Thursday, November 22, 2007
Examples Weston' Book Ch.4 Deal Struncturing
Tax considerations affect the planning and structuring of corporate combinations.
When tax considerations are not properly considered, problems may crop up later. Example; Vodafones acquisition of Hutch-Essar. Indian tax authority is arguing that Vodafone must have deducted Tax at source on the consideration they paid to Hutch for the acquisition they made in 2007. ther is a provision of advance ruling on tax matters. vodafone could have gone for a advance ruling and it might have avoided this controversy.
When tax considerations are not properly considered, problems may crop up later. Example; Vodafones acquisition of Hutch-Essar. Indian tax authority is arguing that Vodafone must have deducted Tax at source on the consideration they paid to Hutch for the acquisition they made in 2007. ther is a provision of advance ruling on tax matters. vodafone could have gone for a advance ruling and it might have avoided this controversy.
Examples Weston' Book Ch.11 Corporate Restructuring and Divestitures
Page 295 Westons book
Reasons for divestitures included changing strategies, reversing earlier mistakes, and learning. (This is not a comprehensive list*)
Example; Divestiture by Biocon of its enjymes units and statement by Kiran Majumdar on it.
----------------------
Example: Divestiture due to regulation
Economic Times Dated 3 August 2007 page 32
Arcelor Mittal said it will sell its Maryland steel plant(formerly Bethlehem steel) to Emarck Inc. for around $2 billion. The reason for this divestiture: US regulators ordered Mittal Steel to sell off the plant as part of its takeover of Arcelor because the new company would have too much market power over tin-plated steel output, used to make cans for food, aerosol sprays and paint.
More details will be given by the company after it received regulatory approval for the sale. The deal is expected to close in the fall.
---------------
Reasons for divestitures included changing strategies, reversing earlier mistakes, and learning. (This is not a comprehensive list*)
Example; Divestiture by Biocon of its enjymes units and statement by Kiran Majumdar on it.
----------------------
Example: Divestiture due to regulation
Economic Times Dated 3 August 2007 page 32
Arcelor Mittal said it will sell its Maryland steel plant(formerly Bethlehem steel) to Emarck Inc. for around $2 billion. The reason for this divestiture: US regulators ordered Mittal Steel to sell off the plant as part of its takeover of Arcelor because the new company would have too much market power over tin-plated steel output, used to make cans for food, aerosol sprays and paint.
More details will be given by the company after it received regulatory approval for the sale. The deal is expected to close in the fall.
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Examples Weston' Book Ch.13 Financial Restructuring
Et 6 Dec 2007 page 7
Tombstone advertisement
Firstcall India Equity Advisors Pvt. Ltd. Restructured Silverline Technologies Limited
http://www.firstcallindiaequity.com/
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Tombstone advertisement
Firstcall India Equity Advisors Pvt. Ltd. Restructured Silverline Technologies Limited
http://www.firstcallindiaequity.com/
--------------
Examples Weston' Book Ch.17 International Takeovers and Restructuring
Examples
Takeover of Corus by Tata Steel India & UK
Takeover of Novelis by Hindalco India and USA
Takover of Betapharm by Dr. Reddy's Laboratories. India and Germany
Takeover of Corus by Tata Steel India & UK
Takeover of Novelis by Hindalco India and USA
Takover of Betapharm by Dr. Reddy's Laboratories. India and Germany
Examples Weston' Book Ch.18 Share Repurchases
Open-Market Repurchases (OMRs)
Example 1 Reliance Industries April 2000
Reliance Industries announced that it will buyback its shares upto a price of Rs 303 aggregating Rs 1100 crore. Managing director Anil Ambani's explanation.
Objectives of share buyback
From the Reliance management perspective, we have looked at multiple objectives for the share buyback programme -- managing stock price volatility, lowering the beta of the stock, to attract long-term investors into the company and to provide a floor price. The price that has been fixed by the board this afternoon is Rs 303 per share which represents a 22 per cent premium over the average for Reliance Industries over the last one year -- it's the average of the high and low.
The management mindset
The management mindset is moving to giving capital appreciation to investor, giving them dividends, but how do you return money to shareholders in large measures... it is through buyback in a tax efficient and investor friendly fashion without sacrificing growth opportunities and within the overall capital allocation framework that we spelt out in our AGM (annual general meeting) in June 1999.
Clearly, share buyback will allow us to optimise our weighted average cost of capital thereby enhancing our overall global competitiveness, improve our financial parameters such as return on equity, reduce floating stock and enhance overall long term price performance. In the Indian regulation, shares that have to be bought back have to be compulsorily written down and those shares have to be cancelled. That clearly goes out of the system in terms of floating stock. Achieve higher all-round valuation and enable the use of RIL stock in the long term as currency for acquisition. As soon as you get a fair value for the stock, you can use that as a currency in the future as is done internationally. Achieve a re-rating for the RIL stock by sending a powerful signal on the perceived undervaluation from time to time. And achieve increase in RIL's market capitalisation contribution to maximisation of overall shareholder value. So these are some of the key objectives that the board looked at today when we made this decision.
The Reliance stock has outperformed the Sensex
From calendar year to date as on April 11, the Reliance stock has performed 38 per cent higher than the Sensex, (in) one year timeframe (it is) 135 per cent to the Sensex, two years 21 per cent, three years 105 per cent, five years 90 per cent and ten years 409 per cent. So when you look at year to date for ten years which is a reasonable time frame for capital appreciation for equity investments, we have consistently outperformed the Sensex over all timeframes.
RIL's undervaluation vis a vis the Sensex
I have put the data together for five years -- Reliance has traded at a discount to the Sensex P/E despite consistent financial performance. We have had a 15 per cent compounded annual growth in our earnings per share over the last five years. (RIL P/E relative to the Sensex has ranged between 43 per cent on March 31, 1996 to 85 per cent on March 31, 2000). The Sensex P/Es are based on the old Sensex. RIL's current P/E is only 66 per cent of the recast Sensex.
Reliance will not dilute any further equity capital between now and 2003
The buyback is not to exceed 25 per cent of the equity capital and free reserves of the company which is roughly Rs 3000 crore. The buyback in any financial year cannot exceed 25 per cent of the total paid-up equity capital. Reliance's fully diluted current paid-up capital is Rs 1053 crore. Companies that are allowed to buyback their own shares cannot do anything except reduce; they must write down capital. Internationally, you have the choice to keep it as treasury stock. In India it has to be compulsorily written down.
Post-buyback, total debt-equity ratio cannot exceed 2:1. RIL's current debt-equity ratio is well below 0.9:1 -- so we are comfortable on those aspects. The company cannot make an issue of new equity capital for a period of two years from the date of the closure of the buyback scheme. So if the buyback is valid as a resolution by the AGM for one year; so you take one year plus another two years. That means you look at 2001and 2003. So Reliance will not dilute any further equity capital between now and 2003.
For the record, Reliance has not issued any capital for the last six years. So when you cumulate the six years period of the past and three years of the future, for a total period of nine years -- where Reliance has transformed itself in terms of its ability, in terms of 10 million tonnes of capacity, being a leading player, having merely a $ 9-10 billion market cap -- this has been all done without having any infusion of equity capital from the market and within the constraints of the debt-equity ratio and being very conservative at 0.9:1 debt-equity ratio in spite being in a capital intensive sector like petrochemicals.
As I said the resolution is valid for one year at a time. Within this period, the company can issue bonus and can do stock splits. One of the other dimensions of any buyback proposal is that since no new shares can be issued, it effectively means that there will be no merger of any company with Reliance Industries. Because in a merger you will issue the same class of shares again which is not allowed. So no fresh issue of capital for three years, we have had nothing for six years, nine years of that and there is no question of any type of merger where Reliance is using its stock as currency for mergers and acquistions.
The options available for buying back shares is through a book building process, tender process and open market purchase process. In book building and tender process, promoters can participate in the buyback. The promoters of Reliance have already announced in the past their desire to increase their holdings in the company. The board has examined these three options and has decided to go through the open market transaction approach for buyback and in the open market purchase transaction route, the promoters will not participate in any buyback. The promoters will not tender in their shares in any buyback proposition which is allowed in the other two methods but we have chosen a method which does not allow the promoters to sell back their equity to the company.
our message by providing buyback and providing a floor price - by saying we will put in Rs 1100 crore which will represent to be the largest ever buyback programme by any company in India and still be very, very conservative from the limit we have of Rs 3000 crore -- is that this is a company that is committed to long-term investors. We want investors to be sure that they will not be dealing with volatility and anybody who wants to speculate in the Reliance has to be clear that the company is standing by to buy the stock at Rs 303.
Conclusion
In conclusion I would say that our buyback proposal is intended to send a clear signal to Reliance investors that we will reward them by returning cash. Our high growth rates and our motto of 'growth is life' will continue. We will have lower stock price volatility, we will improve our cost of capital and enhance our global competitiveness, we will work towards protecting the interest of long term shareholders by neutralising the impact of speculative forces and we will judiciously exercise share buyback to contribute to maximisation of overall shareholder value.
http://www.rediff.com/money/2000/apr/12ambani.htm
------------------------
==========================
Example 2 Reliance Industries 2004-05
See the media release
----------------------
27-Dec-2004
Ril Board Approves Buy Back Of Shares
At Rs. 570 Per Share
Mumbai, December 27, 2004 - The Board of Directors of Reliance Industries Limited (RIL), at its meeting held in Mumbai today, Mr. Anil Ambani, VC&MD abstaining, approved the buy back of its fully paid up equity shares of Rs.10 each, at a price not exceeding Rs. 570 per share, payable in cash, up to an aggregate amount not exceeding Rs 2,999 crore. This amount represents the limit of 10% of the total paid up equity share capital and free reserves of the Company as on March 31, 2004. Subject to approval of the Securities and Exchange Board of India (SEBI), the Buy Back scheme would be open from January 10, 2005 to December 26, 2005.
The Buy Back would be made out of the free reserves and/or the securities premium account of the Company by open market purchases through stock exchange(s), as per provisions contained in the SEBI (Buy Back of Securities) Regulations, 1998.
The RIL Board confirmed that the Company shall not purchase shares under the Buy Back from the promoters or from any persons in control through negotiated deals or private arrangement and that funds borrowed from banks or financial institutions will not be used for the Buy Back.
This represents the largest ever equity share buy back in India. The maximum buy back price represents a 11% premium over the average one year trading price range and 9% premium over last closing price of Rs.524 on Friday, 24th December 2004.
The Buy Back is expected to lead to an increase in earnings per share as a consequence of reduction in outstanding number of equity shares as well as to an improvement in return on net worth of the Company.
The decision to Buy Back equity shares is a reflection of the under-valuation of the Company's stock price and the confidence of the management of RIL in its future growth prospects. It would also have a positive impact on the stock price, contributing to maximization of overall shareholder value.
http://www.ril.com/rportal/jsp/eportal/media/PressRelease.jsp?id=9
-----------------------------
Example 1 Reliance Industries April 2000
Reliance Industries announced that it will buyback its shares upto a price of Rs 303 aggregating Rs 1100 crore. Managing director Anil Ambani's explanation.
Objectives of share buyback
From the Reliance management perspective, we have looked at multiple objectives for the share buyback programme -- managing stock price volatility, lowering the beta of the stock, to attract long-term investors into the company and to provide a floor price. The price that has been fixed by the board this afternoon is Rs 303 per share which represents a 22 per cent premium over the average for Reliance Industries over the last one year -- it's the average of the high and low.
The management mindset
The management mindset is moving to giving capital appreciation to investor, giving them dividends, but how do you return money to shareholders in large measures... it is through buyback in a tax efficient and investor friendly fashion without sacrificing growth opportunities and within the overall capital allocation framework that we spelt out in our AGM (annual general meeting) in June 1999.
Clearly, share buyback will allow us to optimise our weighted average cost of capital thereby enhancing our overall global competitiveness, improve our financial parameters such as return on equity, reduce floating stock and enhance overall long term price performance. In the Indian regulation, shares that have to be bought back have to be compulsorily written down and those shares have to be cancelled. That clearly goes out of the system in terms of floating stock. Achieve higher all-round valuation and enable the use of RIL stock in the long term as currency for acquisition. As soon as you get a fair value for the stock, you can use that as a currency in the future as is done internationally. Achieve a re-rating for the RIL stock by sending a powerful signal on the perceived undervaluation from time to time. And achieve increase in RIL's market capitalisation contribution to maximisation of overall shareholder value. So these are some of the key objectives that the board looked at today when we made this decision.
The Reliance stock has outperformed the Sensex
From calendar year to date as on April 11, the Reliance stock has performed 38 per cent higher than the Sensex, (in) one year timeframe (it is) 135 per cent to the Sensex, two years 21 per cent, three years 105 per cent, five years 90 per cent and ten years 409 per cent. So when you look at year to date for ten years which is a reasonable time frame for capital appreciation for equity investments, we have consistently outperformed the Sensex over all timeframes.
RIL's undervaluation vis a vis the Sensex
I have put the data together for five years -- Reliance has traded at a discount to the Sensex P/E despite consistent financial performance. We have had a 15 per cent compounded annual growth in our earnings per share over the last five years. (RIL P/E relative to the Sensex has ranged between 43 per cent on March 31, 1996 to 85 per cent on March 31, 2000). The Sensex P/Es are based on the old Sensex. RIL's current P/E is only 66 per cent of the recast Sensex.
Reliance will not dilute any further equity capital between now and 2003
The buyback is not to exceed 25 per cent of the equity capital and free reserves of the company which is roughly Rs 3000 crore. The buyback in any financial year cannot exceed 25 per cent of the total paid-up equity capital. Reliance's fully diluted current paid-up capital is Rs 1053 crore. Companies that are allowed to buyback their own shares cannot do anything except reduce; they must write down capital. Internationally, you have the choice to keep it as treasury stock. In India it has to be compulsorily written down.
