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Why a Merger Takes Place

Why a Merger Takes Place

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Published by: Bobin Bj ⎝⏠⏝⏠⎠ on Aug 21, 2010
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Methodology

Due diligence is a generally accepted method in undertaking an assessment of potential M&A targets. Referrals through investment and commercial bankers Proactive screening process was utilised to identify candidates It is essential to test the business case by examining operational and management strengths and weaknesses which includes full financial information, sincerity about the company¶s operating performance and problems, its corporate culture plus an honest assessment of management talent. Firms are more successful when they acquire companies that are in a moderately similar business.

Why a merger takes place The conduct of banking and insurance business from one legal entity eliminates the possibility for an acquisition to become a merger, or a merger to take place initially.
the range of products on the foreign market has been extended to take advantage of cross selling possibilities

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In most of the studies the underlying assumption is that improved stock performance (ex-ante studies) or improved profitability (ex-post studies) are best indicators of true performance increases, i.e. increases in productive (or internal) efficiency (say, productivity) and/or increases in dynamic efficiency (i.e. process and product innovation), in short, increases in the creation of economic wealth. Although this latter criterion is the only one that makes sense when assessing mergers from a social point of view, it is evident that mergers and acquisitions (M&As) may well be beneficial to certain stakeholders (shareholders, managers, employees) and thus welcomed by them even if no economic wealth has been (or will be) created.

Dodd(1980)) finds significantly negative abnormal returns for bidders. The implication is that. Berkovitch and Narayanan (1993) propose a different approach to try and distinguish between the different motives for acquisition activity. a manifestation of it. Bradley. Jensen(1986) proposes that acquisitions are not a solution to the agency problem. The methodology focuses on the relationship between the observed gain to target firms shareholders and the total gain from acquisitions and the observed gain to target firms shareholders and the gain to bidding firms shareholders. on average. the findings for bidders are more equivocal. Jensen and Ruback(1983) note the improvement in efficiency that can arise through economies of scale. Studies (for example. enjoying significantly abnormal gains in share prices. However. there will be a positive gain for target shareholders. hubris leads to overbidding. through the market for corporate control. while Williamson(1989) argues that acquisitions can improve efficiency through a reduction in transaction costs. . Acquisitions are one of the ways in which managers keep firms free cash flow away from shareholders.1983) find that the shareholders of target firms do well from acquisitions. For instance. This means that the price paid transfers all / or a large proportion of any efficiency gains from an acquisition to target shareholders. Firms who se efficiency is poor due to agency problems will be taken over by predators and their performance improved. but a negative gain for bidders. Manne(1965) suggests that.1980 and Asquith. Such acquisitions will have an indeterminate effect on the wealth of target firms.Theoretical Approach tax savings In a substantial number of cases. Bidders may have an underlying motive of reaping efficiency gains. but will certainly have a negative effect on the wealth of bidding firms shareholders. more recently. but. but. while. one uses some variant of the capital asset pricing model (CAPM) or the market model (MM) to calculate the expected returns for the firms in question. Roll (1986) suggests that acquisitions are motivated by managerial hubris . Schwert(1996) argues that the abnormal returns to bidding firms are not significant. acquisitions are a solution to the agency problem.

