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Mergers and Acquisitions > LECTURE 1: Introduction and Historic, Conceptual and Performance Overview > Flashcards

LECTURE 1: Introduction and Historic, Conceptual and Performance Overview Flashcards

1
Q

What is the 5 stage model of M&A?

A
  1. Corporate Strategy Development
  2. Organising for the Acquisition
  3. Deal Structuring and Negotiation
  4. Post Acquisition Integration
  5. Post Acquisition Audit and Organisational Learning.
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2
Q

Describe Stage 1: Corporate Strategy Development

A

Define overall strategy - the foundation for an effective M&A strategy is the overall strategy that addresses:
markets, products/services, human capital, financial goals, risk tolerance, timeliness.
Need to understand risk tolerance of target and buyer.
Determine whether M&A is even a viable option to achieve business objectives.
Decide target criteria:
size, revenue/revenue growth, earnings/earnings growth, management ream profiles, complete vs partial acquisitions, geographic location, financing constraints

  1. Set Targets
  2. Business strategies:
    - competitive advantage in product markets
    - sustainable business strategy model (inappropriate model -> merger likely to fail)
  3. Corporate objectives:
    - Optimise portfolio of businesses to serve shareholders’ interests.
    - Firm make acquisitions - gain market power, gain economies of scale and scope, save cost of dealing with markets.
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3
Q

Describe Stage 2: Organising for the acquisition

A
  • Precondition for success: organise yourself for effective acquisition-making.
  • Success: clear and thorough definitions of target that have been decided in order to create value
  • Lack of organisational resources can lead to failure
  • Managerial biases can also lead to failure
  • Managerial biases can also lead to failure (objectives are not always rational) - overvalue synergies/target firm, underestimate risk.
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4
Q

Describe Stage 3: Deal Structuring and Negotiation

A
  • Value target firm
  • Selection of advisors
  • Decide on payment method(s)
  • Obtain and evaluate intelligence (understanding) for target firm (either from target or other resources)
  • Perform due diligence (investigation, examination)
  • Negotiate the post-acquisition managerial roles
  • Develop appropriate bid and defence strategies
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5
Q

Describe Stage 4: Post-Acquisition Integration

A

Put in place the deal/ merged organisation in order to deliver the initial goals and value expectations.

  • Change of: target firm, acquiring firm, attitude and behaviour of both firms.
  • It has to be viewed as a project (goals, deadlines, performance benchmarks, etc)
  • Integration time: time of great uncertainty
  • Organisational/national culture compatibility.
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6
Q

Describe stage 5: Post-Acquisition Audit and Organisational Learning

A

This stage might not be considered as important and may be neglected (wrongly).

  • Lack of organisational emphasis on learning.
  • Each deal is considered unique, past experience may seem irrelevant.
  • Individual’s experience is not easy to be communicated.
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7
Q

MERGER WAVES

A

Mergers tend to cluster during different periods in time.

Industry clustering.

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8
Q

Describe historical merger waves in the UK

A

First wave: 1880-1905 (1899)

  • Oligopolies merger to form monopolies
  • Few merged firms control the majority of the market

Second wave: 1920s

  • Followed 1903-4 crash and World War I
  • Regulation against monopolies was enforced
  • Oligopoly industry structures

Third Wave: 1960s

  • Wave after World War II
  • Goal: achieve growth through diversification

Fourth Wave: 1980s
- Bust-up takeovers (diversified underperforming firm and then sell off various parts of it)
- LBOs (leveraged Buy-Outs, MBOs (Management Buy-Outs)
Fifth Wave: 1990s
- Mother or all waves (peaking in 1998-99)
- Emergence of new technologies (e.g. Internet, cable TV, satellite communication, etc)

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9
Q

Why do mergers cluster in time?

A
  1. Rational Economic Models (Neoclassical Theory)
    - Managers are rational
    - Markets are rational (firms are fairly priced)
    - Maximise long-term value
  2. Behavioural Models
    - Markets are not rational (overvaluation)
  • Managers take advantage of their overvaluation to proceed to takeover activity
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10
Q

What is the Q Theory (rational explanation for merger clusters)

A

Michael Gort (1969)

  • Merger waves occur when there is a rise in economic activity and disequilibrium in product market is created
  • Some investors are more optimistic about future demand -> view targets at higher values
  • Leading firms take action and proceed to takeovers
  • Competitors follow (“me to” approach)
  • Momentum for mergers is created
  • Gort’s model can explain merger waves and periods of high economic growth and period of bullmarkets
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11
Q

Q Ratio

A

High Q firms: overvalued, better managed firms, more efficient use of assets.

  • Assets are acquired by better-managed firms leading higher value creation
  • High Q buys low Q
  • While valuation dispersion and the Q-theory can explain why merger take place, it doesn’t explain why valuation differences cluster in time.
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12
Q

Describe environmental causes of historical waves

A

PEST model (Political, Economic, Social and Technical changes)

  • Transportation/mass production in 1980s
  • Information Technology in 1990s
  • Increase of Europeans spending on leisure: merge of travel firms in 1990s
  • Privatisation of UL utility firms attracted many US bidders in the 1980s
  • Political and regulatory changes in 1920s (laws against monopolistic approaches)
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13
Q

What is the effect on industry of M&As?

