Mergers, Acquisitions, and Other Restructuring Activities: An Integrated Approach to Process, Tools, Cases, and Solutions

By Donald DePamphilis

Mergers, Acquisitions, and Other Restructuring Activities: An Integrated Approach to Process, Tools, Cases, and Solutions, Tenth Edition, is the most comprehensive and cutting-edge text available on the subject. Supported by recent peer-reviewed academic research, this book provides many recent, notable deals, precedent-setting judicial decisions, government policies and regulations, and trends affecting M&As, as well as takeover strategies and tactics. Today's policies, politics and economics are reflected in the book's 40 case studies, 90% of which involve deals either announced or completed during the last several years. These cases represent friendly, hostile, highly leveraged, and cross-border transactions in ten different industries, involving public and private firms and those experiencing financial distress.

Sections discuss an overview of M&As, key regulations, common strategies and tactics, how managers may choose a business strategy from available options, valuation methods and basic financial modeling techniques, the negotiating process, how deal structuring and financing are inextricably linked, how consensus is reached during the bargaining process, the role of financial models in closing the deal and strategic growth options as alternatives to domestic M&As.

• Provides a rigorous discussion of the strengths and limitations of financial modeling as applied to M&A and how these models can be applied in various areas
• Includes new academic research and updated/revised case studies
• Presents updated M&A tactics and strategies, along with court cases and new regulations governing business combinations, valuation methodologies and financing

• Language: English
• Publisher: Academic Press
• Release date: Sep 4, 2019
• ISBN: 9780128150764

Donald DePamphilis

Donald M. DePamphilis has a Ph.D. in economics from Harvard University and has managed more than 30 acquisitions, divestitures, joint ventures, minority investments, as well as licensing and supply agreements. He is Emeritus Clinical Professor of Finance at the College of Business Administration at Loyola Marymount University in Los Angeles. He has also taught mergers and acquisitions and corporate restructuring at the Graduate School of Management at the University of California, Irvine, and Chapman University to undergraduates, MBA, and Executive MBA students. He has published a number of articles on economic forecasting, business planning, and marketing. As Vice President of Electronic Commerce at Experian, Dr. DePamphilis managed the development of an award winning Web Site. He was also Vice President of Business Development at TRW Information Systems and Services, Director of Planning at TRW, and Chief Economist at National Steel Corporation

Book preview

Part I

The Mergers and Acquisitions Environment

Introduction

Part I discusses the context in which mergers, acquisitions, and corporate restructuring occur, including factors often beyond the control of the participants in the M&A process. The three chapters comprising this section of the book provide an overview of M&A, a discussion of important regulations impacting M&A, and common M&A strategies.

Chapter 1 addresses the basic vocabulary of mergers and acquisitions, the most common reasons why M&As happen, and how such transactions occur in a series of somewhat predictable waves. Alternatives to M&As and participants in the M&A process, from investment bankers to lenders to regulatory authorities, are discussed in detail. The chapter also discusses whether M&As benefit shareholders, bondholders, and society, with conclusions based on the most recent empirical studies. The tangle of regulations that impact the M&A process are covered in Chapter 2, including recent changes in US federal and state securities and antitrust laws as well as environmental, labor, and benefit laws that add to the increasing complexity of completing deals. The implications of cross-border transactions, which offer an entirely new set of regulatory challenges, also are explored here and elsewhere in this book in the setting in which they commonly occur.

Viewed in the context of a market in which control transfers from sellers to buyers, Chapter 3 addresses common takeover tactics employed as part of an overall bidding strategy, the motivation behind such tactics, and the defences used by target firms to deter or delay such tactics. Bidding strategies are discussed for both friendly and unwanted or hostile business takeovers. In hostile deals, the corporate takeover is viewed as a means of disciplining underperforming management, improving corporate governance practices, and reallocating assets to those who can use them more effectively. This chapter also addresses the growing role activists are taking in promoting good corporate governance and in disciplining incompetent or entrenched managers.

The reader is encouraged to review deals currently in the news and to identify the takeover tactics and defences employed by the parties to the transactions and to describe their intended purpose. One’s understanding of the material can be enriched by attempting to discern the intentions of both the acquiring and target firms’ boards and management, if the proposed business combination makes sense, and by thinking about what you might have done differently if you had been a member of the acquirer's and target's board.

Chapter 1

An Introduction to Mergers, Acquisitions, and Other Restructuring Activities

Abstract

This chapter explores the underlying dynamics of mergers and acquisitions in the context of an increasingly interconnected world and views M&As as change agents in the corporate restructuring process. The focus is on M&As, why they happen, and why they tend to cluster in waves. The chapter also introduces a variety of legal structures and strategies that are employed to restructure corporations. Moreover, the role of the various participants in the M&A process is explained. Reflecting the latest empirical studies, this chapter addresses the questions of whether mergers pay off for the target and acquiring company shareholders and bondholders, as well as for society. These concepts are applied in case studies involving different types of deals.

Keywords

Mergers; Acquisitions; Mergers and acquisitions; Leveraged buyouts; LBOs; Takeovers; Spin-offs; Equity carve-outs; Divestitures; Motives for mergers; Arbitrage; Corporate restructuring; M&As; Cross-border deals; M&A transactions; Alternative takeover strategies; Holding companies; ESOPs; Shareholder value; Firm value; Synergy; Diversification; Hubris; Winner’s curse; Q-ratio; Market power; Misevaluation; Merger waves; Buyouts; Split-offs; Spin-offs; Event studies; Excess returns; Abnormal returns; Takeover strategies; Investment bankers; Accountants; Due diligence; Business alliances; Joint ventures; Partnerships; Corporations; Limited liability companies; Lawyers; Institutional investors; Regulators; Activist investors; Activism; Arbitrageurs; Shareholders; Bondholders; Shareholder maximization; Firm value; Financial returns; Announcement date abnormal returns; CSR; Corporate socially responsible investing; Socially responsible investing

Outline

Inside Mergers and Acquisitions: Centurylink Acquires Level 3 in a Search for Scale

Chapter Overview

Why Do M&As Happen?

Synergy

Diversification

Strategic Realignment

Hubris and the Winner’s Curse

Buying Undervalued Assets: The Q-Ratio

Managerialism (Agency Problems)

Tax Considerations

Market Power

Misvaluation

Merger and Acquisition Waves

Why M&A Waves Occur?

