Transcript Introduction to Mergers, Acquisitions, & Other Restructuring Activities

Introduction to
Mergers, Acquisitions,
& Other Restructuring
Activities
If you give a man a fish, you feed
him for a day. If you teach a man
to fish, you feed him
for a life time.
—Lao Tze
Course Layout: M&A & Other
Restructuring Activities
Part I: M&A
Environment
Part II: M&A
Process
Part III: M&A
Valuation &
Modeling
Part IV: Deal
Structuring &
Financing
Part V:
Alternative
Strategies
Motivations for
M&A
Business &
Acquisition
Plans
Public Company
Valuation
Payment &
Legal
Considerations
Business
Alliances
Regulatory
Considerations
Search through
Closing
Activities
Private
Company
Valuation
Accounting &
Tax
Considerations
Divestitures,
Spin-Offs &
Carve-Outs
Takeover Tactics
and Defenses
M&A Integration
Financial
Modeling
Techniques
Financing
Strategies
Bankruptcy &
Liquidation
Cross-Border
Transactions
Course Learning Objectives
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•
•
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Define what corporate restructuring is and why it occurs
Identify commonly used valuation techniques
Describe how corporate restructuring creates/destroys value
Identify commonly used takeover tactics and defenses
Develop a highly practical “planning based” approach to
managing the M&A process
• Identify challenges and solutions associated with each phase of
the M&A process
• Describe advantages and disadvantages of alternative M&A
deal structures
• Describe how to plan, structure, and manage JVs, partnerships,
alliances, licensing arrangements, equity partnerships,
franchises, and minority investments
Current Chapter Learning Objectives
• Primary objective: What corporate restructuring is
and why it occurs
• Secondary objective: Provide students with an
understanding of
– M&A as a form of corporate restructuring
– Alternative ways of increasing shareholder value
– M&A activity in an historical context
– The primary motivations for M&A activity
– Key empirical findings
– Primary reasons some M&As fail to meet
expectations
M&As as a Form of
Corporate Restructuring
• Restructuring Activity
– Corporate Restructuring
• Balance Sheet
• Assets Only
– Financial Restructuring
(liabilities only)
– Operational Restructuring
• Potential Strategy
– Redeploy Assets
• Mergers, Break-Ups, &
Spin-Offs
• Acquisitions,
divestitures, etc.
– Increase leverage to lower
cost of capital or as a
takeover defense
– Divestitures, widespread
employee reduction, or
reorganization
Alternative Ways of
Increasing Shareholder Value
• Solo venture (AKA “going it alone” or “organic growth”)
• Partnering (Marketing/distribution alliances, JVs,
licensing, franchising, and equity investments)
• Mergers and acquisitions
• Minority investments in other firms
• Asset swaps
• Financial restructuring
• Operational restructuring
Discussion Questions
1. What factors do you believe are most likely to
impact senior management’s selection of one
strategy (e.g., solo venture, M&A) to increase
shareholder value over the alternatives? Be
specific.
2. In your opinion, how might the conditions of
the business (e.g., profitability) and the
economy affect the choice the strategy?
Remembering the Past
“Those who do not remember the past
are condemned to relive it.”
Alexis De Tocqueville
Merger Waves
(Boom Periods)
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•
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Horizontal Consolidation (1897-1904)
Increasing Concentration (1916-1929)
The Conglomerate Era (1965-1969)
The Retrenchment Era (1981-1989)
Age of Strategic Megamerger (1992-2000)
Age of Cross Border and Horizontal
Megamergers (2003-2007)
Causes and Significance
of M&A Waves
• Factors contributing to merger waves:
– Shocks (e.g., technological change, deregulation, and escalating
commodity prices)
– Ample liquidity and low cost of capital
– Overvaluation of acquirer share prices relative to target share
prices
• Why it is important to anticipate M&A waves:
– Financial markets reward firms pursuing promising opportunities
early on and penalize those that follow later in the cycle.
– Acquisitions made early in the wave often earn substantially
higher financial returns than those made later in the cycle.
