Merger & Acquisitions and the Benefit to the Shareholders Value - Assignment Example

Merger & Acquisitions and the Benefit to the Shareholders Value 07, April Merger and Acquisitions (M&A) refers to the restructuring of the corporate world to enlarge the company to boost their profit making based or dividing big companies to ensure that they function efficiently. M&A is a complex exercise that requires detailed analysis of all the parties involved and adherence to corporate governance, legal issues, contractual issues and ensuring that the process gets the required regulatory approval. M&A analysis need the application of valuation to ensure that the exercise lead to increase in the shareholders’ value (Berk &DeMarzo 2011). Merger and Acquisitions includes the target company; this is the company which has attracted attention from the acquiring company. The process of acquisition is sometimes hostile and in other times friendly. Therefore, a hostile takeover is when the board of directors objects to acquisitions of a given company based on their analysis that the process might lead to loss of share value of the shareholders. Moreover, friendly transactions define the acquisition that has been endorsed by the company board of directors as a profitable exercise for the company to engage in (Gaughan 1996). Merger and acquisitions take various forms horizontal merger to the vertical merger and to conglomerate merger. Horizontal merger involves the buyout of the company in the same industry. This is mostly done to a competitor firm that threat to share a large percentage of the bigger company market share and thus reduce their capability of maximizing on profit (Berk &DeMarzo 2011). Therefore, horizontal merger increases the customer base of the acquiring firm and this guarantee that such an adventure will lead to high shareholder value. An example of a horizontal merger is the buyout of Lucasfilm in 2012 by Walt Disney Company. Moreover, the acquiring company engages in vertical merger. This is the acquisition of industries in the same production line ad producer of raw material or customer to the end products. Vertical merger is an essential exercise that ensures that the company controls the supply of its raw material and avoids the disruption that may be compromised by other firms in their pursuit of profit maximization. Vertical integration also serves to ensure that customers are not exploited by other companies that may be involved in the distribution of company products. In this case, the producing company may acquire control over distribution companies to engage with its customers (Standard and Poor’s 2003). In addition, vertical merger is done to unlock hidden value in resources which they acquire in a form that cannot be change. Therefore, to engage in value addition of resources a company may acquire another company that supply it’s with production materials. An example of a vertical merger is the acquisition of Motorola Holding by Google in October 2012(Berk &DeMarzo 2011). Companies also are involved in a conglomerate merger. This is the acquisition of companies that are totally different from the mother company. The companies are unrelated and do not share any line in the production system. The motive that leads to this kind of decision for a company to invest in other businesses is to diversify the investment of capital to other areas which has potential of increasing the income and profit to satisfy the investor with a high return on investment. The main reasons for merger and acquisition are to synergize the company and ensure that its operations are always growing Waldman & Elizabeth 2001). Company engage to make a profit and ensure that there is growth from year one to the next. Through growth, the companies are assured of maintaining its market share and attract more investors and even increases it share of the market. In addition, companies are always competing for the control of the market power and how to increase on it. This is one of the main reasons that dictate horizontal merger. The market leader in a given industry dictates the prices of goods and services and controls the market by positioning the prices that are most favorable to its interests. For this reason, such a merger and acquisition should always lead to increase in the value of the shares of shareholders of a company. Business environment varies from one country to another. Therefore, there are countries or regions that have friendly government policies that support the operation of the business. Company, therefore, acquire firms that are in a favorable environment that facilitate in the growth of the business. Moreover, big company but out small and emerging businesses in areas where the market for a particular product is not exploited. These reasons prompt to cross border merger of companies (Steiner 1975). For example, Coca Cola Company acquires small beverages companies in Africa where other United States competitors have not established their firms. The motive behind the search for favorable conditions and new market to other countries is guided by the company’s vision to increase the capital and profit base, and this ultimately increase the share value of the company. Therefore, Merger and Acquisition should always lead to financial growth of the company shares and not otherwise. Proponent of merger and acquisition argue that the motive of the exercise is to promote efficiency and increase on the wealth of shareholders (Coontz 2004). Another motive why company would be willing to increase the value of shareholders were to make them happy and assured that there investment is growing rather than being stagnant. When shareholders are happy the management and board of directors are ensured the support of shareholders when the company needs an increase in capital base when investing in new companies that do not have enough capital and working capital. Through merger and acquisition capital increases very easily without the difficulties of outsourcing capitals from other financial institution or individuals (Ravenscraft & Scherer). One of the economic theories that explain merger and acquisition are the rational expectations hypothesis. Almost all investor use this theory in determining when and where to invest their finances to reap the most profit out of the investment. The theory argues that investors are always rational about what the future will bring