Mergers and acquisitions
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The phrase mergers and acquisitions or M&A refers to the aspect of corporate finance strategy and management dealing with the merging and acquiring of different companies as well as assets. Usually mergers occur in a friendly setting where executives from the respective companies participate in a due diligence process to ensure a successful combination of all parts. Historically, though, mergers have often failed to add significantly to shareholder value.
On other occasions, acquisitions can happen through hostile takeover by purchasing the majority of outstanding shares of a company in the open stock market. In the United States, business laws vary from state to state whereby some companies have limited protection against hostile takeover. One form of protection against hostile takeover is the so-called "poison pill". See Delaware corporations.
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Financing M&A
Technically, what differentiates a merger from an acquisition is how it is financed. Various methods of financing an M&A deal exist:
- Merger: A stock swap involves exchanging stock in one company for the shares of the other company.
- Acquisition: A cash deal involves buying a target company with cash.
In some cases, a company may acquire another company by issuing junk bonds to raise funds. In a 1985 merger between Pantry Pride and Revlon, Pantry Pride had to issue 2.1 billion dollars of high-yield debt to buy Revlon. The target Revlon was worth 5 times the acquirer.
Motives behind M&A
These motives are considered to add shareholder value:
- Economies of scale: This refers to the fact that the combined company can often reduce duplicate departments or operations, lowering the costs of the company relative to theoretically the same revenue stream, thus increasing profit.
- Increased revenue: This motive assumes that the company will be absorbing a major competitor and increasing its power to set prices.
- Cross Selling: For example, a bank buying a stock broker could then sell its banking products to the stock broker's customers, while the broker can sign up the bank's customers for brokerage accounts.
- Synergy: Better use of complementary resources.
- Taxes: A profitable company can buy a loss maker to use the target's tax write-offs.
- Geographical or other diversification: This is designed to smooth the earnings results of a company, which over the long term smooths the stock price of a company, giving conservative investors more confidence in investing in the company
These motives are considered to not add shareholder value:
- Diversification: Tend to be unprofitable due to conflict of interest.
- Overextension: Ttend to make the organization fuzzy and unmanageable.
- Manager's hubris: Oftentimes the executives of a company will just buy others because doing so is newsworthy and increases the profile of the company.
- Empire Building: Managers have a larger companies to manage and hence more power
- Manager's Compensation: In the past, certain executive management teams had their payout based on the total amount of profit of the company, instead of the profit per share, which would give the team a perverse incentive to buy companies to increase the total profit while decreasing the profit per share (which hurts the owners of the company, the shareholders); although some empirical studies show that compensation is rather linked to profitablity and not mere profits of the company
- Bootstrapping: Example: how ITT executed its merger.
M&A and Investment Banking
Historically, Investment Banks (intermediaries which assist companies in selling ownership of themselves as stock or borrowing money directly from investors in the form of bonds) have been closely associated with merger and acquisition activity since a merger or acquisition is a sales opportunity for the Investment Bank. If the company wants to merge with another, it must attain a fair market value for its shares to be swapped which would involve an investment bank. If it wants to buy the other company with borrowed money, it would most likely borrow directly from investors in the form of bonds through a private placement, engineered by the investment bank. Thus, Investment Banks position themselves to act as advisors on mergers and aqusitions and usually charge large fees for doing so.
This system however, gives an incentive to Investment Banks to try and stimulate as much M&A activity as possible, even though the result might not be good for the shareholders of the acquiring company. The amount of influence this has is unclear since this activity is usually secret and since the majority of merger proposals do not go through.
M&A marketplace difficulties
No effective marketplace currently exists for the mergers and acquisitions of privately-owned small to mid-sized companies. Market participants often wish to maintain a level of secrecy about their efforts to buy or sell such companies. Their concern for secrecy usually arises from the possible negative reactions a company's employees, bankers, suppliers, customers and others might have if the effort or interest to seek a transaction were to become known. This need for secrecy has thus far thwarted the emergence of a public forum or marketplace to serve as a clearinghouse for this large volume of business.