Post-buyback, total debt-equity ratio cannot exceed 2:1. RIL's current debt-equity ratio is well below 0.9:1 -- so we are comfortable on those aspects. The company cannot make an issue of new equity capital for a period of two years from the date of the closure of the buyback scheme. So if the buyback is valid as a resolution by the AGM for one year; so you take one year plus another two years. That means you look at 2001and 2003. So Reliance will not dilute any further equity capital between now and 2003.
For the record, Reliance has not issued any capital for the last six years. So when you cumulate the six years period of the past and three years of the future, for a total period of nine years -- where Reliance has transformed itself in terms of its ability, in terms of 10 million tonnes of capacity, being a leading player, having merely a $ 9-10 billion market cap -- this has been all done without having any infusion of equity capital from the market and within the constraints of the debt-equity ratio and being very conservative at 0.9:1 debt-equity ratio in spite being in a capital intensive sector like petrochemicals.
As I said the resolution is valid for one year at a time. Within this period, the company can issue bonus and can do stock splits. One of the other dimensions of any buyback proposal is that since no new shares can be issued, it effectively means that there will be no merger of any company with Reliance Industries. Because in a merger you will issue the same class of shares again which is not allowed. So no fresh issue of capital for three years, we have had nothing for six years, nine years of that and there is no question of any type of merger where Reliance is using its stock as currency for mergers and acquistions.
The options available for buying back shares is through a book building process, tender process and open market purchase process. In book building and tender process, promoters can participate in the buyback. The promoters of Reliance have already announced in the past their desire to increase their holdings in the company. The board has examined these three options and has decided to go through the open market transaction approach for buyback and in the open market purchase transaction route, the promoters will not participate in any buyback. The promoters will not tender in their shares in any buyback proposition which is allowed in the other two methods but we have chosen a method which does not allow the promoters to sell back their equity to the company.
our message by providing buyback and providing a floor price - by saying we will put in Rs 1100 crore which will represent to be the largest ever buyback programme by any company in India and still be very, very conservative from the limit we have of Rs 3000 crore -- is that this is a company that is committed to long-term investors. We want investors to be sure that they will not be dealing with volatility and anybody who wants to speculate in the Reliance has to be clear that the company is standing by to buy the stock at Rs 303.
Conclusion
In conclusion I would say that our buyback proposal is intended to send a clear signal to Reliance investors that we will reward them by returning cash. Our high growth rates and our motto of 'growth is life' will continue. We will have lower stock price volatility, we will improve our cost of capital and enhance our global competitiveness, we will work towards protecting the interest of long term shareholders by neutralising the impact of speculative forces and we will judiciously exercise share buyback to contribute to maximisation of overall shareholder value.
http://www.rediff.com/money/2000/apr/12ambani.htm
------------------------
==========================
Example 2 Reliance Industries 2004-05
See the media release
----------------------
27-Dec-2004
Ril Board Approves Buy Back Of Shares
At Rs. 570 Per Share
Mumbai, December 27, 2004 - The Board of Directors of Reliance Industries Limited (RIL), at its meeting held in Mumbai today, Mr. Anil Ambani, VC&MD abstaining, approved the buy back of its fully paid up equity shares of Rs.10 each, at a price not exceeding Rs. 570 per share, payable in cash, up to an aggregate amount not exceeding Rs 2,999 crore. This amount represents the limit of 10% of the total paid up equity share capital and free reserves of the Company as on March 31, 2004. Subject to approval of the Securities and Exchange Board of India (SEBI), the Buy Back scheme would be open from January 10, 2005 to December 26, 2005.
The Buy Back would be made out of the free reserves and/or the securities premium account of the Company by open market purchases through stock exchange(s), as per provisions contained in the SEBI (Buy Back of Securities) Regulations, 1998.
The RIL Board confirmed that the Company shall not purchase shares under the Buy Back from the promoters or from any persons in control through negotiated deals or private arrangement and that funds borrowed from banks or financial institutions will not be used for the Buy Back.
This represents the largest ever equity share buy back in India. The maximum buy back price represents a 11% premium over the average one year trading price range and 9% premium over last closing price of Rs.524 on Friday, 24th December 2004.
The Buy Back is expected to lead to an increase in earnings per share as a consequence of reduction in outstanding number of equity shares as well as to an improvement in return on net worth of the Company.
The decision to Buy Back equity shares is a reflection of the under-valuation of the Company's stock price and the confidence of the management of RIL in its future growth prospects. It would also have a positive impact on the stock price, contributing to maximization of overall shareholder value.
http://www.ril.com/rportal/jsp/eportal/media/PressRelease.jsp?id=9
-----------------------------
Private Equity Deal News India
25 June 2007 Economic Times Page 20
Blackstone's acquisition of Intelenet last week $200 million deal. It is one of the top 5 PE deals in the country so far.
1. $900 mllion buyout of Flextronics by KKR
2. $650 million for 5.6% stake in HDFC by Carlyle
It is the second largest PE deal in BPO space
first one sale GE in its Indina BPO arm Genpact 60% stake sale for $500 million to GAP and Oak Hill.
--------------------------
Blackstone's acquisition of Intelenet last week $200 million deal. It is one of the top 5 PE deals in the country so far.
1. $900 mllion buyout of Flextronics by KKR
2. $650 million for 5.6% stake in HDFC by Carlyle
It is the second largest PE deal in BPO space
first one sale GE in its Indina BPO arm Genpact 60% stake sale for $500 million to GAP and Oak Hill.
--------------------------
Monday, November 19, 2007
M & A Advisors
List of M &A advisors worldwide:
http://www.amaaonline.org/contactDB/pAdvsSrch.asp
Alliance of M & A Advisors
http://www.amaaonline.org/amHome.asp
http://www.amaaonline.org/contactDB/pAdvsSrch.asp
Alliance of M & A Advisors
http://www.amaaonline.org/amHome.asp
Wednesday, November 14, 2007
Principia Partners - Consutancy Service to PE firms
Strategy Consulting for Companies
in Materials-Related Industries Search:
Private Equity
Few resources are more valuable at crunch time in the due diligence process than an industry expert. Confirmation of buyer, seller or company owner claims is essential if investors are to enjoy the rewards they seek.
Principia Partners provides highly discreet industry-specific analytical and information services to private equity firms involved in acquisition, merger or sale of companies, properties, product lines, brands and physical assets.
Our background in the plastics, specialty chemical and building products industries covers a wide range of materials, markets and distribution channels.
Most importantly, however, Principia thinks like you think. Our experience with private equity firms can become the shortcut you need to uncover the right facts at the right time in the investigation and negotiation stages of these delicate and high stakes transactions.
MARKETS
Building Products
Manufactured Goods
Metals
Minerals
Packaging
Plastics
Specialty Chemicals
Utilities
PRINCIPIA SERVICES
Principia helps business grow by providing consultation, insights and recommendations related to key business and marketing topics, including:
Opportunity Screening
M&A Advisory Services
Market Assessment
Innovation Process Strategy
Profitable Growth Program
Cost & Profit Benchmarking
Product Positioning
Competitive Strategy
Intellectual Property Licensing
Channel Strategy
Customer Satisfaction
Brand Equity Measurement
Business Planning
For further information, contact either of our senior partners:
Lou Rossi
484/459-2238
LRossi@PrincipiaConsulting.com
Jim Morton
484/459-2239
JMorton@PrincipiaConsulting.com
Please direct all mail to this mailing address:
Principia Partners
P.O. Box 611
Exton, PA 19341
Our corporate headquarters is located at:
Principia Partners
102 Pickering Way, Suite 200
Exton, PA 19341-1330
Ph: 800/378-8330
Fx: 484/214-0172
http://www.principiaconsulting.com/consulting/contactus.cfm
in Materials-Related Industries Search:
Private Equity
Few resources are more valuable at crunch time in the due diligence process than an industry expert. Confirmation of buyer, seller or company owner claims is essential if investors are to enjoy the rewards they seek.
Principia Partners provides highly discreet industry-specific analytical and information services to private equity firms involved in acquisition, merger or sale of companies, properties, product lines, brands and physical assets.
Our background in the plastics, specialty chemical and building products industries covers a wide range of materials, markets and distribution channels.
Most importantly, however, Principia thinks like you think. Our experience with private equity firms can become the shortcut you need to uncover the right facts at the right time in the investigation and negotiation stages of these delicate and high stakes transactions.
MARKETS
Building Products
Manufactured Goods
Metals
Minerals
Packaging
Plastics
Specialty Chemicals
Utilities
PRINCIPIA SERVICES
Principia helps business grow by providing consultation, insights and recommendations related to key business and marketing topics, including:
Opportunity Screening
M&A Advisory Services
Market Assessment
Innovation Process Strategy
Profitable Growth Program
Cost & Profit Benchmarking
Product Positioning
Competitive Strategy
Intellectual Property Licensing
Channel Strategy
Customer Satisfaction
Brand Equity Measurement
Business Planning
For further information, contact either of our senior partners:
Lou Rossi
484/459-2238
LRossi@PrincipiaConsulting.com
Jim Morton
484/459-2239
JMorton@PrincipiaConsulting.com
Please direct all mail to this mailing address:
Principia Partners
P.O. Box 611
Exton, PA 19341
Our corporate headquarters is located at:
Principia Partners
102 Pickering Way, Suite 200
Exton, PA 19341-1330
Ph: 800/378-8330
Fx: 484/214-0172
http://www.principiaconsulting.com/consulting/contactus.cfm
SFC Business Services: Acquisitions, Due Diligence and Integration
www.sfcbizservices.com/duedlilegence.html
Acquisitions, Due Diligence & Integration
Acquisition, due diligence and integration services are available to businesses and investors involved in these activities. These professional management services include the following:
Preparation:
SFC Business Services carefully reviews the marketing, financial, operational, and management data including the company’s business and strategic plans.
Evaluation:
Confidential interviews are conducted with select outside professionals and customers as well as key individuals within the company. In this way, we quickly and efficiently gather the relevant data to evaluate where the company is presently and what areas are working well and what areas aren’t. We focus on the key areas for success.
Analysis:
After the evaluation, an analysis is prepared and reviewed with the management team. We identify the key issues restricting the company’s progress or growth. SFC Business Services works closely with the senior management team to develop action plans to direct the company forward.
Planning:
Strategic planning sessions are facilitated, as appropriate, to ensure management is properly aligned. A common purpose, and company goals and core values are defined to develop a compelling vision to align management and employees to the strategic intent of the company.
Acquisition process:
The acquisition process determines the characteristics of the ideal candidate and the select attributes that will maximize the opportunity and minimize the disruptions to the company. Professional research is conducted and qualified target companies are contacted and reviewed. The negotiations are professionally managed from initiation to final completion.
Due Diligence:
We coordinate with the company’s professionals to properly conduct a thorough due diligence of the potential acquisition candidate.
Integration:
Management of the integration function helps ensure that the company preserves and enhances the value of the acquisition. We help ensure that a poor integration does not spoil an otherwise successful result. Post acquisition support measures progress and assists management integration programs.
Contact
Steve Chaloupka
SFC Business Services
One Sugar Creek Center Blvd.
Suite 300
Sugar Land, Texas 77478
Map
(281)-243-2370 - Phone
(713) 248-0351 - Cell
(281) 238-9118 - FAX
steve@sfcbizservices.com
Acquisitions, Due Diligence & Integration
Acquisition, due diligence and integration services are available to businesses and investors involved in these activities. These professional management services include the following:
Preparation:
SFC Business Services carefully reviews the marketing, financial, operational, and management data including the company’s business and strategic plans.
Evaluation:
Confidential interviews are conducted with select outside professionals and customers as well as key individuals within the company. In this way, we quickly and efficiently gather the relevant data to evaluate where the company is presently and what areas are working well and what areas aren’t. We focus on the key areas for success.
Analysis:
After the evaluation, an analysis is prepared and reviewed with the management team. We identify the key issues restricting the company’s progress or growth. SFC Business Services works closely with the senior management team to develop action plans to direct the company forward.
Planning:
Strategic planning sessions are facilitated, as appropriate, to ensure management is properly aligned. A common purpose, and company goals and core values are defined to develop a compelling vision to align management and employees to the strategic intent of the company.
Acquisition process:
The acquisition process determines the characteristics of the ideal candidate and the select attributes that will maximize the opportunity and minimize the disruptions to the company. Professional research is conducted and qualified target companies are contacted and reviewed. The negotiations are professionally managed from initiation to final completion.
Due Diligence:
We coordinate with the company’s professionals to properly conduct a thorough due diligence of the potential acquisition candidate.
Integration:
Management of the integration function helps ensure that the company preserves and enhances the value of the acquisition. We help ensure that a poor integration does not spoil an otherwise successful result. Post acquisition support measures progress and assists management integration programs.
Contact
Steve Chaloupka
SFC Business Services
One Sugar Creek Center Blvd.
Suite 300
Sugar Land, Texas 77478
Map
(281)-243-2370 - Phone
(713) 248-0351 - Cell
(281) 238-9118 - FAX
steve@sfcbizservices.com
Monday, November 12, 2007
The Market Overview for M&A in Banking Sector in 2007
The M&A market looks as strong as ever in 2007 as buyers seeking revenue growth look for strategic expansion as well as cost-saving opportunities.
Summary of Discssions between
EMMETT J. DALY, Principal, Sandler O’Neill & Partners, L.P.
