Mergers and Acquisitions: Everything you need to know
Mergers and acquisitions are one of the primary methods through which companies grow. They are an excellent way for businesses to increase market share, reduce competition, break into new markets or increase overall sales revenue.
Mergers and acquisitions, or M&A, are complex. In this article, we’ll dive in and explore everything you need to know.
What are mergers and acquisitions?
Mergers and acquisitions are functionally similar, but some legal and technical distinctions between the two are worth noting.
A merger is when two companies of similar size and value decide to merge into a single entity. Typically, this new entity takes on a new name in the process, and shares of the old companies are reissued under this new name.
Mergers usually provide substantial benefits to both parties, helping cut costs, streamline operations and ultimately provide more value for shareholders.
Acquisitions (or takeovers)
Business acquisitions, by comparison, usually occur between companies of different sizes — the larger company acquires the smaller one. Also known as takeovers, acquisitions functionally result in a similar outcome to mergers (that is, one entity).
Types of mergers
There are several different types of mergers, of which the main three are horizontal, vertical and conglomerate mergers.
In a horizontal merger, two companies in the same or similar industries combine. The two companies are often direct competitors, and the merger aims to reduce costs or competition in the market.
A vertical merger is a bit different. In this case, the companies are part of the same supply chain, rather than competitors. This helps consolidate the two companies and strengthen their overall market position.
A conglomerate merger is when two companies in unrelated industries merge. The possibilities here are limitless, but typically it’s done to share assets and reduce expenses or risk.
Types of acquisitions
Similarly, there are several types of acquisitions. The most common types are reverse takeovers, friendly takeovers and hostile takeovers.
1. Reverse takeover
Reverse takeovers are an interesting form of acquisition where a public company acquires a private company. This enables the private company to go public without needing to go through the lengthy process of an initial public offering (IPO).
2. Friendly takeover
A friendly takeover is when both the Board of Directors and shareholders of a company consent to the takeover. Essentially, the purchasing company approaches the acquisition target and makes an offer. Both companies agree on the offer, and then the shareholders tender their shares so the new owner can purchase them.
3. Hostile takeover
With a hostile takeover, the target company doesn't consent to the acquisition, but the shareholders go through with it anyway. The responsibility for convincing the shareholders to reject the offer falls on the company being acquired, but the shareholders can override even the CEO.
Mergers vs acquisitions: What are the main differences?
The main difference between all types of mergers and acquisitions is that in mergers, two companies combine into a single, new company. With acquisitions, one of the companies absorbs the other, and no new entity is created.
Other differences include the relative sizes of the companies involved — in mergers, they're usually the same size and value, whereas with acquisitions the acquiring company is often larger.
Forms of integration
Mergers and acquisitions can be further broken down into several types based on the way the two companies choose to integrate.
A statutory merger is one in which a larger company acquires the target’s assets and liabilities. It then liquidates them and either dismantles the acquired company or incorporates it into the existing business.
In a subsidiary merger, the acquired company becomes a subsidiary of the new parent company. Unlike a statutory integration, the subsidiary maintains its existing business and continues to operate.
With a consolidation, both companies cease to exist as they once were. Instead, a completely new company is formed that combines the two original businesses.
Main reasons for business mergers and acquisitions
There are several reasons a company might choose to merge with or purchase another. Let’s explore some of the most common.
1. Eliminate competition
One of the main reasons companies merge and acquire each other is to remove competitors. Often, both businesses benefit from these arrangements.
2. Achieve economies of scale
Mergers often result in increased efficiency, helping companies operate more economically and achieve economies of scale - companies may be able to reduce their costs and increase their access to capital.
3. Create synergies
Sometimes two companies just seem to be made for each other. One might have a logistical advantage, while the other might have a product that could benefit from that advantage.
4. Acquire talent
The right employees can make all the difference. One of the biggest benefits of mergers and acquisitions is the opportunity to acquire top talent.
5. Access new markets
Entering a new market is an enormous challenge for most companies. A strategic acquisition can help the process along significantly, since the company won’t need to start from scratch.
6. Diversify revenue streams
Another key benefit of mergers and acquisitions is diversification. Acquiring companies in a broad range of markets can help stabilise revenues, especially for companies that are in highly cyclical industries.
7. Increase market share
Increasing market share is one of the most common and powerful drivers behind mergers and acquisitions. Expanding market share organically can be difficult, especially in mature markets with established players. Smart mergers and acquisitions can help both companies continue to grow.
