Mergers and acquisitions have become a common strategy to consolidate the business. The basic aim is to reduce costs, reap the benefits of economies of scale, and expand market share. For many people, mergers mean sharing resources and costs to increase bottom lines.
However, it is not as simple as it sounds. According to statistical reports, more than 64% of the time, mergers fail to accomplish the promised results.
They suffer from a decline in the shareholders’ wealth and conflicts in management. Therefore, any merger initiative’s success primarily depends on the objective behind the need for a merger.
Mergers & Acquisitions: Meaning, Process, Types, Example, Advantages, Disadvantages
What is a Merger?
A merger is a fusion of two or more entities, a process in which the identity of one or more entities is lost.
It combines one or more corporations and other business entities into a single business entity, joining two or more companies to achieve greater efficiencies of scale and productivity.
A merger occurs when; two or more organizations merge, and a news organization absorbs their operations.
A merger is a strategy through which two or more organizations agree to integrate their operations on a relatively co-equal basis because they have resources and capabilities that may create a stronger competitive advantage.
In the business world, a merger is a combination of two or more companies. When combined, a new company is created. After having been merged, the companies lose their independent identities. The partnering companies are dissolved.
Their assets and liabilities are combined. New shares/stocks are issued for the new company created after the merger. Therefore, they can never operate a business with their previous names independently.
A merger can take place among organizations;
- Within the same country or organizations across national borders.
- Organizations of different types; private companies, public companies, and partnerships.
Examples of Mergers
An example of an international merger is the deal between Reckitt & Coleman of the U.K. and Benckiser of the Netherlands.
Very recently (August 29, 2011), two leading Greek Banks – Eurobank and Alpha Bank – merged to provide a vital confidence boost to the debt-hit Greece’s banking system. Eurobank and Alpha Bank are the second and third Greek banks in terms of J assets and liabilities.
What is an Acquisition?
An acquisition occurs when one company purchases (or acquires) another company.
It is a strategy through which one firm buys a controlling or 100 percent interest in another firm by making the acquired firm a subsidiary business within its portfolio.
After purchasing the company, the first company (acquirer) absorbs the operations of the second company (the acquired). The acquired company is merged with the first company. The acquired company’s legal identity is lost. The acquirer company remains independent and operates its business as it is.
In many cases, it is very difficult to adopt a new venture strategy to diversify the business.
Because it takes long years to develop knowledge resources, the scale of operation, and market reputation.
To avoid the difficulties of implementing a new venture strategy, some companies diversify if business via the acquisition of an existing firm.
The ‘to-be-acquired’ firm may be either a reputed, well-established firm or a weak firm but has a high profit potential if a company acquires an.
An already established firm, it can move directly to build an upmarket position.
The acquisition offers an effective way to hurdle such entry barriers as acquiring technological experience, establishing supplier relationships, becoming big enough to match rivals’ efficiency and unit costs, having to spend large sums on introductory advertising and promotions to gain market visibility and brand recognition, and securing adequate distribution.
What are Business Acquisitions?
There are two types of business acquisitions, friendly acquisition and hostile acquisition. A company invites other companies to acquire its business in a friendly acquisition.
In a hostile acquisition, the company does not want to sell its business. However, the other company determined to acquire the business aggressively buys the equity shares of the target company from its existing shareholders.
As the motive is to take over someone else’s business, the acquiring company offers to buy the shares at a very high premium, that is, the gaining difference between the offer price and the market price of the share.
This entices the shareholders, and they sell their stakes to earn quick money. This way, the acquiring company gets the majority stake and takes over the ownership control of the target company.
Acquiring an existing business enables a company to speed up its expansion process because they do not have to start from the very scratch.
The target company is already established and has all the processes in place. The acquiring company simply has to focus on merging the business with its own and move ahead with its growth strategies.
However, in reality, it is not as simple as it seems. Most of the acquisitions fail miserably due to poor implementation attitudes and strategies.
