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Managing the Merger: A Strategy for the New Germany
Joyful at the outset, the unification of Germany has become a process of painful realization. In eastern Germany, the factories that had been showcased at international fairs and supposedly could be brought up to western German standards with relative ease have turned out to be little more than industrial museums producing uncompetitive products. The telecommunications […]
Herbert A. Henzler
From the Magazine (January–February 1992)
Joyful at the outset, the unification of Germany has become a process of painful realization. In eastern Germany, the factories that had been showcased at international fairs and supposedly could be brought up to western German standards with relative ease have turned out to be little more than industrial museums producing uncompetitive products. The telecommunications system is ancient, the railways and postal services in wartime shape, the means of communication outmoded. The environment is dangerously polluted, the roads pitted. And the eastern German work force has proved unproductive by western standards and in need of massive relocation and retraining.
Eastern Germans grow impatient with democracy, while many western Germans have jumped to the conclusion that everything in the east is inferior and eastern Germans are, if not second-class citizens, then certainly no more than trainees in market economics. From the word Besserwisser, which means a know-it-all, we now have the unfortunate pun BesserWessie, a person from the west who feels superior. Federal President von Weizsaecker's plea to overcome the split by more sharing is cynically translated as a model by which the west continues to pay and the east continues to receive and spend. The idea only serves to separate the two sides further and compound the growing sense of disillusionment, uncertainty, and unrest.
It is a problem of politics, but first it is a problem of management. From my perspective as a management consultant and a German, it seems that we lack a concept for merging eastern and western Germany. While obviously not a perfect blueprint, corporate mergers do hold some useful lessons to guide us in managing this national "merger." Corporate mergers, for example, tell us that simply grafting the corporate culture of the acquiring company onto the acquired does not usually work—or at best takes a very long time. What is "natural" for the acquirer threatens the established identity and future prosperity of the acquired. The same holds true for a German merger. Yet current talk about the integration of united Germany is largely dominated by the idea of turning the former East Germany into "West Germany: The Sequel."
Like a corporate merger, this merger of countries is complex, painful, and fraught with difficulty. Yet also like its corporate counterpart, this national merger offers Germany's leaders and citizens a chance to pursue innovative and creative solutions to tough problems:
The merger is creating unprecedented levels of unemployment—but this provides opportunities to devise new ways of retraining workers and to experiment with flexible, part-time employment.
Eastern Germany has a shabby, antiquated infrastructure—but this gives the east a chance to leap-frog what now exists in western Germany and to set new, world-class standards for roads, railroads, telecommunications, and postal service.
Germany has limited resources—so instead of trying to "smear" economic growth uniformly across the new federal states in the east, Germany should concentrate on those regional centers with a historic and proven expertise in specific industries.
Eastern Germany has terrible environmental problems—but perhaps cleaning up these deplorable conditions will provide a chance to push the young science of environmental improvement into the twenty-first century and create a new source of competitive advantage for German industry.
The German merger is a massive project that will occupy the country for decades to come. To ensure that it proceeds successfully, Germany must focus on developing four critical areas that represent the greatest opportunities for growth and innovation: people, infrastructure, regional centers, and the environment.
People: Building the Flexible Work Force
A corporate merger is stressful for everyone involved. People worry about losing their jobs. They worry about their new bosses. They worry about being relocated to a strange city. They worry about the future and fret about the present. The first task in managing a merger is to allay those fears by providing stability, structure, and honest answers to hard questions. Only after people feel secure can you get down to the difficult business of combining two companies. This lesson applies directly to German unification.
At all levels of German society, economic expectations associated with unification were high. Much of the current unrest is rooted in the betrayal of these expectations. So the first step must be to address this betrayal in public meetings. As is often the case with corporate mergers, the aftermath of the merger requires several different kinds of strategy. One kind is an operating strategy, which, in the long run, will determine much about the merger's success or failure. But almost as important—and in the short run perhaps even more important—is a communications strategy: a clear, consistent plan for getting out to critical constituencies the key messages about the merger. The first step toward managing the people part of the merger is psychological—to restore a sense of order and confidence that there is productive work to be done in building the future.
