iBusiness, 2011, 3, 5-15

doi:10.4236/ib.2011.31002 Published Online March 2011 (http://www.SciRP.org/journal/ib)

Strategic Analysis of Synergistic Effect on M&A of

Volvo Car Corporation by Geely Automobile
Xia Zhou, Xiuzhi Zhang
School of Economic and Management, Jiangxi University of Science and Technology, Ganzhou, China.
Email: [email protected],[email protected]

Received September 24th, 2010; revised October 25th, 2010; accepted November 7th, 2010.

ABSTRACT
Strategic M&A is focused on the development of enterprises within the same industry or related industries and has mul-
tiple effects such as economies of scale, structural integration of upstream and downstream industry chain, powerful
alliances and complementary advantages. A major motivation of strategic M&A is the synergistic effect. In the upsurge
of M&A at home and abroad, failed to achieve the synergistic effect is one of the important reasons of a high failure
rate of M&A. This paper probes into the example of Geely Automobile’s M&A of Swedish Volvo Car Corporation in
March 2010 from a strategic angle by analyzing the strategic decision-making, the competitive environment, the me-
chanism of action, the evaluation and the realization risks of the synergistic effect, thus to provide references for the
M&A practice of Chinese enterprises.

Keywords: Strategic Perspective, M&A, Synergistic Effect

1. Introduction In recent years, China’s automobile industry is very

active in M&A, this paper take Zhejiang Geely Holding
Strategic M&A is a complex business involving great
Group’s (hereinafter to be referred as Geely) M&A of
risk. Huge losses are often due to the errors in strategic
Sweden’s Volvo Car Corporation(hereinafter to be re-
decision-making. Understanding and evaluating the syn-
ferred as Volvo) for example to analyze M&A synergies
ergistic effect is very necessary for those companies
which want to grow up through strategic M&A, because from a strategic perspective. Geely is a large-scale pri-
it is not only the basis to determine the feasibility of vate enterprise of China which mainly produces motor
M&A, but also the basis for the set of transaction price, vehicles and parts. Volvo was founded in 1927, which is
and to a extent, it determines the success or failure of one of the world’s 20 largest automobile companies and
strategic M&A. At present, domestic M&A activities are enjoys high prestige in excellent quality and performance
lack of the guidance of strategic thinking and the study of in northern Europe, especially known for its safety and
domestic scholars on synergistic effect from a strategic environmental protection. At present, Volvo has nine
perspective are relatively less. In addition, M&A activi- series of automobile brands, three new intellectual prop-
ties of companies have high risks, according to the for- erty platform and more than 2,000 sales outlets world-
mula “M&A synergistic effect = acquisition premium + wide. If Geely’s M&A of Volvo is successful, it will
the net present value of M&A”, even in the case of ze- have historic direct effect to promoting the growth of
ro-premium, the companies still need to meet certain China’s automobile industry and change the pattern of
necessary competitive conditions as well as the basic future global automotive industry. Based on the above
requirements for synergistic effect, otherwise, the com- favorable considerations, Geely acquired 100% equity
panies will be hard to avoid falling into the “synergy stake of Swedish Volvo in March 2010 successfully. This
trap” [1,2]. Therefore, the main purpose of this paper is paper is appropriately amended as needed based on the
to make an analyze on strategic decision, competitive original case.
environment, mechanisms of action, the evaluation and 2. Strategic Decision Analysis of Synergistic
realization risks of the synergistic effect from a strategic Effect
perspective, thus to provide references for Chinese com-
panies to better achieve strategic M&A synergies [3]. M&A is a high-risk activity, great loss often springs from

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6 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile

