The global mergers and acquisitions (M&A) market is estimated to reach a transaction value of US$2.41 trillion by 2025. Looking back at the history of M&A in the UK, since 1985, there have been over 103,070 announced M&A transactions totalling nearly £5.7 trillion. In the second quarter of 2024 alone, around 385 deals were reported. These remarkable figures illustrate how vital M&A is in the business world. Dive into this blog for a comprehensive understanding of mergers and acquisitions.
- What are mergers and acquisitions (M&A)?
- How do mergers differ from acquisitions?
- What are the objectives behind mergers and acquisitions?
- Various reasons behind M&A activity
- What are the different types of mergers and acquisitions?
- How do mergers and acquisitions work?
- Impact of M&A
- What are the challenges of mergers and acquisitions?
- Navigate M&A challenges with Financials
- FAQ
What are mergers and acquisitions (M&A)?
Mergers and acquisitions are business transactions through which two or more companies combine and integrate into a single entity. This consolidation can be executed in multiple ways, varying in integration level and form.
Sometimes, it's just subsidiaries or assets that get combined, while in other cases the whole organisation is absorbed. There are specific terms for each scenario, but they all fall under the broad category of M&A activities.
What is a merger?
A merger is a business deal in which wo companies mutually agree to join forces and unite as one legal entity, operating under a single corporate name. This kind of consolidation is more commonly found among companies of similar size, referred to as a merger of equals.
What is an acquisition?
An acquisition can be defined as a business transaction wherein a company (the acquirer) buys most or all of the shares of another company (the target), thereby becoming its new owner. Gaining control of the target company is generally the motive behind acquisitions, and it is possible both parties lack mutual agreement. In some instances, the acquired company has minimal say or knowledge of the acquisition and may resist it. Such scenarios are termed hostile takeovers.
How do mergers differ from acquisitions?
Although both refer to consolidating business entities, there are differences between mergers and acquisitions, particularly in terms of integrations and outcomes. Mergers are generally voluntary agreements, wherein a new company is formed on mutually agreed terms. Both parties dissolve their powers and issue new shares. Acquisitions, in contrast, are typically not mutual, as a larger company buys a smaller one and takes full control. The smaller company usually ceases to exist as an independent entity and operates under the umbrella of the acquirer.
Acquisitions are generally viewed as unfriendly in comparison to mergers, which gives them a negative reputation. To lessen the negativity, companies often mislabel acquisitions as mergers. This overlap in terminology has made 'mergers and acquisitions' a more common and acceptable term.
What are the objectives behind mergers and acquisitions?
Companies undertake mergers and acquisitions to achieve multidimensional goals, be it for strategic expansion, profitability or productivity. Let's look at these core objectives in more depth.
1. Accelerated growth and expansion
An M&A provides a fast track to expansion and growth. Integrating with another business automatically increases the company's market share, customer base, number of assets, and even its overall valuation.
2. Creating and leveraging synergy
The combination of two companies creates synergies that benefit the business in various ways. Cost synergies, realised through economies of scale, are a prime example. Additionally, the new company gains access to valuable resources such as new talent, expertise, vendors, and licenses. These synergies can significantly enhance operational efficiency, increase revenue streams, and boost profitability.
3. Fight competition
Acquisitions effectively eliminate competition by absorbing rival companies, expanding the acquiring company's market share and helping them dominate the market. M&As enable companies to gain complementary strengths, expertise, and resources, positioning them ahead of competitors.
Various reasons behind M&A activity
While growth and development remain the broader objectives, the driving forces behind mergers and acquisitions are rooted in several compelling reasons, including:
1. Enter new markets
Whether entering a new region, country, or an entirely new sector, merging with an established company offers an easier entry point. This approach provides a strong foundation by leveraging existing operations, workforce, and customer base, allowing for seamless integration without starting from scratch.
2. Increase market share
The combined market share of the newly formed company naturally exceeds that of the individual entities prior to their consolidation. Thus, an M&A offers exponential growth in market share and secures a stronger market position.
3. Cost savings
An M&A presents numerous opportunities to reduce costs and streamline resources. By achieving economies of scale, the merged entity can secure better pricing and more favourable terms from suppliers. Redundancies like duplicate departments or facilities can be removed, helping to lower operational costs. Additionally, the sharing of technology, infrastructure, and personnel can result in significant reductions in overhead and daily expenses.
