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Introduction to

Mergers, Acquisitions,
& Other Restructuring
If you give a man a fish, you feed
him for a day. If you teach a man
to fish, you feed him
for a life time.

Lao Tze
Course Layout: M&A & Other
Restructuring Activities

Part I: M&A Part II: M&A Part III: M&A Part IV: Deal Part V:
Environment Process Valuation & Structuring & Alternative
Modeling Financing Strategies

Motivations for Business & Public Company Payment & Business

M&A Acquisition Valuation Legal Alliances
Plans Considerations

Regulatory Search through Private Accounting & Divestitures,

Considerations Closing Company Tax Spin-Offs &
Activities Valuation Considerations Carve-Outs

Takeover Tactics M&A Integration Financial Financing Bankruptcy &

and Defenses Modeling Strategies Liquidation

Course Learning Objectives

Define what corporate restructuring is and why it occurs

Identify commonly used valuation techniques
Describe how corporate restructuring creates/destroys value
Identify commonly used takeover tactics and defenses
Develop a highly practical planning based approach to
managing the M&A process
Identify challenges and solutions associated with each phase of
the M&A process
Describe advantages and disadvantages of alternative M&A
deal structures
Describe how to plan, structure, and manage JVs, partnerships,
alliances, licensing arrangements, equity partnerships,
franchises, and minority investments
Current Chapter Learning Objectives
Primary objective: What corporate restructuring is
and why it occurs
Secondary objective: Provide students with an
understanding of
M&A as a form of corporate restructuring
Alternative ways of increasing shareholder value
M&A activity in an historical context
The primary motivations for M&A activity
Key empirical findings
Primary reasons some M&As fail to meet
M&As as a Form of
Corporate Restructuring
Restructuring Activity Potential Strategy
Corporate Restructuring Redeploy Assets
Balance Sheet Mergers, Break-Ups, &
Assets Only Acquisitions,
divestitures, etc.
Financial Restructuring Increase leverage to lower
(liabilities only) cost of capital or as a
takeover defense
Operational Restructuring Divestitures, widespread
employee reduction, or
Alternative Ways of
Increasing Shareholder Value

Solo venture (AKA going it alone or organic growth)

Partnering (Marketing/distribution alliances, JVs,
licensing, franchising, and equity investments)
Mergers and acquisitions
Minority investments in other firms
Asset swaps
Financial restructuring
Operational restructuring
Discussion Questions

1. What factors do you believe are most likely to

impact senior managements selection of one
strategy (e.g., solo venture, M&A) to increase
shareholder value over the alternatives? Be
2. In your opinion, how might the conditions of
the business (e.g., profitability) and the
economy affect the choice the strategy?
Remembering the Past

Those who do not remember the past

are condemned to relive it.
Alexis De Tocqueville
Merger Waves
(Boom Periods)
Horizontal Consolidation (1897-1904)
Increasing Concentration (1916-1929)
The Conglomerate Era (1965-1969)
The Retrenchment Era (1981-1989)
Age of Strategic Megamerger (1992-2000)
Age of Cross Border and Horizontal
Megamergers (2003-2007)
Causes and Significance
of M&A Waves
Factors contributing to merger waves:
Shocks (e.g., technological change, deregulation, and escalating
commodity prices)
Ample liquidity and low cost of capital
Overvaluation of acquirer share prices relative to target share
Why it is important to anticipate M&A waves:
Financial markets reward firms pursuing promising opportunities
early on and penalize those that follow later in the cycle.
Acquisitions made early in the wave often earn substantially
higher financial returns than those made later in the cycle.
Horizontal Consolidation (1897-1904)
Spurred by
Drive for efficiency,
Lax enforcement of antitrust laws
Westward migration, and
Technological change
Resulted in concentration in metals,
transportation, and mining industry
M&A boom ended by 1904 stock market
crash and fraudulent financing
Increasing Concentration (1916-1929)

