CH 07 MBA

Chapter 7: Merger and Acquisition Strategies
Overview:
Why firms use acquisition strategies

Seven problems working against developing a
competitive advantage using an acquisition strategy
Attributes of effective acquisitions
Restructuring strategies
Merger and Acquisition Strategies
Introduction:
Popularity of M&A Strategies
Popular strategy among U.S. firms for many years
Can be used because of uncertainty in the
competitive landscape
Popular as a means of growth
Should be used to increase firm value and lead to
strategic competitiveness and above average
returns
The reality is that returns are typically close to zero
for acquiring firm
3
Merger vs. Acquisition vs. Takeover

Merger
Two firms agree to integrate their operations on a

relatively co-equal basis
Acquisition
One firm buys a controlling, 100 percent interest in
another firm with the intent of making the acquired firm
a subsidiary business within its portfolio.
Takeover
Special type of acquisition strategy wherein the target

firm did not solicit the acquiring firm's bid
Unfriendly acquisition
4
Reasons for Acquisitions

Increased market power
Exists when a firm is able to sell its goods or services above

competitive levels or when the costs of its primary or support
activities are lower than those of its competitors
Sources of market power include
Size of the firm
Resources and capabilities to compete in the market
Share of the market
Entails buying a competitor, a supplier, a

distributor, or a business in a highly related
industry
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To increase market power firms use
Horizontal Acquisitions
Acquirer and acquired companies compete in the same industry
Vertical
Firm acquires a supplier or distributor of one or more of its goods or

services; leads to additional controls over parts of the value chain
Related
Acquisitions
Acquisitions
Firm acquires another company in a highly related industry

Overcoming entry barriers into:
New product markets product diversification
New international markets geographic diversification
Cross-border acquisitions those made between companies

with headquarters in different country
Cost of new product development and
increased speed to market

Can be used to gain access to new products and to
current products that are new to the firm
Quick approach for entering markets (product and
geographic)

Lower risk compared to developing new
products
Easier to estimate acquisition outcomes versus internal

development
Internal development has a very high failure rate
Increased diversification
Most common mode of diversification when entering new
markets with new products
Hard to internally develop products that differ from
current lines for markets in which a firm lacks experience
The more related the acquisition the higher the chances
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for success

Reshaping firms competitive scope
Can lessen a firms dependence on one or more
products or markets
Learning and developing new capabilities
When you acquire a firm you also acquire any skills and
capabilities that it has
Firms should seek to acquire companies with different
but related and complementary capabilities in order to
build their own knowledge base
Problems in Achieving Acquisition Success

Research suggests
20% of all mergers and acquisitions are successful

60% produce disappointing results
20% are clear failures
Successful acquisitions generally involve
Having a well conceived strategy for selecting the
right target firms
Not paying too high of a price premium
Employing an effective integration process
Retaining target firms human capital
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Integration difficulties
Most important determinant of shareholder value
creation
Culture, financial and control systems, working
relationships
Status of newly acquired firms executives
Inadequate evaluation of target
Due diligence process through which a potential

acquirer evaluates a target firm for acquisition
Can result in paying excessive premium for target
company
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Large or extraordinary debt
Junk bonds: financing option whereby risky acquisitions
are financed with money (debt) that provides a large
potential return to lenders (bondholders)
High debt can negatively effect the firm
Increases the likelihood of bankruptcy
Can lead to a downgrade in a firms credit rating
May preclude needed investment in other activities
that contribute to a firms long-term success
R&D, human resource training, marketing
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Inability to achieve synergy
Synergy: Value created by units exceeds value of units working

independently
Achieved when the two firms' assets are complementary in unique ways
Yields a difficult-to-understand or imitate competitive advantage
Generates gains in shareholder wealth that they could not duplicate or

exceed through their own portfolio diversification decisions
Private synergy: Occurs when the combination and integration of

acquiring and acquired firms' assets yields capabilities and core
competencies that could not be developed by combining and
integrating the assets with any other company
Very difficult to create private synergy
Firms tend to underestimate costs and overestimate synergy
13

Too much diversification
Firms can become overdiversified which can lead to a

decline in performance
Diversified firms must process more information of

greater diversity
Scope created by diversification may cause managers to

rely too much on financial rather than strategic controls
to evaluate performance of business units
Acquisitions may become substitutes for innovation