capabilities and skills.Aim Lynch and Lind (2002) describe mergers and acquisitions as being one of the central techniques for organisational growth. increased products and rationalisation of distribution channels. or technology R&D function. economies of scale. or new customers. strategic acquisition can redefine an entire industry. This is an appropriate strategic rationale. The strategic reasons they identify for acquisitions are: (i) acquire new products. new products. Redefining the business Deployed strategically. and (iv) transform the existing industry or create a new ind ustry. 4. a major technological change. success requires gaining scale in specific elements of a business and using these elements to become more competitive overall. Platform for success . a serial acquirer systematically buys specific expertise to either accelerate or substitute for a traditional new business development. cost savings. Albizzatti and Sias (2004) identify that the reasoning for an acquisition needs to be more strategic than simply the use of excess cash. (ii) extend their geographical reach. Selden and Colvin (2003) note the pressure on CEOs to use their excess cash and increase earnings by mergers or acquisitions even if that may not be an appropriate strategy for the company. 3. Rather. Broadening scope In mergers geared to broaden the scope of products or technologies. 6. 2. They suggest that in the 1990s companies shifted the focus for undertaking M&As from a cost saving perspective to using M&As as a strategic vehicle for corporate growth. This can mean expanding business to new locations. Harari (1997) lists several reasons given by CEOs to justify a merger or acquisition. changing the boundaries of competition and forcing rivals to re-evaluate their business models. Perry and Herd (2004) emphasise the critical role of strategic planning when using M&As to grow an organisation. Selden and Colvin (2003) highlight the way companies focus on the potential return on capital. the additions should be closely related to a company¶s existing business. which the authors regarded as an inherently more difficult challenge. higher growth markets. Building adjacencies The next most common impetus for mergers and acquisitions is to expand into highly related or adjacent businesses. Kreuze and Langsam (2000) go further and suggest growth is the primary reason for M&As. They also suggest that the most common reason companies buy one another is to acquire customers. which does not mean simply getting larger. Redefining the industry Sometimes a bold. when an organisation¶s capabilities and resources grow stale very suddenly due to. 5. Growing scale Mergers most often aim to grow scale. mergers and acquisitions can at times redefine a business. for example. whilst increasing the diversity of the business Hurtt. Merger Success 1. But most importantly. These include: to obtain synergies. (iii) consolidate within a more mature industry.

Acquirers of healthy companies hold to growth motives more often than those who acquired unhealthy companies (Kitching 1973 via Hunt 1990) 2) to reduce earnings volatility (Healy et al. To list some motives found earlier are e. 13) reputation enhancement (Dranove and Shanley 1994): local systems do not appear to have lower cost but do appear to enjoy reputation benefits 14) innovation performance (Ahuja and Katila 2001) 15) resource redeployment (Capron. unrelated Acquisition classes by U. but the hard work remains bringing two companies together effectively. 3. Carnes and Jandik 2001. etc. 95) 5) decreased undiversifiable ³employment risk´ i.: 1) to create a number of new business opportunities (Healy et al. 23) and entry new markets (Black..g. 314) 8) synergy (Halpern 1983. In the Ä60s and early Ä70s there was a surge of the conglomerate (Kitching 1973 via Hunt 1990) but during Ä80s there was a shift away from conglomerate diversification (Hunt 1990). 29). 29) 7) use of control position (Halpern 1983. product extension.e. market extension. Mahoney and Mahoney 2006. Amit. Porter Liebeskind. Remember: over half of acquisitions destroy shareholder value. 1990. The rationale helps identify the right target and set boundaries for negotiations. achievement. Mahoney and Mahoney 1991. Chatterjee 1992) 9) monopoly (Halpern 1983. Holl 2006. Chatterjee 1992) 11) cost reduction (Dranove and Shanley 1994) 12) managerial vs. Holl and Kyriazis 1997.1 Merger motives Motives behind manager s decisions are in many experiments given as self evident.S. 314) is specially a shareholder s goal (Bethel and Liebeskind 1993. Markides 2006. 23. Callan and Sartori 1996) 6) value maximization (Halpern 1983. Black. Carnes and Jandik 2001. contagious M&As (Öberg and Holtsröm 2006). Réquillart and Trévisiol 2005) and economies of scale 4) parallel i.5) 3) technical Efficiency (Chaaban. professional reputation. Firth 1991). strategic rationale for an acquisition is critical. The merger offers an opportunity to improve one s social identity as well (Terry. Dussauge and Mitchell 1998) 16) power.5). risk of losing job. sensation seeking and prestige (Lausberg and Stahl 2006) 17) horizontal. 1990. Managers personal wealth is linked more to firm size and risk of bankruptcy than to firm performance (Amihud and Lev 1981). vertical. but not enough to guarantee a successful deal and merger integration. shareholder interests (Taffler. Livnat and Zarowin (1989) have investigated owner-manager conflict of interest. institutional owners support specially this managerial goal of growth (Bethel and Liebeskind 1993. Federal Trade Commission (Montgomery and Wilson 1986) .e. 314. 314) 10) corporate restructuring is needed industry wide (Hatfield. Divestment is an option which management is likely to hold in reserve (Montgomery and Thomas 1988.A clear. Motives for takeovers tend to reflect managerial rather than shareholder interests in abandoned mergers (Taffler and Holl 1991). there is a kind of economical ³force major´ to stay competitive for customers while they are merging. Opler 1996.

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