that can aid, finance, or help a growing company in a given industry grow rapidly without having to create another business entity.
Main article: Takeover Acquisition The terms "
demerger", "
spin-off" and "
spin-out" are sometimes used to indicate a situation where one company splits into two, generating a second company separately listed on a stock exchange.
The buyer buys the shares, and therefore control, of the target company being purchased. Ownership control of the company in turn conveys effective control over the assets of the company, but since the company is acquired intact as a going business, this form of transaction carries with it all of the liabilities accrued by that business over its past and all of the risks that company faces in its commercial environment.
The buyer buys the assets of the target company. The cash the target receives from the sell-off is paid back to its shareholders by dividend or through liquidation. This type of transaction leaves the target company as an empty shell, if the buyer buys out the entire assets. A buyer often structures the transaction as an asset purchase to "cherry-pick" the assets that it wants and leave out the assets and liabilities that it does not. This can be particularly important where foreseeable liabilities may include future, unquantified damage awards such as those that could arise from litigation over defective products, employee benefits or terminations, or environmental damage. A disadvantage of this structure is the tax that many jurisdictions, particularly outside the United States, impose on transfers of the individual assets, whereas stock transactions can frequently be structured as like-kind exchanges or other arrangements that are tax-free or tax-neutral, both to the buyer and to the seller's shareholders.
Types of acquisition In
business or
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. A merger can resemble a
takeover but result in a new company name (often combining the names of the original companies) and in new
branding; in some cases, terming the combination a "merger" rather than an acquisition is done purely for political or marketing reasons.
Merger A unique type of merger called a
reverse merger is used as a way of going public without the expense and time required by an
IPO.
The contract vehicle for achieving a merger is a "merger sub".
The occurrence of a merger often raises concerns in
antitrust circles. Devices such as the
Herfindahl index can analyze the impact of a merger on a market and what, if any, action could prevent it. Regulatory bodies such as the
European Commission, the
United States Department of Justice and the U.S.
Federal Trade Commission may investigate anti-trust cases for
monopolies dangers, and have the power to block mergers.
Accretive mergers are those in which an acquiring company's earnings per share (
EPS) increase. An alternative way of calculating this is if a company with a high price to earnings ratio (
P/E) acquires one with a low
P/E.
Dilutive mergers are the opposite of above, whereby a company's
EPS decreases. The company will be one with a low
P/E acquiring one with a high
P/E.
The completion of a merger does not ensure the success of the resulting organization; indeed, many mergers (in some industries, the majority) result in a net loss of value due to problems. Correcting problems caused by incompatibility—whether of technology, equipment, or
corporate culture— diverts resources away from new investment, and these problems may be exacerbated by inadequate research or by concealment of losses or liabilities by one of the partners. Overlapping subsidiaries or redundant staff may be allowed to continue, creating inefficiency, and conversely the new management may cut too many operations or personnel, losing expertise and disrupting employee culture. These problems are similar to those encountered in
takeovers. For the merger not to be considered a failure, it must increase shareholder value faster than if the companies were separate, or prevent the deterioration of shareholder value more than if the companies were separate.
Horizontal mergers take place where the two merging companies produce similar product in the same
industry.
Vertical mergers occur when two firms, each working at different stages in the production of the same good, combine.
Conglomerate mergers take place when the two firms operate in different industries.
Classifications of mergers The five most common ways to valuate a business are asset valuation, historical earnings valuation, future maintainable earnings valuation, Earnings Before Interest Taxes Depreciation and Amortization (
EBITDA) valuation and Shareholder's Discretionary Cash Flow (
SDCF) valuation. Professionals who valuate businesses generally do not use just one of these methods but a combination of some of them, as well as possibly others that are not mentioned above, in order to obtain a more accurate value. These values are determined for the most part by looking at a company's
balance sheet and/or
income statement and withdrawing the appropriate information. The information in the balance sheet or income statement is obtained by one of three
accounting measures: a
Notice to Reader, a
Review Engagement or an
Audit.
Accurate business valuation is one of the most important aspects of M&A as valuations like these will have a major impact on the price that a business will be sold for. Most often this information is expressed in a Letter of Opinion of Value (LOV) when the business is being valuated for interest's sake. There are other, more detailed ways of expressing the value of a business. These reports generally get more detailed and expensive as the size of a company increases, however, this is not always the case as there are many complicated industries which require more attention to detail, regardless of size.
Financing M&A Payment by cash. Such transactions are usually termed acquisitions rather than mergers because the shareholders of the target company are removed from the picture and the target comes under the (indirect) control of the bidder's shareholders alone.
