Mergers & Acquisitions-Definitions

• Mergers and acquisitions (M&A ) refers to the aspect of Corporate

Strategy, Corporate Finance and Management dealing with the
buying, selling and combining of different Companies that can aid,
finance, or help a growing company in a given industry to grow
rapidly without having to create another business entity.
• In Business or in Economics a Merger is a combination of two
Companies into one larger company.
• Such actions are commonly voluntary and involve Stock Swap or cash
payment to the target. Stock swap is often used as it allows the
shareholders of the two companies to share the risk involved in the
deal.
Mergers & Acquisitions-Definitions
• A merger can resemble a Takeover but result in a new company name
and in new Branding; rather than an acquisition is done purely for
political or marketing reasons.
• In the pure sense of the term, a Merger happens when two firms,
often of about the same size, agree to go forward as a single new
company rather than remain separately owned and operated. This
kind of action is more precisely referred to as a “Merger of equals”
• Both companies' stocks are surrendered and new company stock is issued in
its place. For example, both Daimler-Benz and Chrysler ceased to exist when
the two firms merged, and a new company, DaimlerChrysler, was created
Acquisitions
• When one company takes over another and clearly established itself
as the new owner, the purchase is called an Acquisition . From a legal
point of view, the Target company ceases to exist, the buyer swallows;
the business and the buyer's stock continues to be traded.
• In practice, however, actual mergers of equals don't happen very
often. Usually, one company will buy another and, as part of the
deal's terms, simply allow the acquired firm to proclaim that the
action is a merger of equals, even if it's technically an Acquisition.
• Being bought out often carries negative connotations, therefore, by
describing the deal as a merger, deal makers and top managers try to
make the takeover more palatable
Acquisitions
• A purchase deal will also be called a merger when both CEOs agree
that joining together is in the best interest of both of their companies.
But when the deal is unfriendly and is hostile, i.e. the Target Company
does not want to be purchased, then it regarded as Acquisition.
• Whether a purchase is considered a Merger or an Acquisition really
depends on whether the purchase is friendly or hostile and how it is
announced:-
• In other words, the real difference lies in how the purchase is communicated
to and received by the target company's board of directors , employees and
shareholders
Varieties of Mergers -1
• Horizontal merger - Two companies that are in direct competition and
share the same product lines and markets. – same industry
• Vertical merger - A customer and company or a supplier and company.
Vertical mergers occur when two firms, each working at different stages in
the production of the same good, combine.
• Market-extension merger - Two companies that sell the same products in
different markets.
• Product-extension merger - Two companies selling different but related
products in the same market.
• Concentric Mergers / Congeneric Merger occur where two merging firms
are in the same general industry, but they have no mutual buyer/customer
or supplier relationship, such as a merger between a Bank and a Leasing
company.
Varieties of Mergers -2
• Conglomerate : When two companies that have no common business
areas. There are two types of mergers that are distinguished by how the
merger is financed. Each has certain implications for the companies
involved and for investors:
• Purchase Mergers - As the name suggests, this kind of merger occurs when
one company purchases another. The purchase is made with cash or
through the issue of some kind of debt instrument ; the sale is taxable.
• Acquiring companies often prefer this type of merger because it can
provide them with a tax benefit. Acquired assets can be written-up to the
actual purchase price, and the difference between the book value and the
purchase price of the assets can depreciate annually, reducing taxes
payable by the acquiring company
Varieties of Mergers -3
• B) Consolidation Mergers - With this merger, a brand new company is
formed and both companies are bought and combined under the new
entity. The tax terms are the same as those of a purchase merger
• In some of the merger deals, a company can buy another company with cash,
stock or a combination of the two.
• In smaller deals, one company acquires all the assets of another company.
• Company X buys all of Company Y's assets for cash, which means that
Company Y will have only cash (and debt, if they had debt before).
Thus, Company Y becomes merely a shell and will eventually liquidate
or enter another area of business.
Varieties of Mergers -4
• Reverse merger is an another type of acquisition; a deal that enables
a private company to get publicly-listed in a relatively short time
period.
