Chapter 7

Merger and Acquisition Strategies

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 11
 Learning Objectives

Studying this chapter should provide you with

the strategic management knowledge needed to:
1. Explain the popularity of merger and acquisition strategies in firms
competing in the global economy.
2. Discuss reasons why firms use an acquisition strategy to achieve
strategic competitiveness.
3. Describe seven problems that work against achieving success when
using an acquisition strategy.
4. Name and describe the attributes of effective acquisitions.
5. Define the restructuring strategy and distinguish among its common
forms.
6. Explain the short- and long-term outcomes of the different types of
restructuring strategies.
2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 72
 Mergers, Acquisitions, and Takeovers:
What are the Differences?

Merger
Two firms agree to integrate their operations
on a relatively co-equal basis.
Acquisition
One firm buys a controlling, or 100%, interest in
another firm with the intent of making the acquired
firm a subsidiary business within its portfolio.
Takeover
An acquisition in which the target firm did not solicit
the acquiring firms bid for outright ownership.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 73
Reasons for Acquisitions and Problems in
Achieving Success

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 74
 Reasons for Acquisitions

Increased
market power
Learning and
Overcoming
developing
entry barriers
new capabilities

Making an Cost of new

Reshaping firms
product
competitive scope Acquisition development

Increased Increase speed

diversification Lower risk than to market
developing new
products

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 75
Acquisitions: Increased Market Power

Factors increase market power when:

there is the ability to sell goods or services above
competitive levels.
costs of primary or support activities are below those
of competitors.
a firms size, resources and capabilities gives it a
superior ability to compete.
Acquisitions intended to increase market power
are subject to:
regulatory review
analysis by financial markets

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 76
Acquisitions: Increased Market Power (contd)

Market power is increased by:

horizontal acquisitions of other firms in
the same industry.
vertical acquisitions of suppliers or
distributors of the acquiring firm.
related acquisitions of firms in related
industries.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 77
 Market Power Acquisitions

Horizontal Acquisition of a firm in the same

Acquisitions industry in which the acquiring firm
competes increases a firms market
power by exploiting:
Cost-based synergies
Revenue-based synergies
Acquisitions with similar characteristics
result in higher performance than those
with dissimilar characteristics.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 78
 Market Power Acquisitions (contd)

Horizontal Acquisition of a supplier or

Acquisitions
distributor of one or more of the
firms goods or services
Vertical
Acquisitions increases a firms market power
by controlling additional parts of
the value chain.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 79
 Market Power Acquisitions (contd)

Horizontal
Acquisitions
Acquisition of a firm in a highly
Vertical related industry
Acquisitions
because of the difficulty in
attaining synergy, related
Related acquisitions are often difficult to
Acquisitions implement.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 710
 Overcoming Entry Barriers

Entry Barriers
Factors associated with the market or with the firms
operating in it that increase the expense and difficulty
for new firms in gaining immediate market access.
Economies of scale
Differentiated products
Cross-Border Acquisitions
Acquisitions made between firms with headquarters in
different countries:
are often made to overcome entry barriers.
can be difficult to negotiate and operate because of the
differences in foreign cultures.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 711
 Cost of New-Product Development
and Increased Speed to Market

Internal development of new products is often

perceived as a high-risk activity.
Acquisitions allow a firm to gain access to new and
current products that are new to the firm.
Returns are more predictable because of the acquired
firms past experience with its products.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 712
 Lower Risk Compared
to Developing New Products

An acquisitions outcomes can be estimated

more easily and accurately than the outcomes
of an internal product development process.
Managers may view acquisitions as lowering risk
associated with internal ventures and R&D
investments.
Acquisitions may discourage or suppress innovation.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 713
 Increased Diversification

Using acquisitions to diversify a firm is the

quickest and easiest way to change its portfolio
of businesses.
Both related diversification and unrelated
diversification strategies can be implemented
through acquisitions.
The more related the acquired firm is to the
acquiring firm, the greater is the probability that
the acquisition will be successful.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 714
 Reshaping the Firms
Competitive Scope

An acquisition can:
reduce the negative effect of an intense rivalry on a
firms financial performance.
reduce a firms dependence on one or more products
or markets.
Reducing a firms dependence on specific
markets alters the firms competitive scope.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 715
 Learning and Developing
New Capabilities

An acquiring firm can gain capabilities that

the firm does not currently possess:
special technological capability
a broader knowledge base
reduced inertia
Firms should acquire other firms with different
but related and complementary capabilities in
order to build their own knowledge base.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 716
 Problems in Achieving
Acquisition Success

Integration
difficulties
Inadequate
Too large
target evaluation

Problems
Managers with
overly focused on Acquisitions Extraordinary debt
acquisitions

Too much Inability to

diversification achieve synergy

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 717
Problems in Achieving Acquisition Success:
Integration Difficulties

Integration challenges include:

melding two disparate corporate cultures.
linking different financial and control systems.
building effective working relationships (particularly
when management styles differ).
resolving problems regarding the status of the newly
acquired firms executives.
loss of key personnel weakens the acquired firms
capabilities and reduces its value.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 718
Problems in Achieving Acquisition Success:
Inadequate Evaluation of Target

Due Diligence
The process of evaluating a target firm for acquisition.
Ineffective due diligence may result in paying an excessive
premium for the target company.