A cash deal would make more sense during a downward trend in the interest rates. Another advantage of using cash for an acquisition is that there tends to lesser chances of EPS dilution for the acquiring company. But a caveat in using cash is that it places constraints on the cash flow of the company.
Cash Financing capital may be borrowed from a bank, or raised by an issue of bonds. Acquisitions financed through debt are known as
leveraged buyouts, and the debt will often be moved down onto the
balance sheet of the acquired company.
Financing An acquisition can involve a combination of cash and debt, or a combination of cash and stock of the purchasing entity.
Hybrids These motives are considered to add shareholder value:
These motives are considered to not add shareholder value:
Economies of scale: This refers to the fact that the combined company can often reduce duplicate departments or operations, lowering the costs of the company relative to the same revenue stream, thus increasing profit.
Increased
revenue/Increased Market Share: This motive assumes that the company will be absorbing a major competitor and thus increase its power (by capturing increased market share) to set prices.
Cross selling: For example, a
bank buying a
stock broker could then sell its banking products to the stock broker's customers, while the broker can sign up the bank's customers for brokerage accounts. Or, a manufacturer can acquire and sell complementary products.
Synergy: Better use of complementary resources.
Taxes: A profitable company can buy a loss maker to use the target's loss as their advantage by reducing their tax liability. In the United States and many other countries, rules are in place to limit the ability of profitable companies to "shop" for loss making companies, limiting the tax motive of an acquiring company.
Geographical or other diversification: This is designed to smooth the earnings results of a company, which over the long term smoothens the stock price of a company, giving conservative investors more confidence in investing in the company. However, this does not always deliver value to shareholders (see below).
Resource transfer: resources are unevenly distributed across firms (Barney, 1991) and the interaction of target and acquiring firm resources can create value through either overcoming information asymmetry or by combining scarce resources.
Increased
Market share, which can increase
market power: In an
oligopoly market, increased market share generally allows companies to raise prices. Note that while this may be in the shareholders' interest, it often raises
antitrust concerns, and may not be in the
public interest.
Diversification: While this may hedge a company against a downturn in an individual industry it fails to deliver value, since it is possible for individual shareholders to achieve the same hedge by diversifying their portfolios at a much lower cost than those associated with a merger.
Manager's
hubris: manager's overconfidence about expected synergies from M&A which results in overpayment for the target company.
Empire building: Managers have larger companies to manage and hence more power.
Manager's compensation: In the past, certain executive management teams had their payout based on the total amount of profit of the company, instead of the profit per share, which would give the team a
perverse incentive to buy companies to increase the total profit while decreasing the profit per share (which hurts the owners of the company, the shareholders); although some empirical studies show that compensation is linked to profitability rather than mere profits of the company.
Vertical integration: Companies acquire part of a
supply chain and benefit from the resources. However this in turn does not add any value because as one end of the supply chain may receive product at a cheaper cost the other end now has lower revenue. In addition, the supplier may find more difficulty in supplying to competitors of its acquirer because the competition would not want to support the new conglomerate.
Motives behind M&A No
marketplace currently exists for the mergers and acquisitions of privately owned small to mid-sized companies. Market participants often wish to maintain a level of secrecy about their efforts to buy or sell such companies. Their concern for secrecy usually arises from the possible negative reactions a company's employees, bankers, suppliers, customers and others might have if the effort or interest to seek a transaction were to become known. This need for secrecy has thus far thwarted the emergence of a public forum or marketplace to serve as a clearinghouse for this large volume of business.
At present, the process by which a company is bought or sold can prove difficult, slow and expensive. A transaction typically requires six to nine months and involves many steps. Locating parties with whom to conduct a transaction forms one step in the overall process and perhaps the most difficult one. Qualified and interested buyers of multimillion dollar corporations are hard to find. Even more difficulties attend bringing a number of potential buyers forward simultaneously during negotiations. Potential acquirers in industry simply cannot effectively "monitor" the economy at large for acquisition opportunities even though some may fit well within their company's operations or plans.
An industry of professional "middlemen" (known variously as intermediaries, business brokers, and
investment bankers) exists to facilitate M&A transactions. These professionals do not provide their services cheaply and generally resort to previously-established personal contacts, direct-calling campaigns, and placing advertisements in various media. In servicing their clients they attempt to create a one-time market for a one-time transaction. Many, but not all, transactions use intermediaries on one or both sides. Despite best intentions, intermediaries can operate inefficiently because of the slow and limiting nature of having to rely heavily on
telephone communications. Many phone calls fail to contact with the intended party. Busy executives tend to be impatient when dealing with sales calls concerning opportunities in which they have no interest. These marketing problems typify any private negotiated markets. Due to these problems and other problems like these, brokers who deal with small to mid-sized companies often deal with much more strenuous conditions than other business brokers. Mid-sized business brokers have an average life-span of only 12-18 months and usually never grow beyond 1 or 2 employees. Exceptions to this are few and far between. Some of these exceptions include
The Sundial Group,
Geneva Business Services and
Robbinex.