Ultimately, success in human resource issues will turn on making good on the economic promise of unification. The first problems to tackle are retraining and reorganizing the work force, both eastern and western, and ensuring that high-quality managers are attracted to the eastern economy. Prior to reunion, 56% of East Germany's 16 million inhabitants were employed. Yet its economy was much less efficient than we thought; as a consequence, current unemployment there is shockingly high and getting worse. The former East German government used to employ 2.2 million people. The new bureaucracy will eliminate at least 1 million of those jobs. East German manufacturing employment used to hover around 3.2 million workers; that number will drop to between 800,000 and 1.4 million. The numbers are just as bad all across the economy, with the possible exception of the construction, retailing, and food service industries, where some 250,000 jobs will probably be created.
Much of the job cutting has already begun. Official government statistics speak of only 1 million unemployed; the real numbers, the "de facto unemployed," are far greater: 1.6 million people are working short hours; 400,000 are in government-sponsored temporary jobs; 300,000 are in retraining programs; and 400,000 are commuting to western Germany. In fact, unemployment is behind the mass migration of people—some 130,000 in the past 12 months—from east to west. In the past year, this displacement has been viewed as having negative consequences for unification. Jobs vanish; eastern workers abandon their old homes, further destroying the eastern economy, and flood the already saturated job markets of the west. The east loses the labor force it needs to rebuild itself, and the west is burdened with unproductive workers that it cannot employ. To make matters worse for the eastern economy, the departing workers tend to be the younger, better qualified workers.
But this movement of people did not begin with unification, although unification certainly accelerated it. For 20 years before the fall of the Berlin Wall, people flowed from the small towns and villages in eastern Germany to the cities, where wages were higher and opportunities more plentiful. Escape through Hungary, Czechoslovakia, and Poland was never stopped, nor were defections by athletes. The move from east to west across the old border is merely a continuation of this migration.
This trend will change when people begin to see more opportunity in the east—workers and managers with more responsibility, better futures, and perhaps the opportunity to earn equity in their companies. Until then, as part of a larger human resource strategy, the migration from east to west ought to be encouraged—in the framework of temporary contracts for the unemployed in the east. Temporary employment in western Germany for eastern workers would offer a number of benefits. It would speed the easterners' adaptation to working in a market-driven economy, enrich the country's human capital, and increase the new workers' economic prospects in the short term. It would also address the long-term problem of retraining the eastern work force, a problem clearly beyond the scope of any one region or agency. Temporary employment would function as a sort of on-the-job training program. The government might help the education process along by creating mandatory training programs at western companies.
It is important to see this approach as more than a short-term response to merger-created employment pressures. Rather, this flexible work force could become a key component of Germany's future, an important first step toward reorganizing work in both the new and old federal states. Indeed, five years ago, as part of an internal project, a team of consultants from McKinsey & Company's Munich office examined the possibilities of using flexible hours and part-time work to reduce unemployment in West Germany. The study found that both employers and employees considered part-time arrangements desirable for 24% of all the jobs where part-time employment would be feasible. That potential represents the equivalent of roughly 1.5 million full-time jobs—only a fraction of which has been tapped to date. And that's just for the west. Given the poor planning, inefficiency, and extremely high rate of women in full-time employment that characterized the former East German economy, the potential for part-time work in the new federal states is at least as great.
Along the same lines, the government should experiment with a "jobs at home" program, taking advantage of modern technologies like fax machines and personal computers. This might lead to the blossoming of a new Heimarbeitsplatze ("home work-place"), which was once quite typical for the textile industry in Saxony.
Small businesses are another major source of job growth. While the west has roughly 750,000 independent artisan businesspeople—mechanics, carpenters, painters, plumbers—in the east, this category was eradicated by 40 years of Communism. Given the size and scope of public works projects in the east, which include everything from repairing schools to fixing sewers, small business could spring back into existence and thrive. To encourage growth here, the government should give tax breaks and low-collateral loans to entrepreneurs willing to break out on their own. The government should also encourage franchising by western companies, as Bosch is doing with service stations, mechanic shops, and gas stations.
Wage equity is an issue in every merger—particularly when one side is substantially better paid. In the case of Germany, the government must take an active role in bringing the eastern worker up to western standards. At the same time, the collective-bargaining process between labor and management must be governed by moderation. Excessive wage demands simply inflate expectations in the new federal states. A more realistic, sustainable strategy would allow for differentiation in pay scales, benefit scales, and flexible working hours. But innovative regulation and government intervention can only do so much to promote economic growth. The rest must be done in the market.
