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Samenvatting Strategic Financial Management ('23-'24) ( Handelsingenieur en TEW)(18/20)

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Course
Strategic financial management (D0R05A)

Institution
Katholieke Universiteit Leuven (KU Leuven)

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Uploaded on December 23, 2023
Number of pages 49
Written in 2023/2024
Type Summary

kuleuven
tew
handelsingenieur
roman goncharenko
strategic financial management

Institution
Katholieke Universiteit Leuven (KU Leuven)
Education
Master handelsingenieur
Course
Strategic financial management (D0R05A)

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H1: INTRODUCTION TO M&A’S:
1.Background and historical trends:
M&A are part of the market for corporate control
acquirer/bidder + target/seller
acquisition or merger => both are takeovers (economically the same but not legally)
 global takeover market highly active: averaging more than 1 million dollar per year in transaction
value.

Merger waves = peaks of heavy activity folowed by quiet throughs of few transactions
merger activity is greater during economic expansions than during contractions and correlates with
bull markets
 the same ecnomic activities that drive expansions most likely also drive peaks in merger activity

 1960s: conglomerate wave = acquiring in unrelated businesses
 1980s: hostile takeovers
 1990s: strategic/global deals  create strong firms that would allow them to compete
globally
 2000s: consolidation in many industries + private equity
 2015 (after dip bause of economic crisis in 2008)

Types of mergers:

Horizontal merger = target and acquirer are in de same industry
Vertical merger = target’s industry buys from or sells to acquirer’s indsutry
Conglomerate merger = unrelated businesses

Methods of payment:

 Cash
most common and simplest form
cash arranged by through internal sources (SEOs) or through additional debts (leveraged
buy outs)
ADVANTAGE: corporate identity and ownership structure of acquirer remains unchanged
DISADVANTAGE: must compensate for taxes that target shareholders have to pay on their
capital gains
 Stock (= stock swap = acquiring companies issue its own equity shares to target company)
both acquirer and target share post M&A deal outcome
determine right exchange ratio !!
ADVANTAGE: when price-earnings ratio of acquirer is much higher and no taxable gains
DISADVANTAGE: takes more time to complete the deal, higher transaction costs and
potential misvaluation and much legal procedures
 Debt (= target shareholders exchange old stock for debt instruments issued by the acquirer or
a newly created firm)
no income taxes to pay until they receive the debt payments
paid out with other creditors when seller goes bankrupt
acquirer could sell off assets or simply let the equipment run down => seller can recover
little

,2. Market reaction to a takeover:
Most U.S. states: fair value is obligated
bidder is unlikely to acquire a target company for less than its current market value (premium +
current market value)

Acquisition premium = the percentage difference between the acquisition price annd the pre-merger
price of a target firm
average = 43% over the pre-merger price

Stock price reactions:

 Target: gain of 15%
 Acquirer: gain of 1% (BUT half receive a price decrease)

3. Reasons to acquire:
Large synergies:
cost-reduction (easier to achieve) and revenue enhancements (harder to achieve and predict)

Economies of scale and scope:

Of scale = the savings a lare company can enjoy from producing goods in high volume that are not
available to a small company
of scope = due to combining the marketing and distribution of different types of related products

BUT larger firms are more difficult to manage

Vertical integration:

better coordination BUT not all suvccessful corporations are vertically integrated (see Microsoft)

Expertise:

may be more efficient to purchase the talent as an already functioning unit by acquiring an existing
firm (harder to hire experienced workers)

Monopoly gains:

limited since most companies have antitrustlaws
HOWEVER lack of convincing evidence that monopoly gains result from reduction of competition due
to takeovers: alle companies in an industry benefit but only merging company pays tha associated
costs

Efficiency gains:

elimination of duplication: acquirers think they can run the target organization more efficiently
than existing management could (hower identification is easier than replacement!!)