A

Different industries may be affected differently by economic/environmental changes.

  • Different entry barriers
  • Open new markets for products
  • Changes in technology -> changes in the cost of unit production
  • New regulations/deregulation
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14
Q

Shleifer and Vishny (2003) model

A
  • In high stock market valuation, managers take advantage of their overvalued equity to acquire “cheap” target firm.
  • They offer “overvalued” stock as a method of payment to acquire the real assets of a target firm.
  • Bidder’s stock should be more overvalued than target’s stock -> High buys low (Q theory)
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15
Q

What are the implications of Shliefer and Vishny’s (2003) model?

A
  • Managers exploit their overvaluation only by offering stock as a method of payment.
  • Target managers will sell their stock to acquirers for their own benefit.
  • Targets are undervalued/ or less overvalued that the acquirer
  • Long-run return for stock acquisitions are higher than non-acquirers.
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16
Q

Ang and Cheng (2006) - Direct evidence on the market driven acquisition theory

A

On average…

  • Overvalued bidders are more likely to proceed to stock acquisitions
  • Overvaluation is correlated with stock market returns
  • Stock acquirers are more overvalued than cash acquirers
  • Stock acquirers are overvalued relative to their targets while cash acquirers are not
  • Long run performance up to 3 years of overvalued stock acquirers is superior to that overvalued non-acquirers
17
Q

Rhodes-Kropf and Viswanathan (2004) - Market valuation and merger waves theory
Why do target firms accept overvalued stock?

A

In highly overvalued periods:

  • target firm managers have limited information
  • they know their own intrinsic value, they know their MV (that is overvalued), they know that bidders stock is overvalued but cannot disentangle the overvaluation effect.
  • Under such conditions, they overestimate synergies and accept offers.
18
Q

Rhodes-Kropf, Robinson and Viswanathan, (2005), ‘Valuation Waves and Merger Activity: The Empirical Evidence’

A

Empirically test prior RV prediction.
They use MB as an overvaluation approach.
Main Findings:
- Merging firms are more likely to be overvalued (both are likely to be overvalued)
- Takeovers take place when both bidder and target are overvalued
- Bidders are priced 20% higher than targets
- Cash acquirers are less overvalued than stock acquirers

Economic shocks could be the fundamental drivers of merger activity, but misevaluation affects how these stocks are propagated through the economy. Misevaluation affects who buys whom as well as the method of payment.

19
Q

What are the two main drivers of M&As? (economic perspective)

A

Cost - reduce

Market power - increase/strengthen

20
Q

How do M&A increase profit? (economic perspective)

A

-By reducing cost
- Or by reducing competition (creating or maintaining competitive advantage over rivals)
Competitive advantage depends on the competitive structure of the firm
- Competitive market: reduce cost (product is homogenous)
- Monopolistic market: differentiate your product to avoid or minimise direct competition.

21
Q

How do M&A create economies of scale? (economic perspective)

A
  • Cost reducing in production by increasing the scale of production
  • Production includes a fixed cost (rent, administration, equipment, marketing, selling cost, distribution, storage, etc.)
  • If you increase production, the average fixed cost goes down.
    However, if very large scales are achieved, antitrust regulation may come into play.
22
Q

How do M&As create economies of learning? (economic perspective)

A
  • Contribute by sharing best practices based on accumulated knowledge and experience of workforce.
  • Reduce cost through the learning process: more efficient scheduling of production, minimise wasteful use of material, better team work, avoid past mistakes.
23
Q

How do M&As create economies of scope? (economic perspective)

A

Economies of scope apply to multi-product firms.
The cost of producing and selling several products by one firm is lower than the sum of cost of producing and selling each individual product by individual firms.

Exploit:
- Same brand
- Similar distribution channels
- R&D
Products may share:
- the same technological basis
 - same geographical markets
- consumer groups
- managerial capabilities
24
Q

Describe the finance perspective of M&A

A

Conflict of interest among various financial claim holders of the firm.
Shareholders - maximise their wealth
Agents (management of the firm), agency cost and conflict of interests between principles (shareholders/bondholders) and agents (managers)
Deviation of shareholders wealth maximisation goal due to agency problems
Internal corporate governance constraints on managerial self-interest goals
External constraints of institutional and block shareholders

25
Q

Agency Problem - Jensen and Meckling (1976)

A
  • Model of conflicts of interests between principles and agents
  • Separation of ownership and control
  • Shareholders as owners of the company enter a contract with managers (agents)
  • Managers may pursue their own interests and neglect shareholders’ interest, ending up destroying value
  • Agency cost: divergence of interests between managers and shareholders.
  • How to minimise agency cost?: bonuses to managers in relation to share performance, close monitoring.
26
Q

Corporate governance and M&As

A
  • Merger is the ideal “vehicle” to increase a firm’s size
  • Managers’ aim may be to increase firm size: remuneration package, private benefits, empire building, through acquisitions they also earn by, newspaper coverage/ego, increase free cash flows to support acquisitions

Mergers and Acquisitions (1 decks)

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