Mergers

&
Acquisitions
Aldovino, Hansley
Eud, Rizza Mae
Magana, Geselle
Rodil, Via Nicole
Mergers and Acquisitions (M&A)

 A type of corporate strategy, which stands for all operations related to

transfer of property rights in companies, including formation and
restructuring of companies.

 It involves consolidation of two businesses with an aim to increase market

share, profits and influence in the industry.

Merger

By definition, a merger takes place when two equal companies join forces and
create a new entity. Stock for both of the companies is surrendered, and new
stock is issued for the newly created company. Typically the company is renamed;
often a combination of the two previous companies, but in some way there is a
distinction that the two companies have united.
• Amalgamation
The process in which two or more than companies are wound up to form a new
company. The entities are of the same size.

• Absorption
The process in which one company takes over the other company. The bigger
the entity overpowers the smaller entity.
Mergers can be divided into three types:

1. Horizontal merger: It happens when both companies are in the same line of
business, which means they are usually competitors.

2. Vertical merger: This happens when two companies are in the same line of
production, but stage of production is different.

3. Conglomerate merger: This happens when the two companies are in totally
different line of business.

Attitude of Management
From the perspective of the board of directors of the target companies, the
merger can be classified into two broad categories:

A friendly merger: This happens when the ‘board of directors’ agree, negotiate
and finally accept an offer.
A hostile merger: This happens when the ‘board of directors’ attempt to prevent
the merger.
Acquisition

Similar to a merger, an acquisition always results in a new company

being formed out of two separate entities. The process of that
unification process is slightly different for an acquisition. Unlike a
merger, an acquisition is always done by the purchase of one company
by another. The buying company retains its name.

Parties in an acquisition:

 The Target Company is the company that is being acquired.

 The Acquirer company is the company that is acquiring the target.
Differences between Mergers and Acquisitions
Motives for Business Combinations
The main motivation for a merger or acquisition is synergy, the working
together of the two firms to produce a combined value that is greater than the
sum of their individual values.

Sources of Value Enhancing Synergy

• Revenue Enhancement - increase/improvement in quality, value or extent
• Cost Reduction
1. Economy of Scale - can often reduced its fixed cost
2. Economy of Scope - efficiencies primarily associated with demand-side
changes
• Tax Considerations - ability to use net operating losses
• Lower Cost of Capital - less risky

Non-value Maximizing Motives

• Managers’ Personal Incentives
• Misallocation of capital between merged firms
The Reasons for Mergers and Acquisitions

• Increasing Capabilities
• Gaining a Competitive Advantage or Larger Marker Share
• Diversifying Products or Services
• Replacing Leadership
• Cutting Costs
• Surviving
 Types of Transactions

1. Asset Purchase
- An asset purchase transaction involves the sale of
some or all of the assets used in a business from a
selling company to a buyer.
 Determination of the Purchase Price
Assume the Palmera Corporation is analyzing the acquisition of the
Santan Corporation for 1 million. The Santan Corporation has expected
cash flow (after-tax earning plus depreciation) of 100,000 per year for
the next 5 years and 150,000 per year for the 6th through the 20th year.
Furthermore, the benefits of the merger will add 10,000 per year to cash
flow. Finally, the Santan Corporation has 50,000 tax loss carry-forward
that can be used immediately by the Palmera Corporation. Assuming a
40% tax rate, the 50,000 loss carry-forward will shield 20,000 of profit
from taxes immediately. The Palmera Corporation has a 10% cost of
capital, and this is assumed to remain stable with the merger.
Cash Outflows:
Purchas Price 1,000,000
Less: Tax shield benefit from tax
loss carry-forward (50,000 x 40%) 20,000
Net cash outflow 980,000

Cash Inflows:
Year 1-5
Cash Inflow 100,000
Synergistic Benefit 10,000
Total Cash I 110,000