Horizontal Consolidation (1897-1904)
• Spurred by
– Drive for efficiency,
– Lax enforcement of antitrust laws
– Westward migration, and
– Technological change
• Resulted in concentration in metals,
transportation, and mining industry
• M&A boom ended by 1904 stock market
crash and fraudulent financing
Increasing Concentration (1916-1929)
• Spurred by
– Entry of U.S. into WWI
– Post-war boom
• Boom ended with
– 1929 stock market crash
– Passage of Clayton Act which more clearly
defined monopolistic practices
The Conglomerate Era (1965-1969)
• Conglomerates buy earnings streams to boost
their share price
– Overvalued firms acquired undervalued high
growth firms
– Number of high-growth undervalued firms
declined as conglomerates bid up their prices
– Higher purchase price for target firms and
increasing leverage of conglomerates brought
era to a close
The Retrenchment Era (1981-1989)
• Strategic U.S. buyers and foreign multinationals
dominated first half of decade
• Second half dominated by financial buyers
– Buyouts often financed by junk bonds
– Drexel Burnham provided market liquidity
• Era ended with bankruptcy of several large
LBOs and demise of Drexel Burnham
Age of Strategic Megamerger
(1992-2000)
• Dollar volume of transactions reached record in each
year between 1995 and 2000
• Purchase prices reached record levels due to
– Soaring stock market
– Consolidation in many industries
– Technological innovation
– Benign antitrust policies
• Period ended with the collapse in global stock markets
and worldwide recession
Age of Cross Border and
Horizontal Megamergers (2003 – 2007)
• Average merger larger than in 1980s and 1990s, mostly
horizontal, and cross border
• Concentrated in banking, telecommunications, utilities,
healthcare, and commodities (e.g., oil, gas, and metals)
• Spurred by
– Continued globalization to achieve economies of
scale and scope;
– Ongoing deregulation;
– Low interest rates;
– Increasing equity prices, and
– Expectations of continued high commodity prices
• Period ended with global credit market meltdown and
2008-2009 recession
Debt Financed 2003-2007 M&A Boom
Low Interest
Rates & Declining
Risk Aversion
Drive Increasing
--Sub-Prime
Mortgage Lending
--LBO Financing &
Other Highly
Leveraged
Transactions
Investment Banks:
Repackage &
Underwrite
--Mortgage
Backed
--High Yield
Bonds
Banks &
Hedge Funds
Create:
--Collateralized
Debt Obligations
(CDOs)
--Collateralized
Loan Obligations
CLOs)
Investment Banks Lend to Hedge Funds
Foreign
Investors
Buy Highest
Rated Debt
Hedge
Funds
Buy Lower
Rated debt
Similarities and Differences
Among Merger Waves
• Similarities
– Occurred during periods of sustained high economic
growth
– Low or declining interest rates
– Rising stock market
• Differences
– Emergence of new technology (e.g., railroads,
Internet)
– Industry focus
– Type of transaction (e.g., horizontal, vertical,
conglomerate, strategic, or financial)
Discussion Questions
1. What can senior management learn by
studying historical merger waves?
2. What can government policy makers learn by
studying historical merger waves?
3. What can investors learn by studying historical
merger waves?
Motivations for M&A
• Strategic realignment
– Technological change
– Deregulation
• Synergy
– Economies of scale/scope
– Cross-selling
• Diversification (Related/Unrelated)
• Financial considerations
– Acquirer believes target is undervalued
– Booming stock market
– Falling interest rates
• Market power
• Ego/Hubris
• Tax considerations
Illustrating Economies of Scale
Period 1: Firm A (Pre-merger)
Period 2: Firm A (Post-merger)
Assumptions:
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Price = $4 per unit of output sold
•
Variable costs = $2.75 per unit of output
•
Fixed costs = $1,000,000
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Firm A is producing 1,000,000 units of output per
year
•
Firm A is producing at 50% of plant capacity
Assumptions:
•
Firm A acquires Firm B which is producing
500,000 units of the same product per year
•
Firm A closes Firm B’s plant and transfers
production to Firm A’s plant
•
Price = $4 per unit of output sold
•
Variable costs = $2.75 per unit of output
•
Fixed costs = $1,000,000
Profit = price x quantity – variable costs
– fixed costs
= $4 x 1,000,000 - $2.75 x 1,000,000
- $1,000,000
= $250,000
Profit = price x quantity – variable costs
– fixed costs
= $4 x 1,500,000 - $2.75 x 1,500,000
- $1,000,000
= $6,000,000 - $4,125,000 - $1,000,000
= $875,000
Profit margin (%)1 = $250,000 / $4,000,000 = 6.25%
Fixed costs per unit = $1,000,000/1,000,000 = $1
Profit margin (%)2 = $875,000 / $6,000,000 = 14.58%
Fixed costs per unit = $1,000,000/1.500,000 = $.67
Key Point: Profit margin improvement is due to spreading fixed costs over more units of output.