strategic decision mistakes, and therefore, the company’s uct may be advanced “absorber” or advanced “producer”,
management must first clearly define the enterprise’s which primarily depends on the amount of money needed
development strategy and have to launch an investigation to invest to maintain the market share. If the product can
into the acquired enterprise’s business and resources achieve a certain economies of scale, it will eventually
[4-6]. In the development of M&A strategy, we can use change to “Cash cows” and Geely must ensure that its
some appropriate models to support M&A decision such market share do not suffer erosion. Such strategic analy-
as BCG Matrix, PIMS methods and Directional Policy sis tools will be conducive to make a more reasonable
Matrix. The BCG matrix analysis of Geely’s strategic M&A decision for Geely.
M&A can be represented as shown in Figure 1.
3. Competitive Environment Analysis of
As Volvo is one of the world’s 20 largest automobile
Synergistic Effect
companies, it has a huge market capacity and a relatively
higher market increase rate. However, because of the According to Mark L Sirower’s (1997) theory, “Syner-
global financial crisis in 2008, Volvo had huge losses last gistic effect” must be taken into account in the competi-
year due to poor management. In 2009, the total sales of tive environment [7,8]. M&A must meet one of the fol-
Volvo was only 218.4 billion SEK (1 U.S. dollar equals lowing two points to achieve synergistic effect and ob-
7.5 SEK), compared with 2008, its total sales reduced by tain M&A earnings. First, the acquirer must be able to
nearly 30%, which caused Volvo a huge loss of 14.7 bil- restrict the competitive threat of the current and potential
lion SEK. Thus for Geely, Volvo belongs to the “Ques- competitors in the input market, the production process
tion marks” and can be indicated with solid line box in or the output market; second, the acquirer must be able to
Figure 1. At this time, there need to input a large number open up new markets or invade and occupy the market of
of fixed capital and working capital. Geely should use its competitors who can’t react. Thus, before the analysis
appropriate means of financing to obtain sufficient funds of M&A synergies, we should first analyze the competi-
to meet the growth of its market share. With regard to the tive environment of Geely. Competitive environment
capital source of Geely’s M&A of Volvo and the subse- analysis of synergistic effect mainly includes two aspects:
quent provision of huge working capital, the M&A pur- the analysis of industry barriers to entry and the analysis
chase price of Volvo is 1.8 billion dollars, plus follow-up of competitive situation.
liquid capital, Geely has prepared to provide a total of
3.1. Analysis of the Industry Barriers to Entry
2.7 billion dollars. Half of these funds were funded
through domestic financing, the rest of the funds were The industry barriers to entry can be analyzed from the
foreign capital mainly coming from the United States, need for capital, operating scale, technological content
Europe and Hong Kong. and cost disadvantages independent of scale, as shown in
If the demand for Volvo’s automobile continues to Figure 2.
grow, after Geely’s M&A, Geely’s production capacity 1) Fund demand.
will increase substantially and new Volvo production As for cost competitiveness, Geely’s capacity planning
bases will be built at home. If Geely can be able to suc- is unavoidable and its capital cost will be higher and
cessfully solve the market digestive problems which higher. As the automobile industry is capital-intensive
caused by the excess production capacity, its relative industry, its R&D and the construction of production
market share will be greatly improved and the product lines will face a high financial barrier. At present, Geely
will be gradually changed to the “Stars” and can be indi- expands its production capacity in a “great leap forward”
cated with dotted box in Figure 1. At this time, the prod- way, it has established production bases in Linhai, Zhe-
jiang, Ningbo, Shanghai, Lanzhou, Xiangtan, Jinan, etc.
According to Geely’s current base construction devel-
opment plan, by 2010, Geely’s production capacity

Figure 1. BCG matrix analysis of Geely automobile’s stra-

tegic M&A. Figure 2. Analysis of automobile industry barriers to entry.

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 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile 7