JOHN DUFFY, Chairman & CEO, Keefe Bruyette & Woods
STEVEN D. HOVDE, President & CEO, Hovde Financial LLC
MICHAEL R. MCCLINTOCK, Managing Director, Friedman Billings Ramsey & Co.
About deal activity that occurred in 2006 and likely scenario in in the next 12 months
Pricing levels have stayed high in 2006 and there were a fair number of potential transactions that didn’t get announced because pricing expectations weren’t met. There are certain markets where sellers’ expectations are either too high or there’s a paucity of wellheeled buyers. For 2007, there are still certain pockets in the country—Florida,Texas, the high-growth markets—where there’s greater-than-average interest on the part of potential buyers in accessing those markets. Companies like National City Corp. (NatCity) that have gone into Florida, and other banks entering new geographic areas, are being forced to pay high prices.That will continue as long as valuations and trading markets stay where they are now, or go higher.There are other markets where potential sellers are under increasing pressure to figure out how to grow the revenue stream, and if they can’t figure that out, they’re probably going to wind up selling. In those cases, they’ll probably take multiples quite a bit below those that were seen in the high-growth markets.
Buyers using acquisitions to supplement weak organic revenue growth are paying high prices.
It looked like things were cooling off a little mid-summer, as far as pricing, perhaps softening the market a bit, but then it picked up again at the end of 2006, and it’s continuing strong in 2007. Obviously there are markets that are very pricey—Florida is one,Texas is another. M&A may stay pretty active throughout 2007, at least until late summer depending upon what happens elsewhere. But all indications are that, if anything, 2007 will be as busy as 2006, with pricing differences persisting among regions.
The need for revenue growth - Driving M&A's?
Banks are pursuing growth and they’re willing to pay for it. Another factor is there are still a fair number of market entrants that are willing to “pay up” to get into markets, and they’re offering more than existing banks in those markets are willing to pay. NatCity is a prime example of a bank that paid up to enter Florida and, quite frankly, paid more than anybody else would have.
We thought last year (2006) that M&A market has reached a high-water mark, and it’s bound to go down with margin pressures.This year, we could probably say the exact same thing. 2006 was more active than we originally thought it would be.
A study found out that high-performing banks get clearly superior multiples: 3 times book and 28 times earnings, something like that. But guess what? Mediocre banks in Florida also get clearly superior multiples! There’s no differentiation right now between good management and bad management in Florida. Some correction may happen there. But looking elsewhere, other than the big market centers, like Chicago, that aren’t already consolidated, going may be pretty dry for rural areas—there’s really nothing going on in slow-growth states. So as for M&A there, one is not sure what the trigger will be, except for earnings pressure.
Most banks, whether they’re large or small, are facing the same revenue challenges.The exceptions are the small banks in the high-growth markets—they’re the ones trading at the highest multiples today. So if they decide to sell because they can get an extraordinary multiple, then yes, they’re willing to do deals.
The basic issue today is the challenge to grow revenues and profitable business.That’s really what causes M&A dynamics. More deal activity my take place —the big guys are challenged just as much as the small guys.They’re back to looking at cost saves. In some earlier deals, people kept pushing the envelope in terms of how much they thought they could take out of a combination, and some expense-save numbers that were well north of 30% in some examples. While those acquirers ultimately may have gotten to those cost-save numbers, many of them lost 30% of the revenue due to their preoccupation with achievement of planned cost reductions. Buyers today are generally smarter, but still, some of the bigger banks are willing to push a bit on some of the cost-save numbers.
The averages look high today, although the mid-20 P/Es are a bit misleading.That kind of pricing is coming from the smaller deals where there is less scrutiny by the analyst community and where the buyers are using their own very highly priced stocks.The bigger acquirers that were hammered in years past for overpaying and underdelivering have shown more pricing restraint. So today, you have many of the bigger banks reentering the M&A scene, but they’re doing deals at levels closer to 18 times to 20 times earnings.
The multiples are going to moderate. A lot of buyers have used up their financial flexibility so they’re going to have to use stock more, which will moderate the pricing issue. Everybody has put as much trust-preferred as they can into capital structures. All the rabbits have been pulled out of the hat, so to speak, so the pricing matrix will be driven by where the multiples of the acquirers are trading.To some extent, they may be getting a little bit more aggressive on the cost-save numbers, That doesn’t mean we won’t see banks in Florida going for 25 times earnings, but that’s going to be the exception, rather than the norm.
Regarding the future of revenue growth for banks.The vast majority of a regional bank’s product set has been commoditized–mortgage banking, credit cards, and now even deposit products are being poached by nonbank competitors. Banks express concern with the flat yield curve, but in fact, an even more critical problem is the compression of their profit margin from product commoditization.
The construction and development business is a niche where you can get a point, or point and a half, with an 18-month turnover and still make good money. But as that slows down, it’s going to be difficult. With a weak housing market, mortgage bankers aren’t going to develop as much pipeline as they’ve had, so that could be problematic.
The insurance business has really been the panacea. But there are very few banks that can make money on it.
Banks have to be very careful with those acquisitions. Yes, as a revenue line item, it looks great. But on a bottom-line basis, it often looks terrible.The bulk of the revenue is being paid in commissions to the agent.There is generally very little falling to the bank’s bottom line.
There is still a belief among some of the bigger players that you need to gather market share within a market. If banks can get that market share, margins will widen, so they’ll want to continue acquiring in certain markets to gather more market share. So there is a demand for acquisition from players who want to grow their market share.
The scope for the consolidation to increase market share
There are too many banks today, plain and simple—too much competition.
And the barrier to entry these days isn’t very high. It almost seems for every two that are purchased, we’re seeing another one created. There were 191 de novo charters in 2006.
Private equity firms and hedge funds are investing in large de novo banks.The money needed to start de novos is much greater these days. $60 million to $100 million each were raised recentlt by two start-ups in Orlando, Florida and Durham, North Carolina. For these banks to compete, they needed critical mass to attract talent and make larger loans. Raising only $5 million to $15 million will not give you that capacity.
why denovos are booming? The reason is because existing franchises are trading at 15 times or 16 times earnings. So if you can lift out a management team and build some scale, it’s not too hard to get a decent IRR. For example, if you take an existing management team and, in three to four years, build a billion-dollar institution and get it up near 1% ROA, even with a 10% capital ratio (which is where the regulators make you keep it for the first three years), you could still get some pretty decent returns.
If you can make it profitable in the second year (so you don’t have three years of cumulative losses where you’re eating up a quarter of the book value) and then get it near 1% by the fourth year, the numbers will work. But it’s a question of having that management team in place. Is there enough management talent available to make that formula work?
There are a fair number of frustrated bankers at the big banks. Many times, these guys reach a point in their careers where they long for a more entrepreneurial environment. So if you come along with the right model and enough capital, you can get the right talent.
Wii credit become a significant challenge in 2007?
There are signs that it’s weakening right now.
Credit quality is starting to weaken in certain markets. A couple of Florida banks, for example, announced meaningful credit-quality deterioration earlier this year.This very well could be a significant theme in ’07. And it could actually slow down the M&A activity in markets where credit quality is difficult to measure.
changes in regulatory and accounting practices?Have they helped M&A in any meaningful way by increasing the transparency of transactions?
Sarbanes-Oxley and other Enron-induced regulation had less of an impact on the banking industry than it did on other industries.The banking industry was already well regulated, and bankers were accustomed to strict oversight.While it created some added costs, the banks have managed it quite well.
I don’t think Sarbanes-Oxley added much value, but it did add a lot of cost. So for most banks, it was nothing more than an expense structure that really didn’t produce any value to the industry as a whole.
For most banks, compliance costs doubled after Sarbanes-Oxley.
advice to directors about planning strategically for M&A this year
if you’re thinking about selling in the next few years, sooner is probably better than later. A couple things could happen by waiting.To start, we’ve got a 15% capital gains tax rate. That has been extended to 2010, but what Congress giveth Congress can taketh away.We now have a Democratic-controlled Congress, and if a Democratic president is elected in November of ’08, we may see tax rates rise. If you are a seller, that will mean a big chunk out of the money that stays in your pocket.That also could create a rush of people selling equities who will be looking to take advantage of the 15% capital gains before the rate goes any higher.
The yield curve is going to kill earnings, and to your point, Emmett, revenue growth is pretty tough.
In considering advice for directors, there are two messages that I would give directors. For acquirers, you need to do your due diligence really well.Turn over a few stones—you might find some dicey credits out there. I think some banks, in order to keep the earnings game going, have been stretching themselves. Pricing has been very competitive but in certain markets there has also been some liberalization of underwriting, and, in the end, the only thing that ever really breaks down a bank is credit. You can have margin squeeze, you can have slow earnings growth, but the only thing that really gets you in trouble is bad underwriting. So that advice holds true whether you’re a bank with shaky credit, or you’re looking to buy a bank that might have sacrificed some underwriting standards.That’s the biggest risk when you acquire. Luckily, there may not be a lot of examples of that because, for the most part, buyers have been disciplined.
On the other side of the table, for sellers, deals are going to have a larger stock component than perhaps they’ve had in the past, because acquirers have used up a lot of their capital flexibility. So if you’re going to trade paper, unless you’re going to sell it in the short run to beat the bump in the capital gains tax, you really want to be concerned about the quality of the paper you’re taking. It’s not just a number and a multiple. If you’re going to hold the stock for a while, you’re really making an investment in the acquirer, and you’d better know what you’re getting.
Comments of a client taking stock in a deal - “I’m thinking of three things: I’m selling, so I want the best price. I’m taking a job, so I want to make sure I have a good employment contract. And I’m also making an investment.” He owns 100% of this nonbank financial company. He got a good price, but he wants to make sure he’s making a good investment. It’s a fascinating way to look at it.
There have been a fair number of deals done in the past six months more for strategic merits than just for short-term financial gain. Huntington Bancshares/Sky Financial, for example, was more of a merger of equals where the best of both companies will be drawn upon.The Mellon Financial/Bank of New York deal was a very intelligent market share play. Equally strategic, PNC Financial Services reviewed all its business lines, resulting in a landmark deal between its subsidiary, Black Rock, and Merrill Lynch Asset Management. In all three examples, the market traded up upon the announcements. So for sellers, pricing may be on the top of the list, but it’s not the only thing. Don’t focus solely on the last nickel. Be just as concerned with the quality of the paper and the strategic merits of the deal.
For the full article
http://www.bankdirector.com/supplements/articles.pl?article_id=11888
Summary of Discssions between
EMMETT J. DALY, Principal, Sandler O’Neill & Partners, L.P.
JOHN DUFFY, Chairman & CEO, Keefe Bruyette & Woods
STEVEN D. HOVDE, President & CEO, Hovde Financial LLC
MICHAEL R. MCCLINTOCK, Managing Director, Friedman Billings Ramsey & Co.
About deal activity that occurred in 2006 and likely scenario in in the next 12 months
Pricing levels have stayed high in 2006 and there were a fair number of potential transactions that didn’t get announced because pricing expectations weren’t met. There are certain markets where sellers’ expectations are either too high or there’s a paucity of wellheeled buyers. For 2007, there are still certain pockets in the country—Florida,Texas, the high-growth markets—where there’s greater-than-average interest on the part of potential buyers in accessing those markets. Companies like National City Corp. (NatCity) that have gone into Florida, and other banks entering new geographic areas, are being forced to pay high prices.That will continue as long as valuations and trading markets stay where they are now, or go higher.There are other markets where potential sellers are under increasing pressure to figure out how to grow the revenue stream, and if they can’t figure that out, they’re probably going to wind up selling. In those cases, they’ll probably take multiples quite a bit below those that were seen in the high-growth markets.
Buyers using acquisitions to supplement weak organic revenue growth are paying high prices.
It looked like things were cooling off a little mid-summer, as far as pricing, perhaps softening the market a bit, but then it picked up again at the end of 2006, and it’s continuing strong in 2007. Obviously there are markets that are very pricey—Florida is one,Texas is another. M&A may stay pretty active throughout 2007, at least until late summer depending upon what happens elsewhere. But all indications are that, if anything, 2007 will be as busy as 2006, with pricing differences persisting among regions.
The need for revenue growth - Driving M&A's?
Banks are pursuing growth and they’re willing to pay for it. Another factor is there are still a fair number of market entrants that are willing to “pay up” to get into markets, and they’re offering more than existing banks in those markets are willing to pay. NatCity is a prime example of a bank that paid up to enter Florida and, quite frankly, paid more than anybody else would have.
We thought last year (2006) that M&A market has reached a high-water mark, and it’s bound to go down with margin pressures.This year, we could probably say the exact same thing. 2006 was more active than we originally thought it would be.
A study found out that high-performing banks get clearly superior multiples: 3 times book and 28 times earnings, something like that. But guess what? Mediocre banks in Florida also get clearly superior multiples! There’s no differentiation right now between good management and bad management in Florida. Some correction may happen there. But looking elsewhere, other than the big market centers, like Chicago, that aren’t already consolidated, going may be pretty dry for rural areas—there’s really nothing going on in slow-growth states. So as for M&A there, one is not sure what the trigger will be, except for earnings pressure.
Most banks, whether they’re large or small, are facing the same revenue challenges.The exceptions are the small banks in the high-growth markets—they’re the ones trading at the highest multiples today. So if they decide to sell because they can get an extraordinary multiple, then yes, they’re willing to do deals.
The basic issue today is the challenge to grow revenues and profitable business.That’s really what causes M&A dynamics. More deal activity my take place —the big guys are challenged just as much as the small guys.They’re back to looking at cost saves. In some earlier deals, people kept pushing the envelope in terms of how much they thought they could take out of a combination, and some expense-save numbers that were well north of 30% in some examples. While those acquirers ultimately may have gotten to those cost-save numbers, many of them lost 30% of the revenue due to their preoccupation with achievement of planned cost reductions. Buyers today are generally smarter, but still, some of the bigger banks are willing to push a bit on some of the cost-save numbers.
