Mergers And Acquisituion Essay

2167 words - 9 pages

15PFMC070: Corporate Finance

Autumn 2013

15PFMC070: Corporate Finance
Autumn 2013

Mergers and Acquisitions (I)
Dr Tolulola Lawal
Department of Financial & Management Studies SOAS, University of London

Module Overview
Investment appraisal
Capital budgeting

The Objective of the Firm

Sources of Finance (I) Debt Financing and Valuation

Efficient Market Risk & Return, and Capital Asset Pricing Model

Sources of Finance (II) Equity Financing and Valuation Dividend Policy

Capital Structure Theory Mergers & Acquisitions

Mergers and Acquisitions
• • • • Motives Target valuation Reasons for frequent failure of M&A Defences against takeovers


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– However, not all not all successful corporations are vertically integrated.
• For example, Microsoft makes the operating system but not the computers.

– Internalisation of transactions

Reasons to Acquire (3)
• Expertise
– Firms often need expertise in particular areas to compete more efficiently. – Particularly with new technologies, hiring experienced workers directly may be difficult. – It may be more efficient to purchase the talent as an already functioning unit by acquiring an existing firm.

Reasons to Acquire (4)
• Monopoly Gains
– Merging with or acquiring a major rival enables a firm to substantially reduce competition within the industry and thereby increase profits. – Most countries have antitrust laws that limit such activity. – While all companies in an industry benefit when competition is reduced, only the merging company pays the associated costs (from, for instance, managing a larger corporation).


15PFMC070: Corporate Finance

Autumn 2013

Reasons to Acquire (5) and (6 ?)
• Efficiency Gains
– which are often achieved through an elimination of duplication. – Acquirers often argue that they can run the target organisation more efficiently than existing management could.

• Undervalued shares ?
– Acquirers can evaluate their target firms more accurately than most investors

Three “weak” Reasons for Mergers
• Diversification • Earnings Growth (Bootstrapping EPS)
– 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 (i.e., an accounting illusion).

• Non-Value-Maximising Managerial motives

Economic / Strategic Reasons to Acquire ?
• Diversification (1)
– Risk Reduction • Like a large portfolio, large firms bear less unsystematic risk, so often mergers are justified on the basis that the combined firm is less risky. • Shareholders’ “do-it yourself” diversification may be superior alternative to firm diversification


15PFMC070: Corporate Finance

Autumn 2013

Economic / Strategic Reasons to Acquire ?
• Diversification (2)
– Debt Capacity and Borrowing Costs
• All else being equal, larger firms are more diversified, and therefore have a lower probability of bankruptcy • A greater stability of earnings will appeal to lenders • Allow them to borrow more than they could have as individual entities Increase leverage >>> Lower the cost of capital

The Bootstrapping fallacy (p 783)
Global Resource’s PER will remain at its pre-acquisition level of 25.

Instead, the PER after the acquisition is weighted average of the two companies pre-acquisition PER’s

1 share in Global for 2.5 shares in Regional Global before Merger 1 25 25 100 100 2500 Regional before merger 1 10 10 100 100 1000 Smart 1.43 25 17.5 140 200 3500 Fooled 1.43 35.71 25 140 200 5000

Table 28.2
EPS Share Price PER Number of shares Total Earnings Total Value


15PFMC070: Corporate Finance

Autumn 2013


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