Mergers and Acquisitions (M&A)

In this blog, I will discuss Mergers and Acquisitions (M&A) and what affects they have upon businesses.

A merger is defined as: the combining of two business entities under common ownership. (Arnold, 2008). There is a few businesses that have proven to be successful mergers, these include companies such as Glaxo and SmithKline and Kraft’s takeover of Cadbury.

There are 2 primary motivations for companies to make acquisitions:

• Fill a strategic gap in the company’s product, resources (people) and capabilities.
• Help the company enter a new market preferably with a revenue stream.

However, many companies worry with the takeover as the smaller companies will wonder what will happen to them. An example of this is when Cadbury’s had a worrying feeling that Kraft’s would turn them into an Americanised company. However, the growth and expansion of Cadbury’s since the takeover has proved it has worked and that the two companies can work together. Both companies benefit from this merger equally and this shows within their growth and expansion.

The main benefits of a merger include;

Synergy – This is where two firms together are worth more than the value of the firms apart.

Economies of Scale

Market Power

Entry to new markets and industries

Tax advantages

Risk diversification

Bargain buying – Which is where the target can be purchased at a price below the present value of the targets future cash flow when in the hands of new management.

Elimination of inefficient and misguided management.

Under-valued shares: “strong form, semi-strong form or stock market inefficiency.”

Managerial motives

Empire building

Status

Power

SurvivalFree cash flow

Third party motives

Advisers

At the insistence of customers or suppliers

GlaxoSmithKline is a prime example of a synergy as both companies separately weren’t

hugely well known whereas together they are a globally known company. The increased

value of both companies comes from the increase in revenue and the reputation of both

companies. Market power is an important driving force for mergers. Mergers are often

formed in order to ensure competitors are shut out. 

Economies of scale are an important contributor to synergy. Larger size usually leads to lower cost per unit of output. Mergers identify savings from sharing their central services such as administrative activities and accounting.

If a firm has lack of knowledge of a certain market, the quickest way to establish itself is through the purchase of an existing company in that specific product or geographical market. Furthermore, creating a new participant in a market may generate excessive competition, producing the danger of a price war and thus eliminating profits. This can be a major disadvantage for a firm.

Managers also play a big part in mergers. Superior management are created when two managers join forces, perhaps ridding of those managers who are not fully committed to the company but also the motives of the managers to build an empire can help the company to grow.

A recent example is Softbank Corp. and there recent bid to merge with T-Mobile, of which T-Mobile declined. In a bid to become an industrial leader the CEO of Softbank Corp has been trying to expand the business exponentially over recent years and has hit a wall with T-Mobile who has said no.

  

Although the merger discussions have created an increase in share price, the companies have yet to agree on a price. Here is a perfect example of the managerial effects within a merger, and perhaps here we can see the winner's curse, in that the Softbank CEO believes his company are unstoppable and will become a world leader, of which T-Mobile aren't playing along.

All mergers are not equally successful however, with a large number being unsuccessful, which can be linked to the attitudes of the managers. Shareholder approval is generally needed to allow for a merger, but as acquisitions can be unprofitable to the acquirer and wealth is transferred rather than gained, a merger may not always be in the favour of the shareholder.

The merger process has set rules and codes provided by ‘the city code on takeovers and mergers.’ The fundamental objective of the takeover panel regulation is to ensure fair and equal treatment for all shareholders. The main areas of concern are;

·         Shareholders being treated differently, e.g. large shareholders getting a special deal.

·         Insider dealing

·         Lack of adequate and timely information released to shareholders

·         The bid process dragging on and thus distracting management

The merger process

Overall, a merger may seem a good idea and there are many success stories out there where businesses have merged and there have been good outcomes for the business. However, the needs of the shareholders cannot be denied and a hostile takeover can only lead to a negative effect on share price. Company's therefore need to seriously consider the benefits of the merger, or even the impact of doing nothing upon the company's profitability and scope before making any deals.

There are three main reasons why mergers could fail;

·         The strategy is misguided

·         Over optimism

·         Failure of integration management