The Economic Effect of Significant Transactions

Question 1

What are the 4 types of business combinations?

Answer 1

• horizontal
• vertical
• circular
• diagonal

Question 2

What are the 6 types of business transactions?

Answer 2

• mergers
• acquisitions
• consolidations
• tender offers
• purchases of assets
• management acquisitions

Question 3

Define a horizontal business combination

Answer 3

• when companies in the same industry that produce the same goods or provide the same services join together under single management/leadership
• horizontal and vertical combos offer benefits, such as reduced competition, economies of scale leading to reduced costs, expertise at various levels of production, minimized overproduction and maximized profits
• ex: when heinz and kraft foods merged into kraft heinz company in 2015

Question 4

Describe a vertical business combination

Answer 4

• the combination of companies at different stages of the production process
• companies can be from the same industry or multiple industries
• can assure the supply of raw materials (backward integration) or provide a stable market for products sold (forward integration)
• ex: when time warner merged with turner broadcasting in 1996, giving time warner access to many cable TV channels and films that were previously owned by turner

Question 5

Define a circular business combination

Answer 5

• when different types of businesses with relatively remote connections come together under single management
• relationship can come from using similar distribution or advertising channels, or requiring similar production processes
• having one mgmt group over the combined units reduces overall administrative and other operational costs
• ex: pharma inc. acquires letson watson (co. specializing in building residential real estate for adult communities 55+) to expand its business within its current market and take advantage of potential cost reductions

Question 6

Describe a diagonal business combination

Answer 6

• when a co. that engages in an activity integrates with another co. that provides ancillary support for that primary activity
• purpose is to ensure that the ancillary support is delivered in a timely and effective manner
• ex: if a co. that breeds livestock and sells meat to high end grocery stores would merge with a co. that transports the meat in refrigerated trucks

Question 7

Define a merger transaction

Answer 7

• when 2 or more entities combine to form a single new corp with the stock of all merging companies surrendered and replaced with new stock in the name of the new company
• involve the combo of like-sized companies
• ex: dell and EMC corp merged to become dell technologies in 2016, 2 powerful tech franchises

Question 8

Define an acquisition transaction

Answer 8

• the acquisition of one company by another involves no new company
• only the acquirer remains after the acquisition
• the acquired firm may retain its legal structure and name or it may be subsumed by the acquirer and cease to exist
• ex: AT&T reacquired Bell South per instruction of the US DOJ to divest its regional telephone companies, retaining the name AT&T

Question 9

Define a tender offer transaction

Answer 9

• a company makes an offer directly to shareholders to buy the outstanding shares of another company at a specified price
• offer may be in cash form or securities of the acquiring corp
• shareholders of the target company have the option of accepting or rejecting the offer
• ex: biltmore inc. offers $13 per share to buy stock directly from the shareholders of Alexander co which sells at $11 per share

Question 10

Define the purchase of assets transaction

Answer 10

• occurs when a portion (or all) of the selling company’s assets are purchased by the acquiring company, which may result in the dissolution of the selling company
• shareholder approval must be obtained
• ex: Lox industries enters into an asset purchase agreement with bright star inc to purchase approx. 80% of the latter’s buildings and equipment and agrees to assume the liabilities associated with mortgages outstanding on the buildings and capital leases on the equipment purchased

Question 11

What is a divestiture? What are the 3 divestiture transactions?

Answer 11

• involves the partial or full disposal of a component or business unit of a company
• sell offs, spin offs and equity carve outs

Question 12

Define a sell off transaction

Answer 12

• an outright sale of a subsidiary because the subsids core competencies do not align with the overall company or because there is a lack of synergy between the company and its subsidiary
• legal action stemming from anticompetitive or antitrust practices may also require a sell off
• ex: BeckCo thinks its ownership of Blended is causing the entity to be undervalued and sells the assets and liabilities to another entity in hopes that investors will react favorably to the sale and increase stock price

Question 13

Define a spin off transaction

Answer 13

• creates a new, independent company by separating a subsidiary business from a parent company
• can be completed by distributing stock in the new entity as a stock dividend to existing shareholders or by offering shareholders stock in the new co in exchange for their stock in the parent co
• occur when a unit is less profitable and/or unrelated to the core parent business
• assumption is that the ops of the unit after a spin off are expected to have more value than they did as part of the larger acquisition
• ex: Eli Lilly shifted its focus purely to pharmaceuticals and spun off its medical devices division which went public as Guidant in 1994

Question 14

Define an equity carve out transaction

Answer 14

• occurs when a subsidiary is made public through an IPO thereby creating a new publicly listed company
• the sale of shares in the new co generates cash for the parent as well as providing the parent with a controlling interest in the subsidiary
• the hope is this strategy will unlock the independent value of the subsidiary previously contained within the merged entity