Session 1 Flashcards
What are change forces
external and internal industry dynamics that drive companies to pursue M&As. They are the underlying motivations or pressures which drive companies to seek strategic combinations to adapt, compete and thrive in evolving markets. Reflect change in economic, technological, social and competitive landscapes making MAs compelling growth strategies.
Industry shock hypothesis
- posited by Gort (1969)
- builds on existence of change forces and posited that sudden shocks (changes in tech, econ, social environment) affecting an industry, drive companies to pursue mergers.
Mitchell and Mulherin
Produced empirical study, of 51 US industries, and found that industry specific shocks correlated with periods of high MA activity
What are the most common shocks
Stock price movements and technological change.
technological change
may lead to new products and processes, resulting in unforseen demand industry wide, triggering an increase in MA frequency
Shin et al
Cited that obtaining technical knowledge and capabilities was becoming an increasing motivation for MA pursuit
Criticism of Industry shock hypothesis
Industry shocks tend to occur in periods of high liquidity and this liquidity is cited as a more robust explanation of mergers and merger waves.
Liquidity drivers
Posited by alexandris et al 2012
State liquidity rich environments act as a catalyst for firms to capatalise on favourable conditions.
Petzemos and Travlos (2013)
empirical study on target firm liquidity and MA activity
Findings:
- acquiring more liquid firms increase stock liquidity of acquirer
- increase likelihood of deal completion
- results in higher shareholder compensation
All of which may act as motivations to pursue mergers
Intertest rates
encourage firms to take on more debt and makes financing MAs easier
Bonaime et al
Policy uncertainty incentivizes acquirers to be more prudent when undertaking MA deals, once again highlighting liquidity as a driving factor
synergy hypothesis
firms are driven by economic gains created when firms merger their resources and operations
Seth et al 2000
supports synergy hypothesis
surveyed underlying motives of managers and found that they were driven to pursue deals they perceived would improve economic standing.
Relevance: these economic gains stem from ability to optimise management, enhance production processes, realise economies of scale, integrate complementary resources, exploit market power etc.
3 types of synergies
financial, operational, collusive
behavioral drivers
attribute managerial discretion and hubris to be driving factor of merger pursuit
Hubris hypothesis
(roll, 1969)
managers are overconfident in their abilities to generate positive returns for mergers. This inflated view of their abilities may lead managers to pursue risky or challanging projects
Managerial discretion theory
(Williamson, 1969)
managers are concerned with the success of the firm only to the extent that benefits them personally.
Could be in terms of - salary, dominance and professional excellence.
Managers may be motivated deals despite being value-depricating, for personal gains.
Rational explanation of merger waves
Posit that both the managers and the market are rational and look to maximise long term value
Gort (1969)
Posits merger waves arise in response to economic activity and disequilibrium in product market is created.
Some leading firms are then optimistic about demand, viewing targets at higher values and proceed to takeovers.
‘Me too approach’ seen where competitors follow this activity creating merger momentum.
Q ratio
Ration between market value and replacement value,
with firms at a higher Q being: overvalued, better managed , efficeint use of assets
Rosseu
mergers are a vehicle in which capital flows to better products and better management as high Q firms buy low Q firms, meaning assets are acquired by better value firms leading to higher value creation
Drawback
can explain mergers but don’t explain why they cluster in time
What is a dubious reason for merger waves
monopolistic motives
monopolistic motives
Prevalent during early waves however, development of anti-trust laws.
current anti-trust laws inhibit monopolistic motives as being a main driver of mergers, however mergers leading to monopolistic gains are still possible.
what are monopolistic gains
Refer to the desire to enhance gains or increase market power, by reducing competition.
Companies pursue these merger to dominate a market, control prices or create barriers for competition
empirical study on monopolistic gains
M&A transaction in machinery industries:
In concentated industries- M&A driven by efficiency gains rather than monopoly gains
In fragmented industries- prevalence in monopoly as motive
wave 1
1900s (only in US)
- mainly firms pursuing horizontal deals to reduce competition and achieve economies of scale
- produced monopolies meaning resulting firms controlled markets
driver of wave 1
- driven by tech changes, economic expansion, new legislation ,development of industrial stock exchanges.
- coincided with rapid industrialisation and was prevalent in heavy industries- development in production processes and large scale manufacturing
-economic conditions: abundant liquidity and capital- made financing deals easier - unregulated business environment and weak anti-trust regs allowed monopolitic practices to thrive- emergence of industrial drivers
empirical evidence
many monopolies and oligopolies formed makes people assume motive was creating favourable industry conditions.
BUT, empirical evidence shows that competitors suffered value loss- converse to theory of consolidation. Where all competitors should benefit.
