4 Main Types of Mergers and Acquisitions
Companies may combine in different forms, there are four main types of mergers and acquisitions;
Horizontal Mergers / Acquisitions
Horizontal mergers occur between the companies that have same customer base, offers similar products and lies on same business level. The objective behind such mergers is to combine the operations of the company to achieve production at a larger scale so that the companies can achieve economies of scale and reap its profits. Costs incurred by combining is less as compare to conduct business individually.eg Hewlett Packard merged with Compaq in 2011.They merged with the objective to beat the competition offered by IBM and Dell, to reduce their cost structure by $3 billion annually, broaden their market base and sharing of complementary resources.
Vertical Mergers / Acquisitions
Vertical mergers and acquisitions are combination of companies that offer same type of products but they operate at different levels. Objective behind their combination is to excel in that line of business by avoiding the disruption of business activities. By acquiring a company that can provide raw material, supplementary parts or creating a firm relation with customers enable the company to achieve higher efficiency and manage risk of unavailability of supporting products. A recent example of vertical merger is between Time Warner (cable company) and AT & T. Time Warner also merged with a media company known as Turner corporation in 1996 which was responsible for CNN, Cartoon Network etc.
Concentric Mergers / Acquisitions
Concentric mergers occur between the companies of the same industry but with different product line. Such mergers are done for product extension between the companies that possess same type of technology or business processes. Here the merging companies have same customer base but provides them different products. The goal behind such mergers is to extend line of business or capture related markets e.g. Coke created a new brand image by acquiring different manufacturers of beverages like Vitamin water, Fuze beverage and honest tea to extend its line from soft drinks to other beverage market.
Conglomerate Mergers / Acquisitions
Conglomerate mergers are joining together of two companies that have nothing in common. They both belong to different industries and carry out unrelated actives. These are companies that believe in the concept of ‘the bigger, the better’ the reason behind their merger may be interest in the technology, equipment, management or marketing tools. Core objective is to create synergy to maximize shareholder wealth. e.g. The biggest example of conglomerate merger is the General Electric, which started its business as solution provider for lightning problems, merged 12 companies and today it provides radios, television, ups, oil, financial management, water facilitation, computer hardware, health care equipment etc.
Valuation of firm Matters!
Estimation of fair price of target firm is a vital issue. The buyer always prefers the lower price whereas for seller the price should be maximum. The pricing of the target firm should be fair enough to maximize the value of shareholders of both the acquirer and target. Valuation decisions are takes into consideration various factors like its size, current efficiency of operations, future growth prospects of company, its risk management and amount of risk the acquirer would be exposed after acquisition and its capital structure and evaluation of cost and return. Usually companies in an industry are compared for such decision but many evaluators undertake tools like book value versus market value, going concern versus liquidation, price to earnings ratio, replacement cost etc. Fair price should be determined to satisfy shareholders of both companies.
Mode of Payment
This is an important issue not only from shareholders’ wealth perspective but also from tax purpose. The acquirer can buy the firm either by cash or by way of debts. Transactions can also be a combination of both debt and cash. Like Mansha Group took over MCB and payment was done 50% by cash and rest by issuing bonds. By issuing bonds, the money raised was used to conduct business and earn returns in order to pay its cost. By using debt as a tool Mansha Group actually purchased MCB at its Half price. One factor that hinders payment by cash and debt is imposition of tax at time of sale whereas if payment is done by issuing of stocks at time of sale no tax has to be paid.
March 21, 2019