8. Avoid (not evade) taxes
Finally, it’s worth noting that mergers and acquisitions often result in significant tax benefits. This may be one of the most common reasons companies go through the process.
Read this next: How does tax work in Australia?
The primary mechanisms for mergers and acquisitions
The two most common mechanisms for mergers and acquisitions in Australia are off-market takeovers and schemes of arrangement.
1. Off-market takeovers
This is one of the most common methods of mergers and acquisitions in Australia. Off-market takeover bids are procedures under Chapter 6 of the Corporations Act. In them, the bidder makes offers to all target shareholders individually to acquire their shares.
2. Scheme of Arrangement
Schemes of arrangement have emerged as an increasingly popular method of acquisition. This is a procedure under Part 5.1 of the Corporations Act that allows a company to reconstruct its assets, liabilities and capital with approval from the company’s shareholders and the Court.
A scheme of arrangement typically consists of several phases:
Planning and approach
Implementation agreements and documents
As you might expect, this can be a long process; however, the phased approach helps everything go smoothly.
Mergers and acquisitions valuation process
In any merger and acquisition transaction, there’s a delicate balance between the two companies. The purchaser naturally wants the lowest price possible, while the company being acquired wants the highest. Walking this line and determining the sale price is known as valuation.
1. Price-to-Earnings (P/E) ratio
Measuring the company's current share price relative to its earnings per share calculates the P/E ratio. This calculation is useful because it provides a way to determine the relative value of a company’s shares.
2. Discounted cashflow (DCF)
This method provides value to a company based on its expected future cashflow. This expected future cashflow is determined in a formula using a “discount rate.” If the DCF is above the price being asked, then it could indicate positive returns (and thus, a good investment).
3. Comparable company analysis
A comparable company analysis is a simpler valuation method than P/E ratios or DCF. In this method, the value of a company is estimated by comparing it to similar businesses in the same industry.
4. Comparable transaction analysis
Along the same lines as the comparable company analysis, a comparable transaction analysis is a valuation method based on comparing similar historical transactions (company sales or mergers) to determine an estimated valuation.
Australian M&A regulatory bodies
Mergers and acquisitions are complex and have a lot of moving parts. And, while they are almost always beneficial for the businesses involved, there is a lot of room for exploitation. For that reason, there are numerous regulatory bodies charged with overseeing the various parts of the process.
1. Australian Securities and Investment Commission (ASIC)
ASIC is the main regulator involved in acquisitions in Australia. This commission is responsible for administering the Corporations Act and supervising mergers across the market. It’s also able to modify the provisions in Chapter 6 of the Corporations Act, which deals with acquisitions and takeovers.
2. Takeovers Panel
The Takeovers Panel is a forum that regulates corporate control transactions. Its main job is to mediate and provide resolutions during takeover disputes. It also handles appeals to ASIC’s exemption rulings.
3. Australian Competition and Consumer Commission (ACCC)
This group focuses on the anti-competitive situations that can occasionally arise during corporate mergers and acquisitions. The ACCC is tasked with policing deals to ensure companies aren’t attempting to take advantage of their positions to block competition.
4. Australian Securities Exchange (ASX)
The ASX is responsible for ensuring that the companies listed on it follow its requirements. These include making sure disclosure requirements are met, reviewing reorganisation proposals, and investigating breach-of-market situations.
5. Foreign Investment Review Board (FIRB)
The FIRB, as its name implies, examines proposals by foreign persons that want to invest in Australia. It’s also tasked with ensuring compliance with foreign investment policies.
Common mergers and acquisitions payment methods
M&A transactions can be paid for with either securities (usually stock) or cash. Let’s explore each method and look at when one might be used over the other.
Stock is usually the most common form of mergers and acquisitions payment. With this method, the acquiring company issues new shares that are paid to the target company’s shareholders. The number of shares is based on an exchange ratio that’s finalised before the purchase to prevent fluctuations in the stock’s value from impacting the transaction.
Mergers and acquisition transactions can also be paid for with securities, of which stock is one type. Typically these will be equity securities.
Cash is the simplest, and probably the least common, form of payment in mergers and acquisitions. With a cash acquisition, the acquiring company buys the target company’s shares outright. Typically, a cash payment indicates high confidence in an acquisition because management feels the shares will eventually be worth more.
Mergers and acquisitions are powerful drivers of growth in the business world. They’re also incredibly complex. Whether your company was just acquired or you’re considering merging with a rival, we hope this article has answered a few questions.
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