merger & acquisition
DESCRIPTION
M & A LecturesTRANSCRIPT
Merger, Acquisition &
Corporate Restructuring
1
What is a Corporation?
An artificial legal entity being
created by government
charter
Advantages of Organizing as a
Corporation
Greater amounts of capital can be raised by the corporation (stocks and bonds).
Corporate owner’s liability is limited to the amount of investment.
Corporation ownership shares are easily transferred. Corporations usually have longer lives than other
forms of business ownership. Professional management talent usually runs
corporations. Corporations lack “mutual agency.” (Only authorized
individuals may bind the corporation to contracts.
Disadvantages of Being Organized
as a Corporation Double taxation
- Corporate earnings are taxed twice
(earnings before taxes and
stockholder’s dividends).
Subject to extensive government
regulation (SECP etc.)
Corporate ownership is separated from
control of operations.
Board of Directors and
Management TeamBoard of Directors
Elected by stockholders.
Responsible for management of the corporation, establishing policy, specific decision making.
Management Team
Hired by board of directors.
Responsible for day-to-day operations of the corporation.
Any change in a company’s:
1. Capital structure,
2. Operations, or
3. Ownership
that is outside its ordinary course of business.
So where is the value coming
from (why restructure)?
What is Corporate
Restructuring?
Sample Corporation
Organization Chart
Stockholders
Board of
Directors
President
Vice-President
Finance
Vice-President
Marketing
Corporate
Secretary
Vice-President
Production
Vice-President
Personnel
Treasurer Controller
The president is the The controller’s chief executive officer responsibilities include(CEO) with direct 1 maintaining the responsibility for accounting recordsmanaging the business. 2 maintaining adequateThe chief accounting internal control systemofficer is the controller. 3 preparing financial
statements, tax returns and internal reports.
Stockholder’s Equity
Common Stock- Represents the primary ownership of
stock in a corporation.- Is the only issue form if only one class
of stock is issued. Preferred Stock
- Gives stockholders certain privileges not given to common stockholders(i.e. rights to dividends)
Rights of Common Stockholders
Receive a certificate of ownership. Transfer shares through sale or gift. Vote at stockholder meeting (one vote per share
owned). Right to purchase a portion of any new shares
issued to maintain their percentage ownership (preemptive rights).
To receive dividends declared by the board of directors
To receive a portion of assets remaining when the corporation liquidates.
CORPORATE CAPITAL
Owner’s equity in a corporation is identified as stockholder’s equity, shareholders’ equity, or corporate capital
Two main sections of stockholder’s equity:
1. Paid-in (contributed) capital- Investments contributed by
stockholders (common stock, preferredstock).
2. Retained Earnings- Earned capital “retained” by the
corporation.
Characteristics of Stock
Stock Outstanding (issued)
- Stock shares currently in the “hands” of
stockholders.
Par Value
- Arbitrary monetary figure assigned by
the corporation to a share of capital
stock.
PREFERRED STOCK
Preferred stock has contractual provisions that give a preference over common stockholders as follows:
1. Dividends2. Assets in the event of liquidation
Transactions are the same as for common stock transactions.
CASH DIVIDENDS
A dividend is distribution by a corporation to its stockholders on a pro rata (equal) basis.
A cash dividend is a pro rata distribution of cash to stockholders.
For a cash dividend to occur, a corporation must have:1 retained earnings,2 adequate cash, and3 declared dividends.
STOCK DIVIDENDS A stock dividend is a pro rata distribution of the
corporation’s own stock to stockholders.
A stock dividend results in a decrease in retained
earnings and an increase in paid-in capital.
Corporations usually issue stock dividends for one or
more of the following reasons:
1 To satisfy stockholders’ dividend expectations
without spending cash.
2 To increase the marketability of its stock by
increasing the number of shares outstanding and
thereby decreasing the market price per share.
3 To emphasize that a portion of stockholders’ equity
has been permanently reinvested in the business and
therefore is unavailable for cash dividends.
16
Merger and Acquisition
Legal combination of two or more corporations (A & B) after which only A corporation remains. A’s articles of incorporation are amended to include articles of merger. After merger, A continues as the surviving corporation with all of B’s rights and obligations.
A B
A
17
Consolidation
Occurs when two or more corporations (A & B) combine such that both cease to exist and a newcorporation emerges which has all the rights and obligations previously held by A and B.
C’s articles of consolidation take the place of the original articles of A and B.
A B
C
18
Takeovers
Alternative to merger or consolidation is
the purchase of a controlling interest
(e.g., 51%) of a “target” corporation’s
stock giving the purchaser corporation
controlling interest in the target.
