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Guide to Vertical Merger

A vertical merger is a process which brings together two companies that provide different goods or services at different stages of the supply chain in a particular industry.

What are the two types of vertical merger?

There are two types of vertical merger – backward vertical merger and forward vertical merger.

Backward vertical merger

In the case of a backward vertical merger, a company will acquire a business from an earlier stage of the supply chain. A department store, for example, may buy a transport company to distribute products to its shops around the country.

Forward vertical merger

This type of vertical merger sees a company acquire an organisation from a later stage of the supply chain – as in the case of a housebuilder buying a rental agency.

What is the difference between a vertical merger and vertical integration?

The terms vertical merger and vertical integration are sometimes used interchangeably. There is, however, an important difference. In the case of a merger, the two companies will come together to form a new organisation, with the original businesses ceasing to exist.

Vertical integration, on the other hand, can take place by a company buying an existing business or setting up a new subsidiary from scratch. The companies retain their separate identities but operate under a shared command structure to ensure that their activities complement each another.

What is a vertical merger example in the UK?

In 2011, the British supermarket chain Morrisons acquired Flower World, one of the country’s leading flower wholesalers, which already supplied around one third of Morrisons’ flowers.

The move enabled the supermarket to strengthen its position with regards to its supply chain of fresh flowers.

What is a vertical vs a horizontal merger?

We have seen how a vertical merger involves businesses from different stages in a supply chain. A horizontal merger, by contrast, involves the coming together of two organisations from the same stage of a supply chain – for example, Morrisons’ acquisition of rival supermarket Safeway in 2004.

What are the advantages of vertical mergers?

Companies that take part in vertical mergers aim to benefit from synergies – a concept relating to the resulting organisation being stronger and more efficient than its constituent parts. Such benefits include:

Safeguarding supplies

Should a clothing manufacturer have experienced problems in sourcing raw materials, acquiring a cotton producer could be an effective way of securing supplies and avoiding disruptions to its operations.

Should a clothing manufacturer have experienced problems in sourcing raw materials, acquiring a cotton producer could be an effective way of securing supplies and avoiding disruptions to its operations.

A fishing company concerned about where it will sell its produce may opt to take over a chain of fishmongers to provide it with a guaranteed market.

Economic and financial benefits

An organisation resulting from a vertical merger may find its production costs decrease due to economies of scale, resulting in increased profitability.

As a larger company than the two previous businesses, it may also find it easier to gain access to credit (e.g. bank loans) and so be able to invest in new products, equipment and so on.

Pooling management talent

The combined organisation is likely to inherit the management teams of the two former companies. It may be that there is some duplication of responsibilities, enabling the organisation to select the best operators with a resulting increase in efficiency and performance.

Increased market power

The new organisation that results from a merger will be likely to enjoy a greater market dominance due to its size and strength. This in turn can enable it to negotiate cheaper prices from its suppliers and charge higher prices to its customers – leading to increased profits.

Where can I find out more about vertical mergers?

We have seen how vertical mergers have the potential to bring great benefits to companies at a financial and operational level.

Nevertheless, such a major project inevitably involves an element of risk and so it is vital to obtain expert advice before embarking upon a vertical merger. Wilson Browne’s team of commercial and corporate solicitors has a proven track record of helping to facilitate successful mergers and acquisitions.

Be sure to check out our Mergers and Acquisitions guide to learn more about M&A’s work.

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Holly Threlfall

Posted:

Holly Threlfall

Partner

Holly is a Partner and Head of our Company & Commercial Team. She has experience of dealing with companies of all sizes, owner managed businesses, SMEs, Private Limited Companies, partnerships and charities.