AB3602

Strategic Management

Week 8 - Mergers and Acquisitions

Caleb Tse
Strategy, IB and Entrepreneurship Division
Nanyang Business School
Nanyang Technological University

AY2023-24 S2
 Agenda

Strategic Options → Mergers & Acquisitions (M&A)s

❖ Explain the motives and types of acquisition

❖ Identify challenging issues during an acquisition process and

potential remedies

❖ Identify attributes for successful acquisitions

❖ Restructuring Considerations & Outcomes

 Thought Experiment

• Think about the case of knowledge-based companies.

Firm A Firm B

Needs

Why could it be difficult to get ?

How could Firm A get ?

 How do firms achieve growth?

• Through three critical strategic options to execute

corporate strategy:
• Growth through internal development → Build
• External growth through Alliances → Borrow
• External growth through Mergers and Acquisitions (M&A) → Buy
Strategic Management Framework
 Merger and Acquisition (M&A)

• One of the tools that can be used to implement a corporate strategy

• Firms can use M&As to vertically or horizontally integrate or to diversify

• Merger:
• The joining of two independent companies
• Forms a combined entity (co-managed)

• Acquisition:
• Purchase of one company by another
• Can be friendly or unfriendly
• Takeover or hostile takeover:
• The target company does not wish to be acquired.
• 92% are friendly
 Merger and Acquisition (M&A)

• What’s the difference?

• Acquisition: A firm buys a controlling, or 100%, interest in
another firm with the intent of making the acquired firm a
subsidiary business within its portfolio
• Merger: Two firms agree to integrate their operations on a
relatively coequal basis

• Acquisitions are more common than mergers, hence the

greater focus on acquisitions

https://www.youtube.com/watch?v=qDeQYPj_WMY
Who benefits from M&As?

Andrade et al. (2001)

On average, target’s shareholders

(not the acquirer’s) get the financial
benefits of M&As.
M&As & Shareholder Value

M&As can
destroy
shareholder
value

Moeller et al. (2005)

 M&A Waves

• Mergers (M&As) are often concentrated in time. Unexpected

industry-level shocks cause firms to merge

• Examples of shocks include

• Technological innovations: they can create excess capacity, which
can lead to industry consolidation
• Supply shocks: oil prices
• Deregulation: It can remove barriers to merging and consolidating
(e.g., Airlines in late 1970s)
• Economic Downturns/Crises – lead to bankruptcies/consolidations
 M&A Waves

• Number of M&A deals over time

Martynovaa & Renneboog (2008)

 Automotive
Consolidation
in Korea

Samsung Motors
Harman’s closing share price $87.7 on Nov 11, 2016
Samsung paid $8 billion for 100% acquisition
→ $112 for Harman shares (27.8% premium)
Reasons for Acquisitions
Achieve Broad Organizational Goals
Reasons for Acquisitions
Attain Specific Organizational Goals
 Reasons:
Increasing Market Power
• Recalling - market power exists when either:
• A firm is able to sell its goods or services above competitive levels
• The costs of a firm’s primary or support activities are lower than those of its
competitors
• Market power is usually derived from:
• The size of the firm
• The quality of the resources it uses to compete
• Its share of the market(s) in which it competes
• Most acquisitions that are designed to achieve greater market power entail
buying a competitor, a supplier, a distributor, or a business in a highly related
industry so that a core competence can be used to gain competitive advantage in
the acquiring firm’s primary market
 Reasons:
Increasing Market Power
• Horizontal Acquisitions: Acquisition in the same industry
• Increase a firm’s market power by exploiting cost-based and revenue-based
synergies (e.g., economies of scale, increased differentiation, etc.)
• Reduction in competitive intensity: Change in forces
• Result in higher performance when the firms have similar characteristics

• Vertical Acquisitions: Acquisition of suppliers or distributors

• Benefits discussed in week 6’s slides: Lower costs and improve control

• Related Acquisitions: Acquisition of highly related industry

• Create value through synergy of integrating resources and capabilities ( e.g.,
economies of scope) – complementary assets
 Reasons:
Overcoming Entry Barriers

• Barriers to entry are factors associated with a market, or the firms

currently operating in it, that increase the expense and difficulty new
firms encounter when trying to enter a particular market
• Recall week 2’s discussion: Examples - economies of scale and
customer loyalty

• The higher the barriers to entry, the greater the probability that a
firm will acquire an existing firm to overcome them.
• Immediate access to attractive market/industry
 Reasons:
Cost of New Product Development
& Increased Speed to Market

• Internal product development is often perceived as a high-risk activity

• Significant costs or investments in all related activities

• Compared with internal product development processes, acquisitions

provide:
• More predictable returns
• This is because the performance of the acquired firm’s products can be
assessed prior to completing the acquisition
• Faster market entry
 Reasons:
Lower Risk in New Product Development

• Internal product development is often perceived as a high-risk activity

• Return of investment (ROI) is highly uncertain, especially for knowledge
intensive products