Year 6-20
Cash Inflow 150,000
Synergistic Benefit 10,000
Total Cash Inflow 160,000
Year 1-5
Present Value (110,000 x 3.791) 417,010

Year 6-20
Present Value (160,000 x 4.723) 755,680
Total Present Value of Inflows 1,172,690

Total Present Value of Inflows 1,172,690

Net Cash outflow (980,000)
Net Present Value 192,690
 Types of Transactions

2. Stock Purchase
- In a stock or equity purchase transaction, the
buyer purchases the outstanding stock of a company
directly from the stockholders.
Assume that Blue Whale Corporation is considering the acquisition
of Green Archer Corporation. Significant financial information on
the firm before merger is as follows:

Green Archer Blue Whale j

Total Earnings 200,000 500,000
Number of shares of 50,000 200,000
stock outstanding
Earnings per share 4 2.50
Price earnings ration (P/E) 7.5x 12x
Market Price per share 30 30
Green Archer 200,000
Blue Whale 500,000
Total Earnings 700,000

Green Archer 200,000

Blue Whale 50,000
Shares outstanding in 250,000
surviving corporation

New earnings per share for Blue Whale Corporation

= 700,000/ 250,000
=2.80
 Types of Transactions

3. Statutory Merger or
Consolidation
- In a statutory merger between two
different companies (where company A merges
with another company B) one of the two companies
will continue to survive after the transaction has
completed.
Preparing for the M&A

The Seven- Step Process: Mergers and Acquisitions

1. Determine Growth Markets/Services

Leaders start the acquisition evaluation process by identifying growth

opportunities in business or service lines, markets served, or any combination
thereof.

2. Identify Merger and Acquisition Candidates

The second step of the acquisition process involves the proactive

identification of the potential merger or acquisition candidates that could meet
strategic financial growth objectives in identified markets or service lines.
3. Assess Strategic Financial Position and Fit

At this stage following questions shall be answered,

• What are the likely benefits of a transaction with this acquisition target?
• What are the risks?
• How does this target compare to other targeted opportunities?

4. Make a Go/No-Go Decision

Corporate leadership must determine the likely benefits and drawbacks of

the proposed acquisition or merger according to the questions discussed earlier
and make a high-quality decision.

5. Conduct Valuation

The fifth step in the acquisition process involves assessing the value of the
target, identifying alternatives for structuring the merger or acquisition
transactions, evaluating these, and selecting the structure that would best
enable the organization to achieve its objectives, and developing an offer.
 Discounted cash flow analysis
 Comparable transaction analysis
 Comparable publicly traded company analysis

6. Perform Due Diligence, Negotiate a Definitive Agreement, and

Execute Transaction

Once an offer on the table is accepted, leaders of the acquiring organization

must ensure a complete and comprehensive due diligence review of the target
entity in order to fully understand the issues, opportunities, and risks associated
with the transaction.

Due diligence involves a review of the target’s financial, legal, and operational
position to ensure an accuracy of information obtained earlier in the acquisition
process and full disclosure of all information relevant to the transaction.
7. Implement Transaction and Monitor Ongoing Performance

The analysis seeks answers to such questions as,

• Will management make the tough operational changes required to achieve the
financial benefits?
• What are the HR implications? Is there constituent support (management,
board, service providers, community, and employees)?
• What are the legal and regulatory challenges (Court approvals, SEBI
Regulations, Tax implications, etc.)?
• What are the financial, organizational, and community-related risks of failure?

A successful merger or acquisition involves combining two organizations in an

expedient manner to maximize strategic value while minimizing distraction or
disruption to existing operations.
Issues to be considered

Top Five Issues in Merger and Acquisition Transactions

1. DEAL STRUCTURE

Three alternatives for structuring a transaction:

a. stock purchase
b. asset sale
c. Merger

Certain primary considerations relating to deal structure are:

a. transferability of liability
b. third party contractual consent requirements
c. stockholder approval
d. tax consequences.
2. CASH VERSUS EQUITY
Cash is the most liquid and least risky method from the target’s perspective as
there is no doubt as to the true market value of the transaction and it removes
contingency payments (excluding the possibility of an earn out) all of which may
effectively rival bids better than equity. From the acquirer’s perspective, it can be
sourced from working capital/excess cash or untapped credit lines but doing so may
decrease the acquirer’s debt rating and/or affect its capital structure and/or
control going forward.

