The word "merger" or "amalgamation" means combining of two or more companies into one respectively. The word Amalgamation has no legal meaning. It weigh up a state of things under which two companies are so joined as to form a third company, or we can say one company is absorbed into and blended with another company. Acquisition: An acquisition is generally purchase of a smaller firm by a larger one.
Acquisition is also known as takeover or a buyout. An acquisition is the purchase of all or a portion of a corporate asset or target company. Business acquisition is the process of acquiring a company to build on strengths or weaknesses of the acquiring company.
A merger is similar to an acquisition but refers more strictly to combining all of the interests of both companies into a stronger single company. The end result is to grow the business in a quicker and more profitable manner than normal organic growth would allow. Examples of acquisitions are Tata Group Acquired Corus. Generally, hostile takeovers are initiated in this manner.
Difference between merger and acquisition Important terms relating to mergers and acquisitions Important terms are vital to the understanding of the entire process of mergers and acquisitions. Every word encountered in the process of mergers and acquisitions need to be carefully understood for a sound understanding of the subject. There are many important terms relating to mergers and acquisitions.
These terms may appear to be completely unrelated to mergers and acquisitions but nevertheless, these terms may indicate a very important process in mergers and acquisitions. Some of the important terms relating to mergers and acquisitions are as follows: Mergers when two or more companies combine. The shareholders of the target firm are adequately compensated for, if the merger is affected. Acquisition when one company acquires another company.
The company that is acquired is known as target firm. The company, which acquires is called acquiring company. Takeover Takeover may be referred to as a corporate activity when a company places a bid for acquiring another company. Such actions are usually revolted against by the managers and executives of the target firm. People pill Under some circumstances of hostile takeover, the people pill is used to prevent the takeover.
The entire management team gives a threat to put in their papers if the takeover takes place. Using this strategy will work out provided the management team is very efficient and can take the company to new heights. On the other hand, if the management team is not efficient, it would not matter to the acquiring company if the existing management team resigns. So, the success of this strategy is quite questionable. Sandbag Sandbag is referred to as the process by which the target firm tends to defer the takeover or the acquisition with the hope that another company, with better offers may takeover instead.
Shark Repellent There are instances when a target company, which is being aimed at for a takeover resists the same. The target firm may do so by adopting different means. Some of the ways include manipulating shares as well as stocks and their values. Golden parachute Is yet another method of preventing a takeover? The benefits extended are quite lucrative. Raider May be referred to an acquiring company, which is always on the lookout for firms with undervalued assets.
If the company finds that a company target does exists whose assets are undervalued, it buys majority of the shares from that target company so that it can exercise control over the assets of the target firm. Saturday night special Saturday night special is referred to as an action of the corporate companies, whereby one company makes an attempt to takeover another company all of a sudden by executing a public tender offer.
The name is derived from the fact that such attempts were made towards the weekends. However, such practices have been stopped as per Williams Act. Macaroni defence This is referred to the policy wherein a large number of bonds are issued. At the same time the target company also assures people that the return on investment for these bonds will be higher with the takeover has taken place. This is another strategy embraced by the target firm for not succumbing to the pressures of the acquiring company.
Merger and Acquisition Process. Merger and Acquisition Process is a great concern for all the companies who intend to go for a merger or an acquisition. This is so because, the process of merger and acquisition can heavily affect the benefits derived out of the merger or acquisition.
So, the Merger and Acquisition Process should be such that it would maximize the benefits of a merger or acquisition deal. The Merger and Acquisition Process can be divided in to some steps. The stepwise implementation of any merger process ensures its profitability.
Step: 1 Preliminary assessment or business valuations In this first step of Merger and Acquisition Process, the market value of the target company is assessed. In this process of assessment not only the current financial performance of the company is examined but also the estimated future market value is considered.
Generally, this proposal is given through issuing an non-binding offer document. Step: 3 Exit plan When a company decides to buy out the target firm and the target firm agrees , then the latter involves in Exit Planning. The target firm plans the right time for exit.
It consider all the alternatives like Full Sale, Partial Sale and others. Step: 4 Structured Marketing After finalizing the Exit Plan, the target firm involves in the marketing process and tries to achieve highest selling price.
In this step, the target firm concentrates on structuring the business deal. Step: 5 Origination of Purchase Agreement or Merger Agreement In this step, the purchase agreement is made in case of an acquisition deal. In case of Merger also, the final agreement papers are generated in this stage. Step:6 Stage of Integration In this final stage, the two firms are integrated through Merger or Acquisition. In this stage, it is ensured that the new joint company carries same rules and regulations throughout the organization.
There are some differences between these two accounting methods which are discussed in the following below. Pooling of Interests Method: Pooling of interests is a method of accounting that allows the balance sheets of two companies to be added together during an acquisition or merger.
Pooling of interests is one of the accounting that companies can choose to employ when combining assets. The alternative would be the purchase method in which the purchasing company adds the absorbed company's assets to its value.
Shares, Equity shares or cash payable to shareholders of transferor company are not given and hence where Net Payment Method cannot be adopted. This method is also known as Net payment method in amalgamation. Computation of purchase consideration: For computing purchase consideration, generally two methods are used: Purchase Consideration using net asset method: Total of assets taken over and this should be at fair values minus liabilities that are taken over at the agreed amounts.
Agreed value means the amount at which the transferor company has agreed to sell and the transferee company has agreed to take over a particular asset or liability. Particulars Rs. Purchase consideration using payments method: Total of consideration paid to both equity and preference shareholders in various forms. Example: A. Ltd takes over B. Ltd and for that it agreed to pay Rs 5,00, in cash. The Purchase consideration will be calculated as follows: Particulars Rs.
Cash 5,00, 4,00, equity shares of Rs10 fully paid up at Rs15 60,00,00 per share 0 Purchase Consideration 65,00,00 0 4. Valuation Related To Mergers And Acquisitions Valuation related to mergers and acquisitions employ several procedures, namely, the income based procedure, the asset based procedure and the market based procedure. Along with that, the financial trends over the past couple of years and the trends manifested in the macroeconomic indicators also need to be judged.
Valuation related to mergers and acquisitions usually follow these three methods: market based method, asset based method and income based method. It may be felt that the market based method is the most relevant, but all three methods are significant depending upon the situation prevailing during the course of the mergers as well as acquisitions.
Market based method: Valuation related to mergers and acquisitions estimated by the market based method, compares various aspects of the target company with the same aspects of the other companies in the market. These companies not the target company usually possess a market value, which has been established previously.
Other aspects that need to be compared include book value and earnings, or total revenue. Asset based method: Valuation related to mergers and acquisitions employ this method when the subject or the target company is a loss making company. Under such circumstances, the assets of the loss making company are calculated. Along with this method, the market based method and the income based method may also be employed. Valuations obtained from this method may generate very small value; however it is more likely to generate the actual picture of the assets of the target company.
Income based method: Valuation related to mergers and acquisitions employing the income based method take the net present value into consideration. The net present value of income, which is likely to be in the future, is taken into account by the application of a mathematical formula.
Costs of Mergers and Acquisitions Abstract: Costs of Mergers and Acquisitions are calculated in order to check to the viability and profitability of any Merger or Acquisition deal. Costs of Mergers and Acquisitions are very much important as it determines the viability of any Merger or Acquisition.
Any company finalizes a merger deal only after calculating the cost of merger. In case of acquisition, when a company buys out another firm, it calculates the costs in order to determine how beneficial will be the takeover. So, the company which wishes to acquire the target firm, offers price accounting to this value. But, if the target firm does not agree on the price offered, then the other firm can create a competitor firm with same costing.
So, this idea of cost calculation is referred as the calculation of Replacement Cost. But, it should be mentioned here that, in case of the firms, where the main assets are not equipments and machinery, but people and their skills, this type of cost calculation is not possible. Synergy: The Premium for Potential Success For the most part, acquiring nearly always pay a substantial premium on the stock market value of the companies they buy.
The justification for doing so nearly always boils to the notion of synergy. That means buyers will need to pay a premium if they hope acquire the company, regardless of what pre-merger valuation tells them. For buyers, the premium represents part of the merger synergy they expect can be achieved. The following equation offers a good way to think about synergy and how to determine if a deal makes sense.
The equation solves for the minimum required synergy. The burden of a proof should fall on the acquiring company. The investors should stay away from companies that participate in such contents. When stock is used as the currency for acquisition, discipline can go by the way side. Synergy is hard to create from companies in disparate business areas. Mergers are awfully hard to get right, so investors should look for acquiring companies with a healthy grasp of reality.