4. Acquire new technology
An M&A transaction can provide easy access to cutting-edge technologies, patents, and research and development capabilities that would be costly or difficult to develop independently, providing a significant competitive advantage. This is especially common in the tech sector, where rapid innovation can create barriers for companies without the necessary technology.
5. Diversification
Whether it’s diversifying product and service offerings or entering new sectors, an M&A provides an easier path with fewer entry barriers. It also enables companies to diversify their asset portfolios. This strategy helps reduce dependence on a single area, spread revenue streams, and mitigate risks.
6. Brand building
Integrating a well-established brand can provide a considerable boost to the acquiring company’s brand value and reputation.
What are the different types of mergers and acquisitions?
There are various ways to determine the different types of mergers and acquisitions. The most basic categories include horizontal, vertical, congeneric, and conglomerate mergers. These are determined by the relationships and industries of the companies involved. By purpose, these transactions may also fall into market extension, product extension, reverse takeovers, Special Purpose Acquisition Company (SPAC) deals, or acqui-hires. Other types include statutory mergers, consolidations, subsidiaries, tender offers, and triangular mergers.
How do mergers and acquisitions work?
The process of executing a merger or acquisition is intricate, with numerous essential steps. Although these steps can slightly differ for both the acquirer and target company, the following outlines the standard M&A procedure.
- The process begins by developing an M&A strategy that outlines the expected outcome and purpose of the deal.
- Next, the acquirer defines the target company and the criteria for selection based on this strategy. Once these criteria are established, potential target companies are identified and evaluated.
- The subsequent step involves starting acquisition planning, where the buyer sends a letter of intent (LOI) to the target company. This letter expresses interest in pursuing the M&A and seeks to obtain more details about the target.
- Following this, a thorough valuation of the target company takes place. All financial information is analysed, weighing the pros and cons to estimate the deal's potential outcome.
- M&A due diligence is conducted next, where every detail of the deal is examined to ensure its legitimacy. This includes a comprehensive analysis of the target company’s financials, operations, customers, workforce, legal documents, assets, and liabilities. Cultural fit and alignment are also assessed.
- After due diligence, an offer is made, and negotiations begin. The details of the deal, including the structure, purchase price, payment methods, and conditions for both parties, are finalised and put into a formal contract.
- Once negotiations are complete, the necessary regulatory approvals are obtained, and the deal is closed with the signing of contracts by all relevant parties.
- After closing, the most crucial phase of M&A begins – post-merger integration. This is when the actual merging of the companies occurs, integrating their operations, systems, teams, and cultures.
Impact of M&A
What is the impact of merger and acquisition on a company?
The company will reap all the advantages of mergers and acquisitions, increasing market share, profitability and even pegged valuation if done in the right way. However, the drawbacks of mergers and acquisitions can be severe if the deal is delayed or fails. The acquiring company may experience substantial changes in capital reserves, stock structure, and debt levels. A failed deal can financially jeopardise the acquirer, especially if the transaction was costly. Delays and failures can severely impact the company’s operations, culture, market reputation, and relationships with stakeholders and customers.
How do mergers and acquisitions impact employees?
Post-merger or acquisition, the hierarchy and structure within the company can change, with some roles and teams becoming redundant. While companies may try to accommodate affected employees in other roles, this is not always possible, and layoffs can occur. As a result, news of an M&A often creates an atmosphere of unrest and low morale. Employees, especially those in the target company, may fear being laid off, which can lead to key talent seeking opportunities elsewhere. Additionally, after an M&A, the combined workforce has to collaborate, which can be challenging. Cultural clashes between the two teams can create frustration and demotivate employees.
What is the impact of merger and acquisition on stakeholders?
As the merger or acquisition closing date nears, the shares of the acquiring firm may witness a dip in value, while the shares of the target company may rise. After the transaction is completed, the stock price typically increases, often exceeding the pre-merger value for both parties. If macroeconomic conditions remain conducive, the parent company is more likely to enjoy good long-term performance and dividends. However, these outcomes are not guaranteed, as market reactions can also lead to opposite results.
Shareholders may experience a dilution of their voting power, with the impact being more significant for those in the smaller company being acquired compared to those in the acquiring company. However, the impact is not predetermined and depends on the intricacies of the deal.