Domestic Merger Waves

Cross-Border Merger Waves

Understanding Corporate Restructuring Activities

Mergers and Consolidations

Acquisitions, Divestitures, Spin-Offs, Split-Offs, Carve-Outs, and Leveraged Buyouts

Alternative Takeover Strategies

The Role of Holding Companies in Mergers and Acquisitions

The Role of Employee Stock Ownership Plans (ESOPs) in M&As

Business Alliances as Alternatives to M&As

Participants in the Mergers and Acquisitions Process

Providers of Specialized Services

Regulators

Institutional Investors and Lenders

Insurance, Pension, and Mutual Funds

Activist Investors

M&A Arbitrageurs (Arbs)

The Implications of M&As for Shareholders, Bondholders, and Society

Premerger Returns to Shareholders

Postmerger Returns to Shareholders

Acquirer Returns Vary by Characteristics of Acquirer, Target, and Deal

Payoffs for Bondholders

Payoffs for Society

Corporate Socially Responsible (CSR) Investing

Some Things to Remember

Chapter Discussion Questions

End of Chapter Case Study: Amazon Moves to Conquer The Consumer Retail Business by Acquiring Whole Foods

Case Study Objectives : To Illustrate

Discussion Questions

If you give a man a fish, you feed him for a day. If you teach a man to fish, you feed him for a lifetime.

Lao Tze

Inside Mergers and Acquisitions: Centurylink Acquires Level 3 in a Search for Scale

Key Points

•Mergers between competitors generally offer the greatest potential synergy, but they also often face the greatest scrutiny by regulators.

•Acquirer share prices often fall when investors feel that the buyer paid too much or became excessively leveraged as a result of a takeover.

•Realizing anticipated synergy on a timely basis often is elusive.

CenturyLink Inc.’s (CenturyLink) announcement on October 31, 2016 that it had reached an agreement to acquire Level 3 Communications Inc. (Level 3) was met with great skepticism, as the firm’s shares fell more than 13% during the next few days. Investors fretted that CenturyLink was paying too much for Level 3 and that its increased leverage would constrain its ability to grow in the future. In contrast, Level 3’s shares rose sharply as the CenturyLink offer price exceeded significantly the firm’s share price providing a quick profit opportunity for current holders of Level 3 shares. Level 3 shares continued to trade below the offer price for months until it became clear that the regulatory hurdles had been cleared in early November 2017.

The deal came at a time when businesses are seeking greater bandwidth and faster networks to accommodate their growing needs to move data. And smaller network companies are struggling to compete with the likes of AT&T and Verizon Communications. Smaller firms simply did not have access to sufficient capital to achieve the network size needed to accommodate growing customer demand and to spread fixed network expenses over an accelerating volume of data transmitted by their business customers.

Located in Monroe Louisiana, CenturyLink operates 55 data processing centers in North America, Europe, and Asia providing broadband, voice, video, cloud, hosting, and data management software and services. Its international fiber network extends over 300,000 miles. With nearly six million internet customers in the US, CenturyLink makes most of its revenue from selling network services to businesses. The remainder of its revenue comes from selling landline telephone services in mostly rural areas. The firm’s revenue has been declining over the last few years as it has been losing market share to its larger competitors.

Level 3 Communications Inc. (Level 3) is situated in Bloomfield Colorado and is the second largest US provider of Ethernet services which enable its business customers to transmit data across high bandwidth internet connections. Unlike CenturyLink, Level 3 generates all of its revenues from business customers. Like CenturyLink, Level 3 was struggling to compete with AT&T and Verizon Communications incurring ongoing operating losses in recent years.

To compete more effectively in the business data transmission market, the two firms expect to realize cost and revenue synergies totaling almost $1 billion annually. Cost savings are expected to come from paring duplicate overhead and consolidating systems and facilities. Additional revenue can be generated by selling Level 3’s advanced network security products that CenturyLink lacked to CenturyLink customers. And Level 3 will be able to sell its customers some of CenturyLink’s network management software tools.

Realizing synergy will be an important part of CenturyLink’s ability to recover the substantial 42% premium it paid to gain control of Level 3. History shows that realizing synergy often takes far longer than expected, requires greater expenditures than anticipated, and often fails to achieve the projected dollar figures. When this occurs, the acquirer finds it very difficult to achieve the financial returns required by their shareholders.

In combination with Level 3, CenturyLink will have one of the largest high speed data networks in the world. CenturyLink will obtain access to Level 3’s 200,000 miles of fiber in the US to augment its 250,000 mile US fiber network. The merged firms will receive 76% of their revenue from business customers. The deal also gives CenturyLink about $10 billion in accumulated operating losses that Level 3 is carrying on its books, which can be used to reduce future tax liabilities and improve the combined firms’ after-tax cash flow.

Under the terms of the deal, Level 3 shareholders received $66.50 for each Level 3 share owned. The purchase price per Level 3 share consisted of $26.50 in cash and 1.4286 of CenturyLink shares. The deal values Level 3’s equity at about $24 billion; including the Level 3 debt that CenturyLink will have to pay off, the so-called enterprise value (debt plus equity) is almost $34 billion.

The transaction needed clearance from the US Justice Department, the Federal Communications Commission (FCC), and 20 US states in which the two firms operated. Century Link completed its takeover of Level 3 on November 3, 2017, immediately following FCC approval, the only remaining regulator who had not already given their consent. To preserve local market competition, CenturyLink was required by the Justice Department to divest Level 3 networks in Albuquerque (New Mexico), Boise (Idaho), and Tucson (Arizona) and to offer leases to local competitors on intercity routes crossing nearly 20 states. Regulators were concerned that without such concessions, the deal would have reduced local competition and increased prices to customers.

Chapter Overview

Mergers and acquisitions (M&As) are best understood in the context of corporate restructuring strategies. As such, this chapter provides insights into why M&As happen and why they tend to cluster in waves, and the variety of legal structures and strategies that are employed to restructure firms. The roles and responsibilities of the primary participants in the M&A process also are discussed in detail. Subsequent chapters analyze this subject matter in more detail.

A firm that attempts to acquire or merge with another company is called an acquiring company, acquirer, or bidder. The target company is the firm being solicited by the acquiring company. Takeovers and buyouts are generic terms for a change in the controlling ownership interest of a corporation. A review of this chapter (including practice questions and answers) is available in the file folder entitled Student Study Guide on the companion website for this book: https://www.elsevier.com/books-and-journals/book-companion/9780128150757.

Why Do M&As Happen?

