Chapter VIII – Mergers,

Acquisitions and
Business Restructuring
Business Analysis and Decision Making
 Introduction
 In this topic we consider why firms restructure and, more generally, why they
interact in the capital market to fund acquisitions and mergers.
 It was established in the last chapter, that firms are pressurized to deliver
shareholder value.
 They not only have to make a return on capital employed but also have to
utilize the capital market as a mechanism for restructuring the business in the
interests of securing an even higher return on capital employed.
 A merger occurs when two separate entities combine forces to create a new,
joint organization. Meanwhile, an acquisition refers to the takeover of one
entity by another. Mergers and acquisitions may be completed to expand a
company’s reach or gain market share in an attempt to create shareholder
value.
 Merger and Acquisition Strategy
 Management Strategy literature presents a number of logic(s) justifying these
moves:
1. Generate Synergies
2. Increase the Market Dominance
3. Economies of Scale
 Theoretically, a company will enter into an acquisition or merger agreement if
they believe that the NPV (Company A + Company B)>. Simplistically, the economic
value of these firms combined is greater than the economic value of these two
firms as separate entities.
 Financial Theory implies that acquisitions and mergers occur in the hope of
positive synergistical effects.
 Cash may either come from the acquirer’s own cash reserves or from raising the
cash from the issuance of long –term corporate debt.
 In addition, firms will offer their own shares as part of the deal:
 These shares may command a strong market price and also have a history of strong
market growth.
 The Market for Corporate Control
 A. A. Berle & G. C. Means (1932) in The Modern Corporation and Private
Proper- ty, provided an argument that there had been a separation of
ownership and control where management took day-to-day responsibility for
the direction of the business and owners (shareholders) took a more passive
role in the organization of business.
 The result of this‘separation of ownership and control’is what economists de-
termine is a principal-agent problem.
 The Principal – Agent Problem
 Managers pursue their own goals and strategies at the cost of maximum profits,
e.g. sales growth, asset expansion or cash flow.
 Shareholder pressure in relation to control of the business is limited by a dispersed
share–owner structure where many shareholders have a few shares in a company
and are unable to influence management moves.
The principal-agent problem no longer exists in this form. Why is this?
 The situation has changed in the last twenty years with the expansion of the asset
management company and the institutionalized management of share portfolios in
the hands of professional asset managers:
 Where share ownership is institutionalized and the asset management firms are
under an obligation to return profit, there is an incentive to deal in shares more
actively and so accelerate the exchange of ownership.
 The threat of a sale of your company shares to a rival company acts to discipline
managers because there is now a market for corporate control and a manager’s
job is not secure.
 US clearly shows the importance of the ‘market for corporate control’