Significant abnormal returns (12-18% CARS) generate throughout wave showing M&A significant tool in improving perfromance.
end of wave 1
Stock market crash and beggining of WW1- freindly M&A cash financed
Wave 2
followed economic recovery after ww1
vertical and conglomerate mergers- goal to form oligopolies
- shift reflected change in economic enviornment- tech advancements in mass production and comms
wave 2 driver
economic optimism, encourage corporate expansion.
firms dough to streamline and mitigate risks via diversification.
General motors- vertical- enhance production efficiency
conglomeration- shield from market volatility
stronger anti-trust enforcement discouraged formation of monopolies pushing firms toward strategies surrounding efficiency and diversification.
performance of wave 2
(leeth and borg) 15% CARS for target firms
This was not mirrored by acquiring firms returns who did not realise positive returns.
Combined returns of target and bidding firms were insignificant.
Also found returns unaffected by mode of entry and degree of relatedness
end of wave 2
stock market crash- coinciding with great depression, higher total value than prior wave.
Stock financed.
wave 3
UK, US, Europe
Rise in unrelated diversification (conglomerate merger wave)
wave aim: mitigate risk and stabalise earnings
Friendly stock financed acquisitions- large firms acquiring small firms outside their line of focus
driver of wave 3
regulatory relaxation-allowing firms to merge across unrelated industries without reg pushback.
‘managerial revolution’ - manager prioritised growth and stability over maximising shareholder returns
performance of the third wave
mixed.
Hubbard and Palia (1999)- bidder abnormal returns positive- positive market reaction to announcement of conglomerate mergers
Ravenscraft et al (1987)- profitability of acquiring firms didnt improve- many of the prevously acquired targets were divested, consistent with notion that conglomerate mergers are not efficient.
wave 4
International wave
Hostile takeovers, LBOs with financial innovation critical role of financing acquisitions- junk bonds.
driver of wave 4
(schliefer and Vishny, 1991)
ineffiences of conglomerate formed in previous wave became apparent by 80s, driving wave. Led to selling of subsidiaries and reorganisation.
Wave coincide with period of deregulation easing restrictions in industries, creating opportunities esp in those where competiton was previously constrained.
marked rise of shareholder activism where institutional investors pressure companies to enhance shareholder value. Led to cost cutting, restucturing and divestitures after acquisitions.
financing of wave 4
relied on junk bonds to finance large acquisitions- high risk, high yield debt instruments.
wave 4 end
stock market crashes driving deals to decrease- cash financed
performance of the wave
consistet across literature schleifer et al (1990)- positive results for related MAs, negative results for unrelated M&As.
Healy found profitability improvements for firms in 80s
wave 5
International wave, coincided with economic and financial boom- strategic consolidations driven by globalisation and tech advancements.
focussed on operational synergies and market expansion- only 4% of deals being hostile (andrade)
driver of wave 5
During period of economic growth and increasing international trade fuelled by cold war and digital tech advancements.
companies sough to use internet and emerging tech to enhance efficiency and access new markets.
Reg enviornment more permissive- reg bodies showing greater tolerance for large scale mergers promising more economic growth.
wave 5 and CBA
Saw rise in M&A for growth- rise in CBA.
End of wave 5
ended when stock market crashed
mostly stock financed
performance of wave 5
aysymmetric pattern for target and acquiring companies
Renneboog (2008)- targets had 16% abnormal returns when bidding companies tended not to benefit.
wave 6
Global surge in MA activity.
driven by favourable economic conditions, financial innovation, globalisation.
private equity wave- dominance of PE firms and LBOs
Record breaking deal values, increase in CBA and sector specific consolidations
PE dominance: pivotal role in wave- utilsed substantil amount of debt- acquire companies, restructure, resell at profit. Driven by availability of cheap debt, low IR.
Globalisation: companies sought to expand into new markets and grow consumer bases, access cheaper production.
end of wave 6:
2008 financial crisis, exposed vulnerabilities of over leveraged deals, as collapsing credit markets made it impossible to refinance debt.
Forced a change in strategy- prioritised risk management, move away from agressive levaraging
7th wave
New set of priorities post 2008 crisis
CBA prominent- low IR
M&A created more value for acquiring firm shareholders post 2009 than ever before.
Cause of upturn of wave 7
Public acquisitions- fuel positive and stat sig. abnormal returns
Performance of wave- emp ev
Alexandris et al
reports significant improvement in acquirer returns during 2010-2015 period.
More than half of M&A deals fail to create value for acquirers doesnt apply to this period. Where majority of public acquirers find positive CARs.
2024 merger activity
significantly reduced- inc in PE industry.
Perhaps due to economic uncertainty
end of 2023- gained momentum as market regained confidence - easing inflation- stability in IR
Tech- remained strong- as AI etc. continued to createa intertest in sector.
Cash remains commonly used in UK
Hostile tender offers - 12- 18% of deals annually.