• A reverse merger occurs when a private company that has strong
prospects and is eager to raise financing buys a publicly-listed shell
company, usually one with no business and limited assets. The private
company reverse merges into a “Shell” public company , and together
they become an entirely new public corporation with tradable shares.
• Takeover : An Acquisition where the Target Firm did not solicit the bid
of acquiring firm.
Why M& A ?
• One plus one makes three is the main idea and is special alchemy of a
M&A.
• The key principle behind buying a company is to create shareholder
value over and above that of the sum of the two companies. Two
companies together are more valuable than two separate companies
- at least, that's the reasoning behind M&A.
1. Synergy is the magic force that allows for enhanced cost efficiencies
of the new business. Synergy takes the form of revenue
enhancement and cost savings. (Operating or financial synergies)
Why M& A ?
2. Staff reductions - Mergers tend to mean job losses. Mostly from reducing
the number of staff members from accounting, marketing and other
departments. Job cuts will also include the former CEO, who typically leaves
with a compensation package.
3. Economies of scale - Yes, size matters. A bigger company placing the
orders can save more on costs. Mergers also translate into improved
purchasing power to buy equipment or office supplies - when placing larger
orders, companies have a greater ability to negotiate prices with their
suppliers.
4. Acquiring new technology - To stay competitive, companies need to stay
on top of technological developments and their business applications. By
buying a smaller company with unique technologies, a large company can
maintain or develop a competitive edge.
Why M & A ?
5. Improved market reach and industry visibility - A merge may expand two
companies' marketing and distribution, giving them new sales opportunities.
Because of improved financial standing, Bigger firms have an easier time
raising capital than smaller ones.
6. Overcome the Entry barriers: M & A is one of the way for smooth market
entry, as good will of another company and the brand gets transferred to
new entities without initial hiccups. These costly barriers to entry otherwise
would make “Start-ups” economically unattractive. e.g. “ Belgian Fortis’
acquisition of American Banker’s Insurance Group”
7. Eliminating the Cost of new product Development. Buying established
business reduces risk of start-up ventures. e.g. “Watson Pharmaceuticals’
acquisition of Thera Tech”
Why M & A ?
8. Lower risk compared to developing new products.
9. Increased feasibility and speed of Diversification. This is a quick way
to move into businesses when firm currently lacks experience and
depth in industry.
10. Acquisition is intended to avoid excessive competition and
improve competitive balance of the industry and thereby Increased
Market Power and allowing market entry in a timely fashion. Firms use
acquisition to restrict its dependence on a single or a few products or
markets.
Other Motives at a Glance
• Tax Effects Redeployment
• Limited Competition
• Acquiring Technical & Managerial Knowledge
• Reduction in Risk and uncertainty
• Target Undervaluation
• * Market Inefficiency (Economic Disturbances)
• *Inside Information
• *Superior Analysis
• * Displacing Inefficient Managers
Other Motives at a Glance
• Managerial Motives
• * Power Needs * Size * Growth
• * Executive Comparison
• * Human Capital
• * Risk Diversification
Problems of M & A
• Integration Difficulties: Differing financial and control systems can
make integration of firms difficult.
• Inadequate Evaluation of Target: Competitive bid causes acquirer to
overpay for firm. e.g. “Marks and Spencer’s acquisition of Brooks
Brothers”
• Large or Extraordinary Debt : Costly debt can create onerous burden
on cash outflows. e.g.
• Inability to Achieve Synergy: False justifying of acquisitions can
increase costs
Problems of M & A
• Overly Diversified: Acquirer doesn’t have expertise required to
manage unrelated businesses. e.g. “ GE prior to selling businesses and
refocusing”
• Managers Overly Focused on Acquisitions: Managers may fail to
objectively assess the value of outcomes achieved through the firm’s
acquisition strategy. e.g. “ Ford and Jaguar”
• Too Large: Large business bureaucracy reduces innovation and
flexibility.
Major Change Forces Contributing Merger
activity
• The pace of Technology has accelerated.
• Reduced costs of communication and Transportation
• Hence markets have become international in scope.
• The forms, sources and intensity of competition have expanded.
• New Industries have emerged.
• While regulations have increased in some areas, generally more
deregulations have taken place in other industries.
Major Change Forces Contributing Merger activity

• Favourable economic and financial environments between 1982 to

1990 and from 1992 to 2000 -waves of mergers

• Within a general environment of strong economic growth, problems

have developed in individual economics and industries.

