Principles of Corporate Finance - To Merge or Not to Merge - Literature review Example

To Merge or Not to Merge Introduction Brealey and Myers (2003, p.4) reveal that mergers have been on a dramatic increase over the past few years. Therise has been attributed mainly to the globalization of companies, most of which have found mergers as the best option of penetrating the international markets. In fact, currently, a day hardly passes without a newspaper headline reporting a merger between two or more companies according to Bruner (2004, p.14). This is understandable because globalization has become the business norm particularly for companies that want to gain competitive advantage. A.T. Kearney noted that, despite the fact that mergers and acquisitions (M&A) activities having been associated with industrialized nations, the paradigm shift is taking effect (Kearney 2008, p.1). In this regard, Bruner (2004, p.21) reveals that as from 2002, merger deals between developed and third world countries have grown by 19 percent annually, which is far in excess of industrial average. This rate is also a clear indication that mergers are no longer a globalization strategy for developed countries only rather for developing countries, as well. The research found out that companies from third world countries such as China, India, Russia, Malaysia, South Africa, and the United Arab Emirates are seeking mergers with well-established companies in developed nations at an alarming rate. Kearney (2008, p.1) reveals that of the 2,168 mergers and acquisitions that were registered in 2007, 421-which accounts for about 20% were driven by firms from third world countries. The research also found that the trend is growing at the rate of 26 percent per annum. Research by Kearney (2008) found out that India is leading in cross-border mergers and acquisitions followed closely by Malaysia. This is attributed to the fact that the government of these two countries provides substantial tax incentives to companies to engage in high-tech business deals and enhance export. In contrast, Chinese companies have shied off M&A deals because of political interferences according to Wolff (2008, p.91). However, since China is developing very first, many companies from developed countries are seeking mergers with its domestic companies, with findings showing that at least one of every four cross-border transaction involves merger according to Harrington (2004, p.21). Nevertheless, research indicates that the U.S. companies lead in the acquisition and acquired. This dramatic increase in merger between companies as a globalization strategy has taken many people by surprising leaving many companies, which have not made such a move wondering whether to merge or not to merge (Hoover 2000). This is because pundits have given varied opinions regarding mergers as a market penetration strategy. For instance, AT Kearney argues that global level mega-mergers are inevitable as part of the cycle of consolidation and concentration in globalising industries where firms seek to gain leverage and accelerate their presence. Ghemawat & Ghadar (2000, p.65), on the other hand, had a different view claiming that business leaders need to look away from mergers and be more innovative in their approach to international business. This paper will evaluate the arguments of the pro-merger and anti-merger school of thoughts. It will conclude with my personal position regarding whether mega-merger is a good or bad policy to pursue in international practice. Pro-merger school of thought To begin with, the business environment has become very competitive, and many companies today seek to globalize their processes in order to beat the competition. In fact, many big corporations today have a global presence with those that have not gone global planning to do so as noted by McGarvey (1997). However, as earlier indicated, mergers have been on the rise over the last few year as the most preferred internationalization strategy. A.T Kearney (2008, p.1) in his school of thought argued that mega-mergers is inevitable as firms seek to leverage and become competitive. This school of thought has been based on a number of advantages associated with mega-mergers. In this regard, Riley (2012) reveals that obtaining loans and credit from bans today is a major challenge to many companies. This is because of the economic recessions that have affected many countries following the recent financial crisis and sovereign-debt crisis in most countries in the world. For instance, a report by DePamphilis (D 2011, p. 16) showed that bank lending to small businesses dropped by $15 billion in the first quarter of the year 2011. As a result, the pro-merger school of thought suggests that mega-merger can make a firm more valuable, making it easy for firms with difficulties obtaining funding easy. Richard Levychin, a certified public accountant, and partner at KBL argue that the success of merger can be obtained using the formula 1 +1 = 3, 4 or 5 (Sherman 1997, p.17). As a result, the pro-merger school of thought concludes that mega-mergers are good for firms because it increases business revenues