The averages look high today, although the mid-20 P/Es are a bit misleading.That kind of pricing is coming from the smaller deals where there is less scrutiny by the analyst community and where the buyers are using their own very highly priced stocks.The bigger acquirers that were hammered in years past for overpaying and underdelivering have shown more pricing restraint. So today, you have many of the bigger banks reentering the M&A scene, but they’re doing deals at levels closer to 18 times to 20 times earnings.
The multiples are going to moderate. A lot of buyers have used up their financial flexibility so they’re going to have to use stock more, which will moderate the pricing issue. Everybody has put as much trust-preferred as they can into capital structures. All the rabbits have been pulled out of the hat, so to speak, so the pricing matrix will be driven by where the multiples of the acquirers are trading.To some extent, they may be getting a little bit more aggressive on the cost-save numbers, That doesn’t mean we won’t see banks in Florida going for 25 times earnings, but that’s going to be the exception, rather than the norm.
Regarding the future of revenue growth for banks.The vast majority of a regional bank’s product set has been commoditized–mortgage banking, credit cards, and now even deposit products are being poached by nonbank competitors. Banks express concern with the flat yield curve, but in fact, an even more critical problem is the compression of their profit margin from product commoditization.
The construction and development business is a niche where you can get a point, or point and a half, with an 18-month turnover and still make good money. But as that slows down, it’s going to be difficult. With a weak housing market, mortgage bankers aren’t going to develop as much pipeline as they’ve had, so that could be problematic.
The insurance business has really been the panacea. But there are very few banks that can make money on it.
Banks have to be very careful with those acquisitions. Yes, as a revenue line item, it looks great. But on a bottom-line basis, it often looks terrible.The bulk of the revenue is being paid in commissions to the agent.There is generally very little falling to the bank’s bottom line.
There is still a belief among some of the bigger players that you need to gather market share within a market. If banks can get that market share, margins will widen, so they’ll want to continue acquiring in certain markets to gather more market share. So there is a demand for acquisition from players who want to grow their market share.
The scope for the consolidation to increase market share
There are too many banks today, plain and simple—too much competition.
And the barrier to entry these days isn’t very high. It almost seems for every two that are purchased, we’re seeing another one created. There were 191 de novo charters in 2006.
Private equity firms and hedge funds are investing in large de novo banks.The money needed to start de novos is much greater these days. $60 million to $100 million each were raised recentlt by two start-ups in Orlando, Florida and Durham, North Carolina. For these banks to compete, they needed critical mass to attract talent and make larger loans. Raising only $5 million to $15 million will not give you that capacity.
why denovos are booming? The reason is because existing franchises are trading at 15 times or 16 times earnings. So if you can lift out a management team and build some scale, it’s not too hard to get a decent IRR. For example, if you take an existing management team and, in three to four years, build a billion-dollar institution and get it up near 1% ROA, even with a 10% capital ratio (which is where the regulators make you keep it for the first three years), you could still get some pretty decent returns.
If you can make it profitable in the second year (so you don’t have three years of cumulative losses where you’re eating up a quarter of the book value) and then get it near 1% by the fourth year, the numbers will work. But it’s a question of having that management team in place. Is there enough management talent available to make that formula work?
There are a fair number of frustrated bankers at the big banks. Many times, these guys reach a point in their careers where they long for a more entrepreneurial environment. So if you come along with the right model and enough capital, you can get the right talent.
Wii credit become a significant challenge in 2007?
There are signs that it’s weakening right now.
Credit quality is starting to weaken in certain markets. A couple of Florida banks, for example, announced meaningful credit-quality deterioration earlier this year.This very well could be a significant theme in ’07. And it could actually slow down the M&A activity in markets where credit quality is difficult to measure.
changes in regulatory and accounting practices?Have they helped M&A in any meaningful way by increasing the transparency of transactions?
Sarbanes-Oxley and other Enron-induced regulation had less of an impact on the banking industry than it did on other industries.The banking industry was already well regulated, and bankers were accustomed to strict oversight.While it created some added costs, the banks have managed it quite well.
I don’t think Sarbanes-Oxley added much value, but it did add a lot of cost. So for most banks, it was nothing more than an expense structure that really didn’t produce any value to the industry as a whole.
For most banks, compliance costs doubled after Sarbanes-Oxley.
advice to directors about planning strategically for M&A this year
if you’re thinking about selling in the next few years, sooner is probably better than later. A couple things could happen by waiting.To start, we’ve got a 15% capital gains tax rate. That has been extended to 2010, but what Congress giveth Congress can taketh away.We now have a Democratic-controlled Congress, and if a Democratic president is elected in November of ’08, we may see tax rates rise. If you are a seller, that will mean a big chunk out of the money that stays in your pocket.That also could create a rush of people selling equities who will be looking to take advantage of the 15% capital gains before the rate goes any higher.
The yield curve is going to kill earnings, and to your point, Emmett, revenue growth is pretty tough.
In considering advice for directors, there are two messages that I would give directors. For acquirers, you need to do your due diligence really well.Turn over a few stones—you might find some dicey credits out there. I think some banks, in order to keep the earnings game going, have been stretching themselves. Pricing has been very competitive but in certain markets there has also been some liberalization of underwriting, and, in the end, the only thing that ever really breaks down a bank is credit. You can have margin squeeze, you can have slow earnings growth, but the only thing that really gets you in trouble is bad underwriting. So that advice holds true whether you’re a bank with shaky credit, or you’re looking to buy a bank that might have sacrificed some underwriting standards.That’s the biggest risk when you acquire. Luckily, there may not be a lot of examples of that because, for the most part, buyers have been disciplined.
On the other side of the table, for sellers, deals are going to have a larger stock component than perhaps they’ve had in the past, because acquirers have used up a lot of their capital flexibility. So if you’re going to trade paper, unless you’re going to sell it in the short run to beat the bump in the capital gains tax, you really want to be concerned about the quality of the paper you’re taking. It’s not just a number and a multiple. If you’re going to hold the stock for a while, you’re really making an investment in the acquirer, and you’d better know what you’re getting.
Comments of a client taking stock in a deal - “I’m thinking of three things: I’m selling, so I want the best price. I’m taking a job, so I want to make sure I have a good employment contract. And I’m also making an investment.” He owns 100% of this nonbank financial company. He got a good price, but he wants to make sure he’s making a good investment. It’s a fascinating way to look at it.
There have been a fair number of deals done in the past six months more for strategic merits than just for short-term financial gain. Huntington Bancshares/Sky Financial, for example, was more of a merger of equals where the best of both companies will be drawn upon.The Mellon Financial/Bank of New York deal was a very intelligent market share play. Equally strategic, PNC Financial Services reviewed all its business lines, resulting in a landmark deal between its subsidiary, Black Rock, and Merrill Lynch Asset Management. In all three examples, the market traded up upon the announcements. So for sellers, pricing may be on the top of the list, but it’s not the only thing. Don’t focus solely on the last nickel. Be just as concerned with the quality of the paper and the strategic merits of the deal.
For the full article
http://www.bankdirector.com/supplements/articles.pl?article_id=11888
M&A - Points to Refresh Weston's Book Ch.1
The Takeoer Process
Points to remember
M&As refer to
- Traditional mergers and acquisitions
- Takeovers
- Corporate restructuring
- Change in corporate control
- Changes in the ownership structure of firms
The 10 Change Forces
-Technological change
-Economies of scale, economies of scope, complementarity, and the need to catch up technologically
-Globalization and freer trade
-Changes in industry organization
-New industries
-Deregulation and regulation
-Favourable economic and financial conditions for much of the past two decades
-Negative trends in certain individual economies and industries
-Widening inequalities in income and wealth
-Relatively high valuations for equities during the 1990s
Terminology
Merger
Negotiated deals
Mutuality of negotiations
Mostly friendly
Tender offers
Offer made directly to the shareholders
Hostile - when offer is made without approval of the board
Restructuring — changes in organization structure or policies to alter the firm’s approach to achieving its long-term objectives.
Types of Mergers
Horizontal mergers
Mergers - Legal Framework of USA
Statutory merger — formal legal procedures
Short-form merger — streamlined legal procedures when ownership is 90%
Holding company — parent company has a controlling interest
Tender Offers
Bidder seeks target's shareholders approval
Minority shareholders
Terms may be "crammed down"
May be subject to "freeze-in"
Minority has the right to bring legal actions
Kinds of tender offers and provisions
Conditional vs. unconditional
Restricted vs. unrestricted
"Any-or-all" tender offer
Contested offers
Two-tier offers
Three-piece suitor
Risk Arbitrage in M&A Activity
In mergers and acquisitions, risk arbitrage is the practice of being long in the target stock and short in the bidder stock.
The position implies that arbitrageurs are betting that the merger will be successful.
Nature of the arbitrage industry
Information gathering and analysis is the principal raw material
Some arbitragers attempt to anticipate takeover bids and acquire stock before public announcement also.
Combination between firms in same business activity
Rationale
Economies of scale and scope
Synergies such as combining of best practices
Government regulation due to potential anticompetitive effects
Vertical mergers
Combinations between firms at different stages
Rationale is information and transaction efficiency
Conglomerate mergers
Combination of firms in unrelated types of business activity
Distinctions between conglomerate and nonconglomerate firms
- Investment companies — diversify to reduce portfolio risk
- Financial diversified — provide funds and expertise on generic management functions of planning and control
- Concentric diversified — combine with firms in less related activities to broaden market potentials
Risk Arbitrage in M&A Activity
Usually, long in the target stock and short in the bidder stock
Nature of the arbitrage industry
Information gathering and analysis is the principal raw material
Arbitragers attempt to anticipate takeover bids
Arbitrage funds
Abritrage funds invest in multiple merger parties to diversify the risk.
To minimise risk, funds undertke intensive research and do not investment on rumours.
They invest in 10-20 transactions at a given time.
They aim to give annual returns of 10% or greater and also to provide returns uncorrelated with overall stock market returns.
Summary
This chapter has summarized some basic terminology and concepts, providing a foundation of further knowledge and understanding of M&As.
Main risk is whether deals are completed
Points to remember
M&As refer to
- Traditional mergers and acquisitions
- Takeovers
- Corporate restructuring
- Change in corporate control
- Changes in the ownership structure of firms
The 10 Change Forces
-Technological change
-Economies of scale, economies of scope, complementarity, and the need to catch up technologically
-Globalization and freer trade
-Changes in industry organization
-New industries
-Deregulation and regulation
-Favourable economic and financial conditions for much of the past two decades
-Negative trends in certain individual economies and industries
-Widening inequalities in income and wealth
-Relatively high valuations for equities during the 1990s
Terminology
Merger
Negotiated deals
Mutuality of negotiations
Mostly friendly
Tender offers
Offer made directly to the shareholders
Hostile - when offer is made without approval of the board
Restructuring — changes in organization structure or policies to alter the firm’s approach to achieving its long-term objectives.
Types of Mergers
Horizontal mergers
Mergers - Legal Framework of USA
Statutory merger — formal legal procedures
Short-form merger — streamlined legal procedures when ownership is 90%
Holding company — parent company has a controlling interest
Tender Offers
Bidder seeks target's shareholders approval
Minority shareholders
Terms may be "crammed down"
May be subject to "freeze-in"
Minority has the right to bring legal actions
Kinds of tender offers and provisions
Conditional vs. unconditional
Restricted vs. unrestricted
"Any-or-all" tender offer
Contested offers
Two-tier offers
Three-piece suitor
Risk Arbitrage in M&A Activity
In mergers and acquisitions, risk arbitrage is the practice of being long in the target stock and short in the bidder stock.
The position implies that arbitrageurs are betting that the merger will be successful.
Nature of the arbitrage industry
Information gathering and analysis is the principal raw material
Some arbitragers attempt to anticipate takeover bids and acquire stock before public announcement also.
Combination between firms in same business activity
Rationale
Economies of scale and scope
Synergies such as combining of best practices
Government regulation due to potential anticompetitive effects
Vertical mergers
Combinations between firms at different stages
Rationale is information and transaction efficiency
Conglomerate mergers
Combination of firms in unrelated types of business activity
Distinctions between conglomerate and nonconglomerate firms
- Investment companies — diversify to reduce portfolio risk
- Financial diversified — provide funds and expertise on generic management functions of planning and control
- Concentric diversified — combine with firms in less related activities to broaden market potentials
Risk Arbitrage in M&A Activity
Usually, long in the target stock and short in the bidder stock
Nature of the arbitrage industry
Information gathering and analysis is the principal raw material
Arbitragers attempt to anticipate takeover bids
Arbitrage funds
Abritrage funds invest in multiple merger parties to diversify the risk.
To minimise risk, funds undertke intensive research and do not investment on rumours.
They invest in 10-20 transactions at a given time.
They aim to give annual returns of 10% or greater and also to provide returns uncorrelated with overall stock market returns.
Summary
This chapter has summarized some basic terminology and concepts, providing a foundation of further knowledge and understanding of M&As.
Main risk is whether deals are completed
M&A - Points to Refresh Weston's Book Ch.2
The legal and Regulatory Framework
The takeover laws are closely interlinked with securities laws.
Federal Securities Laws of USA
8 main statutes
# Securities Act of 1933
# Securities Exchange Act of 1934
# Public Utility Holding Company Act of 1935
# Trust Indenture Act of 1939
# Investment Company Act of 1940
# Investment Advisers Act of 1940
# Securities Investor Protection Act of 1970
# Sarbanes-Oxley Act of 2002 (SOA)
Relevance of of the various Acts.