Spurred by
Entry of U.S. into WWI
Post-war boom
Boom ended with
1929 stock market crash
Passage of Clayton Act which more clearly
defined monopolistic practices
The Conglomerate Era (1965-1969)

Conglomerates buy earnings streams to boost

their share price
Overvalued firms acquired undervalued high
growth firms
Number of high-growth undervalued firms
declined as conglomerates bid up their prices
Higher purchase price for target firms and
increasing leverage of conglomerates brought
era to a close
The Retrenchment Era (1981-1989)

Strategic U.S. buyers and foreign multinationals

dominated first half of decade
Second half dominated by financial buyers
Buyouts often financed by junk bonds
Drexel Burnham provided market liquidity
Era ended with bankruptcy of several large
LBOs and demise of Drexel Burnham
Age of Strategic Megamerger
Dollar volume of transactions reached record in each
year between 1995 and 2000
Purchase prices reached record levels due to
Soaring stock market
Consolidation in many industries
Technological innovation
Benign antitrust policies
Period ended with the collapse in global stock markets
and worldwide recession
Age of Cross Border and
Horizontal Megamergers (2003 2007)
Average merger larger than in 1980s and 1990s, mostly
horizontal, and cross border
Concentrated in banking, telecommunications, utilities,
healthcare, and commodities (e.g., oil, gas, and metals)
Spurred by
Continued globalization to achieve economies of
scale and scope;
Ongoing deregulation;
Low interest rates;
Increasing equity prices, and
Expectations of continued high commodity prices
Period ended with global credit market meltdown and
2008-2009 recession
Debt Financed 2003-2007 M&A Boom

Low Interest Foreign

Rates & Declining Banks & Investors
Investment Banks: Hedge Funds
Risk Aversion Buy Highest
Repackage & Create:
Drive Increasing Rated Debt
Underwrite --Collateralized
--Mortgage Debt Obligations
Mortgage Lending
Backed (CDOs)
--LBO Financing & Hedge
--High Yield --Collateralized
Other Highly Funds
Bonds Loan Obligations
Leveraged Buy Lower
Transactions CLOs)
Rated debt

Investment Banks Lend to Hedge Funds

Similarities and Differences
Among Merger Waves
Occurred during periods of sustained high economic
Low or declining interest rates
Rising stock market
Emergence of new technology (e.g., railroads,
Industry focus
Type of transaction (e.g., horizontal, vertical,
conglomerate, strategic, or financial)
Discussion Questions

1. What can senior management learn by

studying historical merger waves?
2. What can government policy makers learn by
studying historical merger waves?
3. What can investors learn by studying historical
merger waves?
Motivations for M&A
Strategic realignment
Technological change
Economies of scale/scope
Diversification (Related/Unrelated)
Financial considerations
Acquirer believes target is undervalued
Booming stock market
Falling interest rates
Market power
Tax considerations
Illustrating Economies of Scale
Period 1: Firm A (Pre-merger) Period 2: Firm A (Post-merger)

Assumptions: Assumptions:
Price = $4 per unit of output sold Firm A acquires Firm B which is producing
Variable costs = $2.75 per unit of output 500,000 units of the same product per year
Fixed costs = $1,000,000 Firm A closes Firm Bs plant and transfers
Firm A is producing 1,000,000 units of output per production to Firm As plant
year Price = $4 per unit of output sold
Firm A is producing at 50% of plant capacity Variable costs = $2.75 per unit of output
Fixed costs = $1,000,000

Profit = price x quantity variable costs Profit = price x quantity variable costs
fixed costs fixed costs
= $4 x 1,000,000 - $2.75 x 1,000,000 = $4 x 1,500,000 - $2.75 x 1,500,000
- $1,000,000 - $1,000,000
= $250,000 = $6,000,000 - $4,125,000 - $1,000,000
= $875,000

Profit margin (%)1 = $250,000 / $4,000,000 = 6.25% Profit margin (%)2 = $875,000 / $6,000,000 = 14.58%
Fixed costs per unit = $1,000,000/1,000,000 = $1 Fixed costs per unit = $1,000,000/1.500,000 = $.67

