Strategic Management & Competitive

Advantage: Concepts and Cases

Sixth Edition, Global Edition

Chapter 10
Mergers and Acquisitions

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Learning Objectives (1 of 2)

10.1 Describe different types of mergers and acquisitions.

10.2 Describe how mergers and acquisitions can create
economic value:
a. When bidding and target firms share no economies of
scope.
b. When bidding and target firms share economies of
scope.
c. Why firms might engage in these strategies even
when, on average, they do not create economic
profits for bidding firms.

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Learning Objectives (2 of 2)

10.3 Describe three ways that bidding firms might be able

to generate economic profits from implementing mergers or
acquisitions.
10.4 Describe the major challenges that firms integrating
acquisitions are likely to face.

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The Strategic Management Process

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Why Mergers & Acquisitions?

Mergers and acquisitions (often referred to as M&A)

help a firm implement a strategy of diversification
or vertical integration. In other words, while vertical
integration and diversifications are corporate-level
strategy options, M&A (along with strategic
alliances and internal development) is a vehicle or
mode of entry.

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Logic of Corporate Level Strategy Applies

Corporate level strategy should create value:

1. such that the value of the corporate whole increases
2. such that businesses forming the corporate whole are
worth more than they would be under independent
ownership
3. that equity holders cannot create through portfolio
investing

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Mergers and Acquisitions Defined (1 of 3)

Mergers Acquisitions
• two firms are combined • one firm buys another firm
on a relatively coequal (google and YouTube)
basis
Chrysler and Mercedes
(DaimlerChrysler)

• the words are often used interchangeably even though

they mean something very different
• merger sounds more amicable, less threatening

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Mergers and Acquisitions Defined (2 of 3)

Mergers
• parent stocks are
usually retired and new
stock issued
• name may be one of
the parents’ or a
combination
• one of the parents
usually emerges as the
dominant management
Acquisitions
• can be a controlling
share, a majority, or all
of the target firm’s stock
• can be friendly or hostile
• usually done through a
tender offer

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 Mergers and Acquisitions Defined (3 of 3)

Types of M&A Activity

FTC
Categories

Vertical » suppliers or distributors

Horizontal » competitors
Related
Product Extension » complementary products

Market Extension » complementary markets

Unrelated Conglomerate » everything else

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The Value of Mergers & Acquisitions
• That merger and acquisition strategies are an important
strategic option open to firms pursuing diversification
and vertical integration strategies.

• M&A strategy makes sense for a firm if the transaction

creates VALUE for the firm, whether it be the acquiring
firm or the acquired firm. Not all M&As create value.

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Do Mergers and Acquisitions Create
Value? (1 of 5)
The Logic
Unrelated M&A Activity
• there would be no expectation of value creation due to
the lack of synergies between businesses
• there might be value creation due to efficiencies from an
internal capital market

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Do Mergers and Acquisitions Create
Value? (2 of 5)

The Logic
Related M&A Activity
• value creation would be expected due to synergies
between divisions
– economies of scale
– economies of scope
▪ transferring competencies
▪ sharing infrastructure, and so on

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Do Mergers and Acquisitions Create Value?
(3 of 5)

To be economically valuable, links between bidding and

target firms must meet the same criteria as diversification
strategies:

1. The links between the companies must build on real

economies of scope, and
2. it must be less costly for the merged firm to realize these
economies of scope than for outside equity holders to
realize on their own.

Related M&A activity creates more value than unrelated

M&A activity

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Do Mergers and Acquisitions Create
Value? (4 of 5)
The Empirical Evidence
Research is based on stock market reaction to the
announcement of M&A activity
• Economic value of a related M&A can be captured:
If bidding and target firms are linked by potential economies of scope,
then the economic value of these two firms combined is greater than
their economic value as separate entities.

• Estimating the returns to the stockholders of the bidding

firm and the stockholders of the target firm depend on
the bidding process.
• thus, we can see who is capturing any expected value
that may be created.
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Do Mergers and Acquisitions Create
Value? (5 of 5)
The Empirical Evidence
M&A activity creates value, on average, as follows:

0 $ 17, 000

$ 4000 $ 13, 000

+
$ 15, 000
$ 32, 0000 $ 10,000

Bidding firms—even when they attempt to acquire targets with whom

they enjoy valuable economies of scopes—earn, on average, zero
economic profits from their merger and acquisition strategies.

M&A activity creates value, but target firms capture it.

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Why Is M&A Activity So Prevalent? (1 of 3)

If managers know that acquiring firms do not capture

any value from M&A’s, why do they continue to merge
and acquire?
Survival
• avoid competitive disadvantage
• avoid scale disadvantages

Free Cash Flow

• cash generating, normal return investment

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Why Is M&A Activity So Prevalent? (2 of 3)

If managers know that acquiring firms do not capture any

value from M&A’s, why do they continue to merge and
acquire?
Agency Problems
• Managers benefit from increases in size.
• Managers benefit from diversification.

Managerial Hubris
• The argument made by managers here is that they can
do better in managing the target firm (and thereby
producing more profits) than can the current managers of
the target firm. Copyright © 2019 Pearson Education, Ltd. All Rights Reserved
Why Is M&A Activity So Prevalent? (3 of 3)

If managers know that acquiring firms do not capture any

value from M&A’s, why do they continue to merge and
acquire?
Above-Normal Profits
• Some M&A activity does generate above-normal profits
(expected and operational over the long run).
• Proposed M&A activity may satisfy the logic of corporate
level strategy.
• Managers may see economies that the market can’t see.

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Competitive Advantage (1 of 6)

Can an M&A strategy generate sustained competitive

advantage?
Yes, if managers’ abilities meet VRIO criteria.
1. Managers may be good at recognizing and exploiting
potentially value-creating economies with other firms.
2. Managers may be good at doing “deals.”
3. Managers may be good at both.

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Competitive Advantage (2 of 6)

Recognizing and Exploiting Economies of Scope

• Firm C’s recognized value

is $10,000.
• Firm A sees value of
$12,000 in Firm C.
• Firm A can earn a profit of
$2,000 only if the economy
remains private.

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Competitive Advantage (3 of 6)

Recognizing and Exploiting Economies of Scope

• If the economy between A

& C is costly to imitate, it
doesn’t matter if other
firms know.
• Firm A can still earn a
$2,000 profit.

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Competitive Advantage (4 of 6)

Recognizing and Exploiting Economies of Scope

• Firm C has a market

value of $10,000.
• Firm A buys Firm C for
$10,000.
• Firm C turns out to be
worth $12,000.

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Competitive Advantage (5 of 6)
Doing the Deal
Search for
Rare Economies
Limit Information
to Other Bidders

Close the Bidding Firm’s

Deal Quickly Perspective

Limit Information
to the Target
Avoid Bidding
Wars
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Competitive Advantage (6 of 6)

Doing the Deal

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Implementation Issues
Cultural Differences
• High levels of integration require greater cultural
blending.
• Cultural blending may be a matter of:
– combining elements of both cultures
– essentially replacing one culture with the other
• Integration may be very costly, often unanticipated.
• The ability to integrate efficiently may be a source of
competitive advantage.

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Summary

• M&A activity is a mode of entry for vertical integration and

diversification strategies.
• A firm’s M&A strategy should satisfy the logic of corporate
level strategy.
• M&A activity can create economic value at announcement,
but target firms usually capture that value.
• M&A activity can create value over the long term for the
acquiring firm.

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