The Securities Act of 1933 insists on information.
Section 5 prevents the public offering and sale of securities without a registration statement.
Section 8 provides for registration and permits the statement to automatically become effective 20 days after it is filed with the SEC. However, SEC has the power to issue a stop order.
Securities Exchange Act of 1934 — basis of later amendments applicable to takeover activities.
SEC imposes periodic disclosure requirements under Section 13 of Securities Exchange Act of 1934. One of the forms, Form 8-K is to be filed whenever specified events occur.
Section 14 governs proxy solicitation.
The takeover laws are closely interlinked with securities laws.
Federal Securities Laws of USA
8 main statutes
# Securities Act of 1933
# Securities Exchange Act of 1934
# Public Utility Holding Company Act of 1935
# Trust Indenture Act of 1939
# Investment Company Act of 1940
# Investment Advisers Act of 1940
# Securities Investor Protection Act of 1970
# Sarbanes-Oxley Act of 2002 (SOA)
Relevance of of the various Acts.
The Securities Act of 1933 insists on information.
Section 5 prevents the public offering and sale of securities without a registration statement.
Section 8 provides for registration and permits the statement to automatically become effective 20 days after it is filed with the SEC. However, SEC has the power to issue a stop order.
Securities Exchange Act of 1934 — basis of later amendments applicable to takeover activities.
SEC imposes periodic disclosure requirements under Section 13 of Securities Exchange Act of 1934. One of the forms, Form 8-K is to be filed whenever specified events occur.
Section 14 governs proxy solicitation.
M&A - Points to Refresh Weston's Book Ch.5
Strategy
Nature of Strategy
Strategy defines the central plans, policies and culture of an organization in a long-term horizon.
A more broader definition will be strategies define objectives (mission), goals (vision), plans, policies, and cultures of an organization over along time period.
Mission is the objective concerned with the customers.
Vision is one of the goals that excites everybody in the organization and hence it is emphasized, talked about, publicized and closely monitored.
Strategic planning is a dynamic process that requires inputs from all segments of the organization
Acquisition and restructuring policies and decisions should be part of the company's overall strategic plans and processes
Ultimate responsibility for strategic planning resides in the top executive group
Essential elements in strategic planning
Assessment of changes in the environments
Evaluation of company capabilities and limitations
Assessment of expectations of stakeholders
Analysis of company, competitors, industry, domestic economy, and international economies
Formulation of the missions, goals, and policies for the master strategy
Development of sensitivity to critical environmental changes
Formulation of organization performance measurements and benchmarks
Formulation of long-range strategy programs
Formulation of mid-range programs and short-run plans
Organization, funding, and other methods to implement all of the preceding elements
Information flow and feedback system for continued repetition of above activities and for adjustments and changes at each stage
Review and evaluation of above processes
Diversity in Strategic Planning Processes
Monitoring environments
Continuous monitoring of external environments
Should encompass both domestic and international dimensions
Include analysis of economic, technological, political, social, and legal factors
Stakeholders
Take into account individuals and groups that have interests in the organization and its actions
Stakeholders include customers, stockholders, creditors, employees, governments, communities, media, political groups, educational institutions, financial community, and international entities
Organization cultures
Corporate cultures affect strategic thinking and planning
Failure to mesh divergent cultures is a major obstacle to successful merger integration
Alternative strategy methodologies/Tools/Models
SWOT or WOTS UP - inventory and analysis of organizational strengths, weaknesses, environmental opportunities and threats
Gap analysis - assessment of goals versus forecasts or projections
Top-down or Bottom-up - relate to company forecasts versus aggregation of forecasts of segments
Computer models - opportunity for detail and complexity
Competitive analysis - assess customers, suppliers, new entrants, products, and product substitutability
Synergy - look for complementarities
Logical incrementalism - well-supported moves from current bases
Muddling through - incremental changes selected from a small number of policy alternatives
Comparative histories - learn from the experiences of others
Delphi technique - iterated opinion reactions from selected groups
Discussion group technique - stimulating ideas by unstructured discussions aimed at consensus decisions
Adaptive processes - periodic reassessment of environmental opportunities and organization capability adjustments required
Environmental scanning - continuous analysis of all relevant environments
Intuition - insights of brilliant managersEntrepreneurship - creative leadership
Discontinuities - crafting strategy from recognition of trend shifts
Brainstorming - free-form repeated exchange of ideas
Game theory - logical analysis of competitor actions and reactions
Game playing - assign roles and simulate alternative scenarios
Alternative Analytical Frameworks Employed in Strategy Formulation
Product life cycles - introduction, growth, maturity, decline stages with changing opportunities, threats
Learning curve - costs decline with cumulative volume experience resulting in first mover competitive advantages
Competitive analysis - industry structure, rivals' reactions, supplier and customer relations, product positioning, complementor company analysis
Cost leadership - low-cost advantages
Product differentiation - develop product configurations that achieve customer preference
Value chain analysis - controlled cost outlays to add product characteristics valued by customers
Niche opportunities - specialize to particular needs or interests of customer groups
Product breadth - carryover of organizational capabilitiesCorrelations with profitability - statistical studies of factors associated with high profitability measures
Market share - high market share associated with competitive superiority
Product quality - customer allegiance and price differentials for higher quality
Technological leadership - keep at frontiers of knowledge
Relatedness matrix - unfamiliar markets and products involve greatest riskFocus matrix - narrow versus broad product families
Growth/share matrix - aim for high market share in high growth markets
Attractiveness matrix - aim to be strong in attractive industries
Global matrix - aim for competitive strength in attractive countries
Approaches to Formulating Strategy
Boston Consulting Group Approach
Experience curve
Product life cycle
Product portfolio balance
Recent approaches
Impact of the Internet and other technological innovations
Performance measurements - cash flow return on investment (CFROI)
Michael Porter Approach (1980, 1985, 1987)
Select attractive industry — Five Forces Diagram (Competitive Advantage, 1985, p. 5)
Develop competitive advantage through cost leadership, product differentiation, or focus
Develop attractive value chains
Eclectic and Adaptive Processes
Strategy decisions as ill-structured problems
Match resources to investment opportunities under environmental uncertainty
Compounded by uncertain actions and reactions of competitors
Iterative solution methodology.
Decision steps:
State objectives
Define environment
Analyze strengths/weaknesses relative to environment
Assess potential in environment
Compare potential to objectives
If gap, search for alternative ways to close gap
Select alternatives for analysis
Cost/benefit analysis of alternatives
Tentative selection — formulate plans and actions
Repeat process from several viewpoints (research, production, marketing, financial, etc.) and all over system standpoint
Commit resources to implement plan
Competitive reactions
Follow-up to compare performance to plan
Repeat comparison of objectives and potential
Goal is effective alignment to changing environments
Evaluation of Alternative Approaches to Strategy
All are eclectic in actual practice
Computerization ties approaches closer together
Results of strategy viewed differently:
Firms can develop and implement strategic planning and diversification strategies to obtain competitive advantage
Adaptive process approach — competitive advantage not permanent; planning as a continual learning and adjustment process
Formulating a Acquisition/Merger Strategy
Requires continuing reassessment
Industry analysis
Competitor analysis
Supplier analysis
Customer analysis
Substitute products
Complementors
Technology changes
Societal factors
Goal/capability analysis
Are current goals, policies appropriate?
Do goals, policies match resources?
Does timing of goals/policies reflect ability of firm to change?
Work out strategic alternatives
May not include current strategy
Choose best
Mergers represent one set of alternatives
Firm's strengths/weaknesses relative to present/future industry conditions
Connection between strategic planning and mergers
Diversification strategy may be necessary if firm must alter product-market mix or capabilities to reduce or close strategic gap
Both involve evaluation of current capabilities relative to those needed to reach objectives
Related diversification involves lower risks
Nature of Strategy
Strategy defines the central plans, policies and culture of an organization in a long-term horizon.
A more broader definition will be strategies define objectives (mission), goals (vision), plans, policies, and cultures of an organization over along time period.
Mission is the objective concerned with the customers.
Vision is one of the goals that excites everybody in the organization and hence it is emphasized, talked about, publicized and closely monitored.
Strategic planning is a dynamic process that requires inputs from all segments of the organization
Acquisition and restructuring policies and decisions should be part of the company's overall strategic plans and processes
Ultimate responsibility for strategic planning resides in the top executive group
Essential elements in strategic planning
Assessment of changes in the environments
Evaluation of company capabilities and limitations
Assessment of expectations of stakeholders
Analysis of company, competitors, industry, domestic economy, and international economies
Formulation of the missions, goals, and policies for the master strategy
Development of sensitivity to critical environmental changes
Formulation of organization performance measurements and benchmarks
Formulation of long-range strategy programs
Formulation of mid-range programs and short-run plans
Organization, funding, and other methods to implement all of the preceding elements
Information flow and feedback system for continued repetition of above activities and for adjustments and changes at each stage
Review and evaluation of above processes
Diversity in Strategic Planning Processes
Monitoring environments
Continuous monitoring of external environments
Should encompass both domestic and international dimensions
Include analysis of economic, technological, political, social, and legal factors
Stakeholders
Take into account individuals and groups that have interests in the organization and its actions
Stakeholders include customers, stockholders, creditors, employees, governments, communities, media, political groups, educational institutions, financial community, and international entities
Organization cultures
Corporate cultures affect strategic thinking and planning
Failure to mesh divergent cultures is a major obstacle to successful merger integration
Alternative strategy methodologies/Tools/Models
SWOT or WOTS UP - inventory and analysis of organizational strengths, weaknesses, environmental opportunities and threats
Gap analysis - assessment of goals versus forecasts or projections
Top-down or Bottom-up - relate to company forecasts versus aggregation of forecasts of segments
Computer models - opportunity for detail and complexity
Competitive analysis - assess customers, suppliers, new entrants, products, and product substitutability
Synergy - look for complementarities
Logical incrementalism - well-supported moves from current bases
Muddling through - incremental changes selected from a small number of policy alternatives
Comparative histories - learn from the experiences of others
Delphi technique - iterated opinion reactions from selected groups
Discussion group technique - stimulating ideas by unstructured discussions aimed at consensus decisions
Adaptive processes - periodic reassessment of environmental opportunities and organization capability adjustments required
Environmental scanning - continuous analysis of all relevant environments
Intuition - insights of brilliant managersEntrepreneurship - creative leadership
Discontinuities - crafting strategy from recognition of trend shifts
Brainstorming - free-form repeated exchange of ideas
Game theory - logical analysis of competitor actions and reactions
Game playing - assign roles and simulate alternative scenarios
Alternative Analytical Frameworks Employed in Strategy Formulation
Product life cycles - introduction, growth, maturity, decline stages with changing opportunities, threats
Learning curve - costs decline with cumulative volume experience resulting in first mover competitive advantages
Competitive analysis - industry structure, rivals' reactions, supplier and customer relations, product positioning, complementor company analysis
Cost leadership - low-cost advantages
Product differentiation - develop product configurations that achieve customer preference
Value chain analysis - controlled cost outlays to add product characteristics valued by customers
Niche opportunities - specialize to particular needs or interests of customer groups
Product breadth - carryover of organizational capabilitiesCorrelations with profitability - statistical studies of factors associated with high profitability measures
Market share - high market share associated with competitive superiority
Product quality - customer allegiance and price differentials for higher quality
Technological leadership - keep at frontiers of knowledge
Relatedness matrix - unfamiliar markets and products involve greatest riskFocus matrix - narrow versus broad product families
Growth/share matrix - aim for high market share in high growth markets
Attractiveness matrix - aim to be strong in attractive industries
Global matrix - aim for competitive strength in attractive countries
Approaches to Formulating Strategy
Boston Consulting Group Approach
Experience curve
Product life cycle
Product portfolio balance
Recent approaches
Impact of the Internet and other technological innovations
Performance measurements - cash flow return on investment (CFROI)
Michael Porter Approach (1980, 1985, 1987)
Select attractive industry — Five Forces Diagram (Competitive Advantage, 1985, p. 5)
Develop competitive advantage through cost leadership, product differentiation, or focus
Develop attractive value chains
Eclectic and Adaptive Processes
Strategy decisions as ill-structured problems
Match resources to investment opportunities under environmental uncertainty
Compounded by uncertain actions and reactions of competitors
Iterative solution methodology.
Decision steps:
State objectives
Define environment
Analyze strengths/weaknesses relative to environment
Assess potential in environment
Compare potential to objectives
If gap, search for alternative ways to close gap
Select alternatives for analysis
Cost/benefit analysis of alternatives
Tentative selection — formulate plans and actions
Repeat process from several viewpoints (research, production, marketing, financial, etc.) and all over system standpoint
Commit resources to implement plan
Competitive reactions
Follow-up to compare performance to plan
Repeat comparison of objectives and potential
Goal is effective alignment to changing environments
Evaluation of Alternative Approaches to Strategy
All are eclectic in actual practice
Computerization ties approaches closer together
Results of strategy viewed differently:
Firms can develop and implement strategic planning and diversification strategies to obtain competitive advantage
Adaptive process approach — competitive advantage not permanent; planning as a continual learning and adjustment process
Formulating a Acquisition/Merger Strategy
Requires continuing reassessment
Industry analysis
Competitor analysis
Supplier analysis
Customer analysis
Substitute products
Complementors
Technology changes
Societal factors
Goal/capability analysis
Are current goals, policies appropriate?
Do goals, policies match resources?
Does timing of goals/policies reflect ability of firm to change?
