Ch 11 Flashcards
Definition - Merger
used to describe the joining together of 2+ entities
strictly speaking, if one takes majority shareholding in another = acquisition
if two entities join their identities together into a new entity = merger
however, merger often used when acquisition has taken place, sounds more like partnership between equals
Three types of merger/acquisition
HORIZONTAL INTEGRATION
two entities from same line of business combine - e.g. bank and building society
VERTICAL INTEGRATION
acquisition of one entity by another which is at a different level in supply chain - e.g. UK brewers now heavily invested in pubs
CONGLOMERATE
combination of two unrelated businesses
Specific reasons for merger / acquisition
Increased market share / power
Economies of scale
Combining complementary needs - small org with unique product, large entity with established engineering and sales depts
Improving efficiency - e.g. if unable to exploit opportunities in existing market, maybe someone else can (easier than sacking yourself)
lack of profitable investment opportunities // surplus cash – orgs with extra cash are often acq’n targets, thus “buy or be bought”
tax relief - cannot be obtained if profits insufficient, thus buy an entity which has sufficient profits
reduced competition
asset stripping
big data opportunities – better competitive advantage
Definitiion - Big Data
large volumes of data beyond the normal processing, storage, analysis capacity of typical DB application tools
often includes more than simple fin info - e.g. operational org data along with internal/external data which is unstructured in form
key challenge = identifying repeatable patterns in the unstructured data, leading to comp adv, improved productivity, increased innovation
Benefits of managing big data successfully
driving innovation - less time to answer key business questions and make decisions
gaining competitive advantage
improving productivity
Relevance of big data in M&A
innovation / comp adv / productivity
combining complementary needs
e.g. buying an org with a large customer DB = access to their customers and also their know-how in assembling the “big data”
Questionable Reasons for merger/acquisition
DIVERSIFICATION
not relevant to sh/h, who can easily diversify their own holdings
more likely done to reduce risk to mgr/employee jobs, and thus likely to drive complacency (to detriment of sh/h returns)
SHARES OF TARGET ENTITY ARE “UNDERVALUED”
sh/h of buying entity would derive the same benefit by buying the shares themselves (at lower admin costs)
assumes that buying org has better valuation insights than other professional investors
Definition - Synergy
two or more entities coming together to produce a result not obtainable independently
e.g. merged entity will only need one marketing department - thus savings vs two separate entities
Importance of synergy in M&A
ideal situation
MV (AB) > MV (A) + MV (B)
often expressed as 2+2=5
synergy is not automatic - in an efficienc stock market, A and B are correctly valued before the combination, so important to ask HOW synergy will be achieved
Sources of Synergy
OPERATING ECONOMIES
e.g. economies of scale, elimination of inefficiency
FINANCIAL SYNERGY
e.g. reduced risk due to diversification
OTHER SYNERGISTIC EFFECTS
e.g. market power
Synergies from operating economies
ECONOMIES OF SCALE
cost red’ns thus profit increases in prod’n, marketing, finance areas (horizontal combo)
marketing and finance only (conglomerate)
diseconomies also possible
ECONOMIES OF VERTICAL INTEGRATION
increasing profits by cutting out the middle man
COMPLEMENTARY RESOURCES
synergistic result = e.g. one org strong in R&D, another strong in marketing
ELIMINATION OF INEFFICIENCY
if victim org is poorly managed - improvements particularly in prod’n, marketing, finance
FINANCIAL SYNERGY
DIVERSIFICATION
reduction of risk means increased value even if earnings of merged companies stay the same
DIVERSIFICATION AND FINANCING
variability in future operating CFs may be stabilized leading to increased attractiveness for creditors => cheaper financing
BOOT STRAP / P/E GAME
sometimes argued that high P/E ratio dirms can impose their high ratio on victim firms to increase value
Other Synergistic Effects
SURPLUS MANAGERIAL TALENT
highly skilled managers are only useful if there are problems to solve - buying inefficient companies gives them problems
SURPLUS CASH
acquisition may be seen as only possible application of funds - increased dividends may be rejected due to tax or dividend stability
MARKET POWER
horizontal combos leading to monopoly and increaswed productivity - although this would attract the competition authorities
SPEED
acquisition is faster than organic growth
Impact of Mergers and Acquisitions on Stakeholders
ACQUIRING COMPANY SH/H
all companies have primary objective of max’ing sh/h wealth - thus if synergy can be achieved, an acqn should benefit the sh/h
TARGET COMPANY SH/H
acquiring company often pays a premium to these sh/h to encourage them to sell, thus in their financial interest
LENDERS/DEBT HOLDERS
debt often repayable in event of change of control - bank borrowings almost certainly b/c risk profile of new owner may be quite different from previous – thus the acquirer will likely need new financing in advance of the takeover
STAFF
target staff worry about deduplicative redundancies, acquiring staff demand higher pay for managing a bigger org; to guarantee continuity of knowledge, the org may seek assurance/contractual guarantee that certain key staff remain for certain period of time
SOCIETY
govts can intervene if not in societal interest - competition laws to prevent monopolies taking advantage of customers
Challenges with Acquisitions
synergy will not automatically occur - mgmt teams have to work together effecftively
often, expected synergy is not attained - perhaps premium paid on acquisition was too highthus sh/h value actually reduced
cultural clashes are challenging to integration
opportunity cost of the investment - acquirer realizing that funds used to acquire could have been better used elsewhere
Why Mergers/Acquisitions Fail
Lack of fit - mgmt style, corporate culture
Lack of fit - industrial or commercial
even though buying a supplier/buyer means you know what you’re getting, there may be unexpected aspects of their operations which cause problems – careful planning required
Lack of goal congruence
not only to the target entity - also, more dangerously, to the acquirer whereby unclear how to treat the newly acquired company
“Cheap” purchases
need to consider mgmt time and resources required to “turn around” a target - often a high multiple of a “bargain” ticket price
Paying too much (too much to satisfactorily increase the l/t wealth of sh/h)
Failure to integrate effectively
Inability to manage change
effective planning req’d before and after if failure is to be avoided - this requires and ability to accept change from established routines/practices
Failures to integrate effectively - causing M&A failure
acquirer needs to have clear plan of how to integrate target company, how much autonomy to grant
plan needs to consider differences in mgmt style, incompatibilities in data systems, continued pushback from target staff
better chance of resolving issues before bidding action is taken than after
there may also be a need to adapt one’s own operations in order to ensure they will flex to the new activities - especially their own existing IT systems
Three primary tax implications of merges/acquisitions
Differences in tax rates / double tax treaties
Group loss relief
Withholding tax
Differences in tax rates / double tax treaties
if one org acquires another from another country, different tax rates likely
OECD publishes model Double Taxation Convention - primary function to avoid double taxation and decide which country shall have the right to tax income