Despite decades of research, there is little consensus about what are the determinants of M&As.¹ Much of this research has focused on examining aggregate data which may conceal important size, sector, and geographic differences. Different perspectives often reflect different underlying assumptions. Some analysts argue markets are efficient as decisions are made rapidly in response to new information while others see markets adjusting more slowly to changing conditions. Still others contend that microeconomic factors are more important determinants of M&A activity than macroeconomic considerations. Consequently, not only is there disagreement about what are the key determinants but also about the how and the extent to which they impact M&A activity.

Table 1.1 lists some of the more prominent theories about why M&As happen. Of these, anticipated synergy between the acquirer and target firms is most often cited in empirical studies as the primary motivation for M&As.² Each theory is discussed in greater detail in the remainder of this section.

Table 1.1

Synergy

Synergy is the value realized from the incremental cash flows generated by combining two businesses. That is, if the market value of two firms is $100 million and $75 million, respectively, and their combined market value is $200 million, then the implied value of synergy is $25 million. The two basic types of synergy are operating and financial.

Operating Synergy

Operating synergy consists of economies of scale, economies of scope, and the acquisition of complementary technical assets and skills, which can be important determinants of shareholder wealth creation. Gains in efficiency can come from these factors and from improved managerial operating practices.

Economies of scale often refer to the reduction in average total costs for a firm producing a single product for a given scale of plant due to the decline in average fixed costs as production volume increases. Scale is defined by such fixed costs as depreciation of equipment and amortization of capitalized software, normal maintenance spending, and obligations such as interest expense, lease payments, long-term union, customer, and vendor contracts, and taxes. These costs are fixed since they cannot be altered in the short run. Variable costs are those that change with output levels. Consequently, for a given scale or amount of fixed expenses, the dollar value of fixed expenses per unit of output and per dollar of revenue decreases as output and sales increase.

To illustrate the potential profit improvement from economies of scale, consider the merger of Firm B into Firm A. Firm A has a plant producing at only one-half of its capacity, enabling Firm A to shut down Firm B’s plant that is producing the same product and move the production to its own underutilized facility. Consequently, Firm A’s profit margin improves from 6.25% before the merger to 14.58% after the merger. Why? Because the additional output transferred from Firm B is mostly profit as it adds nothing to Firm A’s fixed costs (Table 1.2).³

Table 1.2

Notes: Contribution to profit of additional 500,000 units = $4 × 500,000 − $2.75 × 500,000 = $625,000.

Margin per unit sold @ fixed cost per unit of $1.00 = $4.00 − $2.75 − $1.00 = $0.25.

Margin per unit sold @ fixed cost per unit of $0.67 = $4.00 − $2.75 − $0.67 = $0.58.

Economies of scale also affect variable costs such as a reduction in purchased material prices due to an increase in bulk purchases and lower production line setup costs resulting from longer production runs. When one company buys another, the combined firms may be able to negotiate lower purchase prices from suppliers because of their increased leverage. Suppliers often are willing to cut prices, because they also realize economies of scale as their plant utilization increases if they are able to sell larger quantities. Setup costs refer to the expense associated with setting up a production assembly line. These include personnel costs in changing from producing one product to another, any materials consumed in this process, and the time lost while the production line is down. For example, assume a supplier’s initial setup costs are $3000 per production run to produce an order of 2500 units of a product. Setup costs per unit produced are $1.20. If the order is doubled to 5000 units, setup costs per unit are cut in half to $0.60 per unit. Suppliers may be willing to pass some of these savings on to customers to get a larger order.

Economies of scope refers to the reduction in average total costs for a firm producing two or more products, because it is cheaper to produce these products in a single firm than in separate firms. Economies of scope may reflect both declining average fixed and variable costs. Common examples of overhead- and sales-related economies of scope include having a single department (e.g., accounting and human resources) support multiple product lines and a sales force selling multiple related products rather than a single product. Savings in distribution costs can be achieved by transporting a number of products to a single location rather than a single product. In 2012, following its emergence from bankruptcy, Hostess Baking achieved significant reductions in distribution costs when its unions allowed the firm to transport both bread and other baked goods to customers in the same truck rather than in separate trucks as had been the case. Economies of scope also include the cost savings realized by using a specific set of skills or an asset currently employed in producing a specific product to produce multiple products. Procter & Gamble, the consumer products giant, uses its highly regarded consumer marketing skills to sell a full range of personal care as well as pharmaceutical products. Honda employs its proprietary knowledge of internal combustion engines (an intangible asset) to enhance the manufacture of engines used in cars, motorcycles, lawn mowers, and snow blowers.

Complementary technical assets and skills are those possessed by one firm that could be used by another to fill gaps in its technical capabilities. Gaining access to this know-how can be a significant motivation for one firm to acquire another. For example, merger activity is likely to occur between firms pursuing related research and development activities, with certain technologies owned by one firm appearing to be very attractive to the other. Both firms gain potentially from an increased rate of innovation after the merger, because they have access to each other’s technical skills and patent portfolios. When Pharmacia & Upjohn combined with Monsanto to form Pharmacia, the merger gave Pharmacia & Upjohn access to Monsanto’s Cox-2 inhibitors and Monsanto access to the other’s expertise in genomics. The merger allowed for expanded in-house clinical R&D, resulting in an increase in the average size of R&D projects and a reduction in the time required getting products to market.

Financial Synergy

Financial synergy refers to the reduction in the acquirer’s cost of capital due to a merger or acquisition. This could occur if the merged firms have cash flows that are relatively uncorrelated, realize cost savings from lower securities’ issuance and transactions costs, or experience a better matching of investment opportunities with internally generated funds. The conventional view holds that corporations moving into different product lines whose cash flows are uncorrelated reduce only risk specific to the firm such as product obsolescence (i.e., business specific or nonsystematic risk) and not risk associated with factors impacting all firms (i.e., systematic risk) such as a recession, inflation, or increasing interest rates.

Recent research suggests that M&As resulting in firms whose individual business unit cash flows are uncorrelated can indeed lead to a reduction in systematic risk. Such firms may be better able to withstand the loss of customers, suppliers, employees, or the impact of financial distress than single product firms. Sometimes referred to as coinsurance, the imperfect correlation of business unit cash flows allows resources to be transferred from cash-rich units to cash-poor units as needed. In contrast, the loss of key customers or employees in a single product firm could be devastating. Consequently, multi-product line firms with less correlated business unit cash flows can have less systematic risk than firms whose business unit cash flows are correlated.