Work out strategic alternatives
May not include current strategy
Choose best
Mergers represent one set of alternatives
Firm's strengths/weaknesses relative to present/future industry conditions
Connection between strategic planning and mergers
Diversification strategy may be necessary if firm must alter product-market mix or capabilities to reduce or close strategic gap
Both involve evaluation of current capabilities relative to those needed to reach objectives
Related diversification involves lower risks
M&A - Points to Refresh Weston's Book Ch.6 Theories of Mergers
Ch.6 Theories of Mergers and Tender Offers
You may not fully understand these brief points if you have not studied the text.
The theories and models are covered under the following classifications.
A. Theories explaining why mergers occur.
B. Theories of valuation effects of mergers and acquisitions
C. Theoretical predictions of the pattern of gains in takeovers.
D. Models of Merger Process
E. Models of Bidding Process
Theories or models under the classifications
A. Theories explaining why mergers occur.
- 1. Size and returns to scale
- 2. Transaction costs and mergers
B. Theories of valuation effects of mergers and acquisitions
- 1. Theories that posit that value increases
------ a. Transaction cost efficiency - Coase
-------b. Synergy
-------c. Disciplinary
- 2. Theories that posit that value reduces
-------a. Agency costs of free cash flows - Jensen
-------b. Management entrenchment - Shleifer and Vishny
- 3. Theories that argue that value is neutral
-------a. Hubris ----------Roll
C. Theoretical predictions of the pattern of gains in takeovers.
D. Models of Merger Process
---Negotiation - When is it done in public domain?
E. Models of Bidding Process
- 1. How to avoid winner's curse
- 2. Effects of Bidding costs
- 3. Role of toehold.
- 4. Whether to pay in cash or in stock
From the seller's perspective
- 5. How to react to initial bid?
- 6. Is it beneficial to accept termination fee in the MOU?
- 7. Should it seek competing bids and go for auction?
Various theories and models in little more detail
Economies of scale — Mergers allow a reorganization of production processes so that plant scale may be increased to obtain economies of scale.
Economies of scope
Organization capital
Organization reputation
Human capital resources
Generic managerial capabilities
Industry-specific managerial capabilities
Nonmanagerial human capital
Models of the Takeover Process
Economic — competition vs. market power
Auction types — Dutch, English
Forms of games
Types of equilibria — pooling, separating, sequential
Types of bids — one, multiple
Bidding theory — preemptive; successive bids
Framework
Total gains for both target and acquirer
Positive, if the following are present in the transaction
Efficiency improvement
Synergy
Increased market power
Zero if
Hubris
Winner's curse
Acquiring firm overpays
Negative, if
Agency problems
Mistakes or bad fit
Gains to target — all empirical studies show gains are positive
Gains to acquirer
----Positive — efficiency, synergy, or market power
----Negative — overpaying, hubris, agency problems, or mistakes
Sources of Value Increases from M&As
Efficiency increases
Unequal managerial capabilities
Better growth opportunities
Critical mass
Better utilization of fixed investments
Operating synergy
Economies of scale
Economies of scope
Vertical integration economies
Managerial economies
Diversification motives - Why firms diversify?
Demand for diversification by managers/employees because they make firm-specific investments
Diversification for preservation of organization capital
Diversification for preservation of reputational capital
Diversification and financial synergy
Diversification can increase corporate debt capacity, decrease present value of future tax liabilities
Diversification can decrease cash flow variability following merger of firms with imperfectly correlated cash flow streams
Diversification discount - A Problem
Studies find that the average diversified firm has been worth less than a portfolio of comparable single-segment firms
Reasons
External capital markets allocate resources more efficiently than internal capital markets
Rivalry between segments may result in subsidies to underperforming divisions within a firm
Managers of multiple activities are not well informed about each segment
Securities analysts may be less likely to follow multiple segment firms
Performance of managers of segments cannot be adequately evaluated without external market measures
Financial synergies
Complementarities between merging firms in matching the availability of investment opportunities and internal cash flows
Lower cost of internal financing — redeployment of capital from acquiring to acquired firm's industry
Increase in debt capacity which provides for greater tax savings
Economies of scale in flotation of new issues and lower transaction costs of financing
Circumstances favoring merger over internal growth
Lack of opportunities for internal growth
Lack of managerial capabilities and other resources
Potential excess capacity in industry
Timing may be important — mergers can achieve growth and development of new areas more quickly
Other firms may be competing for investments in traditional product lines
Strategic realignments
Acquire new management skills
Less time to acquire requisite capabilities for new growth opportunities or to meet new competitive threats
The q-ratio
Ratio of the market value of the firm's securities to the replacement costs of its assets
High q-ratio reflects superior management
Depressed stock prices or high replacement costs of assets cause low q-ratios
Undervaluation theory
Acquiring firm (A) seeks to add capacity; implies (A) has marginal q-ratio > 1
More efficient for (A) to acquire other firms in industry that have q-ratios < 1 than building a new facility
Still more points are to be posted
You may not fully understand these brief points if you have not studied the text.
The theories and models are covered under the following classifications.
A. Theories explaining why mergers occur.
B. Theories of valuation effects of mergers and acquisitions
C. Theoretical predictions of the pattern of gains in takeovers.
D. Models of Merger Process
E. Models of Bidding Process
Theories or models under the classifications
A. Theories explaining why mergers occur.
- 1. Size and returns to scale
- 2. Transaction costs and mergers
B. Theories of valuation effects of mergers and acquisitions
- 1. Theories that posit that value increases
------ a. Transaction cost efficiency - Coase
-------b. Synergy
-------c. Disciplinary
- 2. Theories that posit that value reduces
-------a. Agency costs of free cash flows - Jensen
-------b. Management entrenchment - Shleifer and Vishny
- 3. Theories that argue that value is neutral
-------a. Hubris ----------Roll
C. Theoretical predictions of the pattern of gains in takeovers.
D. Models of Merger Process
---Negotiation - When is it done in public domain?
E. Models of Bidding Process
- 1. How to avoid winner's curse
- 2. Effects of Bidding costs
- 3. Role of toehold.
- 4. Whether to pay in cash or in stock
From the seller's perspective
- 5. How to react to initial bid?
- 6. Is it beneficial to accept termination fee in the MOU?
- 7. Should it seek competing bids and go for auction?
Various theories and models in little more detail
Economies of scale — Mergers allow a reorganization of production processes so that plant scale may be increased to obtain economies of scale.
Economies of scope
Organization capital
Organization reputation
Human capital resources
Generic managerial capabilities
Industry-specific managerial capabilities
Nonmanagerial human capital
Models of the Takeover Process
Economic — competition vs. market power
Auction types — Dutch, English
Forms of games
Types of equilibria — pooling, separating, sequential
Types of bids — one, multiple
Bidding theory — preemptive; successive bids
Framework
Total gains for both target and acquirer
Positive, if the following are present in the transaction
Efficiency improvement
Synergy
Increased market power
Zero if
Hubris
Winner's curse
Acquiring firm overpays
Negative, if
Agency problems
Mistakes or bad fit
Gains to target — all empirical studies show gains are positive
Gains to acquirer
----Positive — efficiency, synergy, or market power
----Negative — overpaying, hubris, agency problems, or mistakes
Sources of Value Increases from M&As
Efficiency increases
Unequal managerial capabilities
Better growth opportunities
Critical mass
Better utilization of fixed investments
Operating synergy
Economies of scale
Economies of scope
Vertical integration economies
Managerial economies
Diversification motives - Why firms diversify?
Demand for diversification by managers/employees because they make firm-specific investments
Diversification for preservation of organization capital
Diversification for preservation of reputational capital
Diversification and financial synergy
Diversification can increase corporate debt capacity, decrease present value of future tax liabilities
Diversification can decrease cash flow variability following merger of firms with imperfectly correlated cash flow streams
Diversification discount - A Problem
Studies find that the average diversified firm has been worth less than a portfolio of comparable single-segment firms
Reasons
External capital markets allocate resources more efficiently than internal capital markets
Rivalry between segments may result in subsidies to underperforming divisions within a firm
Managers of multiple activities are not well informed about each segment
Securities analysts may be less likely to follow multiple segment firms
Performance of managers of segments cannot be adequately evaluated without external market measures
Financial synergies
Complementarities between merging firms in matching the availability of investment opportunities and internal cash flows
Lower cost of internal financing — redeployment of capital from acquiring to acquired firm's industry
Increase in debt capacity which provides for greater tax savings
Economies of scale in flotation of new issues and lower transaction costs of financing
Circumstances favoring merger over internal growth
Lack of opportunities for internal growth
Lack of managerial capabilities and other resources
Potential excess capacity in industry
Timing may be important — mergers can achieve growth and development of new areas more quickly
Other firms may be competing for investments in traditional product lines
Strategic realignments
Acquire new management skills
Less time to acquire requisite capabilities for new growth opportunities or to meet new competitive threats
The q-ratio
Ratio of the market value of the firm's securities to the replacement costs of its assets
High q-ratio reflects superior management
Depressed stock prices or high replacement costs of assets cause low q-ratios
Undervaluation theory
Acquiring firm (A) seeks to add capacity; implies (A) has marginal q-ratio > 1
More efficient for (A) to acquire other firms in industry that have q-ratios < 1 than building a new facility
Still more points are to be posted
M&A - Points to Refresh Weston's Book Ch.8
Chapter 8. Empirical Tests of M&A Performance
Main topics of the chapter
Evidence on the combined return to target and bidder shareholders in M&A transactions.
Factors found to affect the magnitude of target returns
Factors found to affect the magnitude of bidder returns
Takeover Regulation and Takeover Hostility
Long-Term Stock Price Performance following Mergers
Efficiency versus Market Power
Effects of Concentration
The combined returns in mergers and acquisitions
Are mergers net positive value investments?
Mergers theories based on synergy and efficiency predict that the combined return in a merger is positive.
Theories based on the agency costs of free cash flow and managerial entrenchment argue that mergers destroy wealth and predict that the combined returns in a merger are negative.
Roll’s(1986) hubris hypothesis suggested that any wealth gain target firms merely represents redistribution from bidders and predicts that the net merger gains are zero.
Event study evidence
Early evidence by Jensen and Ruback [1983].
Found that mergers created wealth for target shareholders and were roughly a break-even endeavour for bidders.
This evidence was generally taken to indicate that mergers created wealth.
Roll (1986) observed that bidders are often much larger than targets.
Hence combined return is to be calculated by determining the size-weighted return.
Results of studies that were done after Roll’s criticism.
Bradley, Desai, and Kim (1988)
Kaplan and Weisbach (1992)
Servaes (1991)
Mulherin and Boone(2000)
Andrade, Mitchell, and Stafford (2001)
Main topics of the chapter
Evidence on the combined return to target and bidder shareholders in M&A transactions.
Factors found to affect the magnitude of target returns
Factors found to affect the magnitude of bidder returns
Takeover Regulation and Takeover Hostility
Long-Term Stock Price Performance following Mergers
Efficiency versus Market Power
Effects of Concentration
The combined returns in mergers and acquisitions
Are mergers net positive value investments?
Mergers theories based on synergy and efficiency predict that the combined return in a merger is positive.
Theories based on the agency costs of free cash flow and managerial entrenchment argue that mergers destroy wealth and predict that the combined returns in a merger are negative.
Roll’s(1986) hubris hypothesis suggested that any wealth gain target firms merely represents redistribution from bidders and predicts that the net merger gains are zero.
Event study evidence
Early evidence by Jensen and Ruback [1983].
Found that mergers created wealth for target shareholders and were roughly a break-even endeavour for bidders.
This evidence was generally taken to indicate that mergers created wealth.
Roll (1986) observed that bidders are often much larger than targets.
Hence combined return is to be calculated by determining the size-weighted return.
Results of studies that were done after Roll’s criticism.
Bradley, Desai, and Kim (1988)
Kaplan and Weisbach (1992)
Servaes (1991)
Mulherin and Boone(2000)
Andrade, Mitchell, and Stafford (2001)
M&A - Points to Refresh - Weston's Book Ch.22
Implementation and Management Guides for M&As
General guidelines for successful M&A activity
M&A program must be part of long-range strategic planning
Recognize that in seeking new opportunities for value enhancement, internal investments and restructuring can be used in conjunction with external investments and M&A activity
Know the industry and its competitive environment as basis for making projections for the future
Be sure that elements of relatedness are present,
Combine firms with relatively unique relationships that other firms cannot match
Avoid multiple bids that could drive up price of target excessively
Acquired unit should be worth more as part of acquirer firm than alone or with some other firm
Recognize appropriate times to be a buyer — at times prices may get too high
Communicate as soon as possible when major investment and restructuring decisions are made; continued communications through implementation process
Top executives must be involved in M&A activity and in other major investment programs
Strong emphasis on maintaining and enhancing managerial rewards and incentives in postmerger period; incentives must exist in order that management of all companies combined in merger stay and contribute to combined company
Top management must be involved in postmerger coordination
Future promotions must not use distinctions based on employment in historical components of company;
if employees have to be separated, it should be done in most enlightened way possible (e.g., assistance with placement activities, insurance coverage)
Managing integration of cultures and coordinating all systems and informal processes of the combining firm should be a top priority
Wishful thinking about potential merger benefits should be avoided; if acquiring firm pays too much, the result will be a negative net present value investment
Restructuring and renewal requirements for an organization should be continuously reassessed in the firm's strategic planning processes
A good deal becomes a bad deal if you overpay
Why Mergers Fail?
