Post on 23-Dec-2015
MERGERS AND ACQUISITIONSHTTP://WWW.DELL.COM/LEARN/US/EN/USCORP1/SECURE/ACQ-DELL-
SILVERLAKE
Chapter 23
DefinitionThe phrase mergers and
acquisitions (abbreviated M&A) refers to the aspect of corporate strategy, corporate finance and management dealing with the buying, selling and combining of different companies that can aid, finance, or help a growing company in a given industry grow rapidly without having to create another business entity.
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Business valuation
The five most common ways to valuate a business are
asset valuation,historical earnings valuation,future maintainable earnings
valuation,relative valuation (comparable
company & comparable transactions),
discounted cash flow (DCF) valuation
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Chapter OutlineThe Legal Forms of AcquisitionsAccounting for AcquisitionsGains from AcquisitionThe Cost of an AcquisitionDefensive TacticsSome Evidence on AcquisitionsDivestitures and Restructurings
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Legal Forms of AcquisitionsMerger 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 requiredCan 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 ClassificationsHorizontal – both firms are in the
same industry
Vertical – firms are different stages of the production process
Conglomerate – firms are unrelated
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TakeoversControl of a firm transfers from
one group to anotherPossible forms
◦Acquisition◦Proxy contest◦Going private (LBO vs. MBO)
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Alternatives to MergerStrategic 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 AcquisitionsThe 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 AcquisitionSynergyRevenue enhancementCost reductionsTax gains
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SynergyThe whole is worth more than the
sum of the parts
Synergies should create enough benefit to justify the cost
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Revenue EnhancementMarketing gains
◦Advertising◦Distribution network◦Product mix
Strategic benefits
Market power
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Cost ReductionsEconomies 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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TaxesTax losses
Unused debt capacity
Surplus funds
Asset write-ups∆FA = ∆EBIT + ∆Depreciation - ∆ Tax -
∆Capital Requirements
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Reducing Capital NeedsFirms 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 GrowthMergers 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)
◦VB* = VB + ∆V
Valuation Formulas 1. VA* = VA + VT + S - C 2. Price per share = VA*/number of shares 3. PT = price per share*number of shares + C (for
stock and mixed offers) 4. Target shareholders’ gain from transaction = PT - VT 5. VA* - value of the new company
VA – value of the acquirer VT – value of the target company S – synergies C – cash paid PT – price paid for the target company VT – pre-merger value of the target company PT = price per share*number of shares
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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◦ A B◦ Price $20 $10◦ # sh 25 10◦ Market value 500 100
Cash vs. Common StockCash VB* = VB + ∆V = 100 +100
NPV = 200 -150 =50VAB = VA + (VB* - cost) = 500+ 200 – 150 =550
Share price = 550/25 = 22
Stock acquisitionVAB = VA + VB + V =700
$150 in stock A is 7.5 shares (25+7.5=32.5 sh)700/32.5=21.54 a shareCost of acquisition is 7.5*21.54=161.55NPV = 38.45
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Cash vs. Common StockSharing rights
Taxes
Control
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Defensive Tactics(1)Corporate charter
◦Establishes conditions that allow for a takeover
◦Supermajority voting requirementTargeted repurchase (Greenmail)Standstill agreementsExclusionary offersPoison 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 AcquisitionsShareholders 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 EvidenceShareholders 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