1. The Growth of Firms

2. Key definitions
Organic growth: growth from “within the business” e.g. new products; expansion into new markets
External growth: use of takeovers & mergers

3. With strategy – firms have a CHOICE
Methods
Organic growth
Innovation
Diversification
International Expansion
Cost leadership
Takeovers / mergers
Joint ventures or strategic alliances

4. Types of Integration
Horizontal Integration: two businesses in the same industry at the same stage of production becoming one

5. Horizontal Integration
Tata buying Jaguar Land Rover from Ford
Volkswagen buying Porsche
Asda buying Netto (food supermarkets)
Amazon buying LoveFilm
Virgin Money buying Northern Rock
Verizon’s $130bn purchase of Vodafone’s interest in its US mobile joint venture
Suntory of Japan paid £1.35bn to buy GlaxoSmithKline’s drinks brands Lucozade & Ribena

6. Microsoft - Nokia

7. Advantages of Horizontal + Lateral Integration
Internal economies of scale
Cost savings from rationalisation
Potential to secure revenue “synergies”
Wider range of products - (diversification) - Opportunities for economies of scope
Reduces competition by removing rivals – increases market share and pricing power
Can make the entry barriers higher for new rivals

8. Types of Integration
Vertical integration: acquiring a business in the same industry but at different stages of the supply chain
Forward vertical: Closer to the consumers e.g. a manufacturer buying a retailer
Backward vertical: Closer to the raw materials in the supply chain e.g. a manufacturer buying a raw material supplier

9. Vertical Markets: The Book Industry Supply Chain

10. Amazon – Huge Market Power
Volume
Value %
Chain bookshops* 29 36
Independent bookshops 4 5
Bargain bookshops 9
Supermarkets 13 10
Other shops 12 8
Book clubs 6
Internet-only retailers# 27 31
 * Waterstone’s, WHSmith, Blackwell
# Internet only – e.g. Amazon, Play.com 
Internet Only Book Sales in UK (2011)
Market share
Amazon
70%
The Book Depository
4-5%
Play.com
3-4%
Others (including publishers’ direct)
22%

11. Hotel Chocolat
A vertically integrated business that owns and operates cocoa plantations in St Lucia (the Rabot Estate pictured above) and which roasts and manufactures chocolate in Cambridgeshire + owns many retail units across the UK

12. Amazon – Market Power % Chain bookshops* 29 36 Independent bookshops 4
Volume
Value %
Chain bookshops* 29 36
Independent bookshops 4 5
Bargain bookshops 9
Supermarkets 13 10
Other shops 12 8
Book clubs 6
Internet-only retailers# 27 31
 * Waterstone’s, WHSmith, Blackwell
# Internet only – e.g. Amazon, Play.com 
Internet Only Book Sales in UK (2011)
Market share
Amazon
70%
The Book Depository
4-5%
Play.com
3-4%
Others (including publishers’ direct)
22%

13. Other examples of vertical integration
Film distributors owning cinemas + digital streaming platforms
Brewers owning/operating pubs (forward vertical) or buying hop farms (backward vertical)
Record labels and radio / online music stations
Drinks manufacturers integrating with bottling plants
Pig processing business buying a pig farm
Technology companies growing vertically through hardware, software and services
PayPal, acquired by eBay for $1.5bn in 2002
Google buying Motorola, a phone maker

14. Recent Deals

15. Advantages of Vertical Integration
Control of the supply chain – this helps to reduce costs and improve the quality of inputs into the production process
Improved access to key raw materials perhaps at the expense of rival businesses
Better control over retail distribution channels
Removing suppliers and information from competitors which helps to make a market less contestable

16. Types of Integration
Lateral integration: companies joining together that produce similar but related products
Conglomerate: Disparate businesses

17. What type of integration here?B

18. What type of integration here?B

19. Mergers and Takeovers
Takeover: Where one business acquires a controlling interest in another business = a change of ownership
Merger: a combination of two previously separate businesses into a new business
Diversification: expanding into new markets with new products – the riskiest growth strategy

20. Some key strategic drivers of M&A activity
Rapid technological change
Need for scale to remain competitive
Need to be able to supply customers globally
Low demand growth in mature economies
Access to wider distribution networks
Invest in faster-growing emerging markets

21. Takeovers: 3 main motives
Strategic motives
Improve & develop the business
Closely linked to competitive advantage
E.g. economies of scale
Financial motives
Make best use of financial resources for shareholders
Improve financial performance
E.g. higher profits
Managerial motives
Self-interest of managers
Not necessarily in the best interest of shareholders
E.g. want to lead a bigger business