1. Pay too much
2. Overoptimistic expected synergies
3. No business logic to the deal.
4. Businesses unrelated.
5. Did not understand what they bought.
6. Unduly hyped by investment bankers, consulting firms, and/or lawyers
7. Underestimated regulatory delays or prohibitions
8. Hubris of top executives – ambition to run a bigger firm and increase salary
9. Top executives want to cash out stock options
10.Culture clashes
11. Ineffective integration – poorly planned, poorly executed, too slow, too fast
12. Suppression of effective business systems of target firms, destroying the basis of their prior success.
13. Too much debt – future interest payments burden
14. Too much short term debt – repayment before synergies are realised
15. Power struggles or incompatibility in board room
16.Mergers of equals - delay requisite decisions
17. Target resistance – white knights, scorched earth, antitrust
18. Multiple bidders cause overpayment
19. Hostile takeovers prevent obtaining sufficient information, fail to uncover basis incompatibilities
20. Basic industry problems such as overcapacity (auto, steel, telecoms)
The Acquisition Process
Strategy formulation
Economics of the industry
Organization system
Multiple strategies for value growth
Search processes
Economic basis — synergy potentials
Restructuring potentials
Due diligence – legal and business
Cultural factors
Valuation
Negotiation
Deal structuring
Implementation and integration
Reviews and renewal process
Acquisition Process in More Detail
Strategy formulation
Formulate firm's strategies
Articulate goals
Assess strengths and weaknesses in relationship to goals
Eliminate weaknesses
Identify resources and capabilities needed to enforce strengths
Iterative procedure because of dynamic environmental changes in competitive thrusts
Economics of the industry
Firm defined by business economic characteristics of its industry
Consumer versus producer products
Durable versus nondurable
Product versus services versus information
Stage in life cycle
Tangible versus intangible
Pace of technological and other changes
Business activity greatly influenced by increased dynamism of economic, political, and cultural environments
Industry have characteristics that influence responses to change
Some industries are impacted more than others by rates of growth in gross domestic product (GDP)
Nature of industry may influence relative advantage of large and small firms
Industry characteristics influence opportunities for industry roll-ups or need for consolidations
Organization system
Organization structure consistent with firm's strategies and operations
Resources and capabilities consistent with market-product activities
Information flow systems related to performance measurements
Compensation systems based on contributions to value creation
Clear strategic vision and strong organization framework required to embrace expanded and new activities
Operational efficiency
Solid basis for adding capabilities and resources
Align more effectively to changes and opportunities by acquisitions
Multiple strategies for value growth
Internal growth — product expansion and new product programs
Alliance and joint ventures — extend possibilities with smaller investment needs
Licensing from other firms — provides additional revenues with small incremental direct costs
Divestitures — harvest successes or correct mistakes; increased focus
Carve-outs plus spin-offs — source of funds and increased corporate focus
Financial engineering — use of debt and share repurchases may enhance value
Search processes
Ongoing activity of firm
Firm should have dedicated business development group — core group that builds up experience and expertise on acquisition process
Surveillance of firm's environment
Employees — source of research information on potential acquisition candidates
Customers — information on products and market effectiveness
Competitors — information of best practices in relation to industry
Suppliers — information on product improvements and opportunities for vertical integration of operations
Trade shows and technical forums
Financial analysts and market analysts — knowledge about best practices
Economic basis — synergy potentials
Economic reasons
Internet sector — growth driven by new technologies, new information systems, and new distribution systems
Formulate new concepts and expand it rapidly by acquisitions — Yahoo, Amazon Inc.
Acquisition of critical set of technological capabilities — Cisco Systems, Oracle
Deregulation
Reflects new technologies and intensified competition
Competitive pressures on incumbent firms; acquisitions to reinvent itself
Excess capacity and intense product competition
Stimulate acquisitions such as in automobile industry
Stimulate alliances, joint ventures, and mergers
Globalization
Strong pressure for cross-border mergers
Bargain acquisitions in countries suffering economic reversals
Industry roll-ups
Consolidation of highly fragmented industry
Industry characteristic favorable for roll-up
Initial fragmentation
Substantial industry annual revenues
Companies with robust cash flows
Economies of scale
Restructuring potentials
Improvement in collection period for receivables
Reduction in inventory costs
Control of fixed asset investments by improved models of production management and material flows
Savings in management of financing forms and sources
Innovative dividend policy through use of share repurchases
Leveraging best practices to achieve efficiency increases
Improvement of products, and development of new products
Effective utilization of investments
Improvement in asset and liability management
Due diligence — both legal and business
Examine all aspects of prospective partners
Make sure there are no legal problems such as pension funding, environmental or product liabilities
Assess accounting records
Assess maintenance and quality of equipment
Assess possibility of maintaining cost controls
Evaluate potentials for product improvements or superiorities
Evaluate management relationships, shortcomings, and needs
Evaluate how two management systems will fit together
Assess any new developments that will benefit firm or require adjustments
Cultural factors
Corporate culture
Defined by organization's values, traditions, norms, beliefs, and behavior patterns
Articulated in formal statements of organization values and aspirations
Expressed in informal relationships and networks
Reflected in company's operating style
Corporate culture is conveyed by the kinds of behavior that are rewarded in an organization
Firm must manage its own corporate culture effectively before engaging in merger activity
Firm must recognize cultural factors in planning for external growth
Due diligence must include full coverage of cultural factors
End solutions
Recognize cultural differences and respect them
Exchange executives across organization
Ultimately, cultures may move toward similarity
Differences may be valued as sources of increased efficiency
Valuation
Valuation analysis to provide disciplined procedure for arriving at a price
Price too low — target may resist and seek other bidders
Price too high — premium may never be recovered
Mergers increase value when value of combined firm is greater than adding premerger values of independent entities
Negotiation (Coming to an Agreement)
Principled negotiation
Use standards of fairness in seeking to meet interests of both parties
Produce agreements that build good future relationships
Negotiation strategy and techniques
Good preparation
Assess strengths and weaknesses
Identify resources and capabilities required
Develop solid quantification of firm's BATNA (best alternative to a negotiated agreement)
Realistic identification of gains, synergies, and their sources
Analyze value relationships
Comparable companies and comparable transactions
Discounted cash flows
Premium paid must have sound foundation in estimates of synergy and savings
Deal structuring
Understand tax consequences of combining firms
Understand true economic consequences of accounting treatment
Consider method of payment — cash, stock, debt, and combinations
Cash reduces uncertainty for seller, but has tax consequences
Stock makes actual return to seller dependent on future outcome of combination
Assess use of explicit contingency payout, and formulation of standards for bonus or penalty
Implementation
Implementation Capability is a condition for thinking about M&As
Firm must have implemented all aspects of effective operations before it can effectively combine organizations
Must have shareholder value orientation
Must have strategies and organization structures compatible with its multiple business units
Firm must formulate advance integration plans that can effectively accomplish goals of M&A processes
Companies should seek mergers that further their corporate strategy
Strengthen weaknesses
Fill gaps
Extend capabilities
Develop new growth opportunities
Integration leadership is required
Must have management experience
Must have experience with external constituencies
Must have credibility with various integrating participants
Must have good communications plans
Provide early, frequent, and clear integration messages
Address clearly concerns of employees
Cross-functional teams should be created to devote attention to integration issues
Firm must balance between speed and disruption
Reviews and renewal processes
Firm must continuously adjust to new opportunities and challenges
Must monitor change forces in environment in which firm operates
Must recognize impacts of competitors
Firm must have broad strategy that guides success in its business markets
Rules for Successful Mergers
Drucker's merger rules (1981)
Drucker five commandments
Acquirer must contribute something to acquired firm
Common core of unity required
Acquirer must respect business of acquired firm
Acquirer must provide top management to acquired firm within a year or so of merger
Managements in both firms should receive promotions across entities within first year of merger
Simplification of Drucker rules
Merging companies must be related in some way
Well-structured incentives must be offered to managers of both firms — acquiring firm must be prepared to replace departing key managers in target firm
Drucker rules may be unduly restrictive if interpreted too literally
Additional commentaries to Drucker rules
Relatedness necessary; complementarities are also important
Relatedness/complementarities apply to general management functions and to specific managerial capabilities
Negative returns will result if acquirer pays too much
Greater uncertainty in merger than in internal investments
Recovery of premium paid must be based on real economies — operating and/or financial
Anslinger and Copeland (1996)
- Studied 21 successful acquirers of two types
- Diversified corporate acquirers
- Financial buyers such as leveraged buyout firms
Seven key principles of success
Acquire companies with track record of innovative operating strategies
Capable managerial talent is most important for creating value
Use strong incentive compensation systems such as stock purchase programs so top managers have large part of their net worth in company
Link compensation incentives to future changes in cash flows
Push pace of change to make turnarounds happen within first two years of merger
Develop information and feedback systems that promote continuing dynamic relationships among owners, managers, and the board
Acquiring firms must use executives with expertise and demonstrated experience as deal makers
General guidelines for successful M&A activity
M&A program must be part of long-range strategic planning
Recognize that in seeking new opportunities for value enhancement, internal investments and restructuring can be used in conjunction with external investments and M&A activity
Know the industry and its competitive environment as basis for making projections for the future
Be sure that elements of relatedness are present,
Combine firms with relatively unique relationships that other firms cannot match
Avoid multiple bids that could drive up price of target excessively
Acquired unit should be worth more as part of acquirer firm than alone or with some other firm
Recognize appropriate times to be a buyer — at times prices may get too high
Communicate as soon as possible when major investment and restructuring decisions are made; continued communications through implementation process
Top executives must be involved in M&A activity and in other major investment programs
Strong emphasis on maintaining and enhancing managerial rewards and incentives in postmerger period; incentives must exist in order that management of all companies combined in merger stay and contribute to combined company
Top management must be involved in postmerger coordination
Future promotions must not use distinctions based on employment in historical components of company;
if employees have to be separated, it should be done in most enlightened way possible (e.g., assistance with placement activities, insurance coverage)
Managing integration of cultures and coordinating all systems and informal processes of the combining firm should be a top priority
Wishful thinking about potential merger benefits should be avoided; if acquiring firm pays too much, the result will be a negative net present value investment
Restructuring and renewal requirements for an organization should be continuously reassessed in the firm's strategic planning processes
A good deal becomes a bad deal if you overpay
Why Mergers Fail?
1. Pay too much
2. Overoptimistic expected synergies
3. No business logic to the deal.
4. Businesses unrelated.
5. Did not understand what they bought.
6. Unduly hyped by investment bankers, consulting firms, and/or lawyers
7. Underestimated regulatory delays or prohibitions
8. Hubris of top executives – ambition to run a bigger firm and increase salary
9. Top executives want to cash out stock options
10.Culture clashes
11. Ineffective integration – poorly planned, poorly executed, too slow, too fast
12. Suppression of effective business systems of target firms, destroying the basis of their prior success.
13. Too much debt – future interest payments burden
14. Too much short term debt – repayment before synergies are realised
15. Power struggles or incompatibility in board room
16.Mergers of equals - delay requisite decisions
17. Target resistance – white knights, scorched earth, antitrust
18. Multiple bidders cause overpayment
19. Hostile takeovers prevent obtaining sufficient information, fail to uncover basis incompatibilities
20. Basic industry problems such as overcapacity (auto, steel, telecoms)
The Acquisition Process
Strategy formulation
Economics of the industry
Organization system
Multiple strategies for value growth
Search processes
Economic basis — synergy potentials
Restructuring potentials
Due diligence – legal and business
Cultural factors
Valuation
Negotiation
Deal structuring
Implementation and integration
Reviews and renewal process
Acquisition Process in More Detail
Strategy formulation
Formulate firm's strategies
Articulate goals
Assess strengths and weaknesses in relationship to goals
Eliminate weaknesses
Identify resources and capabilities needed to enforce strengths
Iterative procedure because of dynamic environmental changes in competitive thrusts
Economics of the industry
Firm defined by business economic characteristics of its industry
Consumer versus producer products
Durable versus nondurable
Product versus services versus information
Stage in life cycle
Tangible versus intangible
Pace of technological and other changes
Business activity greatly influenced by increased dynamism of economic, political, and cultural environments
Industry have characteristics that influence responses to change
Some industries are impacted more than others by rates of growth in gross domestic product (GDP)
Nature of industry may influence relative advantage of large and small firms
Industry characteristics influence opportunities for industry roll-ups or need for consolidations
Organization system
Organization structure consistent with firm's strategies and operations
Resources and capabilities consistent with market-product activities
Information flow systems related to performance measurements
Compensation systems based on contributions to value creation
Clear strategic vision and strong organization framework required to embrace expanded and new activities
Operational efficiency
Solid basis for adding capabilities and resources
Align more effectively to changes and opportunities by acquisitions
Multiple strategies for value growth
Internal growth — product expansion and new product programs
Alliance and joint ventures — extend possibilities with smaller investment needs
Licensing from other firms — provides additional revenues with small incremental direct costs
Divestitures — harvest successes or correct mistakes; increased focus
Carve-outs plus spin-offs — source of funds and increased corporate focus
Financial engineering — use of debt and share repurchases may enhance value
Search processes
Ongoing activity of firm
Firm should have dedicated business development group — core group that builds up experience and expertise on acquisition process
Surveillance of firm's environment
Employees — source of research information on potential acquisition candidates
Customers — information on products and market effectiveness
Competitors — information of best practices in relation to industry
Suppliers — information on product improvements and opportunities for vertical integration of operations
Trade shows and technical forums
Financial analysts and market analysts — knowledge about best practices
Economic basis — synergy potentials
Economic reasons
Internet sector — growth driven by new technologies, new information systems, and new distribution systems
Formulate new concepts and expand it rapidly by acquisitions — Yahoo, Amazon Inc.