• Acquisitions as a way to avoid risky internal ventures as well as risky

research and development (R & D) investments
• However, managers must not allow acquisitions to become a substitute for
internal innovation
• Uncertainty of relying only on M&A: Lower innovativeness
 Reasons:
Increasing Diversification

• It is relatively uncommon for a firm to develop new products internally

to diversify its product lines: Experiences and more

• Acquisition strategies can be used to support the use of both related

and unrelated diversification strategies
• The more related the acquired firm is to the acquiring firm, the greater is
the probability that the acquisition will be successful.
 Reasons:
Reshaping Competitive Scope

• To reduce the negative effect of an intense rivalry on financial

performance, firms may use acquisitions to lessen their product and / or
market dependencies
• Reducing a company’s dependence on specific products or markets shapes
the firm’s competitive scope (makes them more versatile)
 Reasons:
Learning and Developing New Capabilities

• Firms sometimes complete acquisitions to gain access to capabilities they lack

• Through acquisitions, firms can:

• Broaden their knowledge base
• Reduce inertia
• Firms should seek to acquire companies with different but related and complementary
capabilities as a path to building their own knowledge base
Acquisition Process
An Extended Process which Entails Planning & Implementation
 M&A Process Model:
Not Just a Transaction
Approach Execution

Pre-announcement Announcement Close

M&A Target Due Transaction

Integration Divestiture
Strategy Screening Diligence Execution

 Develop plan for  Develop screening  Determine due  Determine  Develop integration  Develop clear
overall corporate criteria; requisites diligence protocols appropriate deal blueprint to capture separation strategy
business unit for strategy and metrics structure to align the anticipated
portfolio with synergy targets value and mitigate  Map businesses to
 Collect screening  Assess potential fit and strategic risks determine shared
 Determine and data to evaluate of merging considerations resource
Develop internal potential targets companies  Develop detailed
M&A capability (financial, strategic,  Analyze synergies synergy targets  Develop separation
 Identify initial legal, cultural, etc.) and target valuation plans
 Develop long-term acquisition in terms of  Determine Day 1
M&A goals and candidates  Determine synergy proposed deal requirements  Develop carve-out
objectives targets structure financial statements
 Detailed screening  Define customer
of potential targets  Assess potential retention, workforce  Determine Day 1
 Conduct M&A
on the basis of risks to synergy transition, requirements
negotiations and
business strategy, targets and develop deal close communication,
competitive mitigation strategies and growth plans  Define customer
strategy, and value retention, workforce
 Begin integration transition, and
potential  Determine final planning  Execute integration
valuation of growth plans
plans
proposed deal
 Execute separation
plans

https://www.youtube.com/watch?v=kJM1IHT0Yuc
 M&A:
From Potential to Captured Value
Value Creation Value Lost
Potential to Target

Value Lost
During PMI
“Transaction
Gap”

Realized Value
“Transition
Gap”

PHASE Search / Deal-Making Post-acquisition

Screening and Closing Management
Issues and Challenges
 Issues:
Integration Difficulties

• The integration process: Most important and challenging consideration

• Tends to generate uncertainty and often resistance because of cultural clashes and
organizational politics

• Among the challenges associated with integration processes are the need to:
• Meld two or more unique corporate cultures
• Link different financial and information control systems
• Build effective working relationships (particularly when management styles differ)
• Determine the leadership structure and those who will fill it for the integrated firm

https://www.youtube.com/watch?v=CG6m84gNKOE
 Issues:
Inadequate Evaluation of Target

• Due diligence is a process through which a potential acquirer evaluates a

target firm for acquisition: Effective examination of following areas
(incomprehensive list)
• Proper valuation of target firm
• Financing for the intended transaction
• Differences in cultures between the acquiring and target firm
• Tax consequences of the transaction
• Actions that would be necessary to successfully meld the two workforces

• When conducting due diligence, companies almost always work with

intermediaries, such as a large investment bank, to facilitate their due-diligence
efforts
 Issues:
Inadequate Evaluation of Target

• Due diligence should:

• Evaluate the accuracy of the financial position of the target
• Evaluate the accounting standards used by the target
• Examine the quality of the strategic fit between the two companies
• Examine the ability of the acquiring firm to effectively integrate the target to
realize the potential gains from the deal

• Commonly, firms are willing to pay a premium to acquire a company they

believe will increase their ability to earn above-average returns
 Issues:
Large or Extraordinary Debt

• Firms using an acquisition strategy want to verify that their purchases do

not create a debt load that overpowers their ability to remain solvent and
vibrant as a competitor.

