A lot depends of the way the merge would be done. WI Hitler promises the generals he would deal with SA and then launches the Night of the Long Knives not against Rohm, but against military top brass? Decapitated Reichsweh might be paralyzed by indecision and confusion. Hindenburg might be isolated or/and discreetly eliminated, perhaps with blaming generals for his death. Such an operation would have been much harder to do (and kept in secret), but Heydrich and Himmler might be able to do it. So let's say the manged to take over and quell any resistance.
On the long term, though, I agree it would be a heavy blow to German military power. Many highly trained professionals in the new army would be distrusted and nominations for loyalty over competence would be a norm. Moreover, actually being a part of the Reichswehr might become a career block. While many SA-Men were ex-soldiers, I doubt many of them had been high ranking officers and they would love to lord over their former superiors or people like them. The best traditions of the German military - professionalism, discipline, order and especially military staff work would be disregarded. After all, those old generals knew nothing about modern war - they lost the Great War, didn't they?
Political consequences would be significant. Conservative right, industrialists and businessmen would turn away from Hitler as a dangerous radical, more or less a communist with an anti-Semitic obsession. A lot of their money would be transferred abroad instead of supporting Nazi policy. Then what - nationalization of factories and other businesses? That would kill German economy, if only by cutting it off from any foreign credits and cooperation.