Target firms, unable to finance their investment opportunities, are said to be financially constrained, and they may view access to additional financing provided by an acquirer’s unused borrowing capacity⁴ or excess cash balance as a form of financial synergy. That is, financially constrained firms often increase their investment levels following acquisition by a firm not subject to financial constraints.⁵

There is evidence that diversification may be to some extent cyclical. Firms have incentives to engage in diversification whenever access to credit markets becomes more difficult. As credit availability tightens, so goes the reasoning, highly focused firms cannot take advantage of attractive investment opportunities if they lack internal financial resources. More diversified firms can more easily redeploy resources from other lines of business. When it becomes easier to borrow, firms are more inclined to narrow their focus by reducing the number of different lines of business.⁶

Diversification

Buying firms beyond a company’s current lines of business is called diversification. Diversification may create financial synergy that reduces the cost of capital as noted above. Alternatively, it may allow a firm to shift from its core product line (s) to those having higher growth prospects. Moreover, acquirers with limited growth opportunities often generate substantial cash flow because they have much lower rates of investment than the targets they pursue often enabling them to finance takeovers using their excess cash flow.⁷ The new product lines or target markets may be related or unrelated to the firm’s current products or markets. The product-market matrix illustrated in Table 1.3 identifies a firm’s primary diversification options.

Table 1.3

A firm facing slower growth in its current markets may accelerate growth through related diversification by selling its current products in new markets that are somewhat unfamiliar and, therefore, more risky. Such was the case when IBM acquired web-based human resource software maker Kenexa to move its existing software business into the fiercely competitive but fast-growing market for delivering business applications via the web.

A firm also may attempt to achieve higher growth rates by acquiring new products with which it is relatively unfamiliar and then selling them in familiar and less risky current markets. Retailer J.C. Penney’s $3.3 billion acquisition of the Eckerd Drugstore chain (a drug retailer) and Johnson & Johnson’s $16 billion acquisition of Pfizer’s consumer healthcare products line are examples of such related diversification. In each instance, the firm assumed additional risk by selling new products lines, but into markets with which it had significant prior experience: J.C. Penney in consumer retail markets and J&J in retail healthcare markets.

There is considerable evidence that acquisitions resulting in unrelated diversification frequently result in lower financial returns when they are announced than non-diversifying acquisitions.⁸ Firms that operate in a number of largely unrelated industries are called conglomerates. Conglomerates have been out of favor among stock market investors for some time. Suffering from more than 15 years of its stock underperforming the broader indices, the well-known conglomerate General Electric (GE) announced a dramatic downsizing of the firm in December 2017 to focus on power, aviation, and healthcare. GE will shed more than $20 billion in assets including its transportation and lighting operations as well as its oil field operations and 65% stake in oil field services firm Baker Hughes.

The share prices of conglomerates often trade at a discount to shares of focused firms or to their value if broken up. This markdown is called a conglomerate discount, a measure that sometimes values conglomerates as much as 15% lower than more focused firms in the same industry.⁹ Investors often perceive conglomerates as riskier because management has difficulty understanding these firms and may underinvest in attractive opportunities.¹⁰ Also, outside investors may have trouble in valuing the various parts of highly diversified firms.¹¹ Likewise, investors may be reluctant to invest in firms whose management appears intent on diversifying to build empires rather than to improve performance.¹² Such firms often exhibit poor governance practices.¹³ The larger the difference between conglomerates whose share prices trade below those of more focused firms the greater the likelihood these diversified firms will engage in restructuring that increases their focus.¹⁴

Other researchers find evidence that the most successful mergers in developed countries are those that focus on deals that promote the acquirer’s core business, largely reflecting their familiarity with such businesses and their ability to optimize investment decisions.¹⁵ Related acquisitions may even be more likely to generate higher financial returns than unrelated deals,¹⁶ since related firms are more likely to realize cost savings due to overlapping functions. There is also evidence that cross-border deals are more likely to be completed when the degree of relatedness between the acquiring and target firms is high.¹⁷

The existence of a conglomerate discount is not universally true. While conglomerates have not fared as well as more focused firms in North America and certain other developed countries, their performance in developing nations has been considerably stronger. Diversified firms in countries having limited capital market access may sell at a premium since they may use cash generated by mature subsidiaries to fund those with higher growth potential. Furthermore, conglomerates in such developed countries as South Korea and Singapore have outperformed their more focused rivals in part due to their ability to transfer ideas and technologies among their various businesses. Diversified firms also tend to perform better in downturns than more focused firms, because they can use excess cash flows generated by some businesses to offset deteriorating cash flows in other businesses.¹⁸

The diversification discount is not a constant, but it varies over time and among firms. Recent research suggests that the magnitude of the discount is related to both current and expected economic conditions. Such expectations can be viewed as a measure of investor optimism or pessimism. When investors are more optimistic, they are willing to accept greater risk. If we define risk as the degree of earnings unpredictability, more diversified firms would on average be less risky than those that are more focused. Why? More diversified firms often show greater earnings stability (and therefore predictability) than more focused firms. Therefore, the magnitude of the discount should at least in part reflect investor optimism or pessimism. Consequently, the diversification discount tends to increase in periods when investor optimism is high (i.e., investors are more willing to invest in higher risk, more focused firms) and declines during periods of investor pessimism.¹⁹

Strategic Realignment

Firms use M&As to adjust to changes in their external environment such as regulatory changes and technological innovation. Those industries that have been subject to significant deregulation in recent years—financial services, healthcare, utilities, media, telecommunications, defense—have been at the center of M&A activity, because deregulation breaks down artificial barriers and stimulates competition. Firms in highly regulated industries often are unable to compete successfully following deregulation and become targets of stronger competitors. As such, deregulation often sparks a flurry of M&A activity resulting in a significant reduction in the number of competitors in the industry.²⁰

Technological advances create new products and industries and force a radical restructuring of existing ones. The smartphone spurred the growth of handheld telecommunications devices while undercutting the point-and-shoot camera industry and threatening the popularity of wristwatches, alarm clocks, and MP3 players. Tablet computers reduced the demand for desktop and notebook computers, while e-readers reduced the popularity of hardback books. Services such as WhatsApp and Microsoft’s Skype erode a major source of mobile phone company revenue: voice and text messaging. A shift to cloud computing enables businesses to outsource their IT operations. The introduction of block chain technology, a distributed ledger where every transaction is visible to anyone having access to the ledger, is changing the way transaction records are processed and stored.

