Dabbl Finance School

Mergers & Acquisitions. What are they?

April 7, 2017

Mergers and acquisitions – How they work, and the purpose they serve.

We have seen a lot of ‘M&A chatter’ in the market in recent weeks, with companies looking to be snapped up or merged  with big, umbrellas.

So, why would one company look at merging with another?

This can be for a variety of reasons, including reducing costs, expanding the markets they operate in or picking up the rights to a prestigious brand. When companies combine, there are two key routes they can pursue.

A merger sees two existing companies come together, typically under a new name and often in a very amicable manner. The tie up between fund management giants Aberdeen and Standard Life would be a good, recent example of this.

Acquisitions see one company buy another. These tend to be a little more hostile, with the bidding company looking to consume the company that’s up for grabs. This can of course mean that the company’s structure and the jobs within it are at risk. This does however tempt existing shareholders with an attractive offer. It’s name and any brand values would likely disappear, with the recent proposed bid for Unilever by Kraft Heinz – which didn’t complete – being seen as a typical illustration.

Mergers, Acquisitions & the Stock Market

The two options tend to create very different reactions for the share prices of the respective firms.

In a textbook example of a merger, two companies coming together should mean the share price stays at the same value. Say you own 10% of the shares in a company worth £1 million and this merges with another company also worth £1 million, after the merger you will own 5% of the combined company. (A smaller slice of a much bigger pie). The share prices are unlikely to move much as a result of the merger itself, although the subsequent savings of cost or expanded product reach may deliver some gains either immediately or in the years to come.

As mentioned above,the acquisition route tends to be more hostile, with the bidding company well aware that their shareholders stand to benefit if the deal is successful. They will be prepared to pay a premium for the deal to complete as they believe either the company being bought is currently undervalued, or that they can do a better job at growing it.

Regulation

Mergers and acquisitions can be rejected by regulators for a number of reasons, but most typically this will be the risk that the combined business presents too dominant a market position. In the UK, the government run Competition and Mergers Authority (CMA). Their responsibility is to investigate mergers that could restrict competition, meaning consumers risk higher prices and less options. Put it this way, if Tesco and Sainsbury’s were to suggest a tie up, the CMA would be very keen to take a look!

There are also laws laid down that can be used to block a merger or acquisition, if the tie up is going to affect financial stability or national security. An attempt from overseas to buy out BAE Systems would likely fail.