will break 1 million vehicles and by 2015 reach 2 million. of Korean headquarters of SAIC in the name of “leak
Relevant data show that in addition to 1.8 billion dollars core technology”. In the financial crisis, the continued
of M&A, Geely also need 1.5 billion dollars of liquid loss of Ssangyong finally dragged down SAIC, in Janu-
capital. The 1.8 billion dollars acquisition funds and the ary 2009, SAIC filed for bankruptcy protection in Seoul
huge capital loans will certainly exert financial pressure District Court and give up the management of Ssangyong.
on the operation of Geely. Therefore, whether Geely can achieve bigger break-
2) Scale of operation. through on technology after M&A will be difficult to
Whether Geely can produce in large scale is a key identify.
factor in the success of its production. Because the au- 4) Cost disadvantages independent of scale.
tomobile’s R&D costs are very high and there are appro- According to the strategy theory of Michael Baud, the
priate costs of management, procurement and sales, Geely acquired enterprises have cost advantages which were
must produce in large scale, otherwise, the costs will be formed by means of experience accumulation and learn-
difficult to be amortized. After Geely’s M&A of Volvo, ing curve. But Chinese automotive industry operates by a
Geely will face numerous difficulties in product planning, way of high-cost, and there are still some barriers in get-
site selection, the split with Chang’an Ford’s products, ting the advanced experience. The factors of cost disad-
whether the fund flow is smooth and the variables in the vantages independent of scale also include patent right,
domestic market. These problems may lead to the failure government subsidies and price inflation of equipment
of the M&A in all probability. Geely’s self-confidence purchase which is caused by the changes in exchange
seems to come from the infinite Chinese automobile mar- rates. Geely have had overseas experience in restructur-
ket. Volvo has top 20 largest independent automobile ing and M&A of British Manganese Bronze company
parts suppliers, among them, 16 suppliers have set up and Australian DSI automatic transmission company,
factories in China. Through additional supporting facto- however, this time Geely mergered 100% equity stake of
ries in China, Geely is expected to reduce procurement Volvo is a very huge project, including Volvo’s R&D
costs at least 1.2 billion dollars within 5 years. However, team, manufacture base, distribution channels, corporate
to form a new plant, Geely need at least 1 and a half debt and the reallocating of nearly 20,000 employees,
years, this should be the most difficult transition period this can not be compared with the previously M&A of
after its M&A of Volvo. Shufu Li, the president of Geely, Manganese Bronze and DSI to Geely, who hasn’t any
who claimed that Volvo would be profitable in 2011 experiences in manufacture and management of luxury
seems to be unbelievable. vehicles, the cost disadvantages independent of scale is
3) Technological content. obvious.
Volvo is “the most secure vehicles” in the eyes of From the above analysis we can see that there are high
consumers. Through M&A of Volvo, Geely can absorb barriers to entry in automobile industry. Whether Geely
Volvo’s patented technology and expertise to enhance its can resist the pressure of competition and open up new
technical strength and development capabilities, and at markets depends on the strength of the industry’s major
the same time to obtain fat profits of brand premium competitors. This indicator can be measured by market
[9,10]. But the problem is that Geely’s desire to acquire share. From January to May in 2010, the sales of Volvo
technology through M&A may not realize. First, in order in China surged by 108% and led the luxury vehicles
to protect their own interests, the host government, the market. China has become the world’s fourth largest
acquired companies and its trade unions representing the market for Volvo. Globally, from January to April in
interests of the parties may establish harsh restricted 2010, the sales of Volvo increased by 26.5%, which in-
conditions of technology transfer and will carry out strict dicates that after M&A, the growth of Volvo is not only
surveillance in the future; second, even if Geely obtain weakened, but also obtains considerable progress. How-
Volvo’s technology at the best price successfully, this ever, the current market in Europe has entered the drop
can not substitute its self-absorption and subsequent de- period after spur growth, such situation will not condu-
velopment. If Chinese companies can not form a suffi- cive to Volvo’s rapidly reduce losses and increase profits,
ciently strong international competitiveness in technol- and long-term depression may made Volvo more depre-
ogy development, Geely’s plan to improve R&D capac- ciatory, thus go against Geely’s capital gain. With the
ity through M&A will likely come to nothing eventually. recovery of the euro zone economy and the strength of
In 2004, SAIC Group spends 612 billion won (about 500 U.S. dollar gradually winding down, the drop of the
million dollars) in M&A of 51% equity stake of South competitiveness of traditional industries in the euro area
Korea’s fifth-largest car maker Ssangyong Motor. Af- will exert a tremendous influence on Volvo’s exports.
terwards, SAIC and Ssangyong union disputed many The shrinking market is still the biggest problem to Gee-
times, South Korean prosecutors also conducted a search ly’s changing the fate of Volvo.

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8 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile

3.2. Analysis on the Competitive Situation within extensive and efficient management resources through
the Industry new permutations and combinations after M&A to im-
prove the existing management and finally increase the
Although Geely is the industry leader in the domestic
revenue. Geely’s M&A of Volvo belongs to horizontal
market, comparing with Japan, Germany and the United
M&A and its main purpose is to obtain scale effect, ba-
States, there is a considerable gap in its production tech-
sically reflect the management synergy. The mechanism
nology, market capacity and innovation ability. Whether
of management synergy can be manifested mainly in the
Geely can achieve synergistic effect through M&A de-
pends on its ability to get core competitiveness. Therefore, following aspects. First, Geely can make greater use of
we need to analyze what factors constitute the company’s production capacity and improve production efficiency.
core competencies and whether the companies can get core Second, through the M&A of Volvo, Geely can expand
competitiveness through M&A activities [11]. Factors of scale, thereby increasing the production equipment and
core competencies include the following aspects. the labor force, thus improve the production efficiency.
1) Determining the scope of business. Third, M&A activities will enable Geely to get part of
Experience in the industry shows that most of the ma- Volvo’s excellent management resources to achieve its
jor markets in the automotive industry are in a state of learning effect.
over-competition, the time that only rely on market growth 4.2. Operating Synergy
to survive has passed. The first core competitiveness is
how to determine the scope of business clearly and accu- Operating synergy refers to the improvement of produc-
rately. tion and operation efficiency of enterprises which caused
2) Mastering the core technology. by economies of scale and economy of scope after M&A.
The important features of the automotive industry are Through M&A, Geely’s operating synergy can be mani-
the ever-changing technology and its rapid upgrade. En- fested mainly in the following aspects. First, get some of
terprises which can not be unable to master core tech- the market of Volvo, provide special production service
nology will be eliminated from the stage of international to different customer or market, use uniform distribution
development. channels to sell products and save marketing expenses.
3) The ability to attract and retain high-tech talents. Second, the fund of Geely will focus on R&D which can
Automotive industry competition for talent is very in- help to further promote the formation of Geely’s core
tense and to attract and retain talent is the key success competitiveness, launch new product rapidly and form
factor in the industry. If Geely can acquire a company or the root causes of synergies.
business unit which has technical advantages and can 4.3. Financial Synergy
attract highly qualified technical personnel, it will be able
to form core competitiveness. The synergistic effect of Financial synergy refers to the financial benefits gener-
strategic M&A is the result of the formation and spread ated by M&A transaction. It is a net cash flow on bene-
of core competitiveness. fits which are caused by tax laws, accounting standards
As the shareholder owning 100 percent of the stock of and other provisions of the securities and exchange.
Volvo, Geely can obtain Volvo’s key technology, the use Since there are differences in the capital structure be-
rights of its intellectual property and at the same time tween Geely and Volvo, this situation may produce the
stay abreast of Ford’s developments. These favorable following financial synergy effect. First, according to the
conditions have a great significance to personnel training tax law, different tax rate should be applied to different
and technological upgrading of Geely. Although Volvo’s types of assets. Geely may achieve a reasonable tax
core technology can not be easily obtained, the technical avoidance synergy through M&A. Second, M&A may
exchange and operation such as production base transfer produce the expected effects such as the increase of the
and adaptive improvement will certainly improve Gee- stock price and the price-earning ratio [12]. The expected
ly’s manufacturing level and design conception remarka- effects have a great influence on M&A. As the scale of
bly. Taking the advantage of Volvo’s automotive safety M&A side are often large, when the acquirement is car-
technique is the key element of Geely’s M&A strategy. ried out through share transaction, its price-earnings ratio
In the future, safety performance will be made as one of is often used as the price-earnings ratio of the combined
the core competitiveness of Geely’s products. companies after M&A, which may lead to the increase of
4. Analysis of the Mechanism of Synergistic stock prices and make the market worth more than the
Effect sum of the worth of two companies before M&A. But in
the weak form efficient market, this effect may not occur
4.1. Management Synergy [13].
Management synergy refers that the companies use its The above analysis belongs to the synergistic effect of

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 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile 9

tangible assets. In addition, Geely is also possible to help to develop Geely’s new products and improve its
achieve some synergistic effects of intangible assets such profitability. The following estimate values are predicted
as technology synergy, brand synergy and cultural syn- from the financial data of Geely and Volvo after M&A, it
ergy. According to “dynamic synergy” theory, if a com- reflects the results of the above qualitative analysis (see
pany achieves synergistic effect of intangible assets Table 2).
through M&A, it can get inexhaustible source of com- Then we can use the internal model approach to evalu-
petitive advantage. ate the M&A synergistic effect (namely the added value
of the combined company after M&A). The steps of syn-
5. Evaluation on Synergistic Effect ergistic effect evaluation are as follows.
Volvo is one of the world’s major automobile manufac- 1) Calculating new  value of the combined company.
turers. Currently, as losses year by year, Ford which has To simplify the calculation, we assume that the new 
a controlling stake in Volvo intends to carry out indus- value (  GV ) of the combined company is the weighted
trial restructuring and sell the stake of Volvo. In Sep- average  value of each component corporate, then put
tember 2009, Geely participated in the bid for Volvo, and the new  value into capital asset pricing model
in March 2010, Geely successfully mergered 100% eq- (CAPM) to obtain the cost of equity capital of the com-
uity stake of Volvo. bined company ( KSGV ).
For convenience of the calculation of synergistic effect SGeely SVolvo
evaluation, the information assumptions of relevant pa-  GV  Geely  +Volvo  (1)
rameters in the market of Geely and Volvo are as follows: SGeely +SVolvo SGeely +SVolvo
the risk free rate R f  6% , the expected rate of market
KSGV  R f   E  Rm   R f   GV (2)
E  Rm   11% , each company’s debt interest rate, KB 
According to the known conditions, Table 1, Formulas
10% , the income tax rate T  40% , the expected super-
(1) and (2), we can obtain the result:
normal growth per iod n  10 , r isk coefficien t
 Geely  1.2, Volvo  1.4 . GV  1.2 
3300
+1.4 
1800
=1.27
We select 2009 financial reports published by Geely 3300+1800 3300+1800
and Volvo and made analysis on the data which were KSGV  6%  11%  6%   1.27  12.35%
important and relatively easier to obtain. The following
are relevant financial quantitative data of the two compa- 2) Calculating WACC of the combined company.
nies (see Table 1), for ease of calculation, the data are According to the known debt interest rate KB  10% ,
modified moderately according to the raw data [14,15]. assume that the rate is unchanging after M&A, according
For synergistic effect evaluation, it is necessary to to the above calculation result of the cost of equity capi-
predict the important variables influencing the company tal, we can obtain the weighted average cost of capital
value after M&A. This requires in-depth analysis of each ( WACC ). We first give the simple balance sheet of the
M&A program according to the evaluation factors. Be- combined company after M&A (see Table 3).
cause there is a strong correlation between the business Then we can calculate the weighted average cost of
of Geely and Volvo, considering complementation and capital ( WACC ):
promotion of management ability, production technology E B
WACC  KSGV   KB  1  T   (3)
and marketing channels, Geely’s M&A of Volvo will V V
According to Formula (2), we can obtain the result:
Table 1. Relevant financial quantitative data of Geely and WACC
Volvo in 2009. (Monetary unit: millions of dollars).
9900   25800
Company
=12.35%  +10%  1 50%   =7.04%
Financial index 35700   35700
Geely Volvo
Debt 1800 24000 Table 2. Forecast of the key parameters of the combined
company of Geely and Volvo.
Equity capital 900 9000
Total assets 2700 33000 Net operating income Net investment Growth
Financial (millions of dollars) rate rate
Operating income 1800 12800 index x0 gs
b
Net profit 1180 –653 Combined
Total market value of capital ( S ) 3300 1800 Company 240 0.9 0.4
( GV )
Source: financial reports published by Geely and Volvo in 2009

