Definitions and meanings:
A merger (also referred to as business merger) is a combination or union of two or more companies to form and pursue operations as a single business entity. As a result of merger, a new company comes into existence and the merging companies cease to exist as separate entities. The shares of newly emerged company are appropriately distributed among the shareholders of merging companies (i.e., original companies).
Mergers are very common in today’s business world. Two companies that are similar in terms of operation, size and customers may decide to merge themselves into a more stronger business entity. The usual ideas behind a merger are to combine the resources of two businesses and avail the economies of scale which include increasing the market share, eliminating or reducing competition, capturing a new market segment, increasing the debt capacity, and reducing the cost of doing business etc. Successful mergers result in improved profitability and increased shareholders’ wealth.
The business merger has the following five major types:
- Horizontal merger
- Vertical merger
- Conglomerate merger
- Market extension merger
- Product extension merger
Acquisition (also referred to as takeover) occurs when a company actively acquires the business of another company. A company can acquire another company by either purchasing its assets or shareholding which is substantial enough to take control of its management and operational decisions. The company that takes over or acquires another company is known as the acquiring company, buying company, parent company or holding company and the company that is taken over by another company is known as the seller company, subsidiary company or target company. As a result of acquisition, the company that is taken over either ceases to exist and all of its assets are taken over by the acquiring company or continues operations as a subsidiary of acquiring company.
Unlike mergers, acquisitions do not usually occur voluntarily. In acquisition a larger company actively acquires a small company which usually involves an investment of heavy cash by the acquiring company. The purpose of acquisition is similar to a merger i.e., to avail the economies of scale, increase market share and ultimately increase the shareholders value.
Difference between merger and acquisition:
The main difference between merger and acquisition is explained by the following five points:
1. Legal Status:
A merger is technically a combination of two or more businesses into a single large business. A merger usually takes place between two similar companies in terms of size and customer base. An acquisition is when a company buys interest in another company and becomes the holding company of the former. The buying company is normally a larger company which takes over the operations and management of the smaller company after acquisition.
2. Power distribution:
As a merger results in the formulation of a single business entity, it will have a single line of management and will usually undertake a significant business restructuring after the merger takes place. In an acquisition, although management of each company remains intact on their respective positions, parent company effectively controls the management of the subsidiary company.
In a merger, the stocks of the newly emerged company are issued to the shareholders of original companies. However, an acquisition does not result in the issuance of any new stocks, rather the parent company buys assets or shares of the subsidiary company in order to acquire the subsidiary company in the first place.
A merger is normally done in three steps. In the first step, the management of both companies brainstorm on the possible plan of action to commence with the merger. The second step involves the resolutions approved by the shareholders of both of the companies or all companies if more than two businesses are merging. Third and the final step is to pursue with the merger plan. This is a complicated step for the management of both companies as it takes time to overcome practical technicalities like determination of share exchange ratio, the composition of management or board etc. An acquisition normally starts when the management of a company plans to acquire another company. The most important step in an acquisition is the formulation of due diligence report by the acquirer. This due diligence report most likely should highlight all the possible and probable assets and liabilities of the acquiree which helps the management of the acquirer to estimate a fair price of the target company. The acquirer company either buys the assets of the target company or agrees upon an agreement which provides it to undertake management decisions for the target company or it can buy 51% or more shareholding and become a parent company.
4. Names of companies:
The new business entity formulated as a result of merger is given and registered with a new name. This new name can be a combined name of both companies or a totally new name which clearly indicates that both the companies have ceased their individual operations and run single business activities from the day of merger. However, after the acquisition, no company changes its name, rather it is the effective control of the subsidiary company that is shifted towards the parent company and is considered as the company managed by the parent company.
5. Reporting requirements:
After merger, the new company will prepare and publish its financial statements as any normal company because, after merger it will normally be registered as a new company. In spite of the fact that both parent and subsidiary companies will publish their individual financial statements, parent company will be legally bound to prepare and publish a set of consolidated financial statements which will show the combined financial results of the group as a whole.
Merger versus acquisition – tabular comparison
A tabular comparison of merger and acquisition is given below:
|Two companies seize to exist as individuals and merge into single larger entity.
|A parent company purchases a subsidiary company. Both the companies continue to exist.
|Single management is responsible for business operations of newly formed entity.
|Both businesses have their distinct managements but the actual power of decision making is held by the management of parent company.
|Usually both companies dissolve their existing shares and new shares are issued for the newly formed entity.
|Parent company purchases the shares in subsidiary company.
|The negotiations between management of both the companies is important to reach a consensus.
|Due diligence of the subsidiary company is an important step to pursue with the acquisition.
|Names of companies
|A new name is adopted for the new entity by combining components of names of both companies or selecting a new name.
|No names are usually changed.
|Single financial reports are prepared.
|Parent company is responsible for preparing consolidated financial reports which include results of all subsidiary companies.
With the increased industrialization and globalization, the trend of mergers and acquisitions is increasing. Both acquisition and merger are used to diversify businesses and to gain possible advantages in terms of cost and revenue synergies, increased debt capacities, removing barriers of entry into new geographical and divisional markets or product segments, decreased taxation and increased economies of scale. Although, mergers and acquisitions are the fastest way to grow inorganically, sometimes problems like integration of employees, clash of organizational cultures, loss of valuable human resource and non-congruence of strategic goals arise. These matters can be resolved with increased meaningful negotiations amongst the management of companies and adopting a problem-solving attitude instead of confronting change.