Key Point: Profit margin improvement is due to spreading fixed costs over more units of output.
1Margin per $ of revenue = $4.00 - $2.75 - $1.00 = $.25
2Margin per $ of revenue = $4.00 - $2.75 - $.67 = $.58
Illustrating Economies of Scope
Pre-Merger: Post-Merger:

Firm As data processing center Firm As and Firm Bs data

supports 5 manufacturing facilities processing centers are combined
into a single operation to support
Firm Bs data processing center all 8 manufacturing facilities
supports 3 manufacturing facilities By combining the centers, Firm A
is able to achieve the following
annual pre-tax savings:
Direct labor costs = $840,000.
Telecommunication expenses
= $275,000
Leased space expenses =
General & administrative
expenses = $230,000

Key Point: Cost savings due to expanding the scope of a single center to
support all 8 manufacturing facilities of the combined firms.
Empirical Findings
Around transaction announcement date, abnormal returns average

20% for target shareholders in friendly transactions; 30-35% in

hostile transactions
Bidders shareholders on average earn zero to slightly negative

Positive abnormal returns to bidders often are situational and

include the following:
Target is a private firm or a subsidiary of another firm
The acquirer is relatively small
The target is small relative to the acquirer
Cash rather than equity is used to finance the transaction
Transaction occurs early in the M&A cycle

No evidence that alternative strategies (e.g., solo ventures,

alliances) to M&As are likely to be more successful
Primary Reasons Some M&As Fail to
Meet Expectations

Overpayment due to over-estimating


Slow pace of integration

Poor strategy
Discussion Questions
1. Discuss whether you believe current conditions
in the U.S. and global markets are conducive
to high levels of M&A activity? Be specific.
2. Of the factors potentially contributing to current
conditions, which do you consider most
important and why?
3. Speculate about what you believe will happen
to the number of M&As over the next several
years in the U.S.? Globally? Defend your
Application: Xerox Buys ACS
In late 2009, Xerox, traditionally an office equipment manufacturer, acquired Affiliated
Computer Systems (ACS) for $6.4 billion. With annual sales of about $6.5 billion, ACS
handles paper-based tasks such as billing and claims processing for governments and
private companies. With about one-fourth of ACS revenue derived from the healthcare and
government sectors through long-term contracts, the acquisition gives Xerox a greater
penetration into markets which should benefit from the 2009 government stimulus
spending and 2010 healthcare legislation. There is little customer overlap between the two
Previous Xerox efforts to move beyond selling printers, copiers, and supplies and into
services achieved limited success due largely to poor management execution. While some
progress in shifting away from the firms dependence on printers and copier sales was
evident, the pace was far too slow. Xerox was looking for a way to accelerate transitioning
from a product driven company to one whose revenues were more dependent on the
delivery of business services.
More than two-thirds of ACS revenue comes from the operation of client back office
operations such as accounting, human resources, claims management, and other
outsourcing services, with the rest coming from providing technology consulting services.
ACS would also triple Xeroxs service revenues to $10 billion. Xerox chose to run ACS as a
separate standalone business.

Discussion Questions:
1. What alternatives to a merger do you think they could have considered?
2. Why do you think they chose a merger strategy? (Hint: Consider the
advantages and disadvantages of alternative implementation strategies.)
3. How are Xerox and ACS similar and how are they different? In what way will their
similarities and differences help or hurt the long-term success of the merger?
4. How might the decision to manage ACS as a separate business affect realizing the full
value of the transaction?
Things to Remember
Motivations for acquisitions:
Strategic realignment
Financial considerations
Common reasons M&As fail to meet expectations
Overpayment due to overestimating synergy
Slow pace of integration
Poor strategy
M&As typically reward target shareholders far more than bidder
Success rate of M&A not significantly different from alternative ways
of increasing shareholder value