Abstract Company mergers are complex where several firm-specific and contextual factors interact with each other impacting the outcome of the process. Although many firms merge with or acquire others to increase the value of their firms, have more market power and gain more ability to negotiate with suppliers or customers, most of mergers and acquisitions result in failures. Despite the poor performances, firms continue to merge and acquire. The existing literature on the other hand lacks in providing a robust theory to the issue of poor post-merger performance. This study thus responds to exploring the issue of high failure rates in mergers and acquisitions in an entirely different way. As the first output of a research programme on the conceptual, theoretical and empirical issues in merger and acquisitions research, we conceptualize the loss of performance or exergy in mergers and acquisitions using thermodynamic analysis of the mixing process in physical systems. Three propositions are developed that conceptualize the ideal conditions for mergers in terms of firm size, relatedness between the merging firms and the ambient states. The exergy loss due to merging increases with the increasing levels of strategic or cultural incompatibility between the two firms. When the sizes of two firms differ, it is preferable for the larger firm to have higher knowledge base than the smaller firm. Lastly, the knowledge intensity of the country that the merging takes place as well as the relative knowledge base of the merging firms do interact and change the post-merger performance significantly.