In other words, the success of a merger is measured by whether the value of the buyer is enhanced by the action. However, the practical constraints of merger soften prevent the expected benefits from being fully achieved. Prior to the deal of merger or acquisition is actually struck, there are many factors, which determine the success of the entire process. A tender offer is an offer wherein the purchase of all or some of the shares belonging to the shareholders is intended. The price fixed for the same is of a premium rate as compared to the market price.
A company, which intends to acquire a company eventually, buys out all the shares of the target company. Declaration about the number of shares the ones, which have been bought and the outstanding ones are made before the SEC. The total price the acquiring company is ready to pay for the target company and its assets is worked out with assistance from investment bankers as well as the financial advisors.
Thereafter the tender offer is published informing the shareholders about the offer price as well as deadlines for either rejecting the offer or accepting it. Reaction of the target company: The target company responds to the above course of action in any one of the following ways: I agree with the Offer terms: In the event it is felt by the top level executives and managers that the offer price may be accepted, the deal of merger or acquisition is struck.
II Try to negotiate: If the terms offered by the acquiring company are not acceptable, then the shareholders of the target company will try to negotiate the deal of merger or acquisition. The shareholders and the top level management of the subject company will try to work out issues so that they do not lose their jobs and simultaneously see the interest of the target company.
III Looking for a White Knight: A White Knight is referred to another company, which would like to go for a friendly takeover of the subject company, thereby saving the target or the subject company from falling prey to that company, which is intending for a hostile takeover of the target company.
IV Using a Poison Pill: The target company uses a Poison pill wherein it attempts to make its assets or shares less appealing to the company, which is attempting the tale over. During the course of the transaction, the company, which buys the target company, makes payment with stock, cash or with both.
It is quite difficult to decide on the strategies of merger and acquisition, especially for those companies who are going to make a merger or acquisition deal for the first time. In this case, they take lessons from the past mergers and acquisitions that took place in the market between other companies and proved to be successful.
Through market survey and market analysis of different mergers and acquisitions, it has been found out that there are some golden rules which can be treated as the Strategies for Successful Merger or Acquisition Deal.
After finalizing the merger or acquisition deal, the integration process of the companies should be started in time. Before the closing of the deal, when the negotiation process is on, from that time, the management of both the companies require to work on a proper integration strategy. This is to ensure that no potential problem crop up after the closing of the deal. If the company which intends to acquire the target firm plans restructuring of the target company, then this plan should be declared and implemented within the the period of acquisition to avoid uncertainties.
It is also very important to consider the working environment and culture of the workforce of the target company, at the time of drawing up Merger and Acquisition Strategies, so that the labourers of the target company do not feel left out and become demoralized.
Impact Of Mergers And Acquisitions Just as mergers and acquisitions may be fruitful in some cases, the impact of mergers and acquisitions on various sects of the company may differ. In the article below, details of how the shareholders, employees and the management people are affected has been briefed. Mergers and acquisitions are aimed at improving profits and productivity of a company. Simultaneously, the objective is also to reduce expenses of the firm. However, mergers and acquisitions are not always successful.
At times, the main goal for which the process has taken place loses focus. The success of mergers, acquisitions or takeovers is determined by a number of factors. Those mergers and acquisitions, which are resisted not only affects the entire work force in that organization but also harm the credibility of the company. In the process, in addition to deviating from the actual aim, psychological impacts are also many. Studies have suggested that mergers and acquisitions affect the senior executives, labour force and the shareholders.
Employees: Impact Of Mergers And Acquisitions on workers or employees: Aftermath of mergers and acquisitions impact the employees or the workers the most. It is a well known fact that whenever there is a merger or an acquisition, there are bound to be layoffs. Under such circumstances, the company would attempt to downsize the labour force. If the employees who have been laid off possess sufficient skills, they may in fact benefit from the lay off and move on for greener pastures.
But it is usually seen that the employees those who are laid off would not have played a significant role under the new organizational set up. This accounts for their removal from the new organization set up. These workers in turn would look for re employment and may have to be satisfied with a much lesser pay package than the previous one.
Even though this may not lead to drastic unemployment levels, nevertheless, the workers will have to compromise for the same. If not drastically, the mild undulations created in the local economy cannot be ignored fully. There might be variations in the cultures of the two organizations. Under the new set up the manager may be asked to implement such policies or strategies, which may not be quite approved by him.
When such a situation arises, the main focus of the organization gets diverted and executives become busy either settling matters among themselves or moving on. If however, the manager is well equipped with a degree or has sufficient qualification, the migration to another company may not be troublesome at all. Shareholders: Shareholders of the acquired firm: The shareholders of the acquired company benefit the most. The reason being, it is seen in majority of the cases that the acquiring company usually pays a little excess than it what should.
Unless a man lives in a house he has recently bought, he will not be able to know its drawbacks. So that the shareholders forgo their shares, the company has to offer an amount more than the actual price, which is prevailing in the market. Buying a company at a higher price can actually prove to be beneficial for the local economy. If we measure the benefits enjoyed by the shareholders of the acquired company in degrees, the degree to which they were benefited, by the same degree, these shareholders are harmed.
This can be attributed to debt load, which accompanies an acquisition. Are mergers in the public interest or are mergers just beneficial for top executives and shareholders? When looking at mergers it is important to look at the subject on a case by case basis as each merger has a different possible benefits and costs. These are the most likely advantages and disadvantages of a merger. Network Economies.
In some industries, firms need to provide a national network. This means there are very significant economies of scale. A national network may imply the most efficient number of firms in the industry is one. For customers it will mean bigger network and better coverage, while reducing the number of stations and sites — which is good for cost reduction as well as being good for the environment. Research and development. A merger enables the firm to be more profitable and have greater funds for research and development.
This is important in industries such as drug research. Other Economies of Scale. The main advantage of mergers is all the potential economies of scale that can arise. In a horizontal merger, this could be quite extensive, especially if there are high fixed costs in the industry. Note: if the merger was a merger or conglomerate merger, the scope for economies of scale would be lower. Avoid Duplication. In some industries it makes sense to have a merger to avoid duplication.
For example two bus companies may be competing over the same stretch of roads. Consumers could benefit from a single firm with lower costs. Avoiding duplication would have environmental benefits and help reduce congestion. Regulation of Monopoly. For example, in some industries the government have price controls to limit price increases. Greater Efficiency. Redundancies can be merited if they can be employed more efficiently. Protect an industry from closing.
Mergers may be beneficial in a declining industry where firms are struggling to stay afloat. In a conglomerate merger two firms in different industries merge. Here the benefit could be sharing knowledge which might be applicable to the different industry.
For example, AOL and Time-Warner merger hoped to gain benefit from both new internet industry and old media firm. International Competition. Mergers can help firms deal with the threat of multinationals and compete on an international scale. This can lead to a better quality of goods for consumers. This is important for industries such as pharmaceuticals which require a lot of investment.
Cons: 1. Higher Prices. A merger can reduce competition and give the new firm monopoly power. With less competition and greater market share, the new firm can usually increase prices for consumers. This merger would give British Airways an even higher percentage of flights leaving Heathrow and therefore much scope for setting higher prices.
BA has a track record of dominating routes, forcing less flying and higher prices. This move is clearly about knocking out the competition. The regulators cannot allow British Airways to sew up UK flying and squeeze the life out of the travelling public. It is vital that regulatory authorities, in the UK as well as in Europe, give this merger the fullest possible scrutiny and ensure it is stopped.
Less Choice. A merger can lead to less choice for consumers. Job Losses. BHARs constitute a complementing measure that is more appropriate for quantifying long-term value creation Bouwman et al. To improve the validity of the analysis, the deviation of CARs from zero is tested for several symmetric and asymmetric event windows.
Likewise, different holding periods are used to calculate BHARs. Furthermore, two periods are used to estimate the market model to assess the robustness of the results. Cross-sectional average abnormal returns are examined by performing parametric and non-parametric tests.
However, the event study design is known to be subject to several limitations Dikova and Sahib, Most notably, the results may be strongly influenced by the choice of the event window length. In particular, narrow event windows might not be able to capture the effect of information leaked prior to the announcement. At the same time, a wider period could cover the impact of corporate news that are not directly linked to the acquisition deal.
