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Mergers and Acquisitions as a Way to Raise Capital Comments

John Gazy   |   March 29, 2008
The raising of capital is one of the critical activities a company must do well to succeed. Research and development of a new product, building a new plant or gaining new market share all require additional capital. There are a number of ways a company can raise capital. The most common one is the process called public offering. A company offers its stocks, bonds or other securities to the general public. The raising of capital is also a huge driving force behind the other two transactions called mergers and acquisitions.

Merger and Acquisition (M&A;) is a general term referring to the consolidation of two companies. A merger occurs when two corporations joins together into one, with one corporation surviving and the other disappearing.
Acquisition is the process of getting control over another corporation by purchasing all or a majority of its outstanding shares, or by purchasing its assets.

There are several types of mergers:

  • Horizontal merger occurs between two companies that are in direct competition and share the same product lines and markets.
  • Vertical merger occurs between a customer and company or a supplier and company. For example, cone supplier is merging with an ice cream maker.
  • Market-extension merger occurs between two companies that sell same products in different markets.
  • Product-extension merger occurs between two companies selling different but related products in the same market.
  • Conglomeration occurs between two companies that have no common business areas.

Types of acquisitions:

  • The buyer buys the shares, and therefore control, of the target company.
  • The buyer buys the assets of the target company. The cash the target receives from the sell-off is paid back to its shareholders by dividend or through liquidation.

What are other motives behind mergers and acquisitions besides raising of capital? The combined company increases profit by lowering the costs of operating duplicate departments or paying wages to unnecessary employees. Another motive is to eliminate competition. This enables the combined company to capture additional market share and even set higher prices. Other motives include economies of scale and taxes. A company can acquire a troubled company and write off its losses on its taxes.

When the company�s CEO and its top managers decide that they want to do a merger or acquisition, they start with a tender offer. After coming to an agreement, companies are starting the process of merger. The process of acquisition typically begins with the acquiring company carefully and discreetly buying up shares of the target company. Before filing with the SEC, the acquiring company is restricted to buying only 5% of the total shares outstanding. In the filing, the company must formally declare how many shares it owns and whether it intends to buy the company or keep the shares purely as an investment. Working with financial advisors and investment bankers, the acquiring company will offer the price it is willing to pay for the target company. The acquiring company may offer cash, shares or a combination of both. The tender offer is then frequently advertised in the business press, stating the offer price and the deadline by which the shareholders in the target company must accept (or reject) it. The parties then sign M&A; agreement which obliges both parties to a mutual cooperation. Consider that closing a deal is not the final step to success. Giving information to investors is perhaps the main thing in the deal. Whether a purchase is considered a merger or an acquisition really depends on whether the purchase is friendly or hostile and how it is announced. How the purchase is communicated to and received by the target company�s board of directors, employees and shareholders is very important.

Several examples:

On June 30, 2005, Bank of America announced it would purchase the credit card giant MBNA for $35 billion in cash and stock. The Federal Reserve Board gave its final approval on 15 December 2005, and the deal closed on 1 January 2006. The acquisition of MBNA made Bank of America a leading credit card issuer both at home and abroad. The combined Bank of America Card Services organization, including the former MBNA had more than 40 million U.S. accounts and nearly $140 billion in outstanding balances.

A well-known example of a nonprofit merger occurred in 2000, when America�s Second Harvest and Foodchain merged to form a larger, more comprehensive America�s Second Harvest.

And finally, I would like to your attention to the fact that mergers and acquisitions are not a panacea, but just some ways of attracting investors� attention, diversifying business and expanding marketing and distribution.
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