Both terms are often heard particularly in the economic news. In fact, mergers and acquisitions (M&A) and corporate restructuring are a huge part of the corporate finance world. Daily, Wall Street investment bankers organise M&A transactions, which take separate companies together to create larger ones. The corporate finance deals also do the reverse and break up companies through spinoffs, carve-outs or tracking stocks. These actions frequently make the news because the deals can be worth hundreds of millions, or even billions, of dollars.
The key principle behind buying a company is to create shareholder value over and above that of the sum of the two companies. Two companies together are more valuable than two separate companies – at least, that’s the reasoning behind M&A.
A merger occurs when two firms, frequently about the same size, agree to go forward as a single new company rather than stay separately owned and operated. This type of action is more accurately referred to as a “merger of equals.” Both companies’ stocks are surrendered and new company stock is issued in its place. Herewith are a few types, distinguished by the relationship between the two companies that are merging:
- Horizontal merger – Two companies that are in direct competition and share the same product lines and markets.
- Vertical merger – A customer and company or a supplier and company. Think of a cone supplier merging with an ice cream maker.
- Market-extension merger – Two companies that sell the same products in different markets.
- Product-extension merger – Two companies selling different but related products in the same market.
- Conglomeration – Two companies that have no common business areas.
- Consolidation Mergers – With this merger, a brand new company is formed and both companies are bought and combined under the new entity. The tax terms are the same as those of a purchase merger.
It is called acquisition when one company takes over another and clearly established itself as the new owner. From the legal perspective, the target company ceases to exist, the buyer “swallows” the business and the buyer’s stock continues to be traded.
An acquisition may be only slightly different from a merger. Acquisitions are actions through which companies seek economies of scale, efficiencies and enhanced market visibility and this is similar like mergers. The difference is unlike all mergers, all acquisitions incorporate one firm purchasing another – there is no exchange of stock or consolidation as a new company. Acquisitions are frequently settled in a friendly manner, and all parties feel satisfied with the deal and other times it could be more hostile.
In an acquisition, a company can purchase another company with cash, stock or a combination of the two. It is also common in smaller deals for one company to acquire all the assets of another company. Company A buys all of Company B’s assets for cash, which means that Company B will have only cash (and debt, if they had debt before). Of course, Company B becomes simply a shell and will ultimately liquidate or enter another area of business.
Another kind of acquisition is a reverse merger, a deal that enables a private company to get publicly-listed in a relatively short time period. A reverse merger occurs when a private company that has strong prospects and is eager to raise financing buys a publicly listed shell company, usually one with no business and limited assets. The private company reverse merges into the public company, and together they develop into an entirely new public corporation with tradable shares.
Is it called merger or acquisition?
In reality, there are many varieties of merger and acquisition and often it depends on the deal between parties. A purchase deal will also be called a merger when both CEOs agree that joining together is in the best interest of both of their companies. But when the deal is unfriendly – that is, when the target company does not want to be purchased – it is always regarded as an acquisition.
Whether a purchase is considered a merger or an acquisition really depends on whether the purchase is friendly or hostile and how it is announced. In other words, the real difference lies in how the purchase is communicated to and received by the target company’s board of directors, employees and shareholders.
Synergy is the reason and the magic power that allows for enhanced cost efficiencies of the new business. Synergy takes the form of revenue enhancement and cost savings. By merging, the companies expect to gain from the following: staff reduction, improved market reach and visibility, acquiring new technologies
Apart from of their category or structure, all mergers and acquisitions have one universal goal: they are all meant to create a synergy that makes the value of the combined companies larger than the sum of the two parts. The success of a merger or acquisition depends on whether this synergy is achieved.