Hubris and the Winner’s Curse

CEOs with successful acquisition track records may pay more than the target is worth due to overconfidence.²¹ Having overpaid, such acquirers may feel remorse at having done so—experiencing what has come to be called the winner’s curse. In addition to CEO hubris, the presence of multiple bidders may contribute to overpaying as acquirers get caught up in the excitement of an auction environment.²²

Buying Undervalued Assets: The Q-Ratio

The Q-ratio is the ratio of the market value of the acquirer’s stock to the replacement cost of its assets. Firms can choose to invest in new plant and equipment or obtain the assets by buying a company with a market value less than what it would cost to replace the assets (i.e., a market-to-book or Q-ratio that is less than 1). This theory is useful in explaining M&A activity when stock prices drop well below the book value (or historical cost) of firms.

Managerialism (Agency Problems)

Agency problems arise when the interests of managers and shareholders differ. Managers may make acquisitions to add to their prestige, build their influence, increase compensation, or for self-preservation.²³ Agency problems may be more pronounced with younger CEOs. Since acquisitions often are accompanied by large, permanent increases in compensation, CEOs have strong financial incentives to pursue acquisitions earlier in their careers.²⁴ Such mismanagement can persist when a firm’s shares are widely held, since the cost of such negligence is spread across a large number of shareholders. Fairness opinions to evaluate the appropriateness of bidder offer prices and special committees consisting of independent directors to represent shareholders may be used to mitigate agency problems in target firms. Used to evaluate offers in about one-fourth of takeovers, special committees are subcommittees of a target’s board composed of independent, disinterested directors who are not part of management or a group attempting a buyout of the firm.

Tax Considerations

Acquirers of firms with accumulated losses and tax credits may use them to offset future profits generated by the combined firms. However, the taxable nature of the transaction often plays a more important role in determining whether a merger takes place than do any tax benefits accruing to the acquirer. The seller may view the tax-free status of the transaction as a prerequisite for the deal to take place. A properly structured transaction can allow the target shareholders to defer any capital gain until the acquirer’s stock received in exchange for their shares is sold. Taxes also are an important factor motivating firms to move their corporate headquarters to low cost countries. The incentive for US firms to do so has been substantially reduced as a result of the 2017 Tax Cuts and Jobs Bill. So-called corporate inversions are discussed in more detail in Chapters 12 and 18.

Market Power

The market power theory suggests that firms merge to improve their ability to set product prices by reducing output or by colluding. However, many recent studies conclude that increased merger activity is much more likely to contribute to improved operating efficiency than to increased market power (see "Payoffs for Society" section).

A recent study of M&As in the US telecommunications industry, deregulated in 1996, found that telecom takeovers were driven primarily by anticipated synergy (e.g., scale) rather than market power. Merger announcements usually cause rivals’ share prices to rise as investors anticipate that some will become takeover targets. If market power were the main motive, the increase in share prices should be distributed across all remaining firms. The change in rival share prices immediately following telecom merger announcements varied widely as investors bid up the share prices of competitors most likely to benefit from merger-related synergies leaving other firms’ share prices to languish.²⁵ This pattern is inconsistent with market power being an important motive for takeovers in the US telecom industry.

Misvaluation

Absent full information, investors may periodically incorrectly value a firm. If a firm’s shares are overvalued (undervalued), they are likely to decline (rise) in the long run to their true value as investors more accurately value such shares based on new information. Opportunistic acquirers may profit by buying undervalued targets for cash at a price below their actual value or by using overvalued equity (even if the target is overvalued), as long as the target is less overvalued than the bidding firm’s stock.²⁶ Overvalued shares enable the acquirer to purchase a target firm in a share for share exchange by issuing fewer shares, reducing the dilution of current acquirer shareholders in the combined companies.²⁷

Misvaluation contributes to market inefficiencies: the winning bidder may not be the one with the greatest synergy potential and the purchase price paid may exceed the target’s true economic value. Opportunistic acquirers using their overvalued stock to bid for a target can outbid others whose offers are limited to the extent of their potential synergy with the target firm. If the acquirer’s purchase price is based more on its overvalued shares than on perceived synergy, it is unlikely to create as much value for shareholders than a bidder basing their offer solely on anticipated synergy. Such instances are relatively rare occurring in about 7% of deals and the magnitude of the inefficiency on average is small.²⁸ However, even if the opportunistic buyer fails to acquire the target their presence bids up the price paid thereby potentially causing the winning bidder to overpay for the target.

The effects of misvaluation tend to be short-lived, since the initial overvaluation of an acquirer’s share price often is reversed in 1–3 years as investors’ enthusiasm about potential synergies wanes.²⁹ Both acquirer and target shareholders often lose in improperly valued deals. Acquirers tend to overpay for target firms and often anticipated synergy is insufficient for the acquirer to earn back the premium paid for the target. Target shareholders who hold their acquirer shares see them over time decline to their true economic value.

Merger and Acquisition Waves

Analysts have often observed that the domestic volume and value of M&As tend to display periods of surging growth only to later recede (sometimes abruptly).³⁰ European waves follow those in the United States with a short lag. Cross-border deals tend to follow cyclical patterns similar to domestic merger waves. Understanding M&A waves can provide significant insights enabling buyers to understand when to make and how to structure and finance deals. Similarly, sellers can attempt to time the sale of their businesses with the most advantageous time in the cycle.

Why M&A Waves Occur?

M&As in the United States have tended to cluster in multiyear waves since the late 1890s. There are two competing explanations for this phenomenon. One argues that merger waves occur when firms react to industry shocks,³¹ such as from deregulation, the emergence of new technologies, distribution channels, substitute products, or a sustained rise in commodity prices. Such events often cause firms to acquire either all or parts of other firms.³² The second argument is based on misvaluation and suggests that managers use overvalued stock to buy the assets of lower valued firms. For M&As to cluster in waves, goes the argument, valuations of many firms must increase at the same time. Managers whose stocks are believed to be overvalued move concurrently to acquire firms whose stock prices are lesser valued.³³ For this theory to be correct, the method of payment would normally be stock.

In fact, the empirical evidence shows that less stock is used to finance takeovers during merger waves. Since M&A waves typically correspond to an improving economy, managers confident about their stocks’ future appreciation are more inclined to use debt to finance takeovers,³⁴ because they believe their shares are currently undervalued. Thus, the shock argument seems to explain M&A waves better than the misevaluation theory.³⁵ However, shocks alone, without sufficient liquidity to finance deals, will not initiate a wave of merger activity. Moreover, readily available, low-cost capital may cause a surge in M&A activity even if industry shocks are absent.³⁶

While research suggests that shocks drive merger waves within industries, increased M&A activity within an industry contributes to M&A activity in other industries due to customer-supplier relationships. Increased consolidation among computer chip makers in the early 2000s drove increased takeovers of suppliers of chip manufacturing equipment to accommodate growing customer demands for more complex chips. More recently, British American Tobacco’s (BAT) takeover of Reynolds American Tobacco in early 2017 creating the world’s biggest publicly traded firm in the industry pressured rivals to consolidate to achieve potential cost savings and to enhance marketing and distribution capabilities.