based on today information and happening in the corporate world. Investors base their judgment on the available information of the managements of organizations and companies. Given that investors have full knowledge of the stock prices he or she project the future earning of the stock in case a company engages in a merger (Coontz 2004). Therefore, an increase or decrease in the stock price comes in the event of a merger or acquisition. Therefore, company will be prudent to merge or acquire firms that will lead to positive changes in the stock prices of the company. For this reason, company managements are always keen to engage in businesses that outsmart its competitors in new technology or value addition. When this is done shareholders value do increase from their previous value. Another theory that explains the acquisition and merger are the efficiency theory. The theory explains the reasons for the acquisition of forms that are key in the production process and which their merger or acquisition might lead to decrease the cost of productions (Coontz 2004). Company increases the shareholder value when they merge or acquire firms to boost the economy of scale. An increase in the economies of scale increases the output of the company production for a relatively lower cost (Pindyck 2001). Companies that have an economy of scope efficiently produce voluminous quantity of goods than more than two other firm engaging in the same line of productions and while each firm is producing independently of the other and separately (Pindyck 2001). The monopoly power is also a theory that is behind merger and acquisitions. Monopolies behave like a market leader and operate the business in such a manner that the shareholders’ value keeps on increasing in the short run and also in the long run. Firms are able to maximize the shareholders wealth while there are no competitors in the market. When firms are operating as monopolies, they are confident of pricing their products over and above the marginal revenue curve which would not necessary be if the firm was not a monopoly (Coontz 2004). Company that has successfully enhanced the shareholders wealth has done so by building Business Empires that have defined the company to the future. Therefore, empire building is a motivating factor in merger and acquisitions. In this regards, when a business gets larger its operations costs reduces and the management get more profit that rewards the shareholders. There has been a fierce debate on how merger and acquisition influence the increase in the value of company shares. Some scholar has disputed on the rationality theory arguing that the decision that ought to determine the stock price ought to be guided by empirical data and not rationality as it is the case. Berkovitch & Narayana (1993) argue that shareholders of acquiring firm have nothing to gain while the shareholders of acquired firm gain handsomely when their company is bought by another company and receives a substantial premia for each share held. Berkovitch et al. (1993) also says that given that the acquiring firm needs time for the post-merger to start reaping benefits it cast more doubt on how acquiring company’s shares get hikes to high prices rather than being portrayed in their real value. However, it has been shown that the rise in company share values as a result of the merger come about when the two companies’ shareholders shares and profits are averagely analyzed. The analysis postulate performance of the acquiring company currently and in the future given by the past performance index. Therefore, company that has been making profit and has potential of growth has high value of shares when it merges with other companies (Mueller). This explains why investors and shareholders value always increase when a company merges with another company or when a company acquires the control of a smaller firm. One of the benefits of a good company is growth and all company aim to grow and take charge of the health of the company. Stagnating companies find it difficult to attract high quality and skilled management that can revolutionize industries through research and development and embracement of the cutting edge innovation in technology. Therefore, one of the ways to ensures that industries move from infancy to maturity is through acquisition and merger. Moreover, the company does not expand in its operations only, but also in the values of shares holders and good remuneration to the working employees (Giddy). The size of the company also gives it advantage while competing with other companies. Large companies are able to afford expensive advertising than small companies and increase the customer base that culminates to increased sale and higher profit returns. Merger and Acquisition do not automatically lead to good impact on the share value, but a careful analysis of the cost benefits must be done to make a defined and prudent judgment. Therefore, a prudent acquisition and merger is that which increases the prices of the stock of the buying company (Giddy). However, acquisition is not only ways that companies can grow, but companies can engage in internal expansion of department and programs aimed at expanding the operations of firm’s activities. Conclusion Merger and acquisition have been the habit through which most of the big companies has remained in control of the market share while other has exercised monopoly power of a long period of time. It has been proven through research that merger and acquisition increase the company’s shareholders value because there is increased efficiency, and utilization of scope and economies of scales. References “Standard and Poor’s” 2003, The McGraw-Hill Companies, retrieved 07 April 2014, . Berk, J and DeMarzo 2011, Berk &DeMarzo 2011, Prentice Hall, New Jersey. Coontz, G 2004, Economic Impact of Corporate Mergers and Acquisitions on acquiring Firms Shareholder Wealth, retrieved 07 April 2014, < http://digitalcommons.iwu.edu/cgi/viewcontent.cgi?article=1102&context=parkplace>. Dolbeck, A (ed) 2002, Merger and Acquisition Sourcebook; 2002 Edition. NVST Private Equity Network. Gaughan, P 1996, Mergers, Acquisitions, and Corporate Restructurings, John Wiley & Sons, Inc, New York. Giddy, I, Mergers & Acquisitions: An Introduction, retrieved 07 April 2014, < http://pages.stern.nyu.edu/~igiddy/articles/mergers_intro.htm>. 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