The market inefficiencies can prove detrimental for this important
sector of the economy. Beyond the intermediaries' high fees, the current process for mergers and acquisitions has the effect of causing private companies to initially sell their shares at a significant
discount relative to what the same company might sell for were it already publicly traded. An important and large sector of the entire economy is held back by the difficulty in conducting corporate M&A (and also in raising
equity or
debt capital). Furthermore, it is likely that since privately held companies are so difficult to sell they are not sold as often as they might or should be.
Previous attempts to streamline the M&A process through computers have failed to succeed on a large scale because they have provided mere "
bulletin boards" - static information that advertises one firm's opportunities. Users must still seek other sources for opportunities just as if the bulletin board were not electronic. A
multiple listings service concept was previously not used due to the need for confidentiality but there are currently several in operation. The most significant of these are run by the
California Association of Business Brokers (
CABB) and the
International Business Brokers Association (
IBBA) These organizations have effectivily created a type of vitural market without compromising the confidentiality of parties involved and without the unauthorized release of information.
One part of the M&A process which can be improved significantly using networked computers is the improved access to "
data rooms" during the
due diligence process however only for larger transactions. For the purposes of small-medium sized business, these
datarooms serve no purpose and are generally not used.
M&A marketplace difficulties The Great Merger Movement was a predominantly U.S. business phenomenon that happened from
1895 to
1905. During this time, small firms with little market share consolidated with similar firms to form large, powerful institutions that dominated their markets. The vehicle used were so-called
trusts. To truly understand how large this movement was—in
1900 the value of firms acquired in mergers was 20% of
GDP. In
1990 the value was only 3% and from
1998–
2000 is was around 10–11% of GDP. Organizations that commanded the greatest share of the market in
1905 saw that command disintegrate by
1929 as smaller competitors joined forces with each other.
The Great Merger Movement One of the major short run factors that sparked The Great Merger Movement was the desire to keep prices high. That is, with many firms in a market, supply of the product remains high. During the panic of
1893, the demand declined. When demand for the good falls, as illustrated by the classic supply and demand model, prices are driven down. To avoid this decline in prices, firms found it profitable to collude and manipulate supply to counter any changes in demand for the good. This type of cooperation led to widespread horizontal integration amongst firms of the era. Focusing on mass production allowed firms to reduce unit costs to a much lower rate. These firms usually were capital-intensive and had high fixed costs. Due to the fact of new machines were mostly financed through bonds, interest payments on bonds were high followed by the panic of
1893, yet no firm was willing to accept quantity reduction during this period.
Short-run factors In the long run, due to the desire to keep costs low, it was advantageous for firms to merge and reduce their transportation costs thus producing and transporting from one location rather than various sites of different companies as in the past. This resulted in shipment directly to market from this one location. In addition, technological changes prior to the merger movement within companies increased the efficient size of plants with capital intensive assembly lines allowing for economies of scale. Thus improved technology and transportation were forerunners to the Great Merger Movement. In part due to competitors as mentioned above, and in part due to the government, however, many of these initially successful mergers were eventually dismantled. The U.S. government passed the
Sherman Act in 1890, setting rules against price fixing and monopolies. Starting in the 1890s with such cases as
U.S. versus Addyston Pipe and Steel Co., the courts attacked large companies for strategizing with others or within their own companies to maximize profits. Price fixing with competitors created a greater incentive for companies to unite and merge under one name so that they were not competitors anymore and technically not price fixing.
Long-run factors In a study conducted in 2000 by
Lehman Brothers, it was found that, on average, large M&A deals cause the domestic
currency of the target corporation to appreciate by 1% relative to the acquirer's. For every $1-billion deal, the currency of the target corporation increased in value by 0.5%. More specifically, the report found that in the period immediately after the deal is announced, there is generally a strong upward movement in the target corporation's domestic currency (relative to the acquirer's currency). Fifty days after the announcement, the target currency is then, on average, 1% stronger. Because of such complications, many business brokers are finding the
International Corporate Finance Group and organizations like it to be a necessity in M&A today.
Cross-border M&A Top 10 M&A deals worldwide by value (in mil. USD) from 1990 to 1999:
Major M&A in the 1990s Top 10 M&A deals worldwide by value (in mil. USD) since 2000:
See also M&A Source International Corporate Finance Group International Business Broker's Association Association for Corporate Growth Alliance of Merger & Acquisition Association M&A Today Corporate Finance Associates
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