Motives and Effects of Mergers And Acquisitions

INTRODUCTION

Background

Mergers and Acquisitions have gained substantial importance in today’s corporate world. This process is extensively used for restructuring the business organizations. Some well known financial organizations also took the necessary initiatives to restructure the corporate sector of India by adopting the mergers and acquisitions policies. The Indian economic reform since 1991 has opened up a whole lot of challenges both in the domestic and international spheres. The increased competition in the global market has prompted the Indian companies to go for mergers and acquisitions as an important strategic choice. The trends of mergers and acquisitions in India have changed over the years. The immediate effects of the mergers and acquisitions have also been diverse across the various sectors of the Indian economy.

The Indian Economy has been growing at the fast rate and emerging as the most promising economy in the world. Be it in IT, R&D, pharmaceutical, infrastructure, energy, consumer retail, telecom, financial services, media, and hospitality etc, there has been a sign of promising boom in the Indian economy. It is the second fastest growing economy in the world with GDP touching 8.9 % in 2010. Investors, big companies, industrial houses view Indian market in a growing and proliferating phase, whereby returns on capital and the shareholder returns are high. Both the inbound and outbound mergers and acquisitions have increased dramatically. According to Investment bankers, Merger & Acquisition (M&A) deals in India will cross $100 billion this year, which is double last year’s level and quadruple of 2005.

India’s merger and acquisitions deal value in year 2010 reached almost US $50 billion which is three times of the deal value last year 2009. There were M&A deals worth about $16 billion in 2009, down from close to US $40 billion in 2008.

Definitions

Mergers

Mergers or amalgamation is combination of two or more companies to form as a single new company. In this process no fresh investment is made, however an exchange of shares takes place between the entities. In simple terms, a merger involves the mutual decision of two companies to combine and become one entity. Generally, merger is done between the two entities having similar size.

Varieties of Mergers 

Mergers can be of various types. But there are 5 main mergers varieties which are valued most in the corporate world. 

Horizontal merger – Two companies that are in direct competition and share the same product lines and markets. 

Vertical merger – Two companies which are in the Value Chain.

Market-extension merger – Two companies having same product but different target market.

Product-extension merger – Two companies selling different but related products in the same market. 

Conglomeration – Two companies with unrelated business/ industry. 

Acquisitions 

Acquisition means buying the ownership of one company by another company, often as the part of the growth strategy. Unlike in merger, acquisition is generally done by a large company to a small one. Acquisitions can be either friendly or hostile. Like mergers, acquisitions are actions through which companies seek economies of scale, efficiencies and enhanced market visibility. Acquisition is done either in cash or acquiring the stock of the target company or both.

Distinction between Mergers and Acquisitions 

Mergers and Acquisitions are often uttered as one and the same and considered to have the same meaning. But the terms merger and acquisition are two different term meaning. 

When one company takes over another independent company and clearly established itself as the new owner, the purchase is called an acquisition. From a legal point of view, the target company ceases to exist and the buyer or the acquirer possesses the full control of the business and the buyer’s stock continues to be traded, then it is acquisition. 

Regardless of the type of the strategic alliance they all have one purpose in common. They are all meant to create synergy that makes the value of the combined companies greater than the sum of the two parts.

Synergy

Synergy is the force that is obtained when two or more components meet together to produces an exceptional result which when done solely cannot be achieved. In a business synergy takes the form of enhanced performance, increased profitability and exceptional cost reduction. By merging, the companies hope to benefit from the following: 

• Staff reductions
• Economies of scale 
• Acquiring new technology
• Improved market reach and industry visibility

Importance of the study

When a company wants to expand, there are various ways its can do. They can achieve the growth either by capturing the market share or by growing through strategic alliances. The main objective of the merger or acquisition is to achieve growth and synergy, economies of scale and capture or expand the market share.

Buzz of merger and acquisition often creates hype in the financial market about the acquirer’s stock price. While most empirical research on merger focus on daily stock return surrounding announcement date, a few studies also look at long term performance of term performance of acquiring firm after merger. [1] Not only that, the performance of the company as a whole is also a matter of question mark. Will the company be able to perform better than it is doing or not?

Problem Statement

Many firm prior to merger and acquisition have an expectation to create a synergy from merger and acquisition. The main motive behind M&A is to create efficiencies in the business and expansion of the business. But they most of the time ignore the fact that the effect of merger and acquisition has direct correlation with the value of the acquirers company and the stock price. The other problem that is to be considered is the financial risk associated with the M&A.

Research Objective

The objective of this study is to gain the deeper and clear knowledge of the merger and acquisition on the acquiring firm. It also aims at the financial risk that a company may face post merger/ acquisition asa well as the long term performance of the acquirer. The objectives are as follows:

• To examine the effect of EPS myopia on the return of acquiring firms in mergers.
• Evaluate the effect on the stock price of the acquiring company post merger and acquisition.
• Critically evaluating if the shareholders of the acquiring companies experience wealth effect as a result of M&A.
• The expected long term performance of the acquiring firm.
• Study of the financial risk pertaining to the merger and acquisition.

Research Question

What is the motive behind Merger and Acquisition?

What is the effect on the stock price of the acquirer pre and post M&A?

Does the buzz create the bubble effect on the market or is it long lasting?

What is the wealth effect of the acquirer firm post and pre M&A?

What is the trend of M&A in Indian market?

Drivers of M&A in India

What are the effects of M&A to the competitors?

Effect of the tax to the government post merger and acquisition.

Limitations of the Study

No proper information on the companies is found except for their Balance Sheet and Income Statement.

This study is based on secondary database, so errors in the data could affect the results of the study.

External factors such as economic conditions, regulatory changes etc are not taken into consideration.

An overview of the Study

This dissertation is divided into five chapters. The first chapter deals with the background information, problem statement, objective of the study, importance of study, research question & limitation of the study.

The second chapter deals with literature review. This chapter indicates the theoretical framework of the valuation method of Merger and Acquisition. It shows the detail description of the past research that has been done on the topic and discusses the outcome of the study.

The third chapter deals with the research methodology of the dissertation. It deals with the Research method used for the data and information collection. It includes sample selection/design procedure, data collection and data analysis tools used in the dissertation. In this part assumptions had been made where there is lack of appropriate data and information.

The fourth chapter deals with analysis and interpretation of the financial data that are used to achieve the objectives of the dissertation. This section mainly deals with the findings from the study and also focuses on the analysis and its results.

The fifth and the last chapter of this dissertation present the findings of the study, recommendation of the study to the investors, financial managers & regulators. It also concludes the suggestions for future research.