Mergers and Acquisitions: What You Need to Know
Updated: Feb 11, 2020
What are Mergers and Acquisitions?
Mergers and acquisitions (M&A) is the general term for the transaction wherein a company or assets of a company are consolidated into another company or business entity through various types of financial transactions, including mergers, acquisitions, consolidations, tender offers, purchase of assets, and management acquisitions. As an aspect of strategic management, M&A can allow companies to grow or downsize, and change the nature of their business or competitive position.
Legally, a merger is the consolidation of two entities into one, whereas an acquisition occurs when one entity takes control of another entity’s stock, equity interests, or assets. Both types of transactions generally result in the consolidation of assets and liabilities under one entity, and the distinction between a “merger” and an “acquisition” is not always clear. A deal might be called a “merger of equals” if both CEOs believe that the merger is in the best interests of both companies, while the term “acquisition” might be reserved for a deal that is less friendly.
The Meaning of Mergers and Acquisitions
Although the terms are used interchangeably often, they hold slightly different meanings. When one company takes over another and establishes itself as the owner, this is an acquisition. In this case, many structural changes may take place especially in leadership as the acquiring company generally takes over the management of both companies (though some leadership of the acquired company may retain their positions, or alternate positions, at least for the period of transition. But from a legal perspective, the acquired company ceases to exist and the buyer absorbs the business and while the buyer’s stock continues to be traded (in the event it is a publicly traded company) the acquired company’s stock ceases to be traded.
Good examples of recent acquisitions include:
In 2006, the Walt Disney Company acquired Pixar for $7.4 billion. This is largely seen as a very successful acquisition, as movies such as Finding Dory, Toy Story 3, and WALL-E have generated billions in revenue. A further great acquisition of the Walt Disney Company was the purchase of Marvel for $4 billion, which has brought in far more money than that in Marvel movies.
In 2005, Google acquired Android for $50 million. At the time, Android was an unknown company, but the move made it possible for Google to compete with Microsoft and Apple. This example of an acquisition, rather than a merger, led to the Google holding the largest market share in smartphone devices (54%) as of 2018
In 2000, Pfizer acquired Warner-Lambert for $90 billion, both pharmaceutical companies. It is known as one of the most hostile acquisitions in recent memory, as Warner-Lambert was going to be acquired by American Home Products, a consumer goods company. American Home Products walked away from the deal allowing Pfizer to swoop in.
A merger, on the other hand, is when two firms of relatively equal size join forces as a single new entity. This is the above mentioned “merger of equals.” Both companies’ stock is surrendered and a new company stock is issued in its place. In a merger, both boards of directors for the two companies approve the combination and seek shareholders’ approval. Post-merger, one of the companies will cease to exist, or a new company will emerge with a new name and structure.
Some examples of prominent mergers are:
Travelers Group and Citicorp merged in 1998 in a $70 billion deal which had a tremendous effect on the financial services industry. This merger gave birth to Citigroup Inc.
One of the biggest mergers in history happened in 2000 when America Online joined with Time Warner, Inc. AOL, an internet provider, merged with Time Warner, an entertainment juggernaut, to create AOL Time Warner. The deal was worth $165 billion and was considered to be a landmark in the M&A world, but the deal fell through soon after.
Announced in 2015, the $130 billion merger between Dow Chemical and DuPont was announced, though it would take two years to finalize. This was truly a “merger of equals” as both companies were highly focused on material science, agriculture, and many other specialty products. The combined company was DowDuPont Inc.
Not all M&As are Successful of Friendly
Not every M&A goes well for both parties or is even wanted by both parties. For example, a leveraged buyout is usually considered a hostile takeover. This is when a company is acquired using a large amount of borrowed money to meet the cost of the acquisition. The acquired company then assumes the debt.
A leveraged buyout usually has three main purposes and that is to either privatize a public company, break up a large company, or improve an underperforming company. A fourth reason is to make money for the shareholders and owners. Leveraged buyout firms are commonly known as private equity firms, and even though the M&A may be a hostile takeover, it may turn out to be beneficial for both companies in the long run.
Considered the most controversial leveraged buyout in the history of the private equity industry is the 1980s takeover of RJR Nabisco which was bought for $25 billion by Kohlberg Kravis Roberts and Co in a takeover fight. The enterprise value of the deal was estimated at $55 billion in today’s money. The drama surrounding the deal was so vicious that it resulted in a book and movie, Barbarian at the Gates.
Acquisitions are often failures. Various studies have shown that 50% of acquisitions were unsuccessful. “Serial acquirers” appear to be more successful with M&A than companies who make an acquisition only occasionally.
Whether an acquisition is considered “friendly” or “hostile” depends on how the proposed acquisition is communicated to and perceived by the target company’s board of directors, employees, and shareholders. It is normal for M&A deal communications to take place in a so-called “confidentiality bubble” wherein the flow of information is restricted because of confidentiality agreements.
Acquisition usually refers to a smaller company being taken over by a larger on. Sometimes, however, a smaller firm will acquire management control of a larger or longer-established company and keep the name of the larger company, in what is referred to as a “reverse merger.”
Evidence from multiple studies show that in the short term—and, frequently, in the long term—that shareholders and employees of the smaller, acquired company receive a significantly larger net financial gain than the larger company’s shareholders. That said, studies also show that the overall gain of M&A is positive for both the small and large company and both come out stronger on the other side.