while reducing redundancies and overheads. This enables a company to attract additional capital resulting in an increase, in the shareholders equity in the company. The pro-merger school of thought also argues that mergers are the best strategies to adopt especially to companies trying to globalize. This is because it provides a chance to increase the company’s market share and expand into new markets. In this regard, Gitman and McDaniel (2008, p.41) noted that some countries tend to have tuff laws regarding foreign investors and only requires foreign companies to the merger with the local companies in order to be allowed to operate. India, for instance, is one of the countries where there are strict laws regarding international companies and the best way to invest in the Indian market is to seek a merger with a well established local company, otherwise the business may not be allowed to do business in the Indian market (Brealey and Myers (2003, p.15). This is not only applicable in India; there are several countries in the world with very strict laws on foreign companies making the merger the best market penetration in such markets. It is for this reason that the pro-merger school of thought has argued that a merger is inevitable is the current business environment. Pro-merger school of thought also argues that merging firms is good for today’s companies because it brings a team of experts together who bring their management, vision, and skills to the table. Sharing of visions from a team of experts helps in driving the merged companies to prosperity (Layne 2007, p.99). An example can be seen with two US-Based companies Corey Kupfer and Brian Hamburger that has gained a lot because of their merger. Layne (2007, p.99) notes that a merger between the two law firms led to the creation of one law firm called Hamburger Law Firm, LLC. The company has since emerged as one of the most successful law firms in the U.S. because the merger brought a team of experts from both companies that helped in propelling the company through shared visions and values. In this regard, a merger, according to the pro-merger school of thought is like a partnership that prospers because of the ongoing synergy of the team members. The pro-mergers also argue that mergers enable a business to gain economies of scale, which is important for any company. This school of thought claims that when two or more companies merge, this enables the new company formed to produce in large quantities due to increased production capacity created by merging the companies according to Brealey and Myers (2003, p.17). This, in turn, has the effect of lowering the cost of production thereby enabling the newly formed firm to realized increased profit. At the same time, the school of thought also claim that, since mergers results in increased efficiency due to the fact that it brings a team of experts, this enables the merged companies to beat the competition through increased efficiency brought about by expertise according to Brealey and Myers (2003, p.17). Pro-merger school of thought have also argued for mergers on the ground that mergers between two or more companies has the potential of creating innovation in the manufacturing, design, distribution and research and development. The enhancement of product quality has the effect of attracting more customers in the business thereby resulting in increased sales and profits. Mergers also give companies that opportunity to increase their service lines, which is good for growth and prosperity. For instance, Finkelstein and Cooper (2010, p74) noted that, before the merger of EBS Worldwide, the company used to offer only two service lines. However, its service lines soon increased to five upon merging with other companies. This has increased the company’s out puts and customer base in its areas of operations. Mergers according to pro-merger school of thought are a good strategy for companies because it aims at creating more satisfied customers, which is good for a company’s growth and success. In this regard, Finkelstein and Cooper (2010, p74) argues that the first step of a merger is usually the combination of customer list followed by the assessment of how the merged companies build deep relationships with its customers by passing the benefits that resulted from the merger. In addition, the facts that a merger brings a team of experts’ leads to better services that result in customer satisfaction. Customer satisfaction is important because it results in customer loyalty and increased sales thus profit (Finkelstein and Cooper 2010, p75). In addition, it enables the merged companies to gain new customers through better services, which explains why companies are very keen on mergers and acquisitions today. Finally, the pro-merger school of thought claims that mergers have proved to be a good strategy for acquiring new assets. In this regard, Finkelstein and Cooper (2010, p78) argues that many companies without enough assets may easily acquire the assets it needs by identifying a company with the needed assets by seeking mergers with such companies. The pro-merger school of thought argues