The major reasons for acquisition are;
- increase market power,
- overcome entry barriers,
- reduce the cost of new product development,
- Increase speedy access to the market,
- reduce risk compared to developing new products,
- increase the diversification of businesses,
- providing improved capacity utilization,
- making better use of the existing sales force,
- gaining economies of scale, and
- avoid excessive competition.
Examples of Acquisition
When Standard Chartered Bank absorbed the operations of Grindiays Bank in South Asia and the South-East Asian region, it was Standard Charter’s acquisition strategy.
In the international arena, numerous mergers are taking place every year.
For example, in 2003-2004, Yahoo! acquired Inktomi Corporation; John and Johnson acquired Scios; Pfizer acquired Pharmacia; Oracle acquired PeopleSoft, and Kodak acquired Practice Works.
An Acquisition Strategy Works Well When Companies
- Lack of important competencies required to compete in the business area where they want to enter;
- Speed is important, and they need to move fast (acquisition is a quicker way to establish a market presence and generate enough cash flow);
- Contemplate entering into businesses with less risk than an internal startup, as they acquire known profitability, known revenues, and known market share, all of which reduce uncertainty.
- Find that the to-be-acquired firm enjoys significant protection from barriers to entry into the industry concerned (acquisition is favored when entry barriers are many and difficult to overcome).
Situations Unsuitable for Acquisition Strategy
However, evidence shows that the acquisition strategy does not work well in many situations.
It fails to add value to the parent company and even dissipates shareholder value. Many acquisitions destroy rather than create value.
When the acquisition strategy fails, it fails because;
- Companies often experience difficulties when trying to integrate divergent corporate cultures,
- Companies overestimate the potential economic benefits of an acquisition,
- Acquisitions tend to be very expensive, and
- Companies often do not adequately screen their acquisition targets.
Purposes of Acquisition Strategies
The purposes of merger and acquisition are primarily similar. They can;
- Dramatically strengthen a company’s market position;
- Open new opportunities for competitive advantages;
- Fill resource gaps and allow the new company to do things that the prior companies could not do alone;
- Combine the skills and competitive capabilities of the merged companies;
- Achieve wider geographical coverage and greater financial resources;
- Add production capacity and expand into new areas; and/or
- Ensure considerable cost-saving by combining the operations of several companies.
Types of Merger
Many types of mergers and acquisitions redefine the business world with new strategic alliances and improved corporate philosophies.
Horizontal Merger
This kind of merger exists between two companies that compete in the same industry segment. The two companies combine their operations and gain strength in terms of improved performance, increased capital, and enhanced profits.
This kind substantially reduces the number of competitors in the segment and gives a higher edge over the competition.
Vertical Merger
A vertical merger is one in which two or more companies in the same industry but in different fields combine in business.
In this form, the companies in the merger decide to combine all the operations and productions under one shelter. It is like encompassing all the requirements and products of a single industry segment.
Co-Generic Merger
A co-generic merger is a kind in which two or more companies in an association are some way or the other related to the production processes, business markets, or basic required technologies.
It includes the extension of the product line or acquiring components that are all the way required in daily operations.
This kind of offers great business opportunities as it opens a huge gateway to diversify around a common set of resources and strategic requirements.
Conglomerate Merge
A conglomerate merger is a venture in which two or more companies in different industrial sectors combine their operations.
All the merged companies are not related to their kind of business and product line; rather, their operations overlap. This is just a unification of businesses from different verticals under one flagship enterprise or firm.
Not all mergers and amalgamations are malignant, and in some cases, there may be a cost reduction in the production of goods and services, thus benefiting end consumers.
Process of Merger and Acquisition
The merger and acquisition process is the most challenging and critical one when it comes to corporate restructuring.
One wrong decision or one wrong move can unimaginably reverse the effects. It should certainly be followed in a way that a company can gain maximum benefits with the deal.
Following are some of the important steps in the M&A process:
Business Valuation
A business valuation or assessment is the first process of merger and acquisition. This step includes examination and evaluation of both the present and future market value of the target company.
