Transcript Chapter 23
Chapter 23
MERGERS AND
ACQUISITIONS
Chapter Outline
The Legal Forms of Acquisitions
Accounting for Acquisitions
Gains from Acquisition
The Cost of an Acquisition
Defensive Tactics
Some Evidence on Acquisitions
Divestitures and Restructurings
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Legal Forms of Acquisitions
Merger or consolidation
Acquisition of stock
Acquisition of assets
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Merger versus Consolidation
Merger
◦ One firm is acquired by another
◦ Acquiring firm retains name and acquired firm
ceases to exist
Consolidation
◦ Entirely new firm is created from combination
of existing firms
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Stock Acquisition (1)
A firm can be acquired by purchasing
voting shares of the firm’s stock
Tender offer – public offer to buy shares
Circular bid – takeover bid communicated
to shareholders by direct mail
Stock exchange bid – takeover bid
communicated to shareholders through a
stock exchange
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Stock Acquisition (2)
No stockholder vote required
Can deal directly with stockholders, even
if management is unfriendly
May be delayed if some target
shareholders hold out for more money –
complete absorption requires a merger
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Acquisition Classifications
Horizontal – both firms are in the same
industry
Vertical – firms are different stages of the
production process
Conglomerate – firms are unrelated
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Takeovers
Control of a firm transfers from one
group to another
Possible forms
◦ Acquisition
◦ Proxy contest
◦ Going private (LBO vs. MBO)
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Alternatives to Merger
Strategic alliance = agreement between
firms to cooperate in pursuit of a joint
goal
Joint venture = an agreement between
firms to create a separate, co-owned
entity established to pursue a joint goal
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Accounting for Acquisitions
The Purchase Method
◦ Assets of acquired firm are written up to fair
market value
◦ Goodwill is created – difference between
purchase price and estimated fair market
value of net assets
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Gains from Acquisition
Synergy
Revenue enhancement
Cost reductions
Tax gains
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Synergy
The whole is worth more than the sum of
the parts
Synergies
should create enough benefit
to justify the cost
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Revenue Enhancement
Marketing gains
◦ Advertising
◦ Distribution network
◦ Product mix
Strategic benefits
Market power
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Cost Reductions
Economies of scale
◦ Ability to produce larger quantities while
reducing the average per unit cost
Economies of vertical integration
◦ Coordinate operations more effectively
◦ Reduced search cost for suppliers or customers
Complimentary resources
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Taxes
Tax losses
Unused debt capacity
Surplus funds
Asset write-ups
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Reducing Capital Needs
Firms may be able to manage existing
assets more effectively under one
umbrella
Some assets may be sold if they are not
needed in a combined firm
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Diversification
Diversification, in and of itself, is not a
good reason for a merger
Stockholders can diversify their own
portfolio cheaper than a firm can diversify
by acquisition
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EPS Growth
Mergers may create the appearance of growth
in earnings per share
If there are no synergies or other benefits to
the merger, then the growth in EPS is just an
artifact of a larger firm and is not true growth
In this case, the P/E ratio should fall because the
combined market value should not change
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The Cost of Acquisition:
Cash Acquisition
The NPV of a cash acquisition is
◦ NPV = VB* – cash cost
Value of the combined firm is
◦ VAB = VA + (VB* - cash cost)
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The Cost of Acquisition:
Stock Acquisition
Value of combined firm
◦ VAB = VA + VB + V
Cost of acquisition
◦ Depends on the number of shares given to the target
stockholders
◦ Depends on the price of the combined firm’s stock
after the merger
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Shares vs. Common Stock
Sharing rights
Taxes
Control
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Defensive Tactics(1)
Corporate charter
◦ Establishes conditions that allow for a
takeover
◦ Supermajority voting requirement
Targeted repurchase (Greenmail)
Standstill agreements
Exclusionary offers
Poison pills
Share rights plans
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Defensive Tactics (2)
Leveraged buyouts (LBO)
Other defensive tactics
◦ Golden parachutes
◦ Crown jewels
◦ White knight
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Evidence on Acquisitions
Shareholders of target companies tend to
earn excess returns in a merger
◦ Shareholders of target companies gain more
in a tender offer than in a straight merger
◦ Target firm managers have a tendency to
oppose mergers, thus driving up the tender
price
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More Evidence
Shareholders of bidding firms do not earn much
excess return in either a tender offer or a
straight merger
◦ Anticipated gains from mergers may not be achieved
◦ Bidding firms are generally larger, so it takes a larger
dollar gain to get the same percentage gain
◦ Management may not be acting in stockholders best
interest
◦ Takeover market may be competitive
◦ Announcement may not contain new information
about the bidding firm
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Divestitures and Restructurings
Divestiture = sale of assets, operations, or
divisions to a third party
Equity carve-out
Spin-off
Split-up
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