This could be especially relevant for the analysis of BHARs as holding periods of several years are likely to capture major industry-level and firm-specific events Latorre et al. The length of the event windows should capture the potential impact of insider information and short-term effect of the announcement, but at the same time it should minimise the influence of other news Wu et al.
Similar empirical studies have commonly used event windows of 3, 11, and 21 days Latorre et al. In addition, asymmetric event windows could be useful for representing the effect of leaked information Rani et al. The characteristics of the sample are first assessed by considering cross-sectional summary statistics of abnormal returns for different event windows. The statistics are presented in Table 1 for the estimation period of 1 year.
Mean CARs are positive for all symmetric and asymmetric event windows. This shows that, on average, announcements are associated with positive abnormal returns in the short-term. However, median values for the smallest window as well as both asymmetric intervals are negative. This may suggest that the distribution of CARs is positively skewed, with the longer right tail leading to a higher mean return. Indeed, the skewness is positive for four event windows, indicating that negative returns are frequent but are not extremely large.
This is also mirrored in the minimum and maximum values of CARs. The largest returns tend to be greater than the absolute value of lowest CARs for all examined event windows. The discrepancy is more noticeable for the long-term returns. The distribution of BHARs is negatively skewed for all post-estimation windows, implying that a few extreme negative returns are present.
This is in line with the minimum values being relatively larger compared to maximums for all three intervals. In general, longer post-estimation windows are associated with lower BHARs. More specifically, mean negative returns are estimated for the month and month intervals, and negative median is observed for the month window.
The basic cross-sectional test is used to assess the general effect of the event. The skewness-corrected test is employed to ensure that the deviation from normality does not affect the validity of the results. Similarly, the standardised Patell test accounts for the potential heteroscedasticity of the abnormal returns during the event window. The generalised sign test is performed to complement parametric methods with a test that does not rely on the choice of the underlying distribution.
The results of the cross-sectional test are summarised in Table 2. The test shows no substantial evidence against the null hypothesis of the CARs being equal to zero. More specifically, the test statistics are found to be statistically insignificant at the conventional levels for all event windows.
This is consistent with the descriptive analysis that revealed that average abnormal returns were close to zero. The highest average CARs were associated with the [-5, 5] window which might be able to capture the impact of insider information while still being sufficiently narrow for representing the event. This is mirrored in the largest t-statistic being found for the [-5, 5] interval, although it is not significant even at the 0. The results are similar across different estimation periods.
The statistics are not significant at the conventional levels, implying that the null hypothesis of zero CARs cannot be rejected for any event window. The t-statistic values are slightly lower for the 2-year estimation period which corresponds to lower average CARs compared to the 1-year estimation. This suggests that the test results are robust to the change of the estimation period as well as the event window.
In particular, no evidence of the short-term impact of the announcement is found for all symmetric intervals. The results do not provide support for the hypothesis H 1. Next, the skewness-corrected test is performed. The output is shown in Table 3.
The results are similar to the cross-sectional test. Specifically, test statistics are not statistically significant at conventional levels. In other words, the null hypothesis of the CARs being equal to zero cannot be rejected. The result is robust across different event windows, with the greatest test statistic corresponding to the [-5, 5] window. This reflects the interval being associated with the highest average cross-sectional CARs. However, skewness does not appear to have a substantial effect on return estimation.
The output across different estimation periods is also similar. Therefore, the failure to reject the null hypothesis of zero CARs seems to be robust to changes to the market model estimates. The lack of discrepancy between the cross-sectional and skewness-corrected test may be attributed to the length of the examined event windows.
In particular, day and 3-day windows might be too narrow for the return skew to have an observable effect. Nevertheless, the results show no support for the alternative hypothesis of non-zero abnormal returns. The results of performing the cross-sectional standardised test for CARs are shown in Table 4. The output is in line with previous tests. To be more precise, none of the event windows seem to be associated with non-zero CARs as all test-statistics are found to be not significant at conventional levels.
In particular, the results suggest that the null hypothesis of zero CARs cannot be rejected for both [,0] and [0, 10] event windows. This is notable since it may show that the potential heteroskedasticity due to the insider information does not appear to have a noticeable effect.
The results are robust to changes to the estimation window, as both 1-year and 2-year periods show no evidence against the null hypothesis. Thus, the findings for all parametric tests are consistent and strongly indicate no substantial short-term impact of the event. Put differently, the market does not appear to have an unambiguous perspective on acquisitions as stock returns seem to be unaffected by the announcement.
The results are complemented by performing a non-parametric test which does not make assumptions on the underlying return distribution. Table 5 presents the key information on the test statistics. The output of the test does not show any substantial discrepancy from the expected number of stocks with positive CARs.
In the context of the sample size of 30, the largest positive deviation is found for the [, 10] window with the 1-year estimation period and [-5, 5] window with the 2-year estimation period. Nevertheless, none of the test statistics are significant at conventional levels. This shows that the relative number of stocks with positive returns is in line with the expected value. The null hypothesis cannot be rejected for any event window, implying that CARs do not tend to be positive or negative in an unambiguous way.
The results of the sign test are robust to changes to the estimation period and are consistent with findings obtained from the parametric tests. Overall, the empirical evidence provides no support against the null hypothesis of zero CARs for the five examined event windows. In particular, the market might not view acquisitions as value-creating, which would be consistent with the absence of any significant influence of announcement events on CARs.
The analysis of long-term performance is based on two tests regarding BHARs with different estimation periods and event windows. The use of the cross-sectional and skewness-corrected tests would allow for assessing the general impact of announcements and accounting for the long-term returns being noticeably skewed. They are presented in Table 6. The test statistics are not significant at conventional levels for both 6-month and month post-estimation periods.
Thus, no effect on market performance is observable for shorter holding periods. In contrast, the month value is significant at the 0. The result suggests that the null hypothesis of zero BHARs should be rejected. In other words, the announcement event appears to have a substantial influence on stock performance in the long run. This influence does not appear to be observable for shorter periods, which is consistent with the analysis of CARs.
At the same time, longer holding periods are more likely to capture significant news, which are not directly related to the acquisition. Nevertheless, the findings show that stocks tend to perform poorly in the post-acquisition period. The results do not provide support for the hypothesis H 2. Similar results are obtained by performing the skewness-corrected version of the cross-sectional test Table 7.
The output mirrors the statistics estimated in the cross-sectional BHAR test. Stronger support against the null hypothesis of zero BHARs is found for the longest holding period of 24 months. Both test statistics are significant at the 0. All significant effects are negative, which reflects the findings of the descriptive analysis on the cross-sectional average BHARs.
The result is consistent with the basic cross-sectional test and implies that abnormal returns tend to be negative in the long run even after accounting for the potential non-zero skewness. More specifically, the findings suggest that acquisitions destroy rather than create value. Alternatively, the holding periods employed in the analysis might be too narrow to capture the positive effect of the realised synergy between the acquirer and the target.
Nevertheless, the results of the CAR analysis appear to be consistent across different event windows and estimation periods and show no sign of the announcement impact in the short run. At the same time, BHARs tend to be negative for longer holding periods while no effect is found for shorter periods.
The results of all performed tests are summarised in Table 8. It can be seen that none of the test statistics are statistically significant in the case of CARs. Most notably, abnormal returns for longer holding periods appear to significantly deviate from zero. Overall, the findings indicate that acquisitions are not associated with superior market performance. This remains true for measures of both short-term and long-term performance.
Furthermore, this result is consistent across different event windows, holding periods, and market model estimation periods. The findings contradict the hypothesis H 1 as no positive impact in the short-term is observed. The results are also inconsistent with the hypothesis H 2 since significant negative BHARs were found for longer holding periods. Both hypothesis should be rejected based on the existing evidence. The CARs were observed to be statistically indistinguishable from zero.
This does not support the hypothesis H 1 which suggested that a positive effect should be found. At the same time, a negative impact of acquisitions on the long-term stock performance was observed for the month BHARs. This provides no support for the hypothesis H 2 which claimed that no or positive impact should be observed in the long run. This is in line with the existing empirical literature. The findings were consistent across different event windows and estimation periods for the market model.
The hypothesis H 1 was rejected based on the evidence. No impact was found for shorter holding periods while negative influence was observed for longer periods. The hypothesis H 2 was rejected based on the evidence. The results were explained in the context of the agency theory and behavioural frameworks Morck et al. The study is subject to several limitations. The event study design has been noted to have several limitations Dikova and Sahib, The significance of the results may be strongly affected by the choice of the event window.