1Margin
2Margin
per $ of revenue = $4.00 - $2.75 - $1.00 = $.25
per $ of revenue = $4.00 - $2.75 - $.67 = $.58
Illustrating Economies of Scope
Pre-Merger:
Post-Merger:
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Firm A’s data processing center
supports 5 manufacturing facilities
Firm B’s data processing center
supports 3 manufacturing facilities
•
Firm A’s and Firm B’s data
processing centers are combined
into a single operation to support
all 8 manufacturing facilities
By combining the centers, Firm A
is able to achieve the following
annual pre-tax savings:
– Direct labor costs = $840,000.
– Telecommunication expenses
= $275,000
– Leased space expenses =
$675,000
– General & administrative
expenses = $230,000
Key Point: Cost savings due to expanding the scope of a single center to
support all 8 manufacturing facilities of the combined firms.
Empirical Findings
• Around transaction announcement date, abnormal returns average
– 20% for target shareholders in “friendly” transactions; 30-35% in
hostile transactions
– Bidders’ shareholders on average earn zero to slightly negative
returns
• Positive abnormal returns to bidders often are situational and
include the following:
– Target is a private firm or a subsidiary of another firm
– The acquirer is relatively small
– The target is small relative to the acquirer
– Cash rather than equity is used to finance the transaction
– Transaction occurs early in the M&A cycle
• No evidence that alternative strategies (e.g., solo ventures,
alliances) to M&As are likely to be more successful
Primary Reasons Some M&As Fail to
Meet Expectations
• Overpayment due to over-estimating
synergy
• Slow pace of integration
• Poor strategy
Discussion Questions
1. Discuss whether you believe current conditions
in the U.S. and global markets are conducive
to high levels of M&A activity? Be specific.
2. Of the factors potentially contributing to current
conditions, which do you consider most
important and why?
3. Speculate about what you believe will happen
to the number of M&As over the next several
years in the U.S.? Globally? Defend your
arguments.
Application: Xerox Buys ACS
In late 2009, Xerox, traditionally an office equipment manufacturer, acquired Affiliated
Computer Systems (ACS) for $6.4 billion. With annual sales of about $6.5 billion, ACS
handles paper-based tasks such as billing and claims processing for governments and
private companies. With about one-fourth of ACS’ revenue derived from the healthcare and
government sectors through long-term contracts, the acquisition gives Xerox a greater
penetration into markets which should benefit from the 2009 government stimulus
spending and 2010 healthcare legislation. There is little customer overlap between the two
firms.
Previous Xerox efforts to move beyond selling printers, copiers, and supplies and into
services achieved limited success due largely to poor management execution. While some
progress in shifting away from the firm’s dependence on printers and copier sales was
evident, the pace was far too slow. Xerox was looking for a way to accelerate transitioning
from a product driven company to one whose revenues were more dependent on the
delivery of business services.
More than two-thirds of ACS’ revenue comes from the operation of client back office
operations such as accounting, human resources, claims management, and other
outsourcing services, with the rest coming from providing technology consulting services.
ACS would also triple Xerox’s service revenues to $10 billion. Xerox chose to run ACS as a
separate standalone business.
Discussion Questions:
1. What alternatives to a merger do you think they could have considered?
2. Why do you think they chose a merger strategy? (Hint: Consider the
advantages and disadvantages of alternative implementation strategies.)
3. How are Xerox and ACS similar and how are they different? In what way will their
similarities and differences help or hurt the long-term success of the merger?
4. How might the decision to manage ACS as a separate business affect realizing the full
value of the transaction?
Things to Remember
• Motivations for acquisitions:
– Strategic realignment
– Synergy
– Diversification
– Financial considerations
– Hubris
• Common reasons M&As fail to meet expectations
– Overpayment due to overestimating synergy
– Slow pace of integration
– Poor strategy
• M&As typically reward target shareholders far more than bidder
shareholders
• Success rate of M&A not significantly different from alternative ways
of increasing shareholder value