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Managers overly focused on acquisitions
Necessary activities with an acquisition strategy include
Search for viable acquisition candidates
Complete effective due-diligence processes
Prepare for negotiations
Managing the integration process after the acquisition
Diverts attention from matters necessary for long-term competitive

success (i.e., identifying other activities, interacting with important
external stakeholders, or fixing fundamental internal problems)
A short-term perspective and greater risk aversion can result for

target firm's managers
15

Too large
Larger size may lead to more bureaucratic controls
Bureaucratic controls
Formalized supervisory and behavioral rules and policies designed to
ensure consistency of decisions and actions across different units of a
firm formalized controls decrease flexibility
Formalized controls often lead to relatively rigid and

standardized managerial behavior
Additional costs may exceed the benefits of the

economies of scale and additional market power
Firm may produce less innovation

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Effective Acquisitions (Table 7.1)

Have complementary assets or resources
Friendly acquisitions facilitate integration of firms
Effective due-diligence process (assessment of target firm
by acquirer, such as books, culture, etc.)

Financial slack (cash or a favorable debt position)
Merged firm maintains low to moderate debt position
High debt can
Increase the likelihood of bankruptcy
Lead to a downgrade in the firms credit rating
Emphasis on innovation and R&D activities

Acquiring firm manages change well and is flexible and
adaptable
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Restructuring
Restructuring
A strategy through which a firm changes its set of

businesses or financial structure
Can be the result of
A failed acquisition strategy

The majority of acquisitions do not enhance strategic
competitiveness
1/3 to 1/2 of all acquisitions are divested or spun-off
Changes in a firms internal and external environments

Poor organizational performance
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Restructuring
3 restructuring strategies
Downsizing
Reduction in number of firms employees (and possibly number

of operating units) that may or may not change the composition
of businesses in the company's portfolio
An intentional proactive management strategy
Downscoping
Refers to divesture, spin-off, or some other means of eliminating

businesses that are unrelated to firms core businesses
Strategic refocusing on core businesses
Often includes downsizing
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Restructuring
3 restructuring strategies
Leveraged buyouts (LBOs)
One party buys all of a firm's assets in order to take the firm
private (or no longer trade the firm's shares publicly)
Private equity firm: Firm that facilitates or engages in taking a
public firm private
Three types of LBOs
Management buyouts
Employee buyouts
Whole-firm buyouts
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Chapter 7: Merger and Acquisition Strategies

Why firms use acquisition strategies

Merger and Acquisition Strategies

Merger vs. Acquisition vs. Takeover

Two firms agree to integrate their operations on a

Special type of acquisition strategy wherein the target

Reasons for Acquisitions

Exists when a firm is able to sell its goods or services above

Sources of market power include

Size of the firm

Resources and capabilities to compete in the market

Share of the market

Entails buying a competitor, a supplier, a

Reasons for Acquisitions

Acquirer and acquired companies compete in the same industry

Firm acquires a supplier or distributor of one or more of its goods or

Firm acquires another company in a highly related industry

Reasons for Acquisitions

Cross-border acquisitions those made between companies

Cost of new product development and

increased speed to market

Reasons for Acquisitions

Easier to estimate acquisition outcomes versus internal

Reasons for Acquisitions

Problems in Achieving Acquisition Success

20% of all mergers and acquisitions are successful

Problems in Achieving Acquisition Success

Due diligence process through which a potential

Problems in Achieving Acquisition Success

Problems in Achieving Acquisition Success

Synergy: Value created by units exceeds value of units working

Yields a difficult-to-understand or imitate competitive advantage

Generates gains in shareholder wealth that they could not duplicate or

Private synergy: Occurs when the combination and integration of

Very difficult to create private synergy

Firms tend to underestimate costs and overestimate synergy

Problems in Achieving Acquisition Success

Firms can become overdiversified which can lead to a

Diversified firms must process more information of

Scope created by diversification may cause managers to

Acquisitions may become substitutes for innovation

Problems in Achieving Acquisition Success

Necessary activities with an acquisition strategy include

Search for viable acquisition candidates

Complete effective due-diligence processes

Prepare for negotiations

Managing the integration process after the acquisition

Diverts attention from matters necessary for long-term competitive

A short-term perspective and greater risk aversion can result for

Problems in Achieving Acquisition Success

Larger size may lead to more bureaucratic controls

Formalized controls often lead to relatively rigid and

Additional costs may exceed the benefits of the

Firm may produce less innovation

Effective Acquisitions (Table 7.1)

by acquirer, such as books, culture, etc.)

High debt can

Increase the likelihood of bankruptcy

Lead to a downgrade in the firms credit rating