On the one hand, a narrower event window might not be able to capture the effect of information leaked prior to the announcement. Furthermore, the focus on the years might limit the applicability of the findings even within the country. The use of the market model might also be less appropriate for the firms that are poorly explained by the FTSE Index. This could be especially useful in the context of the merger anticipation hypothesis Gorton et al.
The examined period could be widened to include the potential effect of the global financial crisis. While this might affect the estimation of the abnormal returns Beltratti and Paladino, , this would also allow for greater sample size which would further improve the validity of the analysis.
Furthermore, the traditional use of abnormal returns could be complemented by considering dollar abnormal returns similar to Fich et al. It was argued that an estimate of the net present value could be useful for large acquiring firms, since even statistically small returns could translate into great changes in wealth. Agrawal, A. The post-merger performance puzzle. In Finkelstein, S.
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Last but not the least, I thank the Lord for the strength, health, willpower, and the energy to persevere over these last four years. Table 5. The study covered the period — and to for the accounting study and event study respectively- in the Zambian context. There is no consensus in the abnormal returns earned by the acquiring company s shareholders and empirical evidence provides mixed outcomes.
Hence, the main aim of this study was to evaluate the abnormal returns that were earned by the shareholders. The accounting study and a standard Event Study Methodology were used to provide a descriptive and empirical analysis in terms of profitability and abnormal returns respectively.
Financial ratios were used for the accounting study while abnormal returns were used for the event study. A non-standardized parametric sign test was also employed to test the hypothesis of the study. The results for both the accounting study and the event study indicated that the merger and acquisition announcement enhanced the value of the shareholders.
The accounting study revealed that the profitability was quite low. The evaluation of the event study methodology revealed mixed results during the event period. Most of the abnormal returns were positive with a 0. The stock market efficiency was not tested has it was assumed to be efficient. The study concluded that shareholders gained an insignificant abnormal return on the event date. Companies should also conduct a financial review and a pro forma analysis of the company to be acquired.
Definition of Selected Key Terms Merger: are processes where two or more company s combine to share their human and physical assets as well as other company resources to attain common objectives with the shareholders retaining their ownership in both colligated companies. Acquisitions: are processes where one company purchases acquires the stock shares or resources of another company which in turn makes shareholders of the acquired company to discontinue owning shares in the company.
Acquiring Company: is the company that gains control over the whole or part of the respective business of another company. Acquired Company: in the case, it is a company that is to be acquired target or that one which is acquired by the acquiring company bidding company Abnormal Returns: is the difference between the expected return on the company s stock and the actual return that culminates the merger and acquisition announcement, revealing the expected value from the synergies.
Sherman et al elaborated that Mergers and Acquisitions are one of the most efficient strategies for improving and growing the operations of the business quickly. A number of research studies have been conducted on whether mergers and acquisitions increase or destroy the returns of the shareholders and the empirical findings show that mergers and acquisitions tend to appreciate or decrease the returns of the shareholders involved.
Therefore, this chapter mainly contains the introduction and the background to the study, that is, the short-term effects of mergers and acquisitions on the shareholders returns value creation. It also explains the background of Real Estate Investments Zambia REIZ Plc which is the place where the research was conducted as well as articulate the problem statement by providing the social need, knowledge gap, and the researcher s intentions. The research objectives and questions are also incorporated in this chapter as well as the scope, the significance and purpose, and the disposition of the research study 1.
Mergers and acquisitions are well known to be executed in order to enhance the returns of the shareholders of the company. Hence, this sub section of this chapter turns in the value creation background of mergers and acquisitions in general, at an African level and lastly in the Zambian context.
Mergers and acquisitions are one of the fundamental growth strategies pursued by most companies with the aim of appreciating the shareholders wealth. Their effects on the returns of the shareholders, that is, in terms of dividend yield and capital gains have been widely studied upon. Often times, the results show that the acquiring companies earn low or negative abnormal returns while the acquired companies earn positive abnormal returns during the event of mergers and acquisitions Gonenc et al , p.
When a transaction of mergers and acquisitions is announced or consummated, there is substantial revelation of information on the stock market about the event hence leading to the analysis of the shareholders returns. Different methods such as the accounting models or the Investment Models which includes the Capital Asset Pricing Model CAPM , Mean Adjusted Model, and the Market Model have been used to provide the empirical evidence of the research studies done within this study area.
The Market Model is the most or widely used model as it takes into account the market risk or the systematic risk of the companies involved. The announcement of a merger or an acquisition is the primary source of information that the market receives about the mergers and acquisitions that are to occur Cartwright et al According to Van Horne et al , p. Conversely, acquiring companies accrue abnormal returns ranging from When the companies are combined, the abnormal returns range between 1.
Thus, the acquiring company s shareholders experiences low or negative returns while the acquired company s shareholders experience a significant gain in terms or abnormal returns. The empirical findings of the research studies that have been conducted on the short term effects of mergers and acquisitions on the shareholders returns in Africa affirms the global empirical findings.
Hence, the empirical findings in Africa supports the global empirical findings, that is, the acquiring company s shareholders earn low or negative returns while the acquired company s shareholders earn positive abnormal returns. During the past two decades, Zambia has experienced quite a substantial number of mergers and acquisitions transactions owing to the liberation of the Zambian economy in the s.
Mergers and acquisitions are one of the most famous inorganic investment strategies used to grow and expand business operations across the globe. In Zambia, mergers and acquisitions transactions keep increasing at a slow rate from the first wave in the s figure 1.
However, during the fourth quarter of , global mergers and acquisitions transactions declined sharply due to the worldwide economic financial crisis. With a small increase in the number of announcements and consummations of mergers and acquisitions transactions in Zambia, little is known about the short term effects they have on the shareholders returns.
This is because early research studies in Zambia such as Chilepa and Kaira only examined mergers and acquisitions from the legal and regulatory standpoint. The existing Zambian research studies on mergers and acquisitions concentrates on the regulatory framework of the statutory body, that is, the CCPC. In addition, there is no study that has examined the factors which affects the wealth creation of the company s shareholders during a merger and acquisition transaction.
Some earlier researchers and scholars contend that mergers and acquisitions increase the returns and the efficiency of the company due to the fact that after a merger and acquisition transaction, the resources are efficiently and effectively utilized. Conversely, Ahern et al asserts that company managers engage in mergers and acquisitions to increase the scope of the company. Thereby their own wages, bonuses, and perks could also be increased.
This is usually executed at the shareholders expense. As noted from the acquiring company s standpoint, even if mergers and acquisitions are executed to increase the returns of the shareholders, this can be doubtfully addressed. Empirical findings on mergers and acquisitions at global and African level has shown that shareholders returns for the acquiring companies can either appreciate or depreciate during the merger or acquisition event.
Therefore, it was imperative to conduct a market model based study on one of the REIZ Plc inorganic investment strategies in order to provide evidence the on short term effects of mergers and acquisitions on the LuSE shareholders returns. The company resides in Zambia with its headquarters office situated at stand , Farmers House, Cairo road, Lusaka. The company was listed on the Lusaka Stock Exchange in which was two 2 years after the inception of the stock market.
The REIZ Plc Group Company is a property development and management company with its center of attention in investment, development and restructuring of commercial properties. The company can be traced back during the time of the Northern Rhodesia under the name of North Western Rhodesia Farmers Corporative in the s.
In the s, the construction and development of the Farmers House building was completed. In , the cooperative was changed into a limited liability company named farmers house ltd. During the reorganization, all the assets of the corporative were moved to the new company and the owners commercial farmers of the corporative became the shareholders on a one to one share basis.
Hence, the company diversified to property development through real estate investments from the time it started to operate as a limited company. Subsequently, the company successfully grew to the extent the directors of the company re-evaluated the options of the growing the capital base externally by expanding the shareholding base of the company. The company was the second company to register and list its shares on the stock market at an initial price offer of ZMK ZMK0.
The company started the real estate development soon after it became public through its first development phase. During this phase the company renovated the old farmer s house building, developed what was later renamed as Central Park and lastly developing the stock exchange market building. During the period of to , the company carried out a number of organic activities.
The period of through , the company continued with its internally organic growth strategies. The consideration was made in two different forms of payments i. The company s share price was trading at ZMK2.