that this is beneficial for companies because it eliminates the burden of having to look for funds to acquire the assets, which may be too expensive (Finkelstein and Cooper 2010, p78). In fact, findings shows that many companies have merged with others in the past have been able to acquire assets, which they did not have at their disposal before, thereby enabling these companies to improve their services, and production capacity thus profits. Anti-merger schools thought Despite the high rush for mergers among companies as being witnessed in the business world today, others are opposed to such a move as evidenced by the Ghemawat & Ghadar (2000) suggestion that business leaders need to look away from mergers and be more innovative in their approach to international business. Their opposition to mergers is based on a number of claims one among them being that mergers result in diseconomies of scale which is dangerous for any business (Carney 2009, p.61). In this regard, this school of thought claim that mergers though meant to achieve economies of scale, the economies of scale sometimes fail to be achieved resulting in diseconomies of scale in which the cost of production per unit increases due to increased cost of coordinating operations according to Carney (2009, p.61). This usually makes merged companies incur losses resulting in liquidity problems. This was the scenario in a merger between Harsco Corp. and MultiServe International, which reportedly failed because of diseconomies of scale created from the merger (Ireland, Hitt, and Vaidyanath 2002, p.414). The anti-merger school of thought has also argued against the move by companies to merge claiming that it results in a clash of cultures, which is a dangerous strategy for a company to pursue. This school of thought claims that when two or more firms merge, the merger is more than just coming together as it may appear to be, rather it is a merger of individuals who bring along precise corporate cultures to the new company formed according to Oxelman, Scott and Stohm (2008, p.44). However, since most corporate cultures differ from one organization to another, conflict of cultures do arise, which may not be healthy for business. The anti-merger school of thought claims that a clash of corporate culture brought about by mergers may lead to business failure due to the internal wrangles that may result from the corporate cultural antagonism according to Gaughan (2005, p.13). Finally, the anti-merger school of thought has argued that mergers tend to result in the layoff of employees according to Kilpatrick (2000). In this regard, this school of thought claims that when two or more companies merge for a common cause, most offices also are merged thereby forcing the companies that merge to layoff some workers. However, as much as such a move may appear inevitable it disadvantages the employees whose services end up being terminated prematurely (Gaughan 2005, p.13). However, because many countries today still suffer from recession caused by the recent financial crisis, laying off more workers is not good for many economies that still struggle to recover and create jobs for its population. Conclusion The business world has become very competitive, and companies are looking at every little opportunity to beat the high competition posed by the evolving companies. Internationalization has emerged as one of the most preferred strategy for many companies seeking to beat the stiff competition in home countries. At the same time, some companies pursue other strategies other than globalization as a means of remaining competitive within their home country. This is what has led to the dramatic increase in mergers among different countries. However, despite there being divergent views regarding mergers as a business strategy, I am convinced that mega-mergers of companies are a good policy to undertake in international business. This is based on the numerous advantages associated with the policy as earlier indicated such as achieving economies of scale, elimination of competition, acquiring new markets, and increasing financial growth. Other reasons why mergers are a good policy include the fact that it enables a company to acquire with ease new assets, which could have otherwise proved difficult to acquire in case a company has to acquire them on its own. It is an acknowledged fact that there may be some shortcomings of mergers as pointed out by the anti-merger school of thought. However, in overall, it is undeniable that the benefits outweigh the shortcomings, making it one of the best policies for companies particularly now when companies are struggling to remain competitive. References Brealey, R.A., & Myers, S.C 2003, Principles of corporate finance (7th edn). Boston, MA: McGraw-Hill/Irwin. Bruner, R.F 2004, Applied mergers, and acquisitions. Hoboken, NJ: John Wiley & Sons. Carney W. J 2009, Mergers and acquisitions. London: Aspen Publishers Online. DePamphilis, D 2011, Mergers, acquisitions, and other restructuring activities: an integrated approach to process, tools, cases, and solutions (7th edn). 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