Success in corporate mergers often hinges on bringing the incentives of managers into line with the goals of the newly merged company—so too with a national merger. Excellent managers willing to tackle the challenges in the new federal states will step forward in sufficient numbers only if incentives are accordingly high. But offering high returns in exchange for high risk must also be managed socially and politically in unified Germany.
Very simply, this means the government must manage the political environment to make sure that Germans do not regard the desire of many people to work hard and make a lot of money fast as a return of the "robber barons" or even as capitalist exploitation. Instead, the new equation must demonstrate that opportunity for the individual who is willing to take risks coincides with increased benefits to society.
If the political will exists for the government to promote incentives for managers to "go east," unification has made possible many new contractual conditions and constellations. Instead of spending two or three years abroad, for example, ambitious middle managers and young management cadres could sign contracts to manage companies in the east, with compensation packages that might even include stock options. This approach would not only increase management capacity in the new federal states but also launch a management development program that would interest many western corporations. The prospect of accumulating wealth could be underpinned by clauses guaranteeing a manager's right to return. The willingness of western managers to move with their families to the new federal states for a longer period of time will very much depend on the speed at which the relevant infrastructure (especially homes and schools) can be brought up to western standards. This can also help to eliminate the problem of western Germans "flying in" for a four-day workweek or playing temporary, advisory roles.
Talented managers from the new federal states should expect equally good opportunities. As an intermediate step, German industry should launch a solidarity program allowing eastern managers three-to six-month stays in western German companies to provide practical and theoretical grounding in business administration and marketing.
Infrastructure: Playing Technology Leapfrog
Few people would disagree that a primary goal for the new Germany must be to bring the eastern infrastructure up to western standards. But what seems so obvious is, in fact, a fundamental misunderstanding about how to get the most from a merger. Consider a corporate setting: an acquiring company looks at its partner's information technology, deems it inferior, and then sets about installing a system identical to its own. But the right position for the acquirer to take is: "My system may be better, but is it the best?" A merger is a chance to establish new and higher standards for the whole organization, not an excuse to maintain the status quo—for either side.
Rather than simply cloning western Germany's infrastructure, the nation should aim to rebuild the eastern infrastructure so that it surpasses western standards and moves into the next generation—be it in telecommunications, transportation, postal service, utilities, waste disposal, higher education, or public works. The big issue here is cost: DM100 billion ($61 billion) just to maintain the current level of eastern transportation infrastructure over the next ten years, DM250 billion over the next ten years to bring it up to current western standards. The costs of actually leapfrogging to the next generation are unknown—and perhaps at this point unknowable. Balancing the costs, however, would be job creation in the east (roughly one-third of the workers in eastern Germany could be employed for the next ten years in infrastructure-related projects) and the opportunity to attract know-how from the west to high-priority areas. It would also mean that today's rather scattershot approach to public employment would have a practical framework to guide decision making.
Rapid expansion of roads and highways is a clear priority. In addition, eastern Germany has a unique chance to pioneer new transportation systems. In long-distance transport, efficiency and environmental concerns call for an expansion of the railroad system, including the launch of Germany's first intermodal (integrated road-rail) system. Another goal for rail improvements would be to lay the groundwork to supplement single-car traffic with extensive containerized freight operations. For local mass transit, future-oriented, passenger-friendly systems must be developed not only for metropolitan Berlin but also for other urban centers. Such a system would improve on the current, auto-biased western German system.
The government must explore options for broad-based privatization of the new rail system; the creative pressure of the free market would be the only way to improve rail travel so that it can compete against the cost and convenience of cars. Further potential for mass transit and freight lies in the research and development of high-speed magnetic rail lines. Progress here could be a lot faster and cheaper than in the west—provided the government is willing to eliminate regulatory obsessions, which in the west are responsible for planning and approval periods of about ten years for only a few miles of new railway line.
New technologies depend on another aspect of infrastructure: education. The unfocused, unmanaged eastern system of colleges and universities may have been adequate for the old East Germany. But it falls far short of what the new federal states will need to prosper. Time and money are scarce, so in rebuilding higher education systems Germany cannot afford to spread resources evenly. Instead, the goal should be to establish a few outstanding research labs, first-rate faculties, and endowed chairs in topics that address the national interest across disciplines like transportation systems and environmental research. In the social sciences, the focus might be on urban renewal, foreign trade, and the transition from socialism to capitalism.
These research centers would be the economic and intellectual hubs of their regions. They would be a magnet for talented people and capital just as the academic communities in California's Silicon Valley and in Boston, Massachusetts have been. But regional centers of excellence anchored by universities will develop only if the individual states can solve the difficult political problem of where to locate these centers of excellence—recognizing the importance of the economic stimulus they will provide.