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10 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile

Table 3. Simple balance sheet of the combined company Table 4. Simple evaluation on synergistic effect. (Monetary
after M&A. (Monetary unit: millions of dollars). unit: millions of dollars).
combined company combined company
Financial index Financial index
after M&A(GW) after M&A(GW)
Debt ( B ) 25800 Value of combined company 31493
Equity capital ( E ) 9900 Less: Debt ( B ) 25800
Total assets ( V  B  E ) 35700 Equity capital after M&A ( E ) 5693
Source: financial reports published by Geely and Volvo in 2009 Less: Total market value of capital of Geely 3300
Less: Total market value of capital of Volvo 1800
3) Calculating the value of the combined company. Incremental Value(Synergistic effect) 593
According to Waston model, we can use the evaluation
model of zero growth after supernormal growth period to
evaluate the value of the combined company after M&A, stances. In order to make the prediction more close to
according to the known conditions, the expected super- reality, it is necessary to give in-depth study of relevant
normal growth period is 10 years. The formula is as fol- product market and the consequences of organizational
lows: merger. But even so, the error of predictive results usu-
ally occurs unavoidably and sometimes the margin of
1  gs  x0 1  T 1  gs 
i n 1
n
 x0 1  T 1  b  
error is very large, thus lead to less accurate of the pre-
VGV 
i 1 1  r  r 1  r 
i n
dictive results. Therefore, we should combine with other
evaluation methods to predict reasonable synergistic ef-
(4) fect gains, so as to provide the scientific basis for infor-
According to Formula (3), we can obtain the result: mation users to make proper strategic M&A decision.
1  0.4 
i
10
VGV  240 1  40% 1  0.9   6. Risks Analysis of the Realization of
1  0.0704 
i
i 1 Synergistic Effect
500 1  50% 1  0.4 
11
The risks of the realization of synergistic effect refers to
  31493
0.0704 1  0.0704  the uncertainty of the increment of corporation value and
10

the performance of strategic M&A. Such risks always

According to the above calculation results, we can exist throughout the whole process of synergistic effect
make simple evaluation on the synergistic effect of the realization. From the view of the root causes of the risks,
combined company after M&A (GW) (see Table 4). such risks can be divided into internal risks and external
From the calculation results we can see that Geely’s risks, as shown in Figure 3.
M&A of Volvo may generate the value-added (synergis-
tic effect) of 593 million dollars. The M&A synergistic
effect is positive number and meet the basic conditions of
M&A ( VGV  VGeely  VVolvo ). At the same time, we should
consider the realization cost of M&A, which include the
M&A integration costs and pre-acquisition costs. The
maximum payment of Geely’s M&A of Volvo is the
value-added of synergistic effect subtract the realization
costs of M&A.
The above analysis shows that when Geely make a
strategic decision on M&A, the synergistic effect evalua-
tion on value-added can help decision makers determine
the feasibility of different M&A schemes, thus provide
basis for setting price ceiling of M&A. During the proc-
ess of evaluation, it is usually required to give reasonable
evaluation on the expected return and risk of the com-
bined company in different M&A schemes. Although we
can use historical data as the basis for variable values, we
still must predict the earnings, growth and the risk of the
combined company according to different M&A circum- Figure 3. Risks of the realization of synergistic effect.