Many factors go into the process of setting up an M&A, not the least of which is the valuation of the businesses. The five most common ways to value a business are:
Historical earnings valuation
Future maintainable earnings valuation
Relative valuation (comparable company and comparable transactions)
Valuation using discounted cash flows
When a company is valued, typically a combination of these techniques is used, rather than relying on a single one.
Most often the value is expressed in a Letter of Opinion of Value (LOV) when the business is valued informally. Formal valuation reports generally get more detailed and extensive as the size of the company increases, but this is not always the case, depending on the case.
Objectively evaluating the historical and prospective performance of a business is a challenge faced by many. Generally, parties rely on independent third parties to conduct due diligence and business assessments.
Mergers are generally differentiated from acquisition in the way that they’re financed. Various methods of financing include:
Cash: Payment comes through cash. These are generally acquisitions rather than mergers because the shareholders of the target companies are removed from the picture and the target comes under the indirect control of the bidder’s shareholders.
Stock: Payment in the form of the acquiring company’s stock, issued to the shareholder of the acquired company at a given ratio proportional to the valuation of the latter. They receive stock in the company that is purchasing the smaller subsidiary.
Financing options: While cash and stock payments are attractive to shareholders, other financing options might need to be considered. While a cash offer will commonly trump an offer of securities, other elements come into consideration such as taxes, and a share deal with the buyer’s capital structure. A pure cash transaction will lower the acquirer’s liquidity, which could lower its value and power. On the other hand, with a pure stock payment, the company would show lower profitability ratios.
Why Modern M&A Requires a Virtual Data Room
A virtual data room (VDR) is essential to modern M&A. The word “modern” is ubiquitous in pop culture today. Modern Family is on television and Modern Times might be the IPA of choice at your hip, local hangout. We’ve explained why virtual data rooms are hot. But what exactly do document storage and virtual data rooms have to do with your business’ next merger or acquisition?
Good thing you asked.
We, along with the rest of the business world, love a good acronym, and the letters M & A are screaming for a solid explanation. VDR for M&A, now that’s a hefty set of acronyms. If Virtual Data Rooms also stands for “Very Doable Relationships,” the ol’ M&A can now get a classy upgrade to something more fun too. While we understand that professionalism is important to you, having fun with words doesn’t make you less professional. Here’s why: Just as M&A’s can allow enterprises to grow, shrink, and change the nature of their business, a new acronym can expand your mind to impact your bottom line.
M&A can simultaneously stand for Mergers and Acquisitions and Money and Autonomy.
Here’s why the modern M&A requires a virtual room:
1. Money is Evolving
Communications, especially those involved in the sensitive conduction of due diligence and M&A, occur in a “confidentiality bubble” where NDA’s get signed, and the overall flow of information restricts what’s outlined in the “paperwork,” aka digital documents.
And that’s the thing with words: “Money” and “paperwork” have taken on new meanings today, because of technology. Neither of them involves much paper these days. How do you keep track not just of the terminology, but your money?
You can start by replacing ABBA’s 1976 hit “Money, Money, Money” with the words “Crypto, Crypto, Crypto.” It may not have the same ring to it, but it’s the right word for the new world.
You already know that money is a medium of exchange. But did you know about the new kid on the block called cryptocurrency, whose entire foundation is decentralized? Cryptocurrency uses technology to secure its transactions and to verify the transfer of assets. While the traditional way to manage money is through old-school banks, the modern way to manage this new type of money is through a Blockchain wallet.
Caplinked has partnered with TransitNet to add an additional layer of security to enterprise blockchain transactions. Share documents, collaborate and close the deal without ever having to leave the safety of a virtual data room. Now that’s what I call modern.
Conducting any business transaction without a virtual data room today is like putting all of your paper money in the middle of a busy street in Times Square. You can trust that some people won’t pick up your dollar bills, but you can’t trust everyone. Good thing you’re savvy, and you know how to securely share files online.
Virtual data rooms allow you the ability to manage your digital transactions without worry. Plus, you can even store your files in a decentralized platform through Storj Labs, an alternative to centralized cloud storage.
The modern world requires new rules. And when you learn the new rules, you realize that…
2. Autonomy is Necessary
You don’t need banks or boardrooms to make money. The digital nature of the modern world gives the present-day businessperson unprecedented autonomy. Deals can be made anywhere from the coffee shop to the football stadium—there are no limits. You act independently and have the freedom to do what you want. But how do you keep track of your digital documents when your business transactions happen all over the world?
Check out a virtual data room that allows you to harness your data when you’re traveling all over the world?
Modern Mergers & Acquisitions don’t require you to fit into a boring box. With the right tools, you can travel the globe and seamlessly collaborate- without compromising security. In a world where you don’t know whether you’ll be in Berlin or Beijing, a Virtual Data Room enables you to securely share, protect, and track your business’s sensitive data.
Virtual Data Rooms improve your relationships and keep you sane. When you’re not worried about your documents, you can focus on the things that matter- your deals. Deal rooms for M&A allow you to share documents, collaborate, and track your deal from start to finish, wherever and whenever you choose. Now that’s what I call autonomy.
Caplinked is your source for all things mergers and acquisitions, like the cutting edge merging of blockchain and VDR technology to create the securest possible data transactions. Virtual data rooms are changing the way business is conducted—make sure you’re in the loop!