chap021
TRANSCRIPT
McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
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Mergers, Acquisitions and Corporate ControlThe Number of Mergers in the United States
(1962-2009)
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Types of Mergers
Horizontal MergerA merger between two firms in the same line of business (former competitors)
Vertical MergerA merger between companies at different stages of production
Conglomerate Merger
A merger between companies in unrelated lines of business
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Sensible Reasons for Mergers
Economies of Scale
Economies of Vertical Integration
Combining Complementary Resources
Mergers as a Use for Surplus Funds
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Economies of Scale
With economies of scale, a larger firm may be able to reduce its per unit cost.
How?
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Economies of Vertical Integration
Control over suppliers “may” reduce costs. Over-integration can cause the opposite effect.
Pre-integration (less efficient)
Company
S
S
S
S
S
S
S
Post-integration (more efficient)
Company
S
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Combining Complementary Resources
Merging may result in each firm filling in the “missing pieces” of their firm with pieces from the other firm.
Firm A
Firm B
Example: A small firm may have a valuable patent, but lack the engineering and sales organization necessary to produce and market it on a large scale. It could be acquired by a larger firm with those capacities already in place.
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Use for Surplus Funds
If your firm is in a mature industry with few, if any, positive NPV projects available, acquisition may be the best use of your funds.
What might this imply about the pre- and post-acquisition PVGO?
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Dubious Reasons for Mergers
Diversification
The Bootstrap Game
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Diversification
Diversification Investors should not pay a premium for
diversification since they can do it themselves.
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The Bootstrap Game
Acquiring Firm has high P/E ratio
Selling firm has low P/E ratio (due to low number of shares)
After merger, acquiring firm has short term EPS rise
Long term, acquirer will have slower than normal EPS growth due to share dilution.
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The Bootstrap Game: Example
World Enterprises (before merger) Muck and Slurry
World Enterprises (after buying Muck
and Slurry)
EPS $2.00 $2.00 $2.67Price per share $40.00 $20.00 $40.00P/E Ratio 20 10 15Number of shares 100,000 100,000 150,000 Total earnings $200,000 $200,000 $400,000Total market value $4,000,000 $2,000,000 $6,000,000
Current earnings per dollar invested in stock $0.05 $0.10 $0.067
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The Form of the Acquisition
Merger – When the acquiring firm buys all the assets and all the liabilities of the other firm and combines them into one firm
Tender Offer – The acquiring firm buys all the stock of the target firm
Asset Purchase – When the acquiring firm buys only the assets of the target. The target continues to exist as firm with cash instead of assets
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Evaluating Mergers Ask:
Is there an overall economic gain to the merger? Do the terms of the merger make the company
and its shareholders better off?
( ) ( ) ( )PV A B PV A PV B
Synergy
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Financing Mergers
Mergers Financed by Cash
Mergers Financed by Stock
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Evaluating Mergers
Economic Gain = PV(increased earnings)
= New cash flows from synergies
discount rate
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Evaluating Mergers: ExampleGiven a 20% cost of funds, what is the economic gain, if any, of
the merger listed below? (GenPharm acquires Biotex)
GenPharm Biotex Combined Company
Revenues 200 25 225 (+0)
Operating Costs 110 17 120 (- 7)
Earnings 90 8 105 (+7)
7Economic Gain= $35
.20
Which of the “sensible reasons” for a merger is this merger most likely based on?
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The Market for Corporate Control
1. Proxy Contests
2. Takeovers
3. Leveraged Buyouts
4. Divestures, Spin-Offs or Carve-Outs
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Proxy ContestsProxy
The right to vote another shareholder’s shares
Proxy Contests
Takeover attempt in which outsiders compete with management for shareholders’ votes
Proxy Access (2010)
Problem with Proxy Contests?
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Takeovers
Tender Offer: a direct offer of purchase to current shareholders, without consulting with management
How can management react to a tender offer?
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Takeover Defensive Tactics
White Knight
Shark Repellent
Poison Pill
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Leveraged Buy-Outs (LBO)
Large portion of buy-out financed by debt
Shares of the LBO no longer trade on the open market
Leveraged Buyout vs. Management Buyout
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Potential Gains from an LBO
Junk bond marketLeverage and taxesOther stakeholdersLeverage and incentivesFree cash flow
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Divestitures, Spin-Offs, and Carve-Outs
Divestiture
When a firm sells some of the assets to another entity as a going concern
Spin-Off
The process of a business separating the ongoing operations of a unit of that business and giving the shareholders of the parent firm shares of the unit
Carve-Outs
Similar to a spin-off, but issues shares of the new firm to the public
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Benefits and Cost of Mergers
Who usually benefits from a merger?
Who usually loses in a merger?