998 were considered, Morgan Stanley Dean Witter ranked tenth among the major financial services companies in the US. The company was ranked sixth in profits and topped the list as far as profit as a percentage of shareholders' equity was considered.
In the third quarter of 1998, the fixed income trading operations of Morgan Stanley were integrated with that of Dean Witter. The Dean Witter traders were sent to Morgan Stanley and the traders from Morgan Stanley made their displeasure about working with Dean Witter obvious. At the same time, Morgan Stanley's underwriting and trading departments and Dean Witter's retail brokerage department were asked to work together. In the retail preferred business, Morgan Stanley and Dean Witter had a share of 1% each in 1996. Retail preferreds were securities priced below US$ 25 per share, a segment which primarily catered to small investors.
THE TROUBLES BEGIN
In the third quarter of 2000, for the first time since the merger, Morgan Stanley Dean Witter missed the earnings estimates for two consecutive quarters. The reasons were many including lack of good IPOs and debt issues and the NASDAQ falling by 45%. According to the analysts, the US economy had started slowing down in 2000.
CULTURAL DIFFERENCES PERSIST
Purcell did not consider that cultural differences could be a major hindrance to the success of the merger. After the merger was announced, he said, "I think it's a mistake to spend too much time agonizing over cultural differences. They do exist, and when two companies merge, you've got to be aware of them and deal with them”.
An important part of leadership is simply picking the right people and then giving them the freedom they need to run our various businesses. To do that, you've got to make sure you establish a great deal of trust and mutual respect." Purcell's belief notwithstanding, there were significant cultural differences between the two companies.
THE SLOW DOWN
In 2001, the US economy was witnessing a major slowdown. The market for IPOs and mergers and acquisitions dropped considerably compared to 2000. Globally, the M&A activity was down by 51% to US$ 918 billion compared to US$ 1891 billion in 2000. The IPO activity also witnessed a downturn by 57% with 91 IPOs raising US$ 41.25 billion in 2001 against 441 IPOs raising US$ 108.15 billion in 2000.
GOVERNANCE PROBLEMS
While Morgan Stanley was performing badly in the early 2000s, Purcell concentrated on strengthening his position in the company. When Morgan Stanley's loyalists like Fisher retired from the board, Purcell brought in several of his old associates and friends from Sears and the erstwhile Dean Witter Discover. After the internal power struggle, in January 2001, Mack left amidst rumors that his departure had been forced by Purcell with the support of the company's board. In the next couple of years, Morgan Stanley became involved in several legal issues and under Purcell's reign, it became one of the least compliant securities firms.
THE CHALLENGES
Mack had several challenges ahead of him. On the challenges he faced, Fortune wrote, "So his top priority must be to resolve the long-festering culture clash - dating from the 1997 Morgan-Dean Witter merger - that contributed to the downfall of predecessor Phil Purcell. He also needs to revive several important operations, including a stagnant Discover card business, a disappointing brokerage arm, and a lagging asset-management unit."
DISCUSSION
The case discusses the merger of one of the largest investment banks in the US - Morgan Stanley with Dean Witter, Discover & Company, a retail firm specializing in stock brokerage, asset management and credit cards in 1997. Though analysts raised doubts about the success of the merger, initially the merger proved to be successful placing Morgan Stanley Dean Witter among the top investment banking and financial services companies. However, in the early 2000s, with the slowdown in the US economy, the merged entity reported declining revenues and profits and exodus of key top management personnel. Every merger although much hyped can still be struck with the bear run of the market. Reasons undefined accurately remain as a matter of debate. For most reasons quoted as the inefficiency of the top management may not solely contribute to the downfall or failure of a merger. Members leaving the board, global activity reducing by 51%, governance issues, slack in over 25% of share price and cultural differences made Morgan Stanley Merger one of the most talked about issues. Yet, according to the RBI report, JP Morgan tops the chart while rating the best Foreign Banks in terms of efficiency, soundness and strength.
Case Study: Disney Buys Pixar
In the wake of a stagnating share price, Walt Disney Corporation (Disney) sought to revive its animation capabilities as investors flocked to more successful animation studios such as Pixar Animation Studios (Pixar) and DreamWorks Inc. Disney's efforts in animated films in recent years have been disappointing. In an industry in which creative talent rules, Disney had simply not been able to assemble the right combination of talent in an environment conducive to creating blockbuster animation films. Disney and Pixar had been
in a joint venture involving three pictures since 1991, in which Disney shared the production costs and profits. Disney benefited from Pixar's success by cofinancing and distributing Pixar films. Talks to extend this arrangement disintegrated in 2004 due to the failure of Pixar CEO Steve Jobs and Disney CEO Michael Eisner to reach agreement on allowing Pixar to own films it produces in the future. With the current distribution agreement set to expire in June 2006, Robert Iger, Eisner's replacement, moved to repair the relationship with Pixar. Consequently, a deal that was unthinkable a few years earlier became possible. Disney announced the acquisition of Pixar, one of the most successful moviemakers in Hollywood history, on January 25, 2006. The move reflected Disney's desire to infuse the firm's internal animation resources with those from a proven animation company. A key Disney strategy is to use popular Disney movie characters across different venues (i.e., theme parks, merchandise, and television). Disney exchanged its stock for Pixar shares in a deal valued at $7.4 billion for the Pixar stock or $6.4 billion including $1 billion of Pixar cash that Disney would receive. Despite near-term dilution of Disney's earnings per share by as much as 10 percent, investors seem focused on the long-term impact to growth in Disney's shares. Disney's shares rose 1 percent on news of the announcement. Nevertheless, the risk associated with the transaction can be measured in terms of what Disney could have done with cash raised by issuing the same number of new shares to the public. At $6.4 billion, Disney could make 64 sequels at $100 million each. Moreover, Disney was probably paying top dollar for Pixar, as the filmmaker was coming off a string of six consecutive movie blockbusters. Finally, revenue from DVD sales might have been maturing. The long-term success of the combination hinges on the ability of the two firms to meld their corporate cultures without losing Pixar's creative capabilities. Pixar president, Ed Catmull would become president of the combined Pixar–Disney animation business. John Lasseter, Pixar's creative director, would assume the role of chief creative officer of the combined firms, helping to design attractions for the theme parks and advising Disney's Imagineering division. In an effort to insulate the Pixar culture from the Disney culture, Pixar would remain based in Emeryville, California, far from Disney's Burbank, California, headquarters. As a condition of the closing, all key Pixar employees would have to sign long-term employment contracts. As part of the deal, Pixar chairman and chief executive Steve Jobs, holder of 50.6 percent of Pixar stock, would become Disney's largest individual shareholder, at about 6.5 percent of Disney stock, and a member of Disney's
board of directors. Jobs's advice was hoped to rejuvenate the Disney board at a time when the entertainment industry was scrambling to reinvent itself in the digital age. Jobs, who is also the chairman and CEO of Apple Computer Inc. (Apple), is in a position to apply Apple's substantial technical skills to Disney's animation efforts. It is unclear if Disney could not have achieved many of these benefits at a much lower cost by partnering with Pixar and offering Steve Jobs a seat on the Disney board. Ultimately, the opportunity to prevent Pixar's acquisition by a competitor may have been the primary reason why Disney moved so aggressively to acquire the animation powerhouse.