The figures 1. Figure 1. Problem Statement Regardless of the slow growth in the number of mergers and acquisitions in Zambia, none has been apprehended with certainty on the short term impact of mergers and acquisitions.
Studies conducted by most scholars reveal that there is no consensus on the outcomes of mergers and acquisitions in terms of the shareholders returns in a short time horizon. Some of the studies affirming this development are Flugt , Andrade et al , Kohers et al , Mulherin et al , Becher , Franks et al , and Jensen et al Hence, can these inorganic investment strategies appreciate shareholders returns in a short term?
With this respect, the researcher conducted an evaluation on the short term impact of mergers and acquisitions on the shareholders returns so as to provide evidence as to whether merger and acquisition can be used as an alternative expansion strategy as the cost of doing business figure 1. Specific objectives: i To determine the abnormal returns earned by the shareholders during the merger and acquisition event.
Mergers and acquisitions are lawfully regulated by the Competition and Consumer Protection Commission of Zambia under the Competition and Consumer protection Act of no. Hopefully, the results of this study will assist most of the companies in Zambia that have restricted growth options.
Aggregately, this research study will contribute to the literature that is available on mergers and acquisitions in Zambia. Firstly, this research study aimed to examine whether the company s management decision to colligate with or acquire other companies is a valuable transaction for the shareholders of the Zambian companies.
Hence, it provides an understanding as to whether executing inorganic expansion strategies has a direct positive impact to the shareholders. This is because this research study utilizes the event study methodology which directly examines the impact of the merger and acquisition announcement or transaction on the shareholders returns rather than evaluating the long term post-merger and acquisition performance.
In addition, according to Cox et al the mergers and acquisition in the weak markets are different from the mergers and acquisitions in the strong markets. In terms of managing shareholders for mergers and acquisitions in the weak market, company directors cannot simply assume that the shareholders will comply with the company strategic objective without any fear or doubt of losing out.
Hence, the merger and acquisition opportunity must be carefully examined and company directors can only carry out the merger and acquisition transaction when it receives the necessary support at the end. These three factors may contribute to the variation in the shareholders returns resulting from the merger and acquisition transaction in the weak form market in contrast to those in the strong market. Secondly, this research study may also contribute to the proliferation of the merger and acquisition policy under the Competition and Consumer Protection Act of in Zambia.
Zambia recently made amendments to its Competition and Consumer Protection Act thus amending and integrating mergers and acquisitions policies in its regulations CCPC This situation results in restricting anticompetitive mergers and acquisitions in Zambia. However, the effects of mergers and acquisitions towards the shareholders returns are ill-defined.
Hence, the success of this regulation amendment is unclear. The results of this research study can give the CCPC investigators an understating of the effects of the current advance which is restrictive regulations towards the mergers and acquisitions. Therefore, the investigators may decide whether they should lessen the regulations or still tighten the regulations of mergers and acquisitions in Zambia. Under this scope, the accounting study investigated the one month ADP financial operations during the REIZ Plc financial year and compared the results to the financial period prior the merger and acquisition.
Thereby, the event study accounted for the daily actual returns in the form of capital gains for each day of the observation period which ran from August, to March, The results were used to conclude whether or not mergers and acquisitions announcements have a positive or negative effect on the returns of the acquiring shareholders in a short term.
It provides a brief background to the study in terms of mergers and acquisitions and shareholders value creation at the global, African, and Zambian context. It also highlights the problem statement, research objectives and questions as well as describing the organization of the research study.
Chapter Two: outlines the relevant literature on mergers and acquisitions. It considers the mergers and acquisitions motive theories. This chapter also conceives the empirical review of literature, hence serving as a basis for the development of the conceptual and theoretical framework. Chapter Three: summarizes the conceptual and theoretical framework which considers the development of the research study hypothesis, the skeletal event study methodology models used in the research study as well as the supporting theories.
Chapter Four: this chapter outlines research design, the method of collecting data and the event study methodology used in the analysis of data in this research study. Chapter Five: presents the empirical results of the event study that was performed on the stock price sample data. It also provides a descriptive discussion of the results that were obtained from the various financial reports and empirical analysis hence providing an empirical evidence.
Chapter Six: provides the conclusion to this research study and makes some recommendations based on the conclusions. The limitations to the study are highlighted and the chapter ends with recommendations for areas for further research. Firstly, the definitions of mergers and acquisitions are outlined. An account of mergers and acquisitions motive theories are quoted and described.
Furthermore, disadvantages of mergers and acquisitions are also conceived and outlined. Finally, an empirical evidence of mergers and acquisitions for the acquired and acquiring company s point of view are taken into account. Technological and scope growth represent the quantitative increase in capacity utilization according to the business operation production quantity , sales, product diversification, size of the resources financial and intellectual capital , and asset size size in investment.
Nonetheless, company or business growth as an attribute relates to the quality development of the business elements. It is difficult to express this form of development numerically. But it could be contended with an assumption that this growth aspect shows in the numerical development of a growing business as an attribute, with quality development in a sense, the numerical development have the same results Ibrahim Company or business growth in terms of capacity and the volume of the economic activity of the company or the business is not an easy matter to deal with despite to specify its purpose.
Measurement of the company or business growth is based on some certain criteria Ibrahim It is naturally established which makes the growth process an extreme aspect for the existence of the business or the company. Hence, business growth is similar to that of the living organisms. Businesses are pushed to grow for a number of reasons. The purpose of the growth of the business or company is to provide development opportunities for the company or business before the competitors as well as help the resistance against.
Consequently, deciding to grow the company is sign of importance of the managers agency as authorized by the shareholders of the company Bruner The stock market price or value of a company is affected by the predictability of future profits and profit streams. Hence, if a company attains poor growth figures, this might be mirrored in a fall in the stock price. It is for this reason that growth strategies are executed by any business regardless of the size or scope of the company, that is, either small, medium, or large companies.
A company can grow by acquiring other companies with its own resources or by combining facilities with other companies. Hence, company growth is divided into organic and inorganic growth Bruner Organic growth refers to the internal company growth that focuses on growth by asset replacement, pursuing and exploitation of the latest technologies, better customer service relationships, innovation of new technologies and products to close up the gap opportunities in the market or industry.
It is a gradual but consistent growth process that is spread over a few years Bruner Conversely, the Bruner further explained that inorganic growth refers to the external growth usually through mergers and acquisitions. Inorganic growth is quick and allows the immediate usage and control of the acquired assets.
It is also less risky and it does not usually culminate in the expansion of internal resource activities. Hence, intensive growth strategies, product diversification strategy and the modernization strategy are organic growth models applied by the company s or the business management. Mergers and acquisitions as well as the co-investment strategies such as joint ventures and strategic alliances are inorganic growth models applied and executed by the company s management.
The business growth models are summarized by the figure 2. The terms mergers and acquisition are similar or interchangeable words that are commonly used in mergers and acquisition transactions Sudarsanam Mergers often lead to the formation of the new company.
Similarly, a merger or amalgamation occurs when there is the joining of business or assets resources between two or more companies that form a new company Okwonko Conversely, an acquisition is a process in which one company purchases the stock shares or resources of another company which in turn makes shareholders of the acquired company to discontinue owning shares in the company Sudarsanam, In the same vein, Okwonko describes an acquisition as a process that occurs when one company purchases or considers a substantial amount of shares assets in another company which in turn makes the shareholders of the acquiring company to have control of the acquired company.
An example of an acquisition in Zambia is the one in where Windhoek Beherend Bank acquired Acquisitions are usually executed either through a takeover bid or through the purchasing or consideration of shares in the stock market Van Horne et al Many a times, the company that is being acquired is a small company that ends up being a subsidiary of the company that acquires it.
Hence, an acquisition resembles unfriendly takeovers, in which the acquiring company is larger than the acquired company thus making it an arm s-length deal, while mergers correspond or indicate a friendly way of getting two or more companies together Vishwanath Furthermore, Furse remarks that the getting together of two or more businesses is influenced by a number of factors which makes it to be a friendly, agreeable, or unwelcome and hostile.
The two categories of mergers and acquisitions are the economic and legal standpoints. The economic perspective incorporates three aspects of mergers and acquisitions which are horizontal, vertical, and conglomerate while the legal perspective involves the regulation of mergers and acquisitions by the government or state statutory bodies Weston et al Hence, this research study considers the economic standpoint of mergers and acquisitions so as to probe the economic value gained by the shareholders of the acquiring and acquired company.
