Mergers and acquisitions

The essentials

A merger is the combination of two or more firms into a single firm. In some mergers one company absorbs the other; in others a completely new company is formed. An acquisition (or takeover) occurs when one company buys a controlling stake in another; the acquired company may continue to exist but comes under the control of the acquirer. A takeover may be friendly (agreed by the target's management) or hostile (against the wishes of the target's management).

Types of mergers:

• Horizontal merger: between firms in the same industry at the same stage of production, often competitors, for example two cement makers.
• Vertical merger: between firms at different stages of the same supply chain. Backward integration moves towards raw material suppliers; forward integration moves towards distribution and customers.
• Conglomerate merger: between firms in unrelated businesses, for example a textile firm merging with a hotel company.
• Concentric (congeneric) merger: between firms in related industries that share technology or customers but do not make the same product.

Key points

Reasons for mergers and acquisitions:

• Economies of scale: lower cost per unit through larger operations.
• Synergy: the combined firm is worth more than the two separately.
• Entry into new markets and wider customer base.
• Diversification to spread risk.
• Access to technology, brands, skills or raw materials.
• Reduced competition.

Limitations: high cost, clash of organisational cultures, staff uncertainty, and difficulty in integrating systems.

Exam tips

• Ask "Same stage, different stage, or unrelated?" to classify the merger.

Common mistakes

• Calling a car maker's purchase of a tyre company horizontal; it is vertical (backward integration).
• Using "merger" and "acquisition" as exact synonyms.