Thorough research is done on the company’s history with regard to capital gains, organizational structure, market share, distribution channel, corporate culture, specific business strengths, and credibility in the market.
Many other aspects should be considered to ensure if a proposed company is right or not for a successful merger.
Proposal Phase
The proposal phase is a phase in which the company sends a proposal for a merger or an acquisition with complete details of the deal, including the strategies, amount, and commitments.
Most of the time, this proposal is sent through a non-binding offer document.
Planning Exit
When any company decides to sell its operations, it has to undergo the stage of exit planning.
The company has to make firm decisions as to when and how to exit in an organized and profitable manner.
In the process, the management has to evaluate all financial and other business issues like deciding on a full sale or partial sale along with evaluating various options of reinvestments.
Structuring Business Deal
After finalizing the merger and the exit plans, the new entity or the takeover company has to take initiatives for marketing and create innovative strategies to enhance business and its credibility.
The entire phase emphasizes on the structuring of the business deal.
Stage of Integration
This stage includes both the company coming together with their parameters.
It includes the entire process of preparing the document, signing the agreement, and negotiating the deal. It also defines the parameters of the future relationship between the two.
Operating the Venture
After signing the agreement and entering into the venture, it is equally important to operate the venture. This operation is attributed to meet the said and pre-defined expectations of all the companies involved in the process.
The M& A transaction after the deal includes all the essential measures and activities that work to fulfill the requirements and desires of the companies involved.
Strategies of Merger and Acquisition
Strategies play an integral role when it comes to mergers and acquisitions. A sound strategic decision and procedure are very important to ensure success and fulfilling expected desires.
Every company has different cultures and follows different strategies to define their merger.
Some take the experience from past associations, some take lessons from the associations of their known businesses, and some hear their voice and move ahead without wise evaluation and examination.
Following are some of the essential strategies of merger and acquisition that can work wonders in the process:
- The first and foremost thing is to determine business plan drivers. It is very important to convert business strategies to a set of drivers or a source of motivation to help the merger succeed in all possible ways.
- There should be a strong understanding of the intended business market, market share, and the technological requirements and geographic location of the business.
- The company should also understand and evaluate all the risks involved and the relative impact on the business.
- Then there is an important need to assess the market by deciding the growth factors through future market opportunities, recent trends, and customer feedback.
- The integration process should be taken in line with the consent of the management from both the companies venturing into the merger.
- Restructuring plans and future parameters should be decided with the exchange of information and knowledge from both ends. This involves considering the work culture, employee selection, and the working environment as well.
- In the end, ensure that all those involved in the merger, including management of the merger companies, stakeholders, board members, and investors, agree on the defined strategies. Once approved, the merger can be taken forward to finalizing a deal.
Benefits of Merger and Acquisition
Merger and acquisition have become the most prominent process in the corporate world. The key factor contributing to the explosion of this innovative form of restructuring is the massive number of advantages it offers to the business world.
Following are some of the known advantages of merger and acquisition:
- The very first advantage of M&A is a synergy that offers a surplus power that enables enhanced performance and cost-efficiency. When two or more companies get together and are supported by each other, the resulting business is sure to gain tremendous profit in terms of financial gains and work performance.
- Cost efficiency is another beneficial aspect of merger and acquisition. This is because any kind of merger improves purchasing power as there is more negotiation with bulk orders. Apart from that, staff reduction also helps a great deal in cutting costs and increasing the company’s profit margins. Apart from this increase in the volume of production results in reduced cost of production per unit that eventually leads to raised economies of scale.
- With a merger, it is easy to maintain a competitive edge because many issues and strategies can e well understood and acquired by combining the resources and talents of two or more companies.
- A combination of two companies or two businesses certainly enhances and strengthens the business network by improving market reach. This offers new sales opportunities and new areas to explore the possibility of their business.
- With all these benefits, a merger and acquisition deal increases the market power of the company, which in turn limits the severity of the tough market competition. This enables the merged firm to take advantage of hi-tech technological advancement against obsolescence and price wars.
