CH.11 MERGERS AND ACQUISITIONS

Motivation for M&A Taking advantage of economics of scale Improving target management Combining complementary resources Capturing tax benefits Providing low-cost financing to financially constrained target Increasing product-market rents

Acquisition Pricing Analyzing premium offered to target stockholders Compare the premium offered to target stockholders to premium offered in similar transactions Problems: (1) how to define a comparable transactions?; (2) measured premiums can be misleading if an offer is anticipated by investors; and (3) ignores the value of the target to the acquirer after the acquisition

Acquisition Pricing (Cont’d) Analyzing value of the target to the acquirer Compare the offer price to the estimated value of the target to the acquirer Computed using the valuation techniques discussed in ch 7 & 8

Acquisition Pricing (Cont’d) Earnings multiples Forecasting earnings: assuming no acquisition Determining the price-earnings multiple: Use the pre-acquisition PE multiple? Limitations: (1) growth expectations are likely to change. Valued using a multiple for firms with comparable growth and risk characteristics; (2) premerger PE multiples are unavailable for unlisted targets; and (3) ensure that the multiple is calculated prior to any acquisition announcement

Acquisition Pricing (Cont’d) Discounted abnormal earnings or cash flows Forecast abnormal earnings/free cash flows Compute the discount rate: use postacquisition cost of capital/cost of equity Analyze sensitivity

Acquisition Financing Effect of form of financing on target stockholders Tax effects Transaction costs and the form of financing Effect of form of financing on acquiring stockholders Capital structure Information problem

Acquisition Outcome Other potential acquirers who could pay an even higher premium to target stockholders than is currently offered Target management entrenchment: likely to oppose an offer