Acquisition of critical set of technological capabilities — Cisco Systems, Oracle
Deregulation
Reflects new technologies and intensified competition
Competitive pressures on incumbent firms; acquisitions to reinvent itself
Excess capacity and intense product competition
Stimulate acquisitions such as in automobile industry
Stimulate alliances, joint ventures, and mergers
Globalization
Strong pressure for cross-border mergers
Bargain acquisitions in countries suffering economic reversals
Industry roll-ups
Consolidation of highly fragmented industry
Industry characteristic favorable for roll-up
Initial fragmentation
Substantial industry annual revenues
Companies with robust cash flows
Economies of scale
Restructuring potentials
Improvement in collection period for receivables
Reduction in inventory costs
Control of fixed asset investments by improved models of production management and material flows
Savings in management of financing forms and sources
Innovative dividend policy through use of share repurchases
Leveraging best practices to achieve efficiency increases
Improvement of products, and development of new products
Effective utilization of investments
Improvement in asset and liability management
Due diligence — both legal and business
Examine all aspects of prospective partners
Make sure there are no legal problems such as pension funding, environmental or product liabilities
Assess accounting records
Assess maintenance and quality of equipment
Assess possibility of maintaining cost controls
Evaluate potentials for product improvements or superiorities
Evaluate management relationships, shortcomings, and needs
Evaluate how two management systems will fit together
Assess any new developments that will benefit firm or require adjustments
Cultural factors
Corporate culture
Defined by organization's values, traditions, norms, beliefs, and behavior patterns
Articulated in formal statements of organization values and aspirations
Expressed in informal relationships and networks
Reflected in company's operating style
Corporate culture is conveyed by the kinds of behavior that are rewarded in an organization
Firm must manage its own corporate culture effectively before engaging in merger activity
Firm must recognize cultural factors in planning for external growth
Due diligence must include full coverage of cultural factors
End solutions
Recognize cultural differences and respect them
Exchange executives across organization
Ultimately, cultures may move toward similarity
Differences may be valued as sources of increased efficiency
Valuation
Valuation analysis to provide disciplined procedure for arriving at a price
Price too low — target may resist and seek other bidders
Price too high — premium may never be recovered
Mergers increase value when value of combined firm is greater than adding premerger values of independent entities
Negotiation (Coming to an Agreement)
Principled negotiation
Use standards of fairness in seeking to meet interests of both parties
Produce agreements that build good future relationships
Negotiation strategy and techniques
Good preparation
Assess strengths and weaknesses
Identify resources and capabilities required
Develop solid quantification of firm's BATNA (best alternative to a negotiated agreement)
Realistic identification of gains, synergies, and their sources
Analyze value relationships
Comparable companies and comparable transactions
Discounted cash flows
Premium paid must have sound foundation in estimates of synergy and savings
Deal structuring
Understand tax consequences of combining firms
Understand true economic consequences of accounting treatment
Consider method of payment — cash, stock, debt, and combinations
Cash reduces uncertainty for seller, but has tax consequences
Stock makes actual return to seller dependent on future outcome of combination
Assess use of explicit contingency payout, and formulation of standards for bonus or penalty
Implementation
Implementation Capability is a condition for thinking about M&As
Firm must have implemented all aspects of effective operations before it can effectively combine organizations
Must have shareholder value orientation
Must have strategies and organization structures compatible with its multiple business units
Firm must formulate advance integration plans that can effectively accomplish goals of M&A processes
Companies should seek mergers that further their corporate strategy
Strengthen weaknesses
Fill gaps
Extend capabilities
Develop new growth opportunities
Integration leadership is required
Must have management experience
Must have experience with external constituencies
Must have credibility with various integrating participants
Must have good communications plans
Provide early, frequent, and clear integration messages
Address clearly concerns of employees
Cross-functional teams should be created to devote attention to integration issues
Firm must balance between speed and disruption
Reviews and renewal processes
Firm must continuously adjust to new opportunities and challenges
Must monitor change forces in environment in which firm operates
Must recognize impacts of competitors
Firm must have broad strategy that guides success in its business markets
Rules for Successful Mergers
Drucker's merger rules (1981)
Drucker five commandments
Acquirer must contribute something to acquired firm
Common core of unity required
Acquirer must respect business of acquired firm
Acquirer must provide top management to acquired firm within a year or so of merger
Managements in both firms should receive promotions across entities within first year of merger
Simplification of Drucker rules
Merging companies must be related in some way
Well-structured incentives must be offered to managers of both firms — acquiring firm must be prepared to replace departing key managers in target firm
Drucker rules may be unduly restrictive if interpreted too literally
Additional commentaries to Drucker rules
Relatedness necessary; complementarities are also important
Relatedness/complementarities apply to general management functions and to specific managerial capabilities
Negative returns will result if acquirer pays too much
Greater uncertainty in merger than in internal investments
Recovery of premium paid must be based on real economies — operating and/or financial
Anslinger and Copeland (1996)
- Studied 21 successful acquirers of two types
- Diversified corporate acquirers
- Financial buyers such as leveraged buyout firms
Seven key principles of success
Acquire companies with track record of innovative operating strategies
Capable managerial talent is most important for creating value
Use strong incentive compensation systems such as stock purchase programs so top managers have large part of their net worth in company
Link compensation incentives to future changes in cash flows
Push pace of change to make turnarounds happen within first two years of merger
Develop information and feedback systems that promote continuing dynamic relationships among owners, managers, and the board
Acquiring firms must use executives with expertise and demonstrated experience as deal makers
Tuesday, November 6, 2007
Strategy - Financial Services Firms
What works for financial services firms?
Shareholders have turned up the heat on companies that fail to maximize the value of every business in their portfolio. Some regulators in the EU and US are allowing wider scope for industry consolidation and cross-border deals, putting more big institutions into play. Meanwhile, companies are forming consortia to carve up the industry’s underperformers as potential takeover prey.
What will it take to thrive in this new environment? Some telling patterns emerged when we analysed 30 of the largest publicly-held European and USfinancial services firms such as Citibank and HSBC to identify which companies generated the highest profit growth and best total shareholder returns from 1996 to 2006. While their assets and strategies differ, we found that investors tend to reward companies that focus on three priorities.
First, the top performers attain best-in-class earnings for each business in which they compete. Financial services executives have traditionally measured and communicated how their company’s overall performance stacked up against that of their peers, irrespective of their business mix. For many, that meant setting a broad earnings growth objective of 10% or so annually, across all business units.
The industry elite, by contrast, target ambitious goals for each business in their portfolio. By capturing the full value of their core business units and making smart acquisitions that reinforce their core, the leaders grew at an18% annual rate over the past decade.
Investors have taken notice, judging companies against their top competitor in each business. As a result, the companies that concentrated on a few key customers and markets usually outperformed their more diversified rivals. In retail and commercial banking, an attractive sector during the past decade, top performers such as Santander and Wells Fargo posted earnings growth that outpaced the sector’s 17.9% average.
Even in slower-growing businesses, investors prized leadership. Profit growth among insurers averaged just 9.6% annually, but gains at France-headquartered AXA, the sector leader, were far higher at 13%.
The upshot: Investors are likely to reward companies that excel both in terms of overall earnings growth and business by business.
Second, leaders benefit from strong concentration, measured by market share in a few key markets. Companies such as Morgan Stanley and Royal Bank of Canada, whose market share in their main business was at least 60% that of the market leader, had shareholder returns nearly one-third greater than their rivals, on average. Likewise, firms that derived more than half their revenues from a single large geography, such as the EU or the US, generated annual shareholder returns 50% higher than more dispersed competitors.
That mandate to focus will intensify pressure on companies to divest holdings that distract from their core markets. It also encourages the formation of consortia to acquire and break up the assets of underperformers.
Third, sector leaders are skilled at both growing their current businesses organically and shifting to mergers and acquisitions when industry cycles favour deal-making. Through the late 1990s, as regulatory changes fuelled market integration in the EU and consolidation in the US, the top performers included big acquirers. But, as the M&A wave receded after 2001, the leaders focused mainly on organic growth.
A close look indicates that the leaders wall off the day-to-day operations of their core businesses from the distractions of deal-making. Milan-based Unicredit, for example, has a dedicated team that continuously scans the market for attractive targets, builds relationships across the industry, and anticipates potential post-merger integration issues. When circumstances align, it is ready to pounce.
Those capabilities should be more prized than ever in the years ahead. Financial services remain far less consolidated globally than other major industries, such as auto manufacturing or energy production.
According to our projections, the average market capitalization of the biggest firms could increase to some £275 billion over the next five years, from £77 billion today. But sheer size is no guarantee for success. Only three of the companies we examined, that were among the ten biggest in 1996, remain in the Top 10 or survived the decade as independent organizations. Heeding lessons from today’s winners, it will be companies that focus on growing their core profits and market share that will control their own destinies.
Ashish Singh is the managing director of Bain & Co. in India. John Ott is a partner in Bain’s London office and a leader of the firm’s European Financial Services practice. Andrew Schwedel is a partner in Bain’s San Francisco office and leads Bain’s Financial Services practice for the Americas
Shareholders have turned up the heat on companies that fail to maximize the value of every business in their portfolio. Some regulators in the EU and US are allowing wider scope for industry consolidation and cross-border deals, putting more big institutions into play. Meanwhile, companies are forming consortia to carve up the industry’s underperformers as potential takeover prey.
What will it take to thrive in this new environment? Some telling patterns emerged when we analysed 30 of the largest publicly-held European and USfinancial services firms such as Citibank and HSBC to identify which companies generated the highest profit growth and best total shareholder returns from 1996 to 2006. While their assets and strategies differ, we found that investors tend to reward companies that focus on three priorities.
First, the top performers attain best-in-class earnings for each business in which they compete. Financial services executives have traditionally measured and communicated how their company’s overall performance stacked up against that of their peers, irrespective of their business mix. For many, that meant setting a broad earnings growth objective of 10% or so annually, across all business units.
The industry elite, by contrast, target ambitious goals for each business in their portfolio. By capturing the full value of their core business units and making smart acquisitions that reinforce their core, the leaders grew at an18% annual rate over the past decade.
Investors have taken notice, judging companies against their top competitor in each business. As a result, the companies that concentrated on a few key customers and markets usually outperformed their more diversified rivals. In retail and commercial banking, an attractive sector during the past decade, top performers such as Santander and Wells Fargo posted earnings growth that outpaced the sector’s 17.9% average.
Even in slower-growing businesses, investors prized leadership. Profit growth among insurers averaged just 9.6% annually, but gains at France-headquartered AXA, the sector leader, were far higher at 13%.
The upshot: Investors are likely to reward companies that excel both in terms of overall earnings growth and business by business.
Second, leaders benefit from strong concentration, measured by market share in a few key markets. Companies such as Morgan Stanley and Royal Bank of Canada, whose market share in their main business was at least 60% that of the market leader, had shareholder returns nearly one-third greater than their rivals, on average. Likewise, firms that derived more than half their revenues from a single large geography, such as the EU or the US, generated annual shareholder returns 50% higher than more dispersed competitors.
That mandate to focus will intensify pressure on companies to divest holdings that distract from their core markets. It also encourages the formation of consortia to acquire and break up the assets of underperformers.
Third, sector leaders are skilled at both growing their current businesses organically and shifting to mergers and acquisitions when industry cycles favour deal-making. Through the late 1990s, as regulatory changes fuelled market integration in the EU and consolidation in the US, the top performers included big acquirers. But, as the M&A wave receded after 2001, the leaders focused mainly on organic growth.
A close look indicates that the leaders wall off the day-to-day operations of their core businesses from the distractions of deal-making. Milan-based Unicredit, for example, has a dedicated team that continuously scans the market for attractive targets, builds relationships across the industry, and anticipates potential post-merger integration issues. When circumstances align, it is ready to pounce.
Those capabilities should be more prized than ever in the years ahead. Financial services remain far less consolidated globally than other major industries, such as auto manufacturing or energy production.
According to our projections, the average market capitalization of the biggest firms could increase to some £275 billion over the next five years, from £77 billion today. But sheer size is no guarantee for success. Only three of the companies we examined, that were among the ten biggest in 1996, remain in the Top 10 or survived the decade as independent organizations. Heeding lessons from today’s winners, it will be companies that focus on growing their core profits and market share that will control their own destinies.
Ashish Singh is the managing director of Bain & Co. in India. John Ott is a partner in Bain’s London office and a leader of the firm’s European Financial Services practice. Andrew Schwedel is a partner in Bain’s San Francisco office and leads Bain’s Financial Services practice for the Americas
Articles, Reports
http://www.bain.com/bainweb/PDFs/cms/Public/FT_Top_tips_to_make_best_acquisition_or_not.pdf
http://www.bain.com/bainweb/publications/publications_detail.asp?id=25270&menu_url=publications%5Fresults%2Easp
http://www.bain.com/bainweb/publications/publications_detail.asp?id=25097&menu_url=publications%5Fresults%2Easp
Strategies for Deal Negotiation
http://www.bankdirector.com/supplements/articles.pl?article_id=11889
Evaluating Strategic Opportunities - Banks
http://www.bankdirector.com/supplements/articles.pl?article_id=11890
The Board's Role in M&A Transactions
http://www.bankdirector.com/supplements/articles.pl?article_id=11848
http://www.bain.com/bainweb/publications/publications_detail.asp?id=25270&menu_url=publications%5Fresults%2Easp
http://www.bain.com/bainweb/publications/publications_detail.asp?id=25097&menu_url=publications%5Fresults%2Easp
Strategies for Deal Negotiation
http://www.bankdirector.com/supplements/articles.pl?article_id=11889
Evaluating Strategic Opportunities - Banks
http://www.bankdirector.com/supplements/articles.pl?article_id=11890
The Board's Role in M&A Transactions
http://www.bankdirector.com/supplements/articles.pl?article_id=11848
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