What are the challenges of mergers and acquisitions?
Mergers and acquisitions are complex and can take a long time, sometimes years, to complete. Naturally, the process is fraught with several challenges, including:
Regulatory and legal hurdles
For an M&A transaction to proceed, it must secure clearance from regulatory bodies and meet antitrust and competition law requirements. Delays or complications in this process can slow down or potentially halt the deal. Legal challenges from stakeholders such as shareholders, employees, regulators, and competitors may pose additional risks to the transaction.
Getting the right valuation
Achieving the correct valuation is vital to ensure M&A success. If the target is undervalued, the seller may back out, causing the deal to fall apart. Overvaluation presents an even greater issue, potentially leading to overpayment and diminished ROI, which can undermine the M&A’s objectives and strain both the financial health and market position of the acquiring company.
Overlooked costs
While assessing the financial impact of M&A, companies sometimes fail to consider hidden costs like integration expenses, legal fees, and marketing costs. These overlooked costs can accumulate if the process takes longer than expected, resulting in a much higher financial outlay than initially projected.
Inefficient due diligence
Negligence in due diligence can result in severe consequences such as financial losses, lawsuits, and reputational damage. Misleading financial data, hidden liabilities, unresolved legal issues, or undisclosed business challenges, if not identified in time, can have serious repercussions on the business.
Employee retention
M&A activities can cause a sense of job insecurity, leading to increased attrition among employees. This talent drain can hamper the company's operations and goals, especially when the deal was intended to benefit from the acquired business's ongoing operations.
Culture clash
If the two parties involved fail to assimilate, it can create a hostile work environment where employees feel dissatisfied. This discontent can lower productivity and negatively impact customer service and satisfaction.
Integration challenges
Integration challenges can arise not only with company culture and employees but also in systems, processes, and workflows. Incompatibility in technology and procedures can create gaps, leading to service disruptions and inefficiencies that delay the expected benefits of the M&A.
Navigate M&A challenges with Financials
Whether you're a seller, buyer, or merging on equal grounds, having modern financial management software is incredibly beneficial. Serving as a single source of truth for all financial data, it can streamline many M&A-related tasks, including gathering information for analysis required for valuation, due diligence, and compliance. Financials is one such financial management solution.
With customisable dashboards, powerful analytics tools, and automated reporting, Financials provides accurate, real-time data and in-depth insights to help you make strategic decisions with confidence. The sophisticated budgeting module allows for efficient budgeting, forecasting, and expense tracking, ensuring you maintain control over your financial plans.
Financials seamlessly integrates with a variety of other systems, such as ERP and CRM tools, facilitating smooth post-merger integration without disruptions. It is a scalable tool with robust features that will ensure you are ready, supporting you through your merger and acquisition journey, whenever you choose to pursue it.
FAQ
Why do companies acquire other companies?
Capturing market share, expanding into new markets, diversifying products and services, eliminating competition, leveraging synergies, and achieving expedited growth are key reasons why companies acquire other businesses. Cost reduction, process improvement, and acquiring valuable assets such as licenses, patents, advanced technologies, or unique talent are additional motivations.
What are the benefits of mergers and acquisitions?
The benefits of mergers and acquisitions include expedited growth and market expansion, economies of scale and scope, access to new assets and resources, cost efficiencies and tax savings, enhanced risk management through diversification, improved operational efficiency, and a stronger competitive position.
What are the two sides of M&A?
An M&A primarily involves two sides. The buy-side represents the party interested in purchasing and acquiring a company, while the sell-side represents the company being acquired or sold.
How are mergers and acquisitions valued?
There is more than one way to value mergers and acquisitions. Some common strategies and metrics include comparable company analysis, precedent transaction analysis, discounted cash flow, asset-based valuation, market capitalisation, price-to-earnings ratio, and enterprise value-to-sales ratio. Typically, multiple methods are applied to ensure a fair valuation.
How are mergers and acquisitions financed?
Cash payments, stock swaps or purchases, debt financing, or combinations of these methods are common ways to finance transactions. The selected method depends on the deal structure and the financial condition of the involved companies.
Curious about the impact of Financials? Explore the West Midlands Growth Company’s journey in this insightful case study.