Problems of Merger and Acquisition
It’s a well-known fact that a good number of mergers fail because of various factors, including cultural differences and flawed intentions.
Most companies, when sign an agreement, often get a create a bigger picture of their expectations as they believe in a pure concept of higher capital gains when two are combining.
This belief is not always true as conditions in the market and economy often rule the operation and functioning of any company.
The history of merger and acquisitions have revealed that almost two-thirds of the mergers taking place experience failure and feel disappointed with their terms and pre-defined parameters.
At times even the motivation driving the mergers can prove to be intangible.
Many factors are contributing to the failure and elements that are problems of mergers and acquisitions.
Many aspects should be understood and analyzed before signing an agreement because even one small mistake in making a decision can completely dump both companies with an irreversible impact.
Some of the prominent issues with regards to the failure of M&A are as follows:
A flawed intention in terms of unethical motivation or high expectations can eventually lead to failure of the merger. If any company desires high capital gain along with glory and fame irrespective of the corporate strategy defined to fulfill the requirements of the company, the merger fails.
Any kind of agreement based completely on the optimistic stock market condition can also lead to failure as the stock market is an uncertain entity. In such cases, more risks are involved with the prevailing merger.
Cultural difference is also a big problem in the case of a merger.
When two companies from different corporate cultures come together, it becomes challenging to integrate the cultures of both companies.
It is certainly difficult to maintain the difference and move ahead for success without any kind of integration.
Difference between Merger and Acquisition
Merger and acquisition are often known to be a single terminology defined as a process of combining two or more companies. The fact remains that the so-called single terminologies are different terms used under different situations.
Though there is a thin line difference between the two but the impact of the kind of completely different in both the cases.
The merger is considered to be a process when two or more companies come together to expand their business operations. In such a case, the deal gets finalized on friendly terms, and both companies share equal profits in the newly created entity.
When one company takes over the other and rules all its business operations, it is known as acquisitions.
In this process of restructuring, one company overpowers the other company, and the decision is mainly taken during downturns in the economy or during declining profit margins.
Among the two, the one that is financially stronger and bigger in all ways establishes its power. The combined operations then run under the name of the powerful entity who also takes over the existing stocks of the other company.
Another difference is, in an acquisition. Usually, two companies of different sizes come together to combat the challenges of the downturn, and in a merger, two companies of the same size combine to increase their strength and financial gains along with breaking the trade barriers.
A deal in case of acquisition is often done in an unfriendly manner, and it is more or less a forceful or a helpless association where the power company either swallows the operation or a company in loss is forced to sell its entity.
In the case of a merger, there is a friendly association where both partners hold the same percentage of ownership and equal profit share.
Suitability of Both Merger and Acquisition Strategies
Mergers and acquisitions are suitable in situations where strategic alliances do not yield desired results because of the lack of a ‘sense of ownership.’
Mergers and acquisitions allow the partnering firms to have ownership relations, rather than partnership relations.
They are a very effective international business, too.
Through mergers and acquisitions, companies can build a good market presence in other countries. Companies may merge or acquire to fill in resources and/or technology gaps. Nestle, Kraft, Procter, and Gamble have made several acquisitions to establish a stronger global presence.
There are hundreds and thousands of examples of mergers and acquisitions all over the world.
Conclusion
Following globalization, many small organizations hastily got into mergers to stand against highly-competitive, large scale multinational corporations.
They took mergers as a protective strategy to save their business from being perished in the newly created dynamic environment.
Unfortunately, it did not work in many cases due to a lack of proper planning and implementation of the planned merger.
Moreover, the high costs of business consolidation (professional fees of bankers, lawyers, advisors, paperwork, etc.) could not be covered by the combined revenue of the merged organization leading to its failure.
Another reason for an unsuccessful merger is the lack of efficient management to unite different organizational cultures. The most challenging task is to bring together people and make them work as a team.
Establishing a new organizational structure that fits all the employees is also difficult.
Hence, many fearing retrenchments resign, leading to a complete breakdown at the operational level.
