M&a1

Mergers and AcquisitionsLecture 1

Vikram Singh Sankhala

Forms of Restructuring

• Expansion

• Sell offs

• Corporate control

• Changes in Ownership structure

Expansion

• Mergers and Acquisitions

• Tender Offers

• Joint Ventures

Sell - offs

• Spin – offs

• Split - offs

• Split – ups

• Divestitures

• Equity Carve outs

Corporate Control

• Premium Buy Backs

• Standstill agreements

• Antitakeover Amendments

• Proxy Contests

Changes in Ownership Structure

• Exchange Offers

• Share Repurchases

• Goingt Private

• Leveraged Buyouts

Mergers and AcquisitionsMergers and AcquisitionsMergers and AcquisitionsMergers and Acquisitions

MergerMergerA transaction where two firms agree to integrate their A transaction where two firms agree to integrate their operations on a relatively coequal basis because they operations on a relatively coequal basis because they have resources and capabilities that together may have resources and capabilities that together may create a stronger competitive advantagecreate a stronger competitive advantage

AcquisitionAcquisitionA transaction where one firm buys another firm A transaction where one firm buys another firm with the intent of more effectively using a core with the intent of more effectively using a core competence by making the acquired firm a competence by making the acquired firm a subsidiary within its portfolio of businessessubsidiary within its portfolio of businesses

TakeoverTakeoverAn acquisition where the target firm did not solicit An acquisition where the target firm did not solicit the bid of the acquiring firmthe bid of the acquiring firm

Horizontal Merger

• A horizontal Merger involves two firms operating in the same kind of Business Activity.

• Thus a merger between two steel firms would represent a Horizontal Merger.

Vertical Merger

• Vertical Mergers involve different stages of Production Operations.

• Oil Industry – production, refining, marketing.

• Pharmaceutical Drugs – Development, Production and Marketing.

Conglomerate Merger

• Involves Firms engaged in unrelated type of Business Activities.

• Three types of Conglomerate Mergers

Product Extension Mergers

• Broaden the Product lines of the firm

Geographic Market Extension Merger

• Involves two firms whose operations had been conducted in non overlapping Geographic areas.

Pure Conglomerate Merger

• Involves unrelated Business Activities that would not qualify as either product extension or market extension mergers.

Tender Offers

• One party – generally a corporation seeking controlling interest in another corporation – asks the stockholders of the firm it is seeking to control to submit, or tender their shares in the firm.

Bear Hug

• A company mails a letter to the directors of the takeover target announcing the acquisition proposal and requiring the directors to make a quick decision on the bid.

• If approval cannot be obtained, the acquiring company can appeal directly to the stockholders by means of a tender offer, unless the management and directors of the target firm hold enough stock to retain control.

White Knight

– The target firm may seek to elicit an offer from a partner it considers more desirable – a white knight

Joint Ventures

• Involve the intersection of only a small fraction of the activities of the companies involved and usually for a limited duration of ten to fifteen years or less

Sell offs

• Spin offs

• Divestitures

Spin offs

• A spin off creates a new legal company

• Its shares are distributed on a pro rata basis to existing shareholders of the parent company.

• Existing shareholders have the same proportion of ownership in the new entity as in the original one.

Split off

• A variation on the spin offs is the Split offs.

• A portion of the existing shareholders receives stock in a subsidiary in exchange for parent company stock.

Split up

• Still a variation in the spin off is the split up.

• The entire firm is broken into a series of spin offs so that the parent no longer exists and only the new offspring survive.

Divestiture

• The sale of a portion of the firm to an outside third party.

• Cash or equivalent consideration is received by the diveswting firm.

• Typically the buyer is an existing firm, so that no new legal entity results.

Carve Out

• An equity carve out involves the sale of a a portion of the firm via an equity offering to outsiders.

• New shares of equity are sold to outsiders which gives them ownership of a portion of the previously existing firm.

• A new legal entity is created.

Corporate Control

• Premium buy backs

• Standstill agreements

• Anti takeover amendments

• Proxy contest

Premium buy backs

• Represent the repurchase of a substantial stock holder’s interest at a premium above the market price ( called greenmail)

Standstill agreement

• Voluntary contract in which the stockholder who is bought out agrees not to make further attempts to take over the company in the future.

• When a standstill agreement is made without a buyback, the substantial stockholder simply agrees not to increase his or her ownership which presumably would put him or her in an effective control position.

Anti Takeover Amendments

• Changes to the corporate bye laws to make an acquisition of the company more difficult or expensive.

Examples

• Supermajority voting provisions requiring a high percentage of stockholders to approve a merger.

Staggered terms for Directors

• These can delay the change of control for a number of years.

Golden Parachutes

• These award large termination payments to existing management if the control of the firm is changed and management is terminated.

Proxy contest

• An outside group seeks to obtain representation on the firm’s board of Directors.

• The outsiders are referred to as dissidents or insurgents

• The insiders are incumbents or existing board of directors.

• Proxy contests are often regarded as directed against the existing management.

Changes in ownership structure

• Exchange offers

• Share Repurchase

• Going Private

Exchange offers

• Exchange of debt or preferred stock for common stock

• Or common stock for more senior claims

Share Repurchase

• Corporation buys back some fraction of its outstanding shares of common stock.