22. Takeovers: 3 main motives
Strategic motives
Improve & develop the business
Closely linked to competitive advantage
E.g. economies of scale
Financial motives
Make best use of financial resources for shareholders
Improve financial performance
E.g. higher profits
Managerial motives
Self-interest of managers
Not necessarily in the best interest of shareholders
E.g. want to lead a bigger business

23. Takeovers: 3 main motives
Strategic motives
Improve & develop the business
Closely linked to competitive advantage
E.g. economies of scale
Financial motives
Make best use of financial resources for shareholders
Improve financial performance
E.g. higher profits
Managerial motives
Self-interest of managers
Not necessarily in the best interest of shareholders
E.g. want to lead a bigger business

24. Shareholder value - example

25. Examples of successful deals
Successful takeovers and mergers
L’Oreal & The Body Shop (more shops, higher profits)
Google & YouTube (rapid growth & advertising revenue)
Tata & Jaguar Land Rover (£1bn profits in 2011)
Santander & Abbey, Alliance & Leicester, Bradford & Bingley (higher profits & market leadership in UK)
Taylor Woodrow & George Wimpey (economies of scale for two leading house builders merged together)

26. Kraft / Cadbury – market leadership

27. Cadbury’s strategic fit with Kraft

28. Key financial motives for M&A
Make use of surplus cash and high share price
E.g. businesses with high cash balances can potentially earn a better return by investing in other firms
Bargain hunting & Asset Stripping
Can the target be bought at a knock-down price?
Potential to sell surplus assets & cut costs & still retain the business that was wanted in the first place

29. Key financial motives for M&A
Make use of surplus cash and high share price
E.g. businesses with high cash balances can potentially earn a better return by investing in other firms
Bargain hunting & Asset Stripping
Can the target be bought at a knock-down price?
Potential to sell surplus assets & cut costs & still retain the business that was wanted in the first place

30. Key managerial motives for M&A
Personal ambition & financial reward
Director rewards may be linked to growth
Big takeovers attract media – boosts ego / reputation?
Takeovers as “vanity projects”
Bandwagon effect / peer pressure
Pressure to do takeovers (if competitors are too)
Concern that firm may be being left behind
Over-confidence
Pressure from advisers & media (e.g. investment bankers)

31. Key managerial motives for M&A
Personal ambition & financial reward
Director rewards may be linked to growth
Big takeovers attract media – boosts ego / reputation?
Takeovers as “vanity projects”
Bandwagon effect / peer pressure
Pressure to do takeovers (if competitors are too)
Concern that firm may be being left behind
Over-confidence
Pressure from advisers & media (e.g. investment bankers)

32. Some examples of motives
Takeover / merger
Main motives for the transaction
Kraft / Cadbury
Establish global market leadership in confectionery & access emerging markets
Google / Motorola
Acquire valuable smartphone patents & manufacturing expertise
Tata / JLR
Economies of scale & acquire expertise, brands, capacity and distribution
RBS / ABN-Amro
Management vanity; continue reputation for big deals; over-confidence
Santander / Abbey
Market entry (UK) & establish base for further acquisitions to build market share
WM Morrison & Safeway
Increase market share & exploit economies of scale to improve competitiveness
British Airways / Iberia
Consolidation; economies of scale & survival: positioning for further takeovers

33. The most important evaluation point
Strategic Fit
Does the takeover or merger fit with the objectives of the business?
Does it make sense?

34. The next most important evaluation point….1 3
Will shareholders gain from synergy?
Can = 3?

35. What Is
SYNERGY?

36. Similar concept to “adding value”
An example of synergy…
Similar concept to “adding value”

37. Cost Savings Revenues Two kinds of “synergy”
Eliminate duplicated functions & services
Better deals from suppliers
Higher productivity & efficiency from shared assets
Cost Savings
Cross-selling to customers of both businesses
New distribution channels
Brand extensions
New geographic markets opened up
Revenues

38. Cost Savings Revenues Two kinds of “synergy”
Eliminate duplicated functions & services
Better deals from suppliers
Higher productivity & efficiency from shared assets
Cost Savings
Cross-selling to customers of both businesses
New distribution channels
Brand extensions
New geographic markets opened up
Revenues

39. Overview of the takeover process
Target Identification & Choice
Valuation & Offer
Due Diligence
Integration

40. Target Identification & Choice
Key evaluation point: Things can go wrong in each part of the takeover or merger
Wrong target
Pay too much
Don’t check what you are buying
Poor integration planning
Target Identification & Choice
Valuation & Offer
Due Diligence
Integration

41. E.g. Paying too much! Valuation has to strike a balance
Interests of target shareholders
Interests of buyer shareholders
Don’t pay too much!
Get the best price!