Differences in US and UK merger activity
- Market Structure
- Reg environment
- Culture/ Strategy
market structure
US: larger economy, capital market, larger array of industries and firms- leads to higher vol of MA activity. PE also plays significant role in US mergers-leveraging abundant capital for acquisitions
UK: smaller and more concentrated in certain sectors. CB more prominent in UK as companies seek growth outside limited domestic market
Reg environment
US;
- heavily influenced by anti-trust regulation. Focusses on preventing monopolies and protecting consumer interests, deter certain horizontal mergers
UK:
- has similar reg bodies but they are less agressive. Influenced by EU competiton law- esp for CB.
Culture and strategy
US: more aggressive in pursuing growth through acquisitions, driven by culture of innovation and risk taking. PE and VC play more significant role- during LBO and acq of startups.
UK: focus on strategic acquisitions for long term growth rather than short term financial engineering
M&A decisions often more conservative- influenced by traditional management processes and stakeholder consderations
Why are mergers difficult to value
- benefits from mergers difficult to quantify
- acquiring companies often dont know what they are buying
Types of buyers: strategic buyers
other companies, often direct competitors or companies operating in adjacent industries such that the target company would fit in nicely with the acquirers core business.
financial acquirers
: institutional buyers, such as PE firms, that are looking to own but not directly operate the acquisition target (LBO)
Corporate restructuring deals with actions taken to expand or contract a firms basic operations or fundamentally change its operational structure (purchase/sale of company product lines, downsizing by closing unprofitable or even strategic facilities).
Or financial structure (change its total debt and equity structure)
5 stage model of M&A
- Corporate strategy development
- Organising for the acquisition
- Deal structuring and negotiation
- Post acquisition audit and organisational learning
- post acquisition learning
Stage 1:
corporate strategy development
In this stage targets are set including business strategies, where it is important to ensure a suitable business strategy is selected otherwise the merger Is likely to fail.
Corporate objectives are also set to optimise the portfolio of businesses to serve shareholders’ interests. This may include the use of porters 5 forces analysis.
Under this model firms make acquisitions to gain market power, gain economies of scale and scope and save cost of dealing with markets.
Stage 2:
organising for acquisition
Precondition for success: organise yourself for effective acquisition making
Success: clear and thorough definitions of target that have been decide in order to create value. Lack of organisational resources can lead to failure. Managerial biases can also lead to failure as they may overvalue synergies and underestimate risk.
Stage 3:
deal structuring and negotiation
Very important stage in which the target firm is valued, and payment method is decided. During this stage advisors are chosen, and due diligence is performed.
The post-acquisition managerial roles are decided, and an appropriate bid and defence strategy is devised.
Stage 4:
post-acquisition integration
Put in place the deal/ merged organisation in order to deliver the initial goods and value expectations.
Includes a change in:
Target firm
Acquiring firm
Attitude and behaviour of both firms
Its critical its viewed as a project with goals, deadlines and performance benchmarks. The period of integration Is a great time of uncertainty.
Post acquisition audit and organisational learning:
Sometimes neglected
- Lack of organisational emphasis on learning
- Each deal is unique, past experience may seem irrelevant
- Past learning lies in individuals experience
- Individuals experience is not easy to be communicated.
impact of mergers
society, Competition, Product innovation,Diversification:
Society:
Mergers can create jobs in newly formed divisions
Cost cutting measures such as workforce reductions or plant closures can lead to job losses. Closure of local plants can harm local economies. This is highlighted by a significant transfer of wealth from employees to shareholders which further exacerbates income and wealth inequality. However, successful mergers can contribute to overall economic growth
Competition:
Market consolidation often occurs, reducing the number of competitors in an industry, overall leading to monopolistic or oligopolistic market structures. This means that firms may be able to charge higher prices, lower service quality, and less consumer choice as there are fewer alternatives. On the other hand, when firms merge with similar firms or firms within the production channel, they are able to realise economies of scale and scope benefits, which could then be passed on to customers through lower prices.
Product innovation:
Mergers may combine the resources and expertise of two companies, leading to greater innovation.
Reduced competition can reduce need for innovation, firms in monopolistic positions may feel less pressure to invest in new products or technologies.
Mergers enable companies to acquire emerging technologies, accelerate product development and market entry.
Diversification:
Mergers allow companies to diversify into new markets or industries, reducing dependencies on a single revenue source.
Diversification mergers can help companies enter new geographic markets, reaching new customer bases.
Over diversification can dilute a company’s key competencies, leading to inefficiencies and reduced competitiveness
hard vs soft synergies
Hard synergies (operating or operational) are direct cost savings to be realised after completion of the M&A process
Soft synergies: also called financial synergies, are revenue increases that the acquirer hopes to realise after the deal closes.