The aggressor deals entirely with the
target’s shareholders.
M&A Terminology
Merger & Acquisition• Horizontal merger• Vertical merger• Vertical Integration• Congeneric mergers• Conglomerate mergers
Strategic Alliance• Joint venture• Outsourcing through Virtual companies
M&A Terminology
Divestitures• Voluntary Corporate liquidation• Partial Sell offs• Corporate Spin off• Equity Carve outs
Ownership Structure• Going private• Leverage buyout
Restructuring — changes to improve operations, policies, and strategies
M&A Terminology
Merger• Negotiated deals• Mutuality of negotiations• Mostly friendly
Tender offers• Offer made directly to the shareholders• Hostile when offer made without
approval of the board
Types of Mergers
Horizontal mergers • Between firms in same business activity
• Rationale
– Economies of scale and scope
– Synergies (ex. combining of best practices)
• Government regulation due to potential
anticompetitive effects
Vertical mergers• Combinations between firms at different stages
• Goal is information and transaction efficiency
Vertical Integration
Vertical Integration
• Refers to the merger of two companies in
the same industry that make products
required at different stages of the
production cycle
Vertical Integration (cont'd)
A major benefit of vertical integration
is coordination.
• For example, Apple Computers makes
both the operating system and the
hardware.
However, not all not all successful
corporations are vertically integrated.
• For example, Microsoft makes the
operating system but not the computers.
Types of Mergers
Congeneric mergers• merger where two companies are in the
same or related industries but do not offer the same products. In a congeneric merger, the companies may share similar distribution channels, providing synergies for the merger
Types of Mergers
Conglomerate mergers• Firms in unrelated business activities
Distinctions between conglomerate and nonconglomerate firms• Investment companies – diversify to reduce
portfolio risk• Financial diversified – provide funds and
expertise on generic management functions of planning and control
• Concentric diversified – combine with firms in less related activities to broaden potential markets
Types of Mergers
Stock Swap
• Target shareholders are swapping old
stock for new stock in either the acquirer
or a newly created merged firm
Term sheet
• Summary of price and method of
payment
• Consideration paid to target shareholders
can be very complex
Joint Ventures
JV characteristics
• Combination of assets from 2 or more parent
firms place into a separate business entity
• Limited scope and duration
• May not affect competitive relationships
• Examples: R&D, joint production of single
product
JV timing similar to M&As (correlation over
0.95) – driven by same factors affecting total
investment activity
Joint Ventures
JVs and business strategy:• JVs a part of multiple paths to value growth
(Geis & Geis, 2001)• Used over 782 JVs and alliances to:
– Develop new product markets• Cable TV – NBC alliance –• Online gaming – JV with Dreamworks to
produce games –– Expand into new geographic areas (ex. deals
to expand in Japan)– Participate in new technologies (ex. wireless
deals with Qualcomm, Ericsson)
Joint Ventures
JVs and restructuring – JVs can be used as transitional mechanism in broad restructuring (Nanda & Williamson, 1995)• Buyer can better determine value of seller's
brands, personnel, etc.• Risk of making mistakes is reduced through
direct involvement with business• Customers moved to buyer over a period of
time in which both firms are involved in JV• Buyer builds up expertise in JV• Seller is able to realize higher value from sale
following JV due to increased buyer knowledge of assets
Joint Ventures
Other benefits• Knowledge acquisition is goal of at least 50%
of JVs – best for “learning by doing” with complex processes
• Risk reduction – expansion of activities with smaller required investment
• Tax aspects – contribution of patent or technology may be more tax effective than licensing (depreciation may offset revenues)
• International aspects – reduces risk of foreign expansion (some nations require firms to take a local partner)
Joint Ventures
Reasons for failure (70% disbanded early)• Technology never developed• Inadequate preplanning• Disagreement over basic objectives• Managers refuse to share expertise with
counterparts from other firm Requirements for success
• Participants have something of value to JV• JV should be carefully preplanned• Agreement should provide flexibility • Should include provisions for termination• Key executives involved in implementation
Joint Ventures
Empirical tests• Business and economic patterns (Berg et al,
1982)– Industry JV participation increases with:
firm size, capex, profitability– Technologically oriented JVs: substitute for
long-term R&D more often than short-term– JVs and R&D are complements at industry