• Tender offers may be made for share Repurchase

Going Private

• The entire equity interest in a previously public corporation is purchased by a small group of investors.

• When the transaction is initiated by the members of the incumbent management, it is referred to as management buy out (MBO).

LBO

• When financing from third parties involves substantial borrowing by the private company, such transactions are referred to as Leveraged Buy outs (LBOs)

Issues raised by Restructuring

• Are they good or bad for the economic health of the3 nation.

• Do they divert energies of the managers from bona fide econmic activity to financial manipulation.

• Do they use up Financial resources which otherwise would be employed in ‘real’ investment activities.

Issues raised by Restructuring

• Why has such heightened economic activity been a Phenomenon of the last twenty years.

Early Merger Movements

• All of the Merger movements occurred when the economy experience3de sustained high rates of growth and coincided with particular developments in Business Environments

• Mergers represent resource allocation and reallocation processes in the economy.

• Firms respond to new investment and profit activities arising out of changes in economic conditions and technological innovations impacting industries.

• Mergers rather than internal growth may sometimes expedite the adjustment process and in some cases be more efficient in terms of resource utilization.

1895-1904 Merger Movement

• Consisted mainly of horizontal mergers

• Resulted in high concentration in many industries including heavy manufacturing industries.

• Period of rapid economic expansion.

• Movement peaked in 1899 and almost ended in 1903

• Downturn in 1901

• Declined further by 1903 when the economy went into recession.

• Major changes in econmic infrastructure and production technologies.

• Completion of trans continental railroad system

• The advent of Electricity

• Increased use of coal

• Development of National Economic market

• Transformation of regional firms into national firms

Economies of Scale

• Production

• Administration

• Marketing

Reasons for success

• Astute Business Leadership

• Rapid Technological and Managerial improvement

• Development of New Products

• Entry into new sub division of Industry

• Promotion of Quality Brandnames

• Commercial exploitation of Research

Reasons for Failure

• Lack of efforts to realize economies of scale by modernizing plant and equipment

• Increase in Overhead Costs

• Lack of flexibility due to large size.

• Inadequate supply of talent to manage a large group of plants.

The 1922-1929 Merger movement

• Began with the upturn in Business Activity in 1922.

• Ended with the severe economic slowdown in 1929.

• Public utilities and Banking companies were most active.

• About 60 per cent of the mergers occurred in the still fragmented food processing, chemicals and Mining sectors.

• A large proportion of the mergers represented product extension mergers as in the cases of IBM, General foods and Allied Chemical

• Market extension mergers in food retailing, department stores, motion picture theaters

• Vertical Mergers in the mining and metals industries

Motivational factors of these mergers

Major developments in

• Transportation

• Communication

• Merchandising

The 1940-47 Merger Movement

• Second world war and early post war years were accompanied by rapid growth of economy and an upsurge in merger activity.

• Not very significant changes in Technological and Business environments

• Merger movement was much smaller than the previuos ones

Motivations

• Government Regulation

• Tax policies

• Circumvent price controls and allocations

1967-1969

• Merger activity reached its highest level.

• Booming economy

• After 1969, economy slowed down

• So did the number of mergers

• Most acquirers were small or medium sized firms

• Diversification Strategy

• Largest single category of firms was from the aerospace industry

• This industry was subject to wide fluctuations in total market demand and

• Abrupt and major shifts in product mix

Merger Trends since 1976

• Following recession in 1974-75, the US economy entered into a long period of expansion during which M&As trended upwards

• Have been concentrated in Service Industries as Commercial and Investment Banking, Finance, insurance, wholesale, retail, broadcasting healthcare and in the natural resources area.

• Involved consolidation within the industry

• Product extension

• Market extension and

• Pure conglomerate acquisitions

• Divestitures became a substantial portion of acquisition activity.

Effects on Concentration

• Macro – Concentration

• Micro - Concentration

Macro Concentration

• High rates of divestitures is one of the reasons why not affected aggregate concentration in the economy.

• Share of assets of the largest 200 US Corporations to the assets of all non financial corporations.

Micro Concentration

• Historically the measure has been the share of the four largest firms of industry sales, assets, employment or the value added in Manufacturing

• When the four firm concentration ratio exceeds 40 per cent, one view holds that competition in the Industry may be diminished to some extent

• Concentration has stayed relatively constant during 1960s and 1970s.

Risk Arbitrage in M&A Activity

• Arbitrageurs take advantage of temporary price discrepancies between Markets.

• Buying the stock of takeover targets after a merger is publicly announced and holding the stock until the deal is officially consummated.

• Purchases at a discount to its eventual value at the close of the merger.

• By taking a position in the stock of target firms, risk arbitrageurs are , in effect, betting that the merger will be successful

• Traditionally arbitrageurs have responded to announced takeover bids.

• They evaluate the offer and assess its probability of success relative to the value of the target

• Information is the principal raw material inj the arbitrage business

• Arbitrageurs have in some cases attempted to anticipate takeover bids to establish their stock position in advance of any public announcement, thus increasing their potential return.

The End