Regional Centers: Inducing Inequality, Strengthening Strengths
Leuna languishes while Berlin bustles. There is great economic inequality among the regions of what was East Germany. In addressing this problem, the government is doing exactly the opposite of what it should be doing. Currently, the vision is of "uniform living conditions" throughout the new federal states. Consequently, the government has dedicated all its efforts to repairing weaknesses and offsetting disadvantages from region to region. This approach is well-meaning and politically popular. It is also totally wrong.
To create the dynamics of self-propelled growth and development, it will be necessary not only to tolerate but also to induce certain economic imbalances and inequalities within the new federal states. So instead of strengthening weaknesses, efforts should focus on strengthening strengths: building regional centers around universities, offering temporary assistance for the development of potentially attractive Eastern European markets, and creating incentives to attract managerial and entrepreneurial talent.
For the new federal states, this approach of strengthening strengths would have many practical implications. Efforts to build regional economic structures would concentrate exclusively on promising growth centers, for which investment would be bundled and accelerated, even at the price of neglecting regional backwaters. Berlin is an obvious target for such a strategy in many industries. But many regions along the former East-West border can profit from the economic vitality and attractiveness of Hamburg and Hanover (possibly Kassel as well). It might even be possible to redefine what constitutes a region by targeting the expansion of local public-transport systems.
In addition to building on geographic strengths, this strategy would also focus on cities with historic links to and expertise in single industries that languished during the Communist years. We would see a flowering of optics and electronics work around Jena, printing in Leipzig, shipbuilding in Rostock, and chemicals in Halle. At the same time, a number of "locations of the future" would be developed to grow along the following lines: they would all have as their hallmark an economy led by sophisticated service sectors; an exceptionally strong scientific, technological, and cultural infrastructure; a multinational population; outstanding telecommunications and transportation facilities; attractive residential qualities and recreational opportunities. Examples in other countries—France's Sophia Antipolis, Japan's Tsukuba—indicate some of the possibilities. The creation of such locations would also open up opportunities for new forms of cooperation between the public and private sectors.
Another strength to build on are the old ties to the Soviet Union and Eastern Europe. They are important to the development of the new federal states in more than one way. Many sectors of the old East German economy used to specialize in meeting demand from the Communist bloc countries; as a consequence, the new federal states often have the production facilities to continue to do so without any significant additional investment. These supply relationships will tide over many eastern German companies long enough for them to make the transition to western standards of quality and performance.
Government support for these businesses should be understood primarily as interim assistance: first, to give companies in the new federal states time to restructure, and second, to enable the eastern European economies to stabilize and modernize their operations in a number of areas, such as the extraction and transport of natural resources. This is especially vital to strengthening trade relations between Germany and the Soviet Union. During the transition phase, Germany should be willing to experiment with a variety of financing instruments, including regular measures such as export guaranties and direct export subsidies, as well as more creative combinations of cash, barter, property rights, and subsidies in return for political concessions from the Soviets.
Cooperation with the Soviet Union and Eastern European nations should not stop at the negotiating table. It might be possible, for example, to set up German-Soviet joint ventures that could be important catalysts in strengthening long-term economic relations between the two countries. German companies could assist in Soviet modernization projects, especially in natural resource sectors; Soviet specialists could be brought in on projects in the new federal states. As employees of German-Soviet joint ventures, these specialists could work for a time in Germany to receive a thorough grounding in free enterprise, which they could then disseminate on their return home. The new federal states could become the marketplace and training center for all of the East.
Support for trade with eastern European nations can be seen as an investment in a new market, albeit one whose economic and political future is highly uncertain. The value of established market relationships when political goodwill is coupled with modern marketing has been borne out time and again. For Germany, this is particularly important where politics requires significant economic assistance.
Objections to this kind of "industrial policy" should not be allowed to obscure what successful western economies must accomplish: namely, productively integrating policies on infrastructure, education, social welfare, employment, regional development, and the environment in a way that serves to renew and strengthen the existing heritage of human and material resources. This is not all that different from the "policy" of conscientious entrepreneurs who think carefully about the markets, product segments, and stages in the value chain to which they can most profitably devote scarce resources. And it is the only way to overcome the mental block still prevailing in many minds in eastern Germany, where, after all, people have lived in a command-oriented, do-as-you're-told environment for almost 50 years.