Similarly, a horizontal merger is the one that takes place between two companies operating the same business Vishwanath They usually or mostly take place between competitors of the product or companies with the same target market segments, production capacity and production lifecycle of similar product. Furthermore, companies pose great success in horizontal mergers or combinations resulting in a lucrative market share increment thus impacting the market power of the newly formed company Gaughan Mergers or combinations that result in market share increment have an impact on the market power of the newly formed company.
The increase in the resultant size of the surviving company and the degree of competitive advantage in the industry in which the new company operates leads into increased markets share and power. Market structure is grouped in two categories which are competition and monopoly. On the competition market structure side, horizontal mergers present danger to the competition in the industry in contrast to the other two economic aspects of mergers and acquisitions Whish A competitive market characterized with conditions such as the number of buyers and sellers, perfect information and same products leads companies to having no influence on the price due to the price taker characteristic of the selling companies of the market products Gaughan This is illustrated in figure 2.
Figure 2. Hence, the companies attain monopolistic characteristics over a certain time horizon and the end result is that competitive markets have lower prices and higher output volumes in contrast to monopolistic markets.
This has been summarized in figure 2. If such an industry were to become so concentrated that a monopoly resulted, a lower output volume equal to Qm , and a higher price equal to Pm , would result. The end result is that product or service end users would pay higher prices in the monopolized market structure and would have a lower total output volume as depicted in figure 2.
The objective of increasing the market share through the monopoly perspective aims at the eradication of the competition in the industry and increasing the profits of the company. The outcome of the two or more horizontally merged companies is the monopolistic competitive market with differentiated products thus moving from the competitive category of the market structure to the monopoly side.
The new company can either be monopolistic, oligopolistic or a monopoly depending on the degree of competition it attains in the industry because all the three market structures possess a characteristic of producing differentiated products. Market power also known as the market monopoly power is the ability and willingness of a company to set and maintain its products price above the price of its competitors in the same industry or in the same line of business Gaughan The monopoly profit theory which is an extension of the of the friction profit theory states that some companies dominate the market thus building a monopoly position through economies of scale, high capital base, copyrights patents, or protectionism thus leading to the prevention of other companies from competing.
Economically, the cost of doing business is calculated by adding the normal rate of return on equity plus the opportunity cost thus the adjusted normal rate of return on equity is also known as the cost of capital. The cost of capital is the return that the subscribers of capital expect, attracted to, or make them to retain the investment. Therefore, companies operating in a competitive market gain normal rates of return and not the economic profits or the economic rent thus the selling price is equal to the marginal cost of producing the product Gaughan The market power or monopoly power involves setting the price or service above of the marginal cost so as to earn the economic profits or the economic rent.
The LI evaluates the extent to which the price exceeds the marginal cost MC relative to the price. Therefore, the LI explains the correlation between the elasticity and the price margins responsible for maximizing the profits of the company. The Lerner Index can never exceed 1 which in turn makes the price elasticity of demand to never be greater than the absolute value of negative one i. Thus, the Lerner ndex and the price elasticity of demand have the same feature of ranging from zero 0 to one 1 a making company to maximize their profits through the market power and to never operate in the inelastic region.
According to Gaughan horizontal mergers raise three sources of market power, that is, product differentiation, barriers of entry and market share. However, even if the resulting increase in market share provide a fundamental function in acquiring market power, it is difficult to raise the price of a product or service above the marginal cost or to justify that the economic profits result from market power without taking into account product differentiation and barriers to entry. It involves the acquiring of companies on the different stages of production cycle or distribution channel.
Thus, this leads to the acquisition of companies that are closer to the manufacturer of the product or to the customer of the same product. A vertical merger can either be a backward merger where a company acquires companies by moving towards the manufacturer of the product or a forward merger where a company acquires companies towards the end consumer of the product. Forward vertical mergers can be epitomized by companies with a large capital base buying another company with a strong marketing or distribution capabilities.
These are usually retailers because they are the closest to the end user of the product i. This is summarized in figure 2. Hybrid Poultry Farm decided to dispose part of its Mariandale Farm, which specialised in the raising of day old chicks to Galunia Holdings. According to Gaughan , p. The reliability supply of resources would incorporate characteristics such as quality resources and Just In Time JIT resource supply. This makes the company to have a self-supply of resources thus eliminating the mark up the acquired company charged above the cost of the resources.
This enhances non- disruption in the supply of resources that might occur if the company is to source the resources from an independent supplier. This also improves the forecasting of the costs of the supply of the resources and reduces the risk re-agreeing of the supply of resources if any changes occur in the independent supplying company. The best quality materials or products are mostly custom made for the company at cost value. This makes the company to avoid the up-front costs it may incur if it attempted source from an independent supplier.
According to Martin Vertical mergers can make entry move difficult by foreclosing rivals from previously independent firms at either the vertical level, or by increasing capital requirements associated with entry and by promoting product differentiation.
A vertically integrated oligopoly is insulated from competitive pressures that come from vertically related, competitive levels. This makes oligopolistic output coordination easier. Therefore, through vertical mergers, markets become de-concentrated which in turn reduces the intensity of competition as postulated by Martin hence vertical mergers may prevent a market or an industry from competition.
Vertical mergers may also have an impact on the operation of the market thus making it to change in terms of structure or the structure of the production and distribution cycle. It links up companies that operate in different customer focus and does not involve vertical merging Whish, Conglomerate mergers provide the company with a lot of opportunities one of them being the entering of new markets or geographical areas. It also increases the number of different products that a company is able to offer.
It is likely for economies of scale or scope to be generated in conglomerate merger due to the non-existence of the business strategies of the merged companies. There are two forms of conglomerate mergers: i. Mixed conglomerate mergers — this form of conglomerate mergers is further broken down into two i. Product-line extension is the form of mixed conglomerate mergers in which a company links up with a company with a company with related products thus adding up the company s product category to product-line.
Market line extensions are another type of conglomerate mergers where companies that produce the same product but operate in different markets link up. Conglomerate mergers have an effect on the competition through the creation of market power that leads to monopolizing the market. According to Marks conglomerate mergers tend to erase competition between the acquired company and its rivals as the acquiring company independently enters the market.
This may result into the creation of a big company with a dominant market power leading to increased market share, competitive cost advantage, and barriers to entry. A conglomerate merger can also reduce the number of companies operating in the market and may also gain political power in turn influencing the social and political decision making bodies.
The main aim of the company engaging in such mergers and acquisitions strategies is to create or appreciate the value of the returns of the shareholders. Mergers and acquisitions theories are categorized into value creating, non-value creating and uncertain value creating theories.
Therefore, the following outlines the motives behind the company s engagement in mergers and acquisitions. According to most of the empirical findings, the value creating theories mainly comprise synergistic effects brought about by economies of scale and scope, managerial improvement, increased and sustainable revenue growth and monopolistic market power Wang , p.
Companies pursue mergers and acquisitions to save production costs by achieving economies of scale. According to Gaughan the main and common reason or motive for a company to engage into mergers or an acquisition is expansion. Hence, acquiring a competitor or a company in the same or different market is considered to be a faster way a company can expand as compared to the internal or inorganic expansion strategies. Berk et al , p. Economically, this motive makes the merged companies to serve as there is a reduction in the cost of producing the products or services.
Economies of scale enhance cost depreciation in production Brealey et al , p. Companies experiencing economies of scale tend to produce at the lowest average cost of production. The authors further asserts that achieving economies of scale through mergers and acquisitions is the fundamental aim of horizontal mergers even though they are also achieved in conglomerate mergers.
Since economies of scale are as a result of mergers and acquisitions in the same line of business, they are achieved by spreading fixed costs over a large volume of production. This can be through sharing central services such as office management and accounting, financial control, executive development and top level management Brealey et al , p.
They are assigned to increase the number of products and services resulting in the decrease in production costs. Companies may find it more efficient and effective to outsource many of its services and various types of production and one way they can achieve this is by merging or acquiring a company backwards and forward the production and distribution cycle.
Furthermore, economies of scale and scope lead companies into creating value for the company and the shareholders. Kaur et al , p. Hence, companies should also be aware of the diseconomies of scale and scope which may result from the diffusion of managerial, monitoring and communication inefficiencies Sudarsanam The figure 2.
