Accelerating Company Growth Through Mergers and Acquisition (M&A)

What is merger and acquisition?

Mergers and acquisitions (M&A) is basically consolidation of companies. Differentiating the two terms, Mergers is the combination of two companies to form one, while Acquisitions is one company taken over by the other. The reasoning behind M&A generally given is that two separate companies together create more value compared to being on an individual stand. With the objective of wealth maximization, companies keep evaluating different opportunities through the route of merger or acquisition.

Major reasons for mergers and acquisition (M&A)

  1. Synergy: The most used word in M&A is synergy, which is the idea that by combining business activities, performance will increase and costs will decrease. Essentially, a business will attempt to merge with another business that has complementary strengths and weaknesses.
  2. Diversification / Sharpening Business Focus: These two conflicting goals have been used to describe thousands of M&A transactions. A company that merges to diversify may acquire another company in a seemingly unrelated industry in order to reduce the impact of a particular industry’s performance on its profitability. Companies seeking to sharpen focus often merge with companies that have deeper market penetration in a key area of operations.
  3. Growth: Mergers can give the acquiring company an opportunity to grow market share without having to really earn it by doing the work themselves – instead, they buy a competitor’s business for a price. Usually, these are called horizontal mergers. For example, a beer company may choose to buy out a smaller competing brewery, enabling the smaller company to make more beer and sell more to its brand-loyal customers.
  4. Increase Supply-Chain Pricing Power: By buying out one of its suppliers or one of the distributors, a business can eliminate a level of costs. If a company buys out one of its suppliers, it is able to save on the margins that the supplier was previously adding to its costs; this is known as a vertical merger. If a company buys out a distributor, it may be able to ship its products at a lower cost.
  5. Eliminate Competition: Many M&A deals allow the acquirer to eliminate future competition and gain a larger market share in its product’s market. The downside of this is that a large premium is usually required to convince the target company’s shareholders to accept the offer. It is not uncommon for the acquiring company’s shareholders to sell their shares and push the price lower in response to the company paying too much for the target company.

Mergers & Acquisitions can take place:

  • by purchasing assets
  • by purchasing common shares
  • by exchange of shares for assets
  • by exchanging shares for shares

Principle behind any M&A is 2+2=5

There is always synergy value created by the joining or merger of two companies. The synergy value can be seen either through the Revenues (higher revenues), Expenses (lowering of expenses) or the cost of capital (lowering of overall cost of capital).

A Successful Merger is a Planned Merger:

Ideally, you would start planning as soon as you decide to buy something. If you have no plan for the target company, you are going to pay the wrong price and you are not going to be ready to handle the integration. I would do a couple of days planning right at the start. At latest, I would start building a full integration plan around 100 days before you believe the deal will take place.

Careless Acquisitions Causes Reverse Multiple Arbitrage:

If you buy a company that doesn’t fit into your strategy, you may suffer from reverse multiple arbitrage since investors will no longer be able to identify your true brand or mission.

An M&A is an arranged marriage

  • There is no love at the beginning
  • The issues start Day One
  • Executives announce the once hush-hushed M&A information
  • Employees pretend to be excited as FEAR ripples through both companies
  • The C suite (senior executives) announces: “This will be great for everyone”
  • No one is buying that promise

Types of mergers and acquisition

There are five commonly-referred to types of business combinations known as mergers: conglomerate merger, horizontal merger, market extension merger, vertical merger and product extension merger. The term chosen to describe the merger depends on the economic function, purpose of the business transaction and relationship between the merging companies.

  1. Conglomerate merger

A conglomerate merger is a merger between firms that are involved in totally unrelated business activities. There are two types of conglomerate mergers: pure and mixed. Pure conglomerate mergers involve firms with nothing in common, while mixed conglomerate mergers involve firms that are looking for product extensions or market extensions.

  1. Horizontal Merger

A merger occurring between companies in the same industry. Horizontal merger is a business consolidation that occurs between firms who operate in the same space, often as competitors offering the same good or service. Horizontal mergers are common in industries with fewer firms, as competition tends to be higher and the synergies and potential gains in market share are much greater for merging firms in such an industry.

  1. Product Extension Mergers

A product extension merger takes place between two business organizations that deal in products that are related to each other and operate in the same market. The product extension merger allows the merging companies to group together their products and get access to a bigger set of consumers. This ensures that they earn higher profits.

  1. Vertical Merger

A merger between two companies producing different goods or services for one specific finished product. A vertical merger occurs when two or more firms, operating at different levels within an industry’s supply chain, merge operations. Most often the logic behind the merger is to increase synergies created by merging firms that would be more efficient operating as one.

  1. Market Extension Mergers

A market extension merger takes place between two companies that deal in the same products but in separate markets. The main purpose of the market extension merger is to make sure that the merging companies can get access to a bigger market and that ensures a bigger client base.

Terminologies used in mergers

  • Sale of majority of assets

One company buys out the majority of assets of the other company. The control is transferred to the acquirer after approval of majority of shareholders of the target company. The acquirer usually only takeover liabilities that are attached to the purchased assets, which means that other liabilities are retained by the target company and paid off by them through their own means.

  • Stock for assets

One entity buys outs the other one for a certain number of shares. The target company dissolves, passing all its assets to the acquirer

  • Stock for stock

one entity buys shares in another company from its shareholders. The target’s company’s assets are passed on to the acquirer, while the target company is run as a subsidiary of the acquirer

  • Freeze-out

The majority shareholders attempt to buyout the shares of the minority of shareholder. Only one company is involved, and control is defined by the majority through board approval.

  • Tender offer

In this case the shareholders are offered money in exchange for their shares, after which the target company is dissolved, merged or run as a subsidiary.

  • Triangular merger

this merger involves three companies. The first step involves the acquirer company forming a subsidiary, whose only assets are shares of the parent company. The newly formed subsidiary then does a stock for assets or stock for stock as explained above with the target company. Consequently, the target company mergers or completely dissolves.

 

About the Author

Thank you for reading this article. The author, James Ndambiri is an avid Business Advisor and Consultant: A Tax Surgeon, Proficient Accountant, Skilled Auditor, a Guru in Financial and Investment management, Expert in Business Strategy Formulation, Business Transformation Wizard, Family Business Advisor, Lecturer, Business Coach and a Family Man.

James is the Founder, Team Leader, CEO & Managing Partner of MNC Consulting Group. MNC Consulting Group is your most trusted and respected professional business consulting firm recognized by our clients for delivering excellent business advisory and consulting services that create value to their ventures. With our focus set on value addition, we offer our clients the highest quality professional services in Accounting, Audit and assurance, Tax, Business Transformation, Investments and Financial Advisory, Family Business Advisory, Company Secretarial Services and Property Management that addresses their business needs through attracting, recruiting and retaining knowledgeable and passionate professionals who enable us to deliver superior results while contributing positively to the community in which we live and work.

 

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