M&A (W11)

Question 1

Merger

Answer 1

One firm acquired by another, acquiring firm retains name and acquired firm ceases to exist.

Question 2

Advantage/Disadvantage Merger

Answer 2

Adv - Legally simple
Disadv - Must be approved by stockholders of both firms

Question 3

Consolidation

Answer 3

Entirely new firm created from combination of existing firms

Question 4

Acquisition

Answer 4

Involve one company purchasing another by acquiring a controlling interest in its voting shares.

Question 5

Acquisition should represent

Answer 5

NPV positive investment, may have financing and capital structure effects

Question 6

Acquisitions involve major changes in ownership and control of valuable assets resulting in… (2)

Answer 6

Major form of growth, expansion, and industry consolidation for firms
Major source of wealth creation for shareholders

Question 7

Positive relationship between acquisition activity and…

Answer 7

The behaviour of the stock market and movement in share price

Question 8

Types of Acquisitions (3)

Answer 8

Horizontal
Vertical
Conglomerate

Question 9

Horizontal Acquisition

Answer 9

Target company operating in the same industry and production stage as the acquiring company.

Question 10

Vertical Acquisition

Answer 10

Target company either a supplier of goods or services or a consumer of goods and services provided by the acquiring company –> extending the product line.

Question 11

Conglomerate Acquisition

Answer 11

Target company in a unrelated type of business

Question 12

Main motive for acquisitons

Answer 12

Synergy creation or economic gains

Question 13

Sources of synergy (4)

Answer 13

Revenue Enhancement
Cost Reduction
Tax Gain
Reduced Capital Requirements

Question 14

Revenue Enhancement (4)

Answer 14

Increasing revenue while maintaining same cost base
Market/monopoly power
Accessing new distribution networks and improve product offerings
Strategic benefits

Question 15

Cost Reduction

Answer 15

Reducing costs while maintaining same revenue base
Economies of scale
Economies of scope
Technology transfers/expertise
Elimination of inefficient management and reduction in agency costs

Question 16

Tax Gain

Answer 16

Net tax losses to reduce company tax payable
Accessing unused or new debt capacity

Question 17

Reduced Capital Requirements

Answer 17

Identification and disposal of duplicate fixed and working capital

Question 18

Financial Side Effects of Acquisitions (2)

Answer 18

Earnings Growth
Diversification –> risk reduction benefits in any acquisition, access to private companies with low liquidity

Question 19

Types of Acquisitions (3)

Answer 19

Off-Market/Formal Offer
On-Market Offer
Time-Delayed Purchase/Slow Burn Takeover

Question 20

Off-Market/Formal Offer

Answer 20

Offer made directly to all shareholders of target company to acquire part or all of their shares
Typically remains open for a minimum of 1 month
Bidder required to issue a bidder statement outlining terms of the offer.
Target management required to respond to response statement.

Question 21

On-Market Offer (3)

Answer 21

Requires bidder to stand in the market and acquire, all shares offered on the exchange at a specified cash-only price.
Offer can be revised and extended for up to 12 months without approval.
Faster to start but higher risk

Question 22

Time-Delayed Purchase –> Slow Burn Takeover for On Market Offer (2)

Answer 22

Allows for acquisition of no more than 3% of the target’s shares every 6 months, provided that threshold ownership level of 19% has been maintained for at least 6 months.
No announcements or offer documents required.

Question 23

Defensive Tactics in Acquisitions (4)

Answer 23

Use of arrangements are common in US such as
- Poison pills –> illegal in some countries
- Anti-takeover amendments
- Golden Parachutes
- White Knights

Question 24

Less Controversial Defensive Tactics (5)

Answer 24

Target management opposition offsets
Private transactions
Expert valuations
Litigation
Advertising and Media Reporting

Question 25

Evaluations of Acquisitions (2)

Answer 25

EPS
NPV

Question 25

EPS Evaluation

Answer 25

Effect of the acquisition on the EPS, P/E ratio and share price

Question 25

Steps of EPS Evaluation (4)

Answer 25

• Determine the share exchange ratio
• Determine the number of shares issued to target company B
• Determine new EPS and share price for merged firm
• Calculate gain/no gain

Question 26

Cash Flow (NPV) Evaluation

Answer 26

Determine whether the acquisition represents a positive NPV investment decision from the bidding firm

Question 27

EPS vs. Cash Flow

Answer 27

EPS focuses on short run effects
Immediate effect of the acquisition on EPS
Biased against long-term value creating acquistions

Cash flow focuses on long run benefits
Whether incremental cash flow exceeds cost
Better incorporates the long-term benefits

Question 28

Quite often acquisitions are a combination of

Answer 28

Cash and shares’
Bidding firm pays C dollars of cash and w shares of a firm each share of firm B

Question 29

Shareholders of target firms experience…

Answer 29

Excess returns are primarily due to large bid premiums required to be offered. Bidders’ firms shareholders on average do not earn or lose a large amount (overestimate expected synergies, confident behaviour, integration problems post-acquisition)

Question 30

Divestitures

Answer 30

Sale of a division, business unit, segment or set of assets to another company or group of shareholders, creating value for shareholders.

Question 30

Spin Offs

Answer 30

Company creates a new company out of subsidiary and distributes the shares of the new company to the parent company’s stockholders.

Question 31

Equity Carve Outs

Answer 31

Company creates new company out of subsidiary and then sells a minority interest to the public through an IPO.