Evaluation requires examining:

financing of the intended transaction.
differences in culture between the firms.
tax consequences of the transaction.
actions necessary to meld the two workforces.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 719
Problems in Achieving Acquisition Success:
Large or Extraordinary Debt

High debt (e.g., junk bonds) can:

increase the likelihood of bankruptcy.
lead to a downgrade of the firms credit rating.
preclude investment in activities that contribute to the
firms long-term success such as:
research and development
human resource training
marketing

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 720
Problems in Achieving Acquisition Success:
Inability to Achieve Synergy

Synergy
When assets are worth more when used in
conjunction with each other than when they are
used separately.
Firms experience transaction costs when they
use acquisition strategies to create synergy.
Firms tend to underestimate indirect costs
when evaluating a potential acquisition.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 721
Problems in Achieving Acquisition Success:
Inability to Achieve Synergy (contd)

Private synergy
When the combination and integration of the
acquiring and acquired firms assets yields
capabilities and core competencies that could not be
developed by combining and integrating either firms
assets with another firm.
Advantage: it is difficult for competitors to
understand and imitate.
Disadvantage: it is also difficult to create.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 722
Problems in Achieving Acquisition Success:
Too Much Diversification

Diversified firms must process more information

of greater diversity.
Increased operational scope created by diversification
may cause managers to rely too much on financial
rather than strategic controls to evaluate business
units performances.
Strategic focus shifts to short-term performance.
Acquisitions may become substitutes for innovation.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 723
Problems in Achieving Acquisition Success:
Managers Overly Focused on Acquisitions

Managers invest substantial time and energy

in acquisition strategies in:
searching for viable acquisition candidates.
completing effective due-diligence processes.
preparing for negotiations.
managing the integration process after
the acquisition is completed.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 724
Problems in Achieving Acquisition Success:
Managers of Target Firms

Managers in target firms:

may begin to operate in a state of virtual suspended
animation during an acquisition.
may become hesitant to make decisions with long-
term consequences until negotiations have been
completed.
may develop a short-term operating perspective and
a greater aversion to risk.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 725
Problems in Achieving Acquisition Success:
Acquiring Firm Becomes Too Large

Additional costs of controls may exceed the

benefits of the economies of scale and
additional market power.
Larger size may lead to more bureaucratic
controls.
Formalized controls often lead to relatively rigid
and standardized managerial behavior.
The firm may produce less innovation.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 726
Problems in Achieving Acquisition Success:
Acquiring Firm Becomes Too Large

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 727
 Effective Acquisition Strategies

Complementary Buying firms with assets that meet

Assets /Resources current needs to build competitiveness.

Friendly Friendly deals make integration go more

Acquisitions smoothly.

Careful Selection Deliberate evaluation and negotiations

Process are more likely to lead to easy
integration and building synergies.

Maintain Financial Provide enough additional financial

Slack resources so that profitable projects
would not be foregone.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 728
 Attributes of Effective Acquisitions

Attributes Results
Low-to-Moderate Debt Merged firm maintains
financial flexibility

Sustained Emphasis Continue to invest in

on Innovation R&D as part of the firms
overall strategy

Flexibility Has experience at

managing change and is
flexible and adaptable

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 729
 Restructuring

A strategy through which a firm changes its set

of businesses or financial structure.
Failure of an acquisition strategy often precedes a
restructuring strategy.
Restructuring may occur because of changes in the
external or internal environments.
Restructuring strategies
Downsizing
Downscoping
Leveraged buyouts

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 730
 Types of Restructuring: Downsizing

A reduction in the number of a firms employees

and sometimes in the number of its operating
units.
May or may not change the composition of
businesses in the firms portfolio.
Typical reasons for downsizing:
Expectation of improved profitability from cost
reductions
Desire or necessity for more efficient operations

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 731
Types of Restructuring: Downscoping

A divestiture, spin-off or other means of

eliminating businesses unrelated to a firms core
businesses.
A set of actions that causes a firm to strategically
refocus on its core businesses.
May be accompanied by downsizing, but not the
elimination of key employees from its primary
businesses.
Results in a smaller firm that can be more effectively
managed by the top management team.

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 732
Restructuring: Leveraged Buyout (LBO)

A restructuring strategy whereby a party buys all

of a firms assets in order to take the firm private.
Significant amounts of debt may be incurred to
finance the buyout, followed by an immediate sale of
non-core assets to pare down debt.
Can correct for managerial mistakes
Managers making decisions that serve their own
interests rather than those of shareholders
Can facilitate entrepreneurial efforts and
strategic growth

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 733
 Restructuring and Outcomes

2017 Cengage Learning. All rights reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 734