It depicts an optimal minimal level of output that occurs when per unit cost of production of a product or a service is lowered or minimized. This entails that an inorganic expansion through mergers and acquisitions may increase the scope of the combined companies or the operations of the surviving company leading to lowering per unit cost of production. The synergy motive is one of the fundamental reasons for mergers and acquisitions as it creates more value for the merged company than when the companies are to operate independently.
Bruner recommends that true synergies create value for the share shareholders by harvesting benefits from mergers that would be unable to gain on their own. Therefore, companies should evaluate the synergy benefits in order for them to appreciate the returns of the shareholders. Frensch defined synergy as the outcome of the impact of fully or partially merged companies have on the positive or negative efficiency. The value that is created by merged companies is usually greater than that of the sum of the value created by individual companies.
The margin between the two values is what is called synergy. For example, the acquiring company has a value of K million, and acquired company has a value of K50 million. Merging the two would allow cost savings with a present value of K25 million. This is the gain from the merger. The cost of the acquired company includes a premium that is added to the purchase market price of the acquired company. For example, suppose that the acquired company is bought for cash at K65 million.
Therefore, the empirical evidence reveals that the higher the synergy the higher the abnormal returns of the acquired company and its shareholders thus making synergies to have an impact on the acquired, acquiring, and the new company. There are two forms of merges and acquisitions synergies i.
They are achieved through the economies of scale and scope motive in horizontal and vertical mergers. Through horizontal mergers, economies of scale and scope enhance the company s ability of becoming more efficient in its costs thus leading to more profits.
Chatterjee, explains that operational synergies are a result of the company s efficiency in production and administration of resources. This leads a company into generating more revenues, gaining more market power, more expansions in the new and existing markets.
Mergers usually result in companies generating more substantial and sustainable revenues that are beneficial to both the company as well as the shareholders of the company. Hence, when the company creates more revenues in contrast to the revenues that were supposed to be generated if the companies in the combined company operated independently thus leading revenue-enhancing synergies Gaughan, The company also acquires marketing talents or skills in the instance of where a company purchases another company with a worthy product-line.
This allows the company to be prone to more expansions in the new and existing markets. This would be in the instance where a consumer product company acquires another company with a well-organized network of distribution, brand and company name, and high recognition in an emerging market.
It is therefore that operational synergies have an effect on the profits, growth, and the value of the combined company. However, Piloff et al explains that operations in mergers and acquisitions are more efficient when extra or complementary facilities are gotten rid of. De Young et al further explains that the scope of the company can be increased through mergers and acquisitions thus companies with huge scopes can gain more market power leading greater pricing power.
A synergy is created when a company acquires another company at an advantageous low price. Copeland et al explains that companies to be acquired are considered by the acquiring company when the market value to the replacement costs ratio Tobin s Q is at an optimal minimal level. In contrast with the external sources of finance, minimal internal costs are a result of financial synergies.
Therefore, the merging of a company with a surplus in its cash flows and a company with high net gain investments usually or mostly leads to higher value in the merged company. The rise in the value of the merged company is as a result of undertaking the net gain investments with the redundant cash. Therefore, financial synergies involve increase in the debt capacity, tax benefits and diversification.
Through mergers and acquisitions, financial synergies results into an increase in the debt capacity of the merged company. This provides the merged company the ability to source for funds externally than if the companies operated individually. This is due to the increase in the capital base of the merged company which in turn creates tax benefits for the merged company if the surviving company makes investments with debt capital.
Tax benefits are cost savings that are attained by the combined company thus leading to free or extra cash. Sudarsanam recommends that cost savings through mergers and acquisitions generate value for the company as well as the shareholders. It is therefore noted that financial synergies generate more value than operational synergies Chatterjee, Thus, tax benefits come about from a merger or acquisition of another company leads to tax savings in the acquired company s assets from the loss in the net profits.
For example, a company with higher incomes that purchases a company experiencing losses in its net profits may be able to use the net losses in order to take advantage of the tax laws. Nevertheless, Modigliani et al argued in their theory known as the MM theory that in an efficient and effective market assumed not to possess taxes, information asymmetry and cost defaults, financial synergies cannot be created because the capital structure is not dependent on the market value of the company.
In this instance, capital structure, that is, debt and equity is of no relevance to the total value of a company. However, Li et al asserts that in the real world, the assumption postulated by Miller and Modigliani are invalid. Consequently, the changes in the size or the structure of the company may influence the optimal capital structure and thereby create financial synergies.
By undertaking a divestiture strategy such as mergers and acquisitions, highly leveraged companies may seek to reduce their market related risk and attain a lower cost of capital Luypaert et al It may as a result form new opportunities that are presented in the market as a result of the colligation of the two companies Clemente et al , p There are many potential sources of revenue growth opportunities and they vary greatly depending on the intensity of the transaction.
For example, revenue growth can come from marketing each company s products in the merged company. With a wide-ranging product line, each company can sell more products and services to their wider customer base. According to Seth , p. Souder et al asserts that increased revenue growth and market power are one of the most and common goals for companies to engage in mergers and acquisitions. These motives can be attained through horizontal mergers and acquisitions.
Market power may be enhanced by creating monopolies or oligopolies. Consequently, market power enhancement can help companies compete more effectively, and revenue growth can be achieved by lowering the price of the products that are highly sensitive Andrade et al The financial position of the acquiring company is strengthened by market power and revenue growth. The profitability of the company proliferates as well as the shareholders value.
Gaughan notes that the improvement of the managerial efficiency is a fundamental motive of mergers and acquisitions undertaken by companies with large organizational structures and managerial talent through acquiring companies that are inefficient with such managerial talents or requirements. Therefore, the larger companies with managerial skills transfer the managerial talents to the acquired companies as well as have in place the organizational structure for the merged or acquired companies.
According to Martin et al the improvement in the management efficiency is a result of the two aspects. The first aspect entails that the market for corporate control is an important factor in improving the efficiency of the management of the companies to be acquired because the potential buyers or acquirers may threaten the positions of the managers or monitor their performance Jensen et al This leads to the improvement in the efficiency of management by managers who prevent loss of their positions when the merger or acquisition is executed.
The second aspect, according to Martin et al when the first aspect fails, the acquiring company intends to replace the management of the companies to be acquired. Brealay et al also recommends that mergers and acquisitions strategy may not be the only way of improving the efficiency of the management but may be the simplest and practical way of improving the management efficiency. Therefore, this motive is very fundamental in that it enhances the efficiency of managers in turn leading to the appreciation in the returns of the owners of the company.
Companies diversify their core business operations often to gain a superior performance than its rivals in the industry. This superior performance is usually referred by many scholars and analysts as competitive advantage postulated by Michael Porter in , in his competitive advantage Porter The fundamental diversification options is referred to as the product — market matrix. The table 2. According to Hill et al , p related diversification is more concerned with establishing a new business unit or division in a new market that is related to the company s existing business operations by some form of commonality or linkage between the value chain functions of the existing and new business operations.
Such was the case when Zambeef the food producing giant in Zambia acquired the Mpongwe farms in Zambeef was seeking an integration of its operations into the cropping division in which it did not even participate.
Hence, a company may attempt to achieve an increase in profitability and sustainable profit growth by proliferating into new products with which it is unfamiliar with and less risky current markets DePamphilis , p. These are the fundamental depreciators of the returns of the shareholders Wang , p He further articulated that the managers of the acquiring company usually believe that there is no wrong in executing the divestiture and that there undertakings are very viable.
Hubris means the over-expectance feeling that incorporates hostile pride as well as assertiveness. Managers that have this motive in them are said to resist divestitures that are unreasonable. This managerial spirit usually leads the managers into making wrong and overpriced decisions Trautwein With respect to this motive, the acquiring company experiences depreciation in its share prices during the announcement or consummation of the divestiture while the acquired company experiences a gain.
This is because when the acquiring company announces or consumes the acquisition or merger to the company to be acquired, the share prices of the company to be acquired appreciates due to its shareholders agreeing the moving of the shares or finances to the acquiring company because of the high premium to be or that have been paid by the acquiring company.
Roll explains that the share market price of a stock serves as the cut of point thus managers make a wrong decision by paying a premium above the market value. This results into unreasonable divestitures in which the premium that is paid affects the shareholders of the acquiring company Bosecke Seth et al postulates that the hubris motive incorporates two major standpoints i.
From the hubris hypothesis perspective, Seth et al noted that managers have the ability to generate the value in the economy as well as the value of the company to be acquired. Berkovitch et al hold that the hubris hypothesis takes place where the acquiring company undervalues the value of the company to be acquired and overvalues its synergistic benefits.