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 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile 11

6.1. Internal Risks nology can not achieve the expected synergy after M&A.
For example, the M&A side usually wants to implement
Internal risks mainly refer to the synergistic effect of diversification through M&A so as to enter new areas,
risks which is caused by M&A transactions and integra- when the growth of the new areas are faced with obsta-
tion. Synergistic effect of internal risks mainly includes cles, it often makes M&A activities in trouble. Second,
financial risk, integration risk, anti-M&A risk, princi- the integration of personnel, institution and culture after
pal-agent risk and asymmetric information risk. M&A. If the enterprise can not make effective integra-
1) Financial risk. tion according to the designed M&A plan, this will lead
M&A often requires large amounts of capital, how to to the conflict of personnel, institution and cultural be-
raise funds in short term is very important. In this case, tween new and old enterprises and resulting in internal
Geely can use cash, stock or debt financing for the M&A. friction. Third, the impact of M&A on business relation-
Either way, there are great risks. If Geely use cash to ships, such as the impact on customers and suppliers.
complete the M&A, there will have the following short- M&A might cause deterioration in external business re-
comings: first of all, a one-time large amount of cash lationship and lose some customers and suppliers, thus
outflow for M&A will cause intense pressure on the lead to the increase of enterprise’s operating costs and
production and management of the enterprise. Second, reduction its profitability.
the trade size will be restricted by the ability to obtain There are great differences in ideology, cultural and
cash and lead to the failure of a large-scale M&A. social background, thinking mode between China and
Moreover, the merged side may not like cash payment, western countries. Volvo has a series of problems of pen-
because they can not get the new company’s equity, this sion gap and liabilities, apart from these technical prob-
situation will also lead to M&A risks. However, lever- lems, cultural conflicts also can not be evaded. Volvo is a
aged acquisition is to bear greater risks. Although ini- luxury automobile brand in Sweden. Swedish trade un-
tially leveraged acquisition can achieve desired economic ions are known as “the world’s toughest workers” and
benefits by paying a small price, but the repayment of “the Northern Europe’s most powerful trade unions”,
debt will give the enterprises serious pressure after M&A. whether Geely can lay down reasonable rules and regula-
According to the mid-year report of Geely in 2009, its tions according to the legal and cultural differences be-
total liabilities were 7.0 billion yuan RMB, and the total tween the two countries will be the key to success after
assets were 13.67 billion yuan RMB, the debt ratio was the M&A In early years, some M&As such as TCL ac-
51.2%, the liquid capital was 1.88 billion yuan RMB. quired French Thomson in 2004 and BAIC’s acquisi-
After financing from Goldman Sachs in the United States, tion of Saab and Opel owned by AM General in 2009
the debt ratio of Geely was as high as 69%, more than the have all been considered to be viable acquisitions, but
international alert level of 65%. The key to success of eventually failed in “integration”. Also similar to
Geely’s M&A of Volvo is debt financing. Otherwise, Lenovo’s acquisition of IBM, is still in a difficult cultural
Geely will be heavily in debt and near trouble itself. integration at present.
There are many examples of the bankruptcy of the “ad- In order to avoid integration risk, Geely should first
vantage” enterprises which could not pay the principal develop comprehensive integration plan to determine
and interest after heavy borrowing. how to integrate strategic resources, business processes
In order to avoid financial risk, Geely should establish and core competencies of both sides so as to achieve the
a financial early-warning index system, which include strategic objectives of M&A. Second, in the establish-
short-term liquidity financial ratios such as liquidity ratio ment of new business framework and organizational sys-
< 2, quick ratio < 1, cash ratio < 30% and long-term li- tem, Geely should be committed to the formation of core
quidity financial ratios such as asset-liability ratio > 60%, competitiveness, peel off unrelated or risky businesses.
time interest earned ratio < 1.5. In addition, the acquiring Third, the acquiring company should choose positive,
company should have plenty of cash flow, make sure that effective communication methods and channels such as
investment can be matched with financing and avoid communication between the management of both sides,
short-term financing for long-term investment. communication between management and employees,
2) Integration risk. communication between the company and other external
According to a survey on the failure of M&A of Bain stakeholders. Four, Geely should pay attention to cross-
& Company, about 80% of M&A failures are caused by culture management, fully understand cultural background
enterprise integration failures and only about 20% appear and folkways of the target company, thus to form a new
in the pre-transaction phase of M&A [16-18]. In this case, corporate culture through effective integration based on
the M&A integration risk of Geely manifested mainly in mutual respect and trust.
the following three aspects: first, production and tech- 3) Anti-M&A risk.