Domestic Merger Waves

M&As commonly occur during periods of sustained high rates of economic growth, low or falling interest rates, and a rising stock market. Historically, each merger wave has differed in terms of a specific development (such as the emergence of a new technology), industry focus (such as rail, oil, or financial services), degree of regulation, and type of transaction (such as horizontal, vertical, conglomerate, strategic, or financial deals).

The stock market rewards firms acting early and punishes those that merely imitate. Firms pursuing attractive deals early pay lower prices for targets than followers. Late in the cycle, purchase prices escalate as more bidders enter the takeover market, leading many buyers to overpay. Reflecting this herd mentality, deals completed late in M&A waves tend to show lower acquirer returns than those announced prior to an upsurge in deal activity.³⁷ Assuming they are not already in a downward spiral, firms wishing to sell all or part of their operations should attempt to time a sale when the demand for their type of business is the strongest. Investors can also benefit from merger waves by investing in other firms within industries where M&A activity is accelerating. Why? There is empirical evidence that the share prices of competitors tend to rise, assuming nothing else changes, following takeover announcements in the same industry.³⁸ Moreover, increases in rivals’ share prices tend to be greater in industries subject to wide analyst coverage.

Leveraged buyout waves are closely related to declines in the aggregate risk premium (i.e., the excess return over the risk free rate) rather than specific credit conditions such as borrowing costs.³⁹ Booms (busts) follow investors showing a greater (lower) appetite for risk and an increased (decreased) willingness to hold relatively illiquid investments.

Cross-Border Merger Waves

Similar to domestic mergers, cross-border mergers cluster by industry and by time period. Both are triggered by similar factors; but unlike domestic M&A waves, deals completed later in the cross-border M&A cycle tend to show significantly higher abnormal acquirer returns. Also, they tend to be much higher than transactions completed outside of waves. Post-merger operating performance is also better for within-wave cross-border deals. This superior performance is even greater if the target country is different from the acquirer’s country in terms of such things as culture, economic development, geographic location, capital market maturity, and legal system.

The superior performance of cross-border acquirers who do deals later in the cycle may reflect their ability to learn from prior deals made by industry peers in the target country. Earlier deals within the industry establish comparable transaction values that may be used for valuation of the target firm thereby limiting the acquirer’s risk of overpaying. If in these prior deals investors have rewarded acquirers by bidding up their share prices, investors are more likely to applaud similar deals in the future, as long as the acquirer does not overpay. Empirical evidence supports this notion in that firms are more (less) likely to undertake cross-border deals in the same country if they observe positive (negative) stock price reactions to previous comparable deals.⁴⁰ Because cross-border deals often have a higher level of risk than domestic transactions due to a greater number of unknowns, stock market reaction to past deals either confirms (or rejects) the wisdom of a takeover.

Understanding Corporate Restructuring Activities

Corporate restructuring often is broken into two categories. Operational restructuring entails changes in the composition of a firm’s asset structure by acquiring new businesses or by the outright or partial sale or spin-off of companies or product lines. Operational restructuring could also include downsizing by closing unprofitable or nonstrategic facilities. Financial restructuring describes changes in a firm’s capital structure, such as share repurchases or adding debt either to lower the company’s overall cost of capital or as part of a takeover defense. The focus in this book is on business combinations and breakups rather than on operational downsizing and financial restructuring. Business combinations include mergers, consolidations, acquisitions, or takeovers and can be friendly or hostile.

Mergers and Consolidations

Mergers can be described from a legal perspective and an economic perspective. The implications of each are discussed next.

A Legal Perspective

A merger is a combination of two or more firms, often comparable in size, in which all but one ceases to exist legally. A statutory or direct merger is one in which the acquiring or surviving company assumes automatically the assets and liabilities of the target in accordance with the statutes of the state in which the combined companies will be incorporated. A subsidiary merger involves the target becoming a subsidiary of the parent. To the public, the target firm may be operated under its brand name, but it will be owned and controlled by the acquirer. A statutory consolidation—which involves two or more companies joining to form a new company—is technically not a merger. All legal entities that are consolidated are dissolved during the formation of the new company, which usually has a new name. Shareholders in the firms typically exchange their shares for shares in the new company.

An Economic Perspective

Business combinations may also be defined depending on whether the merging firms are in the same (horizontal) or different industries (conglomerate) and on their positions in the corporate value chain (vertical). Fig. 1.1 illustrates the different stages of the value chain. A simple value chain in the basic steel industry may distinguish between raw materials, such as coal or iron ore; steel making, such as hot metal and rolling operations; and metals distribution. Similarly, a value chain in the oil and gas industry would separate exploration activities from production, refining, and marketing. An Internet value chain might distinguish between infrastructure providers such as Cisco, content providers such as Dow Jones, and portals such as Google. In a vertical merger, companies that do not own operations in each major segment of the value chain backward integrate by acquiring a supplier or forward integrate by buying a distributor. When paper manufacturer Boise Cascade acquired Office Max, an office products distributor, the $1.1 billion transaction represented forward integration. PepsiCo backward integrated through a $7.8 billion purchase of its two largest bottlers to realize $400 million in annual cost savings.

Fig. 1.1

Fig. 1.1 The corporate value chain. Note : IT refers to information technology.

Acquisitions, Divestitures, Spin-Offs, Split-Offs, Carve-Outs, and Leveraged Buyouts

An acquisition occurs when a company takes a controlling interest in another firm, a legal subsidiary of another firm, or selected assets of another firm, such as a manufacturing facility. They may involve the purchase of another firm’s assets or stock, with the acquired firm continuing to exist as a legally owned subsidiary. A leveraged buyout or LBO is the acquisition of another firm financed primarily by debt. In contrast, a divestiture is the sale of all or substantially all of a company or product line to another party for cash or securities. A spin-off is a transaction in which a parent creates a new legal subsidiary and distributes shares in the subsidiary to its current shareholders as a stock dividend, with the spun off subsidiary now independent of the parent. A split-off is similar to a spin-off, in that a firm’s subsidiary becomes an independent firm and the parent firm does not generate any new cash. However, unlike a spin-off, the split-off involves an offer to exchange parent stock for stock in the parent firm’s subsidiary. An equity carve-out is a transaction in which the parent issues a portion of its stock or that of a subsidiary to the public (see Chapter 15). Fig. 1.2 provides a summary of the various forms of corporate restructuring.