• Large or extraordinary debt can result from:

• Bidding wars
• Paying a large premium
• Executives sometimes pay a large premium because they are influenced by:
Hubris, escalation of commitment, & self-interest
 Issues:
Inability to Achieve Synergy

• Recalling: Synergy exists when the value created by units working

together exceeds the value that those units could create working
independently

• Synergy is created by:

• The efficiencies derived from economies of scale
• The efficiencies derived from economies of scope
• Sharing resources (e.g., human capital and knowledge) across the
businesses in the newly created firm’s portfolio
 Issues:
Inability to Achieve Synergy

• A firm develops a competitive advantage through an acquisition when a

transaction generates private synergy (could not be developed by combining and
integrating either firms’ assets with another company)

• Private synergy is:

• Possible when firms’ assets are complementary in unique ways
• Difficult to create and challenging for competitors to understand and imitate
• Affected by direct transaction costs (e.g., legal fees, charges by investment banks to
conduct due diligence) and indirect transaction costs (e.g., the time spent evaluating
targets and negotiating the acquisition)
 Issues:
Too Much Diversification

• The scope created by additional amounts of diversification often causes

managers to rely on financial controls, rather than strategic controls, to
evaluate business units’ performance
• Using financial controls causes managers to focus on generating short-term
profits at the expense of long-term investments

• Costs associated with acquisitions may result in fewer allocations to

activities that are linked to internal innovation
 Issues:
Managers Overly Focused on Acquisitions

• A considerable amount of managerial time and energy is required for

acquisition to be successful
• Activities with which managers become involved include:
• Searching for viable acquisition candidates
• Completing effective due-diligence processes
• Preparing for negotiations
• Managing the integration process after completing the acquisition

• Participating in and overseeing these activities can divert managerial

attention from other matters that are necessary for long-term competitive
success
 Issues:
Too Large

• The larger firm size generated by acquisitions can:

• Increase the complexity of the managerial challenge
• Create diseconomies of scope
• Lead managers to implement more bureaucratic controls to manage the
combined firm’s operations: Bureaucratic controls often result in rigid and
standardized managerial behaviour, which may produce less innovation over
time
• Reduces firm’s agility and flexibility
Issues and Challenges
Acquisitions Should Be Evaluated Carefully To Avoid Potential Issues (I)

Understanding the Requirements of a Successful Acquisition Will Enable the Firm to Take Steps
to Address Potential Problems
Issues and Challenges
Acquisitions Should Be Evaluated Carefully To Avoid Potential Issues (II)
Reason For Potential Problems In
Potential Preventive Actions
Acquisition Achieving Success
Overcome entry barriers • Inadequate evaluation of target • Understanding differences across countries
• Integration difficulties / industries
• Coordination issues • Develop effective organization structure

Reduce cost of new product • Large or extraordinary debt • Thorough cost / benefit analysis
development and increase • Potentially costly • Understanding what and how to integrate
speed to market • Integration difficulties the firms

Lower risk compared to • Inability to achieve synergy • Understand own strengths / weaknesses
developing new products • Integration difficulties • Understanding what and how to integrate
• Inadequate evaluation of target the firms

Increased diversification / • Too much diversification • Understand own competitive scope / focus
control revenue streams • Inability to achieve synergy • Identify sources of potential synergy and
• Coordination issues understand how to achieve them
• Develop effective organization structure

Understanding the Requirements of a Successful Acquisition Will Enable the Firm to Take Steps to
Address Potential Problems
 Attributes of Successful Acquisition
Attributes
1. Acquired firm has assets or resources that
are complementary to the acquiring firm’s
core business
2. Faster and more effective integration and
possibly lower premiums
3. Acquiring firm conducts effective due
diligence to select target firms and evaluate
the target firm’s health (financial, cultural,
and human resources)
4. Financing (debt or equity) is easier and less
costly to obtain
Results
1. High probability of synergy and competitive
advantage by maintaining strengths
2. Acquisition is friendly
3. Firms with strongest complementarities are
acquired and overpayment is avoided
4. Acquiring firm has financial slack (cash or a
favorable debt position)
 Attributes of Successful Acquisition
Attributes
5. Merged firm maintains low to moderate debt
position
6. Acquiring firm maintains long-term
competitive advantage in markets
7. Acquiring firm manages change well and is
flexible and adaptable
Results
5. Lower financing cost, lower risk (e.g., of
bankruptcy), and avoidance of trade-offs
that are associated with high debt
6. Acquiring firm has a sustained and
consistent emphasis on R&D and
innovation
7. Faster and more effective integration
facilitates achievement of synergy
Six Determinants of Merger Success

These
determinants
are
applicable to
acquisitions
that require
major
integration
between
acquiring and
target firms
Restructuring

Down-
Downsizing
scoping

Reduction in size of business; may not Reduction in firm’s portfolio of

change the firm’s portfolio of businesses businesses via divesture, spin-off, etc

Leveraged
Buyout

Business is sold to a party (e.g., private equity firm)

which takes the business private
Restructuring and Outcomes

c.f. Hitt at al. Strategic Management: Competitiveness and Globalization. 12th Edition
 For Next Week:

Please read
Shopee’s Short-lived
Venture into India