According to Statista, the global transaction value of Mergers and Acquisitions (M&A) surpassed 3 trillion US dollars last year. In the US alone, more than 20,000 M&A deals occurred in 2022. Therefore, you can never overlook the popularity, effect, and buzz of M&A activities.
Take, for instance, the acquisitions of Twitter by Elon Musk and Instagram by Facebook. They grabbed all the media’s top headlines. But how do these M&A deals take place? What motivates these M&A transactions? Let’s dig deep into the M&A space.
What are Mergers and Acquisitions?
A merger or acquisition is a process where two entities combine to form one entity. Usually, many people use the two words interchangeably. However, they do not necessarily mean the same thing. They are a few notable differences between the two.
A merger occurs when two companies agree to combine and form a new entity. The old entities cease to exist, and a new company is born. Merging companies are usually of the same size and power. Hence, sometimes this amalgamation is also referred to as a merger of equals. Exxon Corp. and Mobil Corp. union is a perfect example of such a merger case. The two companies ranked first and second on the top oil producers list in the US before they merged to form Exxon Mobil.
On the other hand, an acquisition occurs when one company buys another company. The buyer (acquirer) takes control of the target (seller). Hence, the target ceases to exist as a separate entity. An acquisition usually involves a big firm buying more than 50% shares of a small firm. One of the most notable acquisitions in 2023 is Elon Musk’s complete takeover of Twitter.
An Acquisition can be:
· Friendly: In a friendly takeover, the acquirer submits an acquisition letter to the board of directors. The letter demonstrates buyer’s intention to purchase the target.
· Hostile: A hostile takeover occurs when the acquirer forcefully acquires the target without the consent of the board of directors. This often happens when the board has rejected the acquisition (offer) letter.
What are the Driving Forces of M&As?
Various factors drive M&A transactions. These include:
I. Growth
Most companies that engage in mergers and acquisitions often seek higher growth and expansion. M&A’s are seen as the perfect way to increase revenue and expand operations across an industry or a sector.
II. Diversification
Lately, giant corporations are moving into new industries other than their specialization. For example, a company in the food industry may expand into banking or e-commerce industry. Such a shift is driven by the need for diversification. Companies want to reduce risk and generate new sources of revenue. But how do companies achieve easy transition into a new sector? The answer is simple: Acquisitions.
By acquiring another company, a company can quickly expand to a new industry. Buying a thriving business is much easier than growing a new one from the ground. For example, Amazon acquired Whole Food Markets to enter the food market. Well, they are doing well. Despite the rocky start to their marriage, they have opened more than 60 new stores past acquisition. Besides, they are planning to open new stores in new regions.
III. Elimination or Reduction of Competition
A firm can opt for a merger or acquisition to minimize or eliminate competition. This is very common among companies that operate within the same industry.
For example, consider Facebook’s acquisition of Instagram in 2012. Instagram was growing fast and capturing millions of social media users and posed a threat to Facebook. In a counter-offensive move, Facebook acquired Instagram to eliminate the emerging threat.
On the other hand, the Exxon-Mobil merger sought to reduce competition within the oil market. The two leading oil producers wished to grabbed more market share and establish market dominance.
IV. Economies of Scale
Huge companies reap massive economies of scale through their vast and diversified operations. The pie becomes even much larger when two companies combine through a merger or acquisition.
For example, assume a merger between two clothing businesses with distribution stores nationwide. After joining forces, they will have more stores serving customers which lead to more sales.
V. Access to New Geographical Regions or Markets
Some companies use mergers & acquisitions to penetrate a new market or geography. Through an M&A, a firm can grow distribution networks or expand into a new area.
For example, consider a European beverage company seeking a market in Africa. At a minimum, they will have to establish new processing plants, find new places to source raw materials and develop new distribution networks. However, by merging with an African-based beverage firm, they will have access to already established processing plants and distribution networks. Hence, it will be easy to grow their operations across the continent.
Heineken has done the same thing this year. In April, they announced the acquisition of Distell Group Holdings and Namibia Breweries Ltd. The move was meant to capture the Southern African market.
What are the Different Types / Methods of Mergers & Acquisitions?
1) Horizontal
A horizontal merger or acquisition occurs when two firms in the same industry come together. Such companies may be offering similar products or services. Facebook’s acquisition of WhatsApp and Instagram is a good example of horizontal acquisition. On the other hand, Exon and Mobil Corp. combination is a horizontal merger.
2) Vertical
A vertical acquisition or merger involves a combination of the two firms operating at different supply chain stages or production processes. For example, a textile firm may acquire or merge with a factory that supplies them with cotton fibres.
3) Conglomerate
When two companies in different business lines combine, we call it a conglomerate merger or acquisition. In this type of M&A, the merging companies serve different customers and operate within different industries. Conglomerate M&A deals aim at achieving diversification.
4) Congeneric
This type of M&A involves amalgamating two companies with the same customer base but offering different products or services. Often, the merging companies have overlapping areas of interest, such as technology, processes, research and development. A good example of a congeneric deal is Google’s acquisition of Android in 2005.
Final Insights
A firm that is considering a merger or acquisition must think ahead. Some questions worth reflecting on before entering in an M&A deal include: What do we want to achieve through the M&A deal? Do we want to reduce competition or diversify our operations? Are we targeting a new customer base or just wish to expand our economies of scale? Such questions will help the company come up with sound M&A goals and strategies.