level• Event returns (McConnell & Nantell, 1985)
– Value of gains evenly divided between firms– No change of mgmt. – gains must be from
synergy
Joint Ventures
Authors Year JV Type Return
McConnell,
Nantell
1985 All 0.73%
Koh,
Venkatraman
1991 IT sector 0.87%
Crutchley et al 1991 Japan-US 1.05%
Chen et al 1991 China-US 0.71%
Johnson,
Houston
2000 WSJ
announced
1.67%
Strategic Alliances
SA characteristics• Informal or formal agreement between two or
more firms to cooperate in some way• Created due to industry uncertainty and
ambiguity – value chains, new technology, etc.• Need not create new entity• Relative size of firms may be highly unequal• Difficult to anticipate consequences –
relationships evolve, firm boundaries blur• Firms pool resources and expertise hoping for
synergy from learning capabilities, etc.• Allow firms much flexibility
Strategic Alliances
Examples•
Cooperation on system for voice commands for the internet (VXML)
•Joint offering of international 2-day delivery
•Combined research and purchasing in 6 JVs
• AOL followed strategy of providing subscribers with many benefits through alliance– Partnerships with brick & mortar retailers– Deals with software developers
Sumitomo Rubber
Strategic Alliances
2.6% of SAs result in M&As – more likely in mature industries (Hagedorn, Sadowski, 1999)
Types of alliances (Bleeke & Ernst, 1995)• Collisions between competitors – tensions
cause failure• Alliances of the weak – weak grow weaker• Disguised sales – strong competitor buys weak• Bootstrap alliances – weak firm improved by
strong until alliance becomes on equal footing• Evolution to a sale – successful SA becomes
sale when tension emerges• Alliances of complementary equals – SA
succeeds due to compatibility
Strategic Alliances
Authors Year SA Type Return
Chan et al 1997 All
High tech
Low tech
0.64%
1.12%
0.10%
Das et al 1998 Technology
Marketing
Over 1%
Negative
Kale et al 2002 SA function
No SA func.
1.35%
0.18%
Chen et al 1991 China-US 0.71%
Strategic Alliances
Requirements for success• Well defined strategic themes• Organization relationships should facilitate
communication to share decision making• SAs viewed in real options framework – allows
portfolio of potential growth opportunities• High level management should be involved• Must be positive incentive to overcome tension• SA governance must adapt to different types of
alliances• SAs must seek out growth opportunities to
augment core capabilities
Tender Offers
Bidder seeks target's shareholders approval
Minority shareholders• Terms may be "crammed down"• May be subject to "freeze-in"• Minority may bring legal actions• 2001-2002, many minority squeeze-outs
–Usually reversing equity carve-out–Parents often make high bid to avoid
shareholder lawsuits
Tender Offers
Kinds of tender offers and provisions
• Conditional vs. unconditional
• Restricted vs. unrestricted
• "Any-or-all" tender offer
• Contested offers
• Two-tier offers
• Three-piece suitor
Relative Roles
Acquisitions• Rapid augmentation of firm capabilities• Consequences are long lasting• Often costly due to takeover premium• Challenges of combining organizations
Joint ventures• Reduce relative size of investments and risks• Create new entities and relationships• Can develop learning and new opportunities
Strategic alliances• Broaden range of potential opportunities • Relationships are more ambiguous – greater
need for communication
Numerical
ABC company wants to buy certain assets of XYZ company. However, XYZ
Company wants to sell out its entire business. The balance Sheet of XYZ follows:-
Cash 3000 A/R 7000 Inventories 12000 Plants 15000
Refinery 25000 Equipment's 40000 Buildings 100000 T.A. 202000
Total liabilities 90000 shareholder’s equity 112000
ABC needs only Refinery and equipment and the buildings. The other assets
excluding cash can be sold for 30,000. The total cash received is therefore 33,000
(30000+3000 initial cash balance. XYZ want 45000 for the entire business. XYZ will
thus have to pay a total of 135000 which is 90000in total liabilities and 45000 for its
owner. The actual net cash outlay is therefore 102000 (135000-33000). It is expected
that the after tax cash inflows from the new arrange will be 25000 per year for the
next 6 years. The cost of capital is 10 percent.
Year 102000x1 (102000)
Year 1-6 25000x4.355) 108875
6875
NPV is positive then acquisition recommended
XYZ has equipment that ABC desired so the ABC is thinking of acquiring the XYZ for
50000. XYZ has liabilities 75000. The remaining assets would be sold for 58000. By
acquiring the equipment ABC will have an increase in cash flow 17000 each year for
the next 12 yerars. The WACC 10%.The nets cost of the equipment 50000+75000-58000 =67000
ABC should make the acquisition on the basis of following NPV 67000 x 1 67000
Year 1-12 17000x6.814 115838
NPV 48838