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12 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile

Under normal circumstances, the merged enterprise’s in M&A decision is very dangerous.
attitude of M&A is uncooperative. Because the merged As Geely is a listed company, the relationship between
enterprises are usually inferior enterprises, they will find its manager and corporate owners is principal-agent rela-
ways to stop M&A. Such practices will greatly increase tionship. The company management might pursuit com-
the M&A risks [19-22]. In addition, under the modern pany expansion for their own interests to show their per-
corporate governance structure, a successful M&A must formance. They have information superiority and might
first be accepted by enterprise management, then adopted agreed on the unreasonable terms of the target company
by the board of directors in the enterprise, at last obtain without considering its own financial and operating con-
the consent of the large, small and medium-sized inves- ditions. This conduct will increase the realization cost of
tors. synergy and reduced synergy benefits.
In this case, the original Volvo’s manager and techni- In order to avoid principal-agent risk, Geely should
cian will probably reject Geely’s M&A, because they first conduct rigorous project selection and establish a
might lose the original management position and their scientific feasibility research system. Second, Geely
vested interests. They might try to prevent the integration should set up a more complete corporate governance
after M&A, thus reduce the synergistic effect and lead to structure and control mechanism, the operators should
anti-M&A risk. In addition, if Geely’s acquisition offer is report accurate and abundant information of M&A to the
accepted by the majority shareholder of Volvo, for in- board of directors timely and the board of directors
stance, there are 40% of the circulated stockholders who should provide effective supervision on the M&A man-
agree on the offer, but some small shareholders are str- agement layer. Third, the board of directors should offer
ongly opposed to it and require Geely to raise its offer, incentives to the managers and other stakeholders of
such situation may also lead to anti-M&A risks and re- M&A, such as linking their income with M&A effective,
duce the M&A synergies. Another anti-M&A case such presenting them stock options, such measures will en-
as Aluminum Corp of China’s investment in Australia’s courage them to make a favorable M&A decision and
third-largest mining company Rio Tinto in 2009. In June focus on integrated management of the company after
2010, Rio Tinto suddenly renounced the plan of capital M&A [23,24].
injection of 19.5 billion dollars in Aluminum Corp of 5) Asymmetric information risk.
China and determined to pay rationed shares of 15.2 bil- In the market mechanism of incomplete competition,
lion dollars to set up iron ore joint venture with BHP the problem of information asymmetry is quite general.
Billiton. During the course of strong company’s acquisition of
In order to avoid anti-M&A risk, Geely can adopt the target company, the target company’s executives might
measures of competing for shareholder vote, launching conceal the facts such as enterprise’s hidden losses of
media offensive, placate the trade unions and customers contingent liability and the true value of patents to
to reduce the resistance of anti-M&A action of the target achieve their private intentions. They might also collude
company. Furthermore, for possible conflicts of interest, with the agency or the insider of the strong enterprise to
United States, Britain, Hong Kong, Germany, the Euro- make false information so that the policy makers of the
pean Community and other countries and regions place merging side might make wrong decisions [25]. In this
strict limits on anti-takeover measures of the target com- case, due to the global financial crisis, part of the Vol-
pany. For example, the “Business Judgment Rule” of vo’s clients in the market has been badly hit, the man-
United States, the “City Code” of Britain and Hong Kong, agement of Volvo might conceal their hidden losses of
the “Merger and Acquisition Regulations” of Germany liabilities and the true value of intangible assets, thus
and the 13th Directive of EU Company Law are all in- lead Geely to make wrong decisions.
clude restrictions on the anti-takeover measures of the In order to avoid asymmetric information risk, Geely
target company. These restrictions relatively reduce the should forecast synergy reasonably and avoid over-
difficulty of M&A. payment. To prevent over-payment, Geely should first
4) Principal-agent risk. optimize company’s governance structure and implement
Currently, the property right of many China’s state- a performance management system linked to the reward
owned enterprises is not clear, the appointment and re- system, thus to reduce the losses caused by information
moval of the key management personnel are mainly asymmetry. Second, Geely should invest in stages to
based on China’s administrative structure. For pursuing reduce the risk, on the one hand, to test the tacit coopera-
business expansion, the senior executives with informa- tion of the two sides, on the other hand, to disperse risks
tion superiority might ignore the interests of shareholders effectively. Third, the government should play a positive
to meet the needs of their individual fame and fortune. role in M&A. The government may grant the acquiring
The “out of control” risk of principal-agent relationship company a favorable financial environment and reason-

