A general term used to refer to the consolidation of companies. A merger is a combination of two companies to form a new company, while an acquisition is the purchase of one company by another in which no new company is formed.

1. Mergers and Acquisitions

2. Introduction
When one company buys another. It is
making an investment.
 Acquisition of one firm by another is, of
course, an investment made under
uncertainty.
 Go ahead with the purchase, if it makes
a net contribution to shareholders
wealth.
 When a firm is taken over, its
management is usually replaced.


3. 
Merger
A transaction where two firms agree to integrate their
operations on a relatively coequal basis because they
have resources and capabilities that together may
create a stronger competitive advantage

Acquisition
A transaction where one firm buys another firm with the
intent of more effectively using a core competence by
making the acquired firm a subsidiary within its portfolio
of businesses

Takeover
If management of one firm believes that another
company’s management is not acting in interest of
investors, it can go over heads of that firm’s
management and make tender offer directly to its
stockholders.

4. The Merger Market
Tools Used To Acquire Companies
Proxy Contest
Tender Offer
Acquisition
Leveraged BuyOut
Merger
Management
Buy-Out

5. Proxy contest
Takeover attempt in which outsiders
compete with management for
shareholders votes (so called proxy
fight)
 A proxy is the right to vote another
shareholder’s share
 In a proxy contest, outsiders would
like to take control with electing new
board members


6. Mergers and Acquisitions

Three ways one firm to acquire another
firm:
◦ Merger
◦ Tender offer
◦ Acquisition

7. Merger

Combination of two firms into one, with the acquirer
assuming assets and liabilities of the target firm.

Merger must have approval of more than 50% of
shareholders

Horizontal merger-take place between two firms in
the same line of business (two banks)

Vertical merger-involves firms at different stages of
production (raw materials and consumer products)

8. Sensible Reasons for Mergers
Economies of Scale
A larger firm may be able to reduce its per unit cost
by using excess capacity or spreading fixed costs
across more units.
Opportunity to spread fixed costs across a larger
volume of output.
$
$
Reduces costs
$

9. Sensible Reasons for Mergers
Combining Complementary Resources
Usually small firms are acquired by large firms can
be part of success too.
Merging may results in each firm filling in the
“missing pieces” of their firm with pieces from the
other firm.
Firm A
Firm B

10. Dubious Reasons for Mergers
Diversification reduces risk,
 Diversification is easier and cheaper for
shareholders than for the company
 Investors should not pay a premium for
diversification since they can do it
themselves


11. Evaluating Mergers

Questions
◦ Is there an overall economic gain to the
merger? (Value enhancing, worth two
firms than apart)
◦ Do the terms of the merger make the
company and its shareholders better off?
P V (A B ) > P V (A ) + P V (B )

12. Evaluating Mergers

Economic Gain
E co n o m ic G ain = P V (in creased earn in g s)
=
N ew cash flo w s fro m syn ergies
d isco u n t rate

13. Evaluating Mergers
Example - Given a 20% cost of funds, what
is the economic gain, if any, of the merger
listed below?
ABC Foods
Revenues
Operating
Costs
Earnings
Economic
Targetco
Combined
150
20
172
118
16
132
32
4
40
Gain
=
40
$ 200
.20
Additional value is the basic motivation for the merger.

14. Operating costs reduced as combining
companies marketing, administration
and distribution departments.
 Projected revenues will be increased
 Increased earnings are the only
synergy to be generated by the
merger.


15. Tender offer
It is a takeover attempt in which
outsiders directly offer to buy the stock
of the firm’s shareholders
 With this method acquiring firm
(investors) can bypass the target
firm’s management


16. Leveraged Buy-Outs
LBO-Acquisition of a firm by private
group of investors using borrowed
debt. Unique Features of LBOs:Large portion of buy-out
financed by debt
Shares of the LBO no
longer trade on the open
market