Fig. 1.2

Fig. 1.2 The corporate restructuring process.

Alternative Takeover Strategies

The term takeover is used when one firm assumes control of another. In a friendly takeover, the target’s board and management recommend shareholder approval. To gain control, the acquiring company usually must offer a premium to the target’s current stock price. For example, French telecommunications giant Altice paid $34.90 per share of US cable company Cablevision in cash, 22% higher than Cablevision’s closing stock price on September 16, 2015 (the day before the deal was announced). The excess of the offer price over the target’s premerger share price is called a purchase or acquisition premium and varies widely by country.⁴¹ The premium reflects the perceived value of obtaining a controlling interest in the target, the value of expected synergies, and any overpayment for the target. Overpayment is the amount an acquirer pays for a target in excess of the present value of future cash flows, including synergy.⁴² The size of the premium varies widely from one year to the next. During the 30-year period ending in 2011, US purchase price premiums averaged 43%, reaching a high of 63% in 2003 and a low of 31% in 2007.⁴³ The premium size also varies substantially across industries, reflecting their different expected growth rates.⁴⁴

A formal proposal to buy shares in another firm made directly to its shareholders, usually for cash or securities or both is called a tender offer. Tender offers most often result from friendly negotiations (i.e., negotiated tender offers) between the boards of the acquirer and the target firm. Cash tender offers may be used because they could represent a faster alternative to mergers.⁴⁵ Those that are unwanted by the target’s board are referred to as hostile tender offers. Self-tender offers are used when a firm seeks to repurchase its stock.

A hostile takeover occurs when the offer is unsolicited, the approach was contested by the target’s management, and control changed hands. The acquirer may attempt to circumvent management by offering to buy shares directly from the target’s shareholders and by buying shares in a public stock exchange (i.e., an open market purchase). Friendly takeovers are often consummated at a lower purchase price than hostile deals, which may trigger an auction for the target firm. Acquirers often prefer friendly takeovers because the postmerger integration process is usually more expeditious when both parties are cooperating fully and customer and employee attrition is less. Most transactions tend to be friendly, with hostile takeovers usually comprising less than 5% of the value of total deals.

The Role of Holding Companies in Mergers and Acquisitions

A holding company is a legal entity having a controlling interest in one or more companies. The key advantage is the ability to gain effective control⁴⁶ of other companies at a lower overall cost than if the firm was to acquire 100% of the target’s shares. Effective control sometimes can be achieved by owning as little as 30% of the voting stock of another company when the firm’s bylaws require approval of major decisions by a majority of votes cast rather than a majority of the voting shares outstanding. This is particularly true when the target company’s ownership is highly fragmented, with few shareholders owning large blocks of stock, and shareholder voting participation is limited. Effective control generally is achieved by acquiring less than 100% but usually more than 50% of another firm’s equity leaving the holding company with minority shareholders who may not always agree with the strategic direction of the company. Implementing holding company strategies may become contentious. Also, holding company shareholders may be subject to an onerous tax burden, with corporate earnings potentially subject to triple taxation.⁴⁷

The Role of Employee Stock Ownership Plans (ESOPs) in M&As

An ESOP is a trust fund that invests in the securities of the firm sponsoring the plan. Designed to attract and retain employees, ESOPs are defined contribution⁴⁸ employee pension plans that invest at least 50% of the plan’s assets in the sponsor’s common shares. The plans may receive the employer’s stock or cash, which is used to buy the sponsor’s stock. The sponsor can make tax-deductible contributions of cash, stock, or other assets into the trust.⁴⁹ The plan’s trustee is charged with investing the trust assets, and the trustee often can sell, mortgage, or lease the assets. Stock acquired by the ESOP is allocated to accounts for individual employees based on some formula and vested over time. ESOP participants must be allowed to vote their allocated shares at least on major issues such as selling the company.

ESOPs may be used to restructure firms. If a subsidiary cannot be sold at what the parent firm believes to be a reasonable price and liquidating the subsidiary would be disruptive to customers, the parent may divest the subsidiary to employees through a shell corporation. A shell corporation, as defined by the US Securities and Exchange Commission in 2005, is one with no or nominal operations, and with no or nominal assets or assets consisting solely of cash and cash equivalents.⁵⁰ The shell sets up the ESOP, which borrows the money to buy the subsidiary; the parent guarantees the loan. The shell operates the subsidiary, whereas the ESOP holds the stock. As income is generated from the subsidiary, tax-deductible contributions are made by the shell to the ESOP to service the debt. As the loan is repaid, the shares are allocated to employees who eventually own the firm. ESOPs may be used by employees in LBOs to purchase the shares of owners of privately held firms. This is particularly common when the owners have most of their net worth tied up in their firms. ESOPs also provide an effective antitakeover defense, since employees who also are shareholders tend to vote against bidders for fear of losing their jobs.

Business Alliances as Alternatives to M&As

In addition to mergers and acquisitions, businesses may combine through joint ventures (JVs), strategic alliances, minority investments, franchises, and licenses. The term business alliance is used to refer to all forms of business combinations other than mergers and acquisitions (see Chapter 15 for more details).

Joint ventures are business relationships formed by two or more parties to achieve common objectives. While the JV is often a legal entity such as a corporation or partnership, it may take any organizational form desired by the partners. Each JV partner continues to exist as a separate entity; JV corporations have their own management reporting to a board of directors. In early 2018, Germany’s MBDA Deutschland and US based Lockheed Martin announced the formation of a JV corporation to develop the next generation integrated air and missile defense system for Germany’s military.

A strategic alliance generally does not create a separate legal entity and may be an agreement to sell each firm’s products to the other’s customers or to co-develop a technology, product, or process. Such agreements may be legally binding or informal. To compete more effectively against Amazon.com, the leader in retailing and cloud computing, Walmart Inc. and Microsoft Corp signed a 5-year agreement in mid-2018 to use Microsoft’s cloud computing capabilities to expedite customer shopping.