Tax savings from operating losses:

losses in one devision can offset profits in another devision
requires argument that tax savings are larger than savings using carry back and carry forward
provisions

,example:

 Both firms either make 50 million or lose 20 million every year with equal probability
 Firms’ profits are perfectly negatively correlated
 Corporate taks rate is 34%
firm 1: after-taks profits: 50*(1-0,34) = 33 million
expected: 33(0,5) – 20(0,5) = 6,5 million
identical for firm 2
mergerd: 50-20 = 30 => 30*(1-0,34) = 19,8 million > 2*6,5 million

Diversification:

risk reduction: less unsystematic risk (however it ignores the fact that investors can achieve
themselves by purchasing shares in two different firms)
debt capacity and borrowing costs: lower probability of bankruptcy due to increaseable leverage
and thus lowering capital costs + increasing debt and enjoy greater taks savings without costs of
financial distress
asset allocation (ex. Redeploy managerial talent where it is most needed) (however agency costs by
helping bad devisions longer than optimal)
liquidity provided by bidders to woners of a private firm

Earnings growth:

earnings/share can increase even when the merger itself does not create economic value

example: two firms with $5 per share, firm1 has 1 million shares priced for 60 each and firm 2 has
1 million shares priced for 100 each). Firm2 acquires firm1 using its own stock and the takeover adds
no value

 Since takeover adds no value: new value firm2 = 100*1 million + 160 million
 To acquire firm1 60 million must be paid = using 600 000 of its shares => firm1 wil get
0,6 new shares for their old shares (price per share from firm2 remains the same) =>
firm2 has a value of 160 million ith 1,6 million shares outstanding
 Prior both companies: 5/share * 1 million shares = 5 million => combined earnings of
10 million
 After merger: 1,6 million shares outstanding : 10 million / 1,6 million shares =
6,25/share  firms2 has raised its earnings per share
 price-earnings ratio before merger: = 20
 price-earnings ratio after merger: 100/6,25 = 16
has dropped to reflect the fact that taking over , more of the value comes from
earnings from current projects than from its future growth potential

Managerial motives:

 conflicts of interest = may prefer to run a larger company due to additional pay and prestige
empire building
maybe do bad merger that increases their personal benefit instead of firm value
 overconfidenc = hubris hypothesis = overconfident CEOs pursue mergers that have low
chance of creating value because they believe that their ability to manage is great enough to
succeed

, 4. Valuation and the takeover process:
Takeover synergies = any additional value created

Price paid = target’s pre bid market capitalization + premium

only positive NPS project for bidder if the premium paid does not exceed the synergies created due
to this takeover

1.THE OFFER:

!not all tender offers are succesful: often acquirers have to raise the price to consummate the deal!

stock-swap: positive NPV investment for acquirer if the share price of the merged firm ecxceeds
the premerger price of the acquiring firm:

A +T + S A A+T + S Na+ x T +S x x∗A
> =Pa → > →1+ > +1 →T + S> =x∗Pa
Na+ x Na A Na A Na Na
 exchange ratio =

( Pa )
1
∗T + S
T + S x∗Pa
Nt
> →
Nt
x
> →
Nt Nt ( Pa1 )( T +S ) ( PtT )> NtX → Ntx < PaPt (1+ TS )
Na = number of shares outstanding before the merger
x = max amount of new shares issued to pay for the target to achieve positive NPV
A= pre-merger value acquirer
T= pre-merger value target
S= value synergies created by the merger

Example: A announced to acquire B while stocka was trading for 25 per share and stockb for 30 per
share. If the synergies were 12 billion and B had 1,033 billion shares outstanding what is the max
exchange ratio A could offer in a stock swap ? What is the max cash offer A could make?

 T = 1,033 * 30 = 31 billion

 Exchange ratio <
30
5 (1+
12
31 )
=1,665

 1.665 shares of A for each share of B
 Offer cash: 12 billion/1,033 billion shares = 11,62 per share => 30 + 11,62 = 41,62 (= cash
value exchange offer : 25 * 1,665)

2.MERGER ARBITRAGE:

once a tender offer is announced the uncertainty about whether the takeover will succeed adds
volatility to the stock price
opportunity to speculate on the outcome of the deal
risk-arbitrageurs = traders who , once a takeover is announced, speculate on the outcome of the
deal
merger-arbitrage spread = the difference between a target stock’s price and the implied offer price
(!not a true arbitrage opportunity, because of the risk that the deal will not happen)

3.TAX AND ACCOUNTING ISSUES:

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