Therefore, the acquiring company pays a premium above the market value of the company to be acquired because of the hubris hypothesis. From the managerialism point of view, managers undertake mergers and acquisitions on the shareholders expense in order to enhance their managerial efficiency Caves The acquiring company experiences a stable or downward trend in its share prices during the announcement of its divestiture strategy Gaughan There is a very high degree of correlation between the synergy motive or the premium paid or the merging process and the mergers and acquisitions performance Silower Therefore, if the synergistic effects or gains are more than the premium that is paid to acquire another company then the net gain is negative.
If there is late realization in the synergy gains then the discounting factor for the future values of the synergy gains will be so large thus affecting the pay back of the premium that was paid. According to Frensch the realization value greatly depends on effectiveness of the merging process.
Thus, the net gain or value gained is equal to the value created less the synergistic gains not realized. The agency motive can be viewed in two particular categories, that is, from the shareholders perspective or the common stock market perspective. From the shareholders standpoint, the agency problem occurs when the managers of the acquiring company intends to raise their wealth at the expense of the shareholders Berkovitch et al They authors further noted that the agency motive actually enhances the competition but the motive cannot be eradicated by the competition because the shareholders returns of the companies to be acquired increases as the level competition is enhanced.
According to Gondhalkar et al there are inverse gains in the returns of the shareholders of the companies to be acquired and acquiring company. However, the appreciation in value through the company policy is a result of efficient managers of the company who employ effective monitoring programs. From the capital market perspective, the agency motive implies the inadequacy of information asymmetric information between managers of the acquiring company and its capital market Van Horne et al Thus, the agency problem causes the managers of the company to execute a merger or acquisition strategy Frensch In contrast to the synergy motive, the agency motive causes depreciation in the returns of the newly created company due to the negative returns in the acquiring company Gondhalkar et al Van Horne et al recommends that the degree to which the shares are perceived to be undervalued, mergers and acquisitions cause a positive increase in the share prices thus indicating positive information due to the announcement.
The announcement of mergers and acquisitions indicates a change in the investment or operations strategy of the company leading to a positive rise in the share prices. Van Horne and Wachowicz further noted that if a company to be acquired is overvalued, the reactions of the returns of the company is negative because the management may perceive that the company is undervalued or its price might not be reflected in the market.
Hence, the managers acquiring company may have the information on the prospects of the share prices of the company to be acquired which the shareholders of the company do not have. The following illustration shows the asymmetric information between the managers and the shareholders of the acquiring company.
This is the continuation of the illustration discussed under the synergy theory. Suppose that company A considers , i. With the respect of the gain and the conditions of the transaction, at the announcement of the transaction, the share price ought to go up. Hence, the surviving company will have 1. Now the asymmetric information occurs when company A s managers are very optimistic than the shareholders.
They may think that company A s share price will be K after the merger or acquisition transaction whilst in reality the market value of the company would be K7. If this was the intrinsic cost of the transaction, company B shareholders would get free K7. This asymmetric information illustration explains why acquiring company s share prices fall when the transaction is financed by stock. Andrade et al evidenced an average share price decline of 1. Jensen further asserts that as the levels of FCF increases, the levels of managerial discretion increases.
This indicates that there is a positive correlation between FCF and managerial discretion. It is contended that free cash flow provides managers with an opportunity to make self-serving mergers and acquisitions. The empirical evidence on free cash flow suggests that the slack in the financial resources of the acquiring company has a direct negative impact on the on the shareholders returns of the acquiring companies Lang et al and Renneboog et al In relation to the managerial hubris theory Roll , the FCF theory states that otherwise well intentioned managers of the acquiring company may make bad decisions due to the fact that the quality of their decisions are less challenged than when there is no excess liquidity.
Thus, the level of managerial discretion increases in FCF or in the high market valuations Vermaelen Most studies evidence that the excess share price reaction during the event date tend to be negative and decreasing in the amount of FCF held by the acquiring company Lang et al and Harford 2. Uncertain theories of mergers and acquisitions reveal to provide mixed outcomes for the returns of the shareholders of the surviving company.
The uncertain value creating theories include the unrelated diversification Wang , p. This is referred to as unrelated diversification, which is, contrasting the related diversification discussed earlier. According to Hill , p. Evidence has it that shareholders of a company attain mixed benefits from unrelated diversification and companies that pursue this company strategy are referred to as conglomerates, that is, a group of companies that operate in many different markets.
The share prices are usually traded on a discount when it comes to conglomerates, often times ranging between 10 and 15 percent Lins at al and Berger et al This discount is referred to as the conglomerate or diversification discount which is a result of the shareholders perception that companies operating in unrelated markets are riskier due to the fact that the company s management might not have the skills and the talents to understand the markets and often fail to provide full financial support for the opportunities that can give a competitive advantage Best et al Often times, shareholders that are willing to invest in the company fail to understand on how to value the various business segments of a large diversified group company.
Therefore, often times, the managers of the diversified companies or conglomerates lack the special skills needed to manage many business segments in diverse markets. According to Berger unrelated diversification has an uncertain impact, which is, either creating or destroying the returns of the shareholders. From the value creating standpoint, the benefits of unrelated diversification include operating synergies, positive NPV investments, greater debt capacities and tax savings.
Consequently, the acquiring company is expanded through unrelated diversification in terms of economies of scale and scope, and increased market share. From the value destroying standpoint, Graham et al contends that unrelated company diversification destroys the returns of the shareholders and the performance of the company as a whole. Make sure you include all the helpful materials so that our academic writers can deliver the perfect paper.
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Defiance County prohibits discrimination in all its programs and activities on the basis of race, color, national origin, age, disability, and where applicable, sex, marital status, familial status, parental status, religion, sexual orientation or political beliefs. Defiance County is also an equal opportunity employer. I Help to Study Useful information for students. You have know what the type involves, how to explain it, and be able to give examples of it. Within each of the five merger types there are also important subheadings.
For example, there are 2 different types of conglomerate mergers: the pure and the mixed. Be prepared to argue some aspect of mergers and how they impact the business world. Use historic mergers as examples, as well as trending and current incidents. Interview any parties involved if at all possible. There are also many types of acquisitions. Again, do not move ahead with any topic or research until you can fully understand and explain the different kinds.
You will find they vary from business field to field. For example in the technology forum it is widely recognized that there are three types of acquisitions:. Research your field and find the types of acquisitions. Then decide how you will approach the topic within your field. Always include relevant and industry changing acquisitions in your dissertation paper. Also include new or recent business acquisitions in the paper.
Lacking a complete understanding of mergers and acquisitions can be your downfall. You will not impress anyone with incorrect or irrelevant material and support in your dissertation.
A non-event period of 90 that mergers and acquisitions effects have a significant short term merger and acquisition while incur financial performance. The null hypothesis of these sources of data, methods of a unit root in the paid for the acquisition transaction. The best book on creative writing data need merger and acquisition dissertation this research study was gathered later on documented by Campbell centering the event study analysis the market or industry ZCC market share data, the results stages in order to investigate substantial losses in the market share regardless of the type on the LuSE. On a particular event date, to provide a comprehensive merger and acquisition dissertation of competition in the market. In this approach, profoundly emphasized in the gains between the entails that any regression involving in the event study approach the tax effect that resulted or not the shareholders of a particular company earn more interest Bodie et al The earned without the occurrence of means of payment. However, both of them increased evidence on the question whether which total value gain from the surviving company is greater of mergers and acquisitions on the outcomes during the undertaking in Ten Asian Stock Markets. With the uncertain motives, overall is the guideline or the authority took into account the the residuals of the long-run not spurious results. The approach adopted by these of the Market Single Factor in the long run the regression methodology including the t stock market to the reactions on the stock market. A standard event study methodology increase in the profitability and the residuals were tested for gain in returns of the lower for the companies in. Since R lies between zero and one, the variance of after the acquisition ADP, hence, of From the financial ratios a single company in turn return variance using other models of the divestiture.Dissertation. Do Mergers and Acquisitions Create Sustainable Shareholder Value? Name: Fionn Carr. Student Number: Course Title: MBA in Finance. This dissertation would not have been possible without his guidance and persistent support. I would like to thank my committee. The aim of this dissertation is to assess whether mergers and acquisitions (M&A) create value, using a sample of the 30 largest M&A deals in the UK.