Minority investments, those involving less than a controlling interest, require little commitment of management time for those willing to be passive investors. Such investments are frequently made in firms which have attractive growth opportunities but lack the resources to pursue them.⁵¹ Cash transferred through minority stake investments often represents an important source of financing for firms with limited financial resources to fund their innovative investments.⁵² Investors often receive representation on the board or veto rights in exchange for their investment. A minority investor can effectively control a business by having veto rights to changes in strategy, capital expenditures over a certain amount of money, key management promotions, salary increases applying to senior managers, the amount and timing of dividend payments, and when the business would be sold. In 2018, Chinese carmaker Geely became the top shareholder in Germany’s Daimler AG by acquiring a 9.7% stake to help the firm better compete with Google and Apple for a role in the shift to electric and self-driving cars.

Licenses enable firms to extend their brands to new products and markets by permitting others to use their brand names or to gain access to a proprietary technology. Firms with highly recognizable brand names can find such deals extremely profitable. For example, global consumer products powerhouse Nestle, disappointed with the growth of its own coffee products, acquired the rights to market, sell, and distribute Starbucks’ packaged coffees and teas outside the US for an upfront payment of $7.2 billion in late 2018. In addition, Starbucks would earn royalties on sales of its products by Nestle.

A franchise is a specialized form of a license agreement that grants a privilege to a dealer from a manufacturer or franchise service organization to sell the franchiser’s products or services in a given area. Under a franchise agreement, the franchiser may offer the franchisee consultation, promotional assistance, financing, and other benefits in exchange for a share of the franchise’s revenue. Franchises represent a low-cost way for the franchiser to expand and are commonly found in fast food services and retailing where a successful business model can be easily replicated.

The major attraction of these alternatives to outright acquisition is the opportunity for each partner to gain access to the other’s skills, products, and markets at a lower overall cost in terms of management time and money. Major disadvantages include limited control, the need to share profits, and the potential loss of trade secrets and skills to competitors.

Participants in the Mergers and Acquisitions Process

In addition to the acquirer and target firms, the key participants in the M&A process include providers of specialized services, regulators, institutional investors and lenders, activist investors, and M&A arbitrageurs. Each participant plays a distinctly different role.

Providers of Specialized Services

The first category includes investment banks, lawyers, accountants, proxy solicitors, and public relations personnel. Most negotiations involve teams of people with varied specialties, because teams have access to a wider variety of expertise and can react more rapidly to changing negotiating strategies than can a single negotiator.⁵³ Not surprisingly, the number and variety of advisors hired by firms tends to increase dramatically with the increasing complexity of the deal.⁵⁴

Investment Banks

Investment banks provide advice and deal opportunities; screen potential buyers and sellers; make initial contact with a seller or buyer; as well as provide negotiation support, valuation, and deal structuring guidance. The universal or top-tier banks (e.g., Goldman Sachs) also maintain broker-dealer operations, serving wholesale and retail clients in brokerage and advisory roles, to support financing mega-transactions.

Investment bankers derive significant income from so-called fairness opinion letters—signed third-party assertions that certify the appropriateness of the price of a proposed deal involving a tender offer, merger, asset sale, or LBO. They often are developed as legal protection for members of the boards of directors against possible shareholder challenges of their decisions.⁵⁵ Researchers have found that fairness opinion letters reduce the risk of lawsuits associated with M&A transactions and the size of the premium paid for targets if they result in acquirers’ performing more rigorous due diligence and deal negotiation.⁵⁶

In selecting an investment bank, acquirers and target firms focus far more on a bank’s track record in generating high financial returns for their clients than on its size or market share. Smaller advisors may generate higher returns for their clients than the mega-investment banks because of proprietary industry knowledge and relationships. About one-fourth of merging firms tend to hire so-called boutique or specialty investment banks for their skill and expertise as their advisors, especially in deals requiring specialized industry knowledge. However, size and market share do matter in certain situations. Contrary to earlier studies that report a negative or weak relationship between bidder financial advisor size and bidder returns,⁵⁷ bidders using top-tier investment banks as advisors report on average a 1% improvement in returns in deals involving public targets. Top-tier investment banks are better able to assist in funding large transactions, which typically involve public companies, because of their current relationships with lenders and broker networks.

About 50% of deals are advised by top-tier investment banks. Such banks seem to be more helpful in improving both short and long term financial performance for acquirers who have limited access to funds than for those that have few financial constraints. Perhaps high financing costs force constrained firms to be more careful in making acquisitions and are more inclined to hire top-tier advisors to identify more readily achievable synergies.⁵⁸

Longstanding investment banking relationships do matter. However, their importance varies with the experience of the acquirer and target firm. Targets, having such relationships with investment banks, are more likely to hire M&A advisors⁵⁹ and to benefit by receiving higher purchase price premiums. Frequent acquirers are more likely to use the same investment advisor if they have had good prior outcomes. Otherwise they are very willing to switch to a new investment advisor. Investment banking relationships are significant for inexperienced acquirers which are more likely to hire financial advisors with whom they have had a longstanding underwriting relationship for new equity issues.⁶⁰

Firms that are in the mature stage of their corporate life cycle (net cash generators with limited investment opportunities) are more inclined to use investment bankers than firms in their growth phase (net cash users with many investment opportunities). Mature firms hiring investment bankers often show higher returns than those that do not, suggesting that financial advisors add value perhaps by helping such firms identify and value appropriate investment opportunities. Firms in their growth phase are less likely to use financial advisors due to the many investment opportunities that exist for such firms, but those not using advisors tend to earn lower returns than those that do.⁶¹

In recent years, active acquirers are relying more on their internal staffs to perform what has traditionally been done by outside investment bankers. According to Dealogic, 27% of public company deals valued at more than $1 billion in 2016 did not use investment advisors. This compares to 13% in 2014. The trend is driven by a desire to control costs, keep deals confidential, and move quickly when needed.

Lawyers

Lawyers help structure the deal, evaluate risk, negotiate the tax and financial terms, arrange financing, and coordinate the sequence of events to complete the transaction. Specific tasks include drafting the purchase agreement and other transaction-related documents, providing opinion of counsel letters to the lender, performing due diligence activities, and defending against lawsuits. Moreover, the choice of legal counsel in deal making often is critical as top legal advisors may be better able to handle the complexity and strategy that accompany M&A related lawsuits. They often can negotiate cheaper and faster deals and protect low premium deals from serious legal challenges. Moreover, top attorneys are more effective in multi-jurisdictional litigation cases.⁶²

Accountants

Accountants provide advice on financial structure, perform financial due diligence, and help create the optimal tax structure for a deal. Income tax, capital gains, sales tax, and sometimes gift and estate taxes are all at play in negotiating a merger or acquisition. In addition to tax considerations, accountants prepare financial statements and perform audits. Many agreements require that the books and records of the acquired entity be prepared