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Varieties of Takeovers

Takeovers

Acquisition

Proxy Contest

Going Private(LBO)

Merger

Acquisition of Stock

Acquisition of Assets

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30.1 The Basic Forms of Acquisitions

There are three basic legal procedures that one firmcan use to acquire another firm: Merger Acquisition of Stock Acquisition of Assets

.

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Merger or Consolidation

A merger refers to the absorption of one firm by anotherThe acquiring firm retains its Name

IdentityA consolidationis the same as a mergerexcept new firm is created.

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Advantage and Disadvantage

An advantage of usinga merger to acquire a firm is that it is

legally straightforwarddoes not cost as much as other forms of acquisition.

A disadvantage is that a mergermust be approved by a vote of the shareholders of eachfirm.

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Acquisition of Stock

A firm can acquireBy another firm by purchasing target firms voting stockin exchange for cash, shares of stock, or other securities.

Acquisition of Assets One firm can acquire another by buying all of its

assets.

A formal vote of the shareholders of the selling firmis required.

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A Classification Scheme

Financial analysts typically classify acquisitionsinto three types:

Horizontal acquisition: when the acquirer and the targetare in the same industry.

Vertical acquisition: when the acquirer and the target areat different stages of the production process; example: anairline company acquiring a travel agency.

Conglomerate acquisition: the acquirer and the target arenot related to each other.

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Two "Bad" Reasons for Mergers

Earnings Growth Only an accounting illusion.

Diversification

Shareholders who wish to diversify can accomplish thisat much lower cost with one phone call to their brokerthan can management with a takeover.

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Determining the Synergy from anAcquisition

The concept that the value and performance of twocompanies combined will be greater than the sum ofthe separate individual parts.

when Synergy exist the following will effectCostRevenueTaxesCapital requirement

)(Synergy B A AB V V V

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Source of Synergy from Acquisitions

Revenue Enhancement Market GainsMergers and acquisitions can produce greater

operating revenues from improved marketing.

Monopoly PowerOne firm may acquire another to reduce competition. If so,

prices can be increased and monopoly profits obtainedCost Reduction

Economies of scalethe average cost of production falls while the level of

production

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Economies of verticalIntegrationThe main purpose of vertical acquisitions

is to make coordination of closely relatedoperating activities easier Complementary ResourcesSome firms acquire others to make betteruse of existing resourcesor to provide the missing ingredient for

success .

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Elimination of InefficientManagementThere are firms whose value could

be increasedwith a change in management

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Tax Gains Net Operating Losses

Unused Debt Capacity

Surplus Funds

The Cost of Capital

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Calculating the Value of the Firm after anAcquisition

Avoiding Mistakes Do not Ignore Market Values Estimate only Incremental Cash Flows Use the Correct Discount Rate Dont Forget Transactions Costs

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Divestitures

Divestiture can take three forms: Sale of assets: usually for cash Spinoff: parent company distributes shares of a

subsidiary to shareholders Issuance if tracking stock: a class of common stock

whose value is connected to the performance of a particular segment of the parent company.

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The Corporate Charter

If one individual or group owns 51- percent of a companysstock, this control block makes a hostile takeover virtuallyimpossible.

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Repurchase Standstill Agreements

Standstill agreements are contracts where the biddingfirm agrees to limit its holdings of another firm.

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Going Private and LBOs

If the existing management buys the firm from theshareholders and takes it private.

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Other Defensive Devices

Golden parachutes are compensation to outgoingtarget firm management.

Crown jewels are the major assets of the target. Ifthe target firm management is desperate enough,they will sell off the crown jewels.

White Knight is a friendly bidder who promises tomaintain the jobs of existing management.

Poison pills are measures of true desperation tomake the firm unattractive to bidders. They reduceshareholder wealth.

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30.11 Some Evidence on Acquisitions: Stock PriceChanges in Successful U.S. Corporate Takeovers

Takeover SuccessfulTechnique Targets Bidder

Tender offer 30% 4%Merger 20% 0%

Proxy contest 8% NA

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Abnormal Returns in Successful CanadianMergers

Target BidderMergers 1964--83 9% 3%

Going privateTransactions 1977--89 25% NA

- Minority buyouts 27% NA

- Non-controlling bidder 24% NA

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Comparison of U.S. vs. CanadianMergers

The evidence both in U.S. and Canada stronglysuggests that shareholders of successful target firmsachieve substantial gains from takeovers.

Shareholders of bidding firms earn significantly lessfrom takeovers. The balance is more even forCanadian mergers than for U.S. ones.The reasons may be: There is less competition among bidders in Canada. The Canadian capital market is smaller. There are federal government agencies to review foreign

investments.

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Summary and Conclusions

The possible synergies of an acquisition comefrom the following:

Revenue enhancement Cost reduction Lower taxes Lower cost of capital

The reduction in risk may actually help existing

bondholders at the expense of shareholders.