At present, the process by which a company is bought or sold can prove difficult, slow and expensive. A transaction typically requires six to nine months and involves many steps. Locating parties with whom to conduct a transaction forms one step in the overall process and perhaps the most difficult one. Qualified and interested buyers of multimillion dollar corporations are hard to find. Even more difficulties attend bringing a number of potential buyers forward simultaneously during negotiations. Potential acquirers in industry simply cannot effectively "monitor" the economy at large for acquisition opportunities even though some may fit well within their company's operations or plans.
An industry of professional "middlemen" (known variously as intermediaries, business brokers, and investment bankers) exists to facilitate M&A transactions. These professionals do not provide their services cheaply and generally resort to previously-established personal contacts, direct-calling campaigns, and placing advertisements in various media. In servicing their clients they attempt to create a one-time market for a one-time transaction. Many but not all transactions use intermediaries on one or both sides. Despite best intentions, intermediaries can operate inefficiently because of the slow and limiting nature of having to rely heavily on telephone communications. Many phone calls fail to contact with the intended party. Busy executives tend to be impatient when dealing with sales calls concerning opportunities in which they have no interest. These marketing problems typify any private negotiated markets.
The market inefficiencies can prove detrimental for this important sector of the economy. Beyond the intermediaries' high fees, the current process for mergers and acquisitions has the effect of causing private companies to sell at a significant discount relative to what the same company might sell for were it publicly owned and traded on a functioning exchange. An important and large sector of the entire economy is held back by the difficulty in conducting corporate M&A (and also in raising equity or debt capital). Furthermore, it is likely that since privately-held companies are so difficult to sell they are not sold as often as they might or should be.
Previous attempts to streamline the M&A process through computers have failed to succeed on a large scale because they have provided mere "bulletin boards" - static information that advertises one firm's opportunities. Users must still seek other sources for opportunities just as if the bulletin board were not electronic. A "multiple listings service" concept has not been applicable to M&A due to the need for confidentiality. Consequently, there is a need for a method and apparatus for efficiently executing M&A transactions without compromising the confidentiality of parties involved and without the unauthorized release of information. One part of the M&A process which can be improved significantly using networked computers is the improved access to "data rooms" during the due diligence process.
Levels and flows
Worldwide Completed Mergers & Acquisitions reported by Thomson Financial ([1] (http://www.thomson.com/financial/investbank/fi_investbank_league_tablearchive_mergers.jsp)) ($ trillion)
- 2004: 1.516 (Q4 2004 report)
- 2003: 1.149 (Q4 2003 report)
- 2002: 1.337 (Q4 2003 report) 1.316 (Q4 2002 report)
- 2001: 2.186 (Q4 2002 report)
Worldwide Announced Mergers & Acquisitions
- 2004: 1.949 (Q4 2004 report)
- 2003: 1.333 (Q4 2003 report)
- 2002: 1.207 (Q4 2003 report) 1.230 (Q4 2002 report)
- 2001: 1.701 (Q4 2002 report)
See also
Accounting
Data
- Thomson Financial League Tables
- DealFocus, http://www.dealfocus.com
- German deal statistics (http://www.tech-corporatefinance.de)
External links
Academic Research Institutions
- Institute of Mergers, Acquisitions and Alliances (MANDA) (http://www.manda-institute.org)
Blogs
- Buyout Blog (http://www.buyoutblog.com/)
European Union
- FT.com / World / US - EU agrees rules to ease cross-border mergers - November 26 2004 (http://news.ft.com/cms/s/f4c1628c-401c-11d9-bd0e-00000e2511c8.html)
- EU Approves Rules For Cross-Border Mergers - November 25, 2004 (http://money.cnn.com/services/tickerheadlines/djh/200411251414DOWJONESDJONLINE000741.htm)
- CEPS Articles - The Challenge of the 13th Takeover Directive in the EU - March 2003 (http://www.ceps.be/Article.php?article_id=101)
- Debevoise | Publications - The European Commission Tries Again - October 10, 2002 (http://www.debevoise.com/publications/pubsdetail.asp?pubid=1644510102002&typeid=4)
Magazines
- Mergers & Acquisitions (http://www.majournal.com/)
- TheDeal.com (http://www.thedeal.com/)
- M&A Asia (http://www.asianfn.com/journals/journal_avcj_ma.asp)de:Mergers_&_Acquisitions