Equity. This involves the payment of the acquiring company's equity, issued to the
stockholders of the target, at a determined ratio relative to the target’s value.

3. WORKING CAPITAL ADJUSTMENTS

The acquirer wants to insure that it acquires a target with adequate W/C to
meet the requirements of the business post-closing, including obligations to
customers and trade creditors. The target wants to receive consideration for the
asset infrastructure that enabled the business to operate and generate the profits
that triggered the acquirers desire to buy the business in the first place.
4. ESCROWS AND EARN-OUTS
The purpose of an escrow is to provide recourse for an acquirer in the event
there are breaches of the representations and warranties made by the target
(or upon the occurrence of certain other events).
Earn-out provisions are less common and are most often used to bridge the
gap on valuation that may exist between the target and the acquirer.

5. REPRESENTATIONS AND WARRANTIES

The acquirer will expect the definitive agreement to include detailed
representations and warranties by the target with respect to such matters as
authority, capitalization, intellectual property, tax, financial statements,
compliance with law, employment,and material contracts.
Due Diligence

Is an important aspect of any M&A process. During due diligence

(DD), an investigation is done into the company that will be
acquired. The objective is to get a more detailed understanding of
the company. In practice, a buyer is often looking for hidden issues
or items that differ from those presented by the seller. Especially,
any possible risks will need to be identified and quantified. This
needs to happen before a company is finally acquired.
Strategic Planning and Implementation

Any meaningful discussion of M&As should start with an understanding of

strategic planning in the corporate decision-making process. Most companies
reinforce or update their business development strategy annually. Typically, the
end product of this planning process is the articulation of a limited number of
strategic objectives whose implementation begins with translating them into
concrete investment activities.

 Investment Considerations

One of the primary factors an enterprise must consider when making an

investment decision is the importance of speed in accomplishing the strategic
objective at hand. If speed is a primary consideration, acquisition is likely to be
the most attractive alternative, assuming some or all of the assets acquired are
a good strategic fit. Cost of implementation is clearly a key consideration.
Strategic alliances can be attractive because their costs (as well as their
benefits) are shared.
 Impact of Globalization

Globalization impacts businesses everywhere and in ways that even

practitioners can have difficulty fully understanding.
M&A represents one of the biggest investment components of globalization, an
activity supercharged recently by huge amounts of capital coursing around the
world. Mergers and acquisitions, or takeovers, involve the amalgamation of two
organizations, for rapid growth and strategic change. The reasons behind M&As
are: diversification or vertical integration; increased access to global markets,
technology or resources; and gaining greater innovation, or resource sharing.

 Enhance risk

In situations where acquisitions are the chosen path to achieving strategic

objectives, this choice is generally accompanied by increased risk. That risk
derives from the likelihood of imperfect strategic fit, the high probability of
paying a premium for the assets acquired, and the exposure inherent in
integrating the purchased properties into the fabric of a separate business.
Organizing the Work

The organization that manages a company’s M&A processes has always been
a major contributor to the success of its deals. Today, as companies
increasingly choose to manage their M&A processes internally, without the
support of financial advisers, it’s all the more important to have the right team
in place. This team must not only be skilled at screening acquisition targets,
conducting due diligence, and integrating acquired businesses but also have the
size, structure, and credibility to influence the rest of the company.

M&A teams include members with unnecessary skills as often as they lack
members with essential ones. Too little capacity is a common problem, but
inflated teams frequently create issues as well.