Environment: Toxic Cleanup, Technology Opportunity
While seeking to strengthen strengths, Germany must repair one glaring weakness in the new federal states—the environment. The degradation of the environment in the east is, in large measure, an energy problem. Eastern Germany needs to diversify and upgrade its energy supply. Brown coal, the region's main source of energy, contains twice as much sulfur as does the coal used in western Germany. When stoked in the dilapidated and ancient eastern furnaces, the coal poisons the air with sulfur dioxide and coats everything with soot. In the industrial south, the pollution reportedly causes skin, lung, eye, and bone disease and stunts the growth of children. Prior to unification, East German officials disclosed that their country is the highest per capita producer of sulfur dioxide in the world, spewing skyward 5.2 million tons of the toxin each year.
Germany must not waste any time in securing an efficient and nonpolluting source of electrical power for the new federal states. No matter how the government chooses to cover the large-scale, basic supply problem, it must also accelerate the construction of small, decentralized units based on the principle of cogeneration of heat and power. What's more, because roughly 15% of all Soviet gas is lost in transport to Germany due to leakage, securing a technically efficient and ecologically sound transport system for natural gas and oil from the Soviet Union must be a priority as well.
The cleanup of hazardous-waste sites throughout eastern Europe is a task of unprecedented proportions. The rivers are polluted, the soil poisoned, the forests dying. There are some 15,000 identified toxic-waste dumps. The cost of cleaning up the new federal states of Germany alone will run into the hundreds of billions of deutsche marks over the next two decades. National environmental policy must give top priority to a thorough cleanup in the new federal states.
Western Germany must also learn to do without eastern Germany as a dump of last resort. Prior to unification, West Germany paid the East Germans to take both household garbage and untreated toxic waste. This is now unacceptable. Though the costs of a large-scale cleanup seem daunting, it is imperative that policymakers view this as an opportunity to develop new environmental technologies and to foster the growth of the environmental cleanup industry. Purging Eastern Europe of its pollution holds huge profit potential for Germany. It also offers work for many of the unemployed in the new federal states.
On top of the inherited pollution, capitalism too is leaving garbage in its wake. Although they were thoughtless industrial polluters, the Communists were at least frugal and efficient recyclers of tires, metal, glass, and paper. But as western lifestyles have taken hold, eastern Germans have been astounded by the volume of plastic, styrofoam, and disposable diapers that are already piling up in and taxing garbage facilities.
If western German environmental law were applied tomorrow, about 70% of eastern German industry would have to be shut down immediately. Nevertheless, there are some positive opportunities. The large tracts of open country in eastern Germany are an invitation to develop national parks and recreational areas that do not repeat mistakes made elsewhere, such as upsetting the equilibrium of a fragile ecosystem, building citylike centers, or failing to control the volume of automobile traffic.
To get some perspective on the monumental task ahead of Germany, it is helpful to view the unification process in three phases. In the first phase of German integration, the prevailing attitude was of confidence—waiting for the restorative powers of the free market and the stabilizing mechanisms of the social market economy to take effect. This expectation was expressed in former economic minister Helmut Hausmann's vision of a "country bustling with mid-sized entrepreneurial companies."
The period of optimistic anticipation is over. Now Germany is in the second phase, where undesired developments, manifest or imminent, are provoking hectic reactions and widespread unrest. To stem the downward spiral, we have begun to release more public money—with the promise of even more funds. However, the sluggishness with which these funds are actually deployed into concrete projects suggests that this approach does not get to the root of today's urgent problems. The bottleneck in the reconstruction of eastern Germany calls not for money but for management and leadership.
It is now time to launch the third phase of the integration of the new federal states without further delay; it is time to open the bottleneck. The next 6 to 18 months will be critical in determining how fast and how far the economy of the new federal states can be strengthened and whether negative repercussions for the old federal states can be avoided. Industrial development can succeed as it has in Wales and Spain, or it can limp along as in Mezzogiorno, Italy and Okinawa, Japan.
Mergers are high-risk, high-stress times; the challenge can be overwhelming. But mergers are embarked on because they hold the promise of greater profits and prosperity. The first step toward realizing this promise is to make the process manageable.
A version of this article appeared in the January–February 1992 issue of Harvard Business Review.
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Herbert A. Henzler is chairman of McKinsey & Company's German offices. He is also Professor of International Management at Munich University.