42. Example of the Winner’s Curse - RBS
In 2007, RBS was part of a consortium that bid £49bn as it competed to buy ABN-Amro
RBS clearly overpaid for the takeover
The subsequent effect on RBS's capital reserves led to the forced nationalisation of RBS in 2008 to avoid a collapse of the UK banking system

43. Some truly awful deals (1)
SOLD
£25m

44. Some truly awful deals (2)
£10bn
Written Off + New Liabilities
£15bn+

45. Examples of deals that failed
Failed takeovers and mergers
News Corp & Myspace (bought for £580m; sold for $25m)
ITV & FriendsReunited (bought for £175m; sold 3 years later for £25m)
Cisco & Flip (bought for $590m; closed down in a year)
RBS & ABN-Amro (bought for £10bn; results in losses of at least £15bn & nationalisation)
Terra Firma & EMI (bought for £4.2bn; sold 3 years later for loss of £1.75bn) – one of biggest private equity failures

46. The problems of
Merger
Integration

47. Imagine we are all responsible for managing this takeover…
Marks & Spencer
Poundland
Identify three areas that would be likely to be the hardest part of integrating the takeover

48. Imagine we are all responsible for managing this takeover…
Marks & Spencer
Poundland
Identify three areas that would be likely to be the hardest part of integrating the takeover

49. Building analysis & evaluation on takeover integration…
Importance of synergies
Extent to which firms are similar (e.g. products, markets)
Quality of integration planning and action (e.g. communication, leadership)
Success of takeover integration will depend on…
Are the two cultures significantly different?
Type of takeover – e.g. cross-border, private equity
Can be a short-term problem, but in the long-term, one culture will prevail
Evaluating the importance of culture in a takeover

50. Building analysis & evaluation on takeover integration…
Importance of synergies
Extent to which firms are similar (e.g. products, markets)
Quality of integration planning and action (e.g. communication, leadership)
Success of takeover integration will depend on…
Are the two cultures significantly different?
Type of takeover – e.g. cross-border, private equity
Can be a short-term problem, but in the long-term, one culture will prevail
Evaluating the importance of culture in a takeover

51. Summary: drawbacks of acquisitions
High cost involved
Problems of valuation
Clash of cultures
Upset customers
Problems of integration (change management)
Resistance from employees
Non-existent synergy
Incompatibility of management styles, structures and culture
Questionable motives
High failure rate
Diseconomies of scale

52. Joint ventures
Joint ventures occur when businesses join together to pursue a common project
The businesses remain separate in legal terms
Joint ventures are becoming common as firms want to benefit from collaborative work in reaching a mutually-agreed strategic target. An example might be joint-research projects to share the fixed costs

53. Examples of joint ventures
Vodafone & Telefónica agreed to share their mobile network
BMW and Toyota agreed in 2011 to co-operate on hydrogen fuel cells, vehicle electrification, lightweight materials and future sports car
West Coast – joint venture between Virgin Rail & Stagecoach
Google and NASA developing Google Earth
Hollywood studios combining to fight internet piracy
Alliances in airline industry e.g. Star Alliance and One World
Starbucks - JV with Tata Beverages to break into the Indian retail market
Joint Ventures between universities to deliver Massive Open Online Courses (MOOCs) – a fast-expanding sector of the higher education industry

54. De-mergers When a firm decides to split into separate firms
Some of the key motivations for de-merger include:
Focusing on core businesses to streamline costs and improve profit margins
Reduce the risk of diseconomies of scale and diseconomies of scope by reducing the range of functions in a business, lower management costs
Raise money from asset sales and return to shareholders
A defensive tactic to avoid the attention of the competition authorities who might be investigating possible monopoly power in an industry / market

55. Examples of de-mergers
The US pharmaceutical company Pfizer sold their infant nutrition business to Nestle
Demerger of Cadbury's US drinks business creating a business called Dr Pepper Snapple Group
Severn Trent Water demerged its waste management business Biffa
Demerger of British Gas into a gas pipeline business Transco + an oil and gas exploration company
Talk Talk demerged from Carphone Warehouse in 2010

56. Examples of de-mergers
Fosters Group de-merging its two main operating divisions – one focusing on beer, the other on wine
Punch and Spirit pub groups created out of demerger of Punch Taverns in 2011
US food giant Sara Lee sold off coffee business Douwe Egberts
Quantas demerged their airline business and run stand-alone domestic and international airline businesses with each having their own profit and loss account
News International demerged their Film and TV and Publishing businesses

57. News International Film and TV Publishing Fox News 20th Century Fox
Sky
Fox Television
Publishing
Dow Jones
Wall Street Journal
New York Post
The Times
The Sun
Harper Collins

58. The Reality of Market Power
Pricing Power
Entry Barriers
Monopsony
Supply Chain Control
Economies of Scale

59. The Reality of Market Power
Industry Leadership
Benchmark Businesses
Profits to re-invest
Habitual consumption