• Inequalities in income and wealth have been widening.

Major Challenges to Merger Success

• Look into Three important areas : Due Diligence, Cultural Factors &
Implementation.
A. Inadequate Due Diligence:
• Check all legal Aspects including pension funding, environmental problems,
product liabilities etc.
• Check all business & management considerations involving examining
accounting records, maintenance & quality equipments, possibility of cost
controls, potentiality of product improvements,
• Management relationship with its employees, gaps in managerial
capabilities, how these management systems will fit together, need to hire
or fire managers, etc.
• Ensure that acquired unit is worth more as apart of the acquiring firm than
being left alone or with any other firm.
Cultural Factors
• Check organisation’s values, traditions, norms, beliefs and behaviour
patterns.
• Check formal statements available, but observe informal relationships and
networks.
• Check management’s operating style. The firm must be consistent in its
formal statements of values and kinds of actions that are rewarded.
• Check need of proactive employee training for growth through Merger.
• Check cultural factors in addition to products, plant & equipment.
• Check how the organisation has handled cultural factors in the past.
• Cultures may move to similarity. Or differences may even be valued as
sources of increased efficiency.
Why M & A fail ? - 1
• Plenty of Mergers don't work : Historical trends show that roughly
two thirds of big mergers will disappoint on their own terms, which
means they will lose value on the stock market
• Flawed Intentions: Mergers that have been encouraged by booming
stock market spell trouble.
• Deals done with highly rated stock as currency are easy and cheap,
but without any the strategic thinking behind them.
• Also, mergers are often attempt to imitate: just because somebody
else has done a big merger. A merger may often have more to do with
glory-seeking than business strategy.
Why M & A fail ? - 2
• Most CEO’s get a big bonus for merger deals, no matter what happens
to the share price later.
• Mergers sometimes are driven by generalized fear. Globalization , the
arrival of new technological developments or a fast-changing
economic landscape, with idea that only big players will survive a
more competitive world.
• Coping with a merger can make top managers spread their time too
thinly and neglect their core business, spelling doom.
• The chances for success are further hampered if the corporate
cultures of the companies are very different.
Why M & A fail ? - 3
• Merging companies can focus on integration and cost-cutting so
much that they neglect day-to-day business, thereby prompting
nervous customers to flee. This loss of revenue momentum is one
reason so many mergers fail to create value for shareholders.
• But remember, not all mergers fail. Size and global reach can be
advantageous, and strong managers can often squeeze greater
efficiency out of badly run rivals. Nevertheless, the promises made by
deal makers demand the careful scrutiny of investors. The success of
mergers depends on how realistic the deal makers are and how well
they can integrate two companies while maintaining day-to-day
operations.
Summing up
• M&A comes in all shapes and sizes, and investors need to consider
the complex issues involved in M&A.
• A merger can happen when two companies decide to combine into one
entity or when one company buys another. An acquisition always involves the
purchase of one company by another.
• The functions of synergy allow for the enhanced cost efficiency of a new
entity made from two smaller ones - synergy is the logic behind mergers and
acquisitions.
• Acquiring companies use various methods to value their targets. Some of
these methods are based on comparative ratios - such as the P/E and P/S
ratios - replacement cost or discounted cash flow analysis.
Summing up
• An M&A deal can be executed by means of a cash transaction, stock-
for-stock transaction or a combination of both. A transaction struck
with stock is not taxable.
• Break up or de-merger strategies can provide companies with opportunities
to raise additional equity funds, unlock hidden shareholder value and sharpen
management focus. De-mergers can occur by means of divestitures, carve-outs
spin-offs or tracking stocks.
• Mergers can fail for many reasons including a lack of management foresight,
the inability to overcome practical challenges and loss of revenue momentum
from a neglect of day-to-day operations.