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 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile 13

able “rules of the game”, thus to ensure the standard be- lated laws, if the acquirer holds 5% of a listed company’s
havior in investment and interests of the parties [26]. shares, it must notice and suspend trading, for each 2%
subsequent increment, it is necessary to repeat the proc-
6.2. External Risks
ess, if holding 30% of the shares, it must launch a com-
As synergistic effect is based on certain of development prehensive tender offer. This provision leads to great
strategy and the formulation of such a development increase of the acquisition costs and M&A risk. Thirdly,
strategy is based on external environment, therefore, the during the course of M&A, as laws and regulations are
changes in external environment not only affects the en- incomplete, the conduct of company can not be guided
terprise’s development strategy, but also cause the devia- correctly, thus result in the increase of M&A risk. In this
tion from the expected synergies. The external risks of case, Geely’s board of directors may face resource inte-
synergistic effect mainly include policy risk, legal risk gration issues after M&A such as rehiring new employ-
and industrial risk. ees and dismissing older employees. In the aspect of
1) Policy risk. dismissal legal system, there are many differences be-
Policy risk refers to the synergy risk which caused by tween Swedish and Chinese labor law. From the view of
the adjustment of national economic policies. In particu- Swedish Labor Court’s judicial practice of 70 years, in
lar, during the course of the state-owned enterprises’ re- practice, judges are often biased in favor of the workers
form, in some places, there exist the phenomena of in weak position. Therefore, after M&A, Geely should
regional protectionism which caused by rent-seeking lay stress on the dismissal of “legitimate reasons” in the
activities of the local governments. Namely, the govern- legal relationship between employers and employee. In
ment develops special policies to protect the vested in- addition, as China’s current legal system of M&A is not
terests of government and “special groups” or uses ad- perfect, if Geely’s legitimate rights and interests are in-
ministrative means to arbitrarily change its policy to de- fringed but lack of corresponding legal protection, the
stroy the normal order of market competition, such beha- synergy risk will increase.
vior would increase the risk of synergy. In this case, In order to avoid legal risk, Geely should first study the
when Geely makes decision, it should take into account domestic and international laws and policies related to
the effect of national economic policy on synergistic ef- M&A thoroughly. Second, Geely should engage lawyers,
fect. At the same time, Geely might set up corresponding accountants and other professional advisers to participate
subsidiary in Sweden after M&A, therefore, the Swedish in the M&A and formulate the terms of the agreement.
government’s policies in the industry can not be ignored. Third, use different methods of payment according to the
In order to avoid policy risk, Geely should first under- laws of different countries. There are many kinds of
stand that which local interest groups have associated M&A payment, such as cash payment, stock payment,
with its M&A. If Geely can rely on the local interest debt payment and comprehensive security payment. In
groups to establish lasting relationships, foster the rela- transnational M&A, stock payment often encounters some
tionship network between different interest groups, it will legal obstacles. This measure may not minimize the cost
be able to avoid or reduce the M&A risk, such as obtain of M&A, but it makes the M&A feasible.
the information on policy changes in advance. Second, 3) Industrial risk.
strengthening cooperation between the acquiring com- Industry risk refers to the uncertainty of the industry
pany and the development banks and other financial in- prospects caused by the changes of country’s economic
stitutions of the host country will also help determine the situation and industrial policy, which might influence the
risk of the local situation in the process of M&A. Third, enterprise development strategy. In the process of M&A
it’s better to sign a M&A agreement on the rights and decision-making, many enterprises sink into woeful situ-
obligations with the host government thus to regulate the ation because they are not familiar with the new industry
behaviors of both sides. they wish to enter or without a accurate grasp of the in-
2) Legal risk. dustry prospects. The “big diving” of e-commerce enter-
Legal risk mainly lies in the following three aspects. prises in the last two years are good examples.
The first is the provisions of anti-monopoly law. Most of In order to avoid industrial risk, Geely should consider
western countries developed a series of anti-monopoly the development law of industrial life cycle. Currently,
laws to safeguard fair competition. At present, although China’s high-end luxury car is still in the introduction
there are no corresponding laws promulgated in our period, Geely may encounter less domestic competitors
country, but when the concentration of the industry in- in this industry. But as the product gradually entering the
creased to a certain level, the relevant legislation is in- growth stage of product life cycle, more and more com-
dispensable; the second is the specific provisions of petitors will be attracted to the market and the market
M&A in the law. For instance, according to the corre- position of Geely will be threatened. In addition, in the

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14 Strategic Analysis of Synergistic Effect on M&A of Volvo Car Corporation by Geely Automobile

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