A closer look at Mergers within the M&A process

In mergers and acquisitions (M&A) the result is that two companies that were previously separate entities end up sitting under the same roof.

There are various pros and cons to companies coming together, and generally, these will apply in different ways to different parties involved in M&A.

One critical factor in determining the advantages or disadvantages lies in the difference between a merger and an acquisition.

• In a merger, two companies form a single entity together, and this single company replaces the two previous ones
• In an acquisition, one company buys another, and the buyer company retains its identity.

Therefore, the whole tone of a merger may be different to that of an acquisition. If a larger company buys up a smaller one, then the smaller company may feel it’s at more of a disadvantage, giving up its identity and independence.

Of course, acquisitions, like mergers, can benefit both companies involved, and M&A generally can have winners and losers.

The pros:

• Economies of scale
• Improved research and development (R&D) capability
• New markets
• Multiple growth opportunities
• Cost-effective expansion

The cons:

• Impact on employees
• Contrasting corporate cultures
• Increase in debt
• Decision-making challenges
• Communication and coordination.

The Pros of M&A

Economies of scale are a big attraction for companies merging, or for one company to buy another.

Expanding a national network can be easier through a merger. An example here is the merger of T-Mobile with Orange in 2010.

A smaller firm can have higher average costs, but by joining with another firm, it can increase its output leading to lower average costs.

This is about increasing output leading to lower unit costs.

Economies of scale can involve:

• Technical investments – buying large capital equipment
• Specialisation – increasing output via improved efficiency
• Bulk-buying – taking advantage of lower average costs
• Resilience – becoming better equipped to weather downturns
• Marketing – harnessing resources for national or international campaigns
• Finance – being able to command better deals from banks and investors

One company buying or merging with another is a means of acquiring technical expertise and resources. This is a rapid way of boosting R&D to develop new products and services based on cutting-edge capabilities and resources.

This is often a major motive for mergers in the pharmaceutical industry.

Mergers and acquisitions can help companies break into new markets or expand their market share. One company can instantly gain access to a whole new market, and, in an acquisition, continue to maintain its trusted brand name.

By spreading risk, merged companies can diversify, and seize more opportunities for increased sales and profits, and deeper market penetration and recognition.

M&A can offer multiple growth opportunities, unlocking value and combining resources and experience.

By combining expertise, assets, and market share, merged companies can expand significantly while controlling their costs.

A big driver of mergers and acquisitions is the concept of synergy: the value and performance of a single company will be greater than the sum of its individual parts. Synergy is often the first thing on the list to weigh up before deciding to go ahead with a merger or acquisition.

The Cons of M&A

Not all mergers and acquisitions run smoothly or go according to plan. This may be due to the proposed merger failing to meet regulatory approval, such as the proposed Sainsbury’s-Asda merger, or for internal reasons.

Certainly, in these types of transactions, there can be disadvantages.

One is the impact on employees. Mergers can lead to job losses and can be a particular cause for concern in aggressive, asset-stripping takeovers.

Even in more balanced mergers or acquisitions, employees from both companies can find the whole experience unsettling, and this can have an ongoing effect on corporate culture, morale and, ultimately, productivity.

And culture is an important factor. If two companies with very different cultures attempt to come together, this can cause significant disruption and may even throw the whole merger off-track.

In fact, cultural incompatibility is often seen as the cause of failed deals. Leaving employees uncertain or insecure about the future can undermine a merger.

Another potential disadvantage of two companies joining together is that it increases the overall debt the merged company holds, making it harder to access lines of credit and putting the company at an immediate disadvantage.

How to Minimise Risk in M&A

M&A transactions come under common law, and a core principle of the law on contracts is caveat emptor – let the buyer beware.

When one company buys another, it has very limited statutory protection. The law assumes the buyer will find out all they need to know.

A large part of the success of any company merger will depend on it being the right fit, and therefore on the companies involved knowing what they’re getting into.

This is why due diligence is hugely important in M&A. It’s not a legal requirement, but it does involve a forensic, legal investigation.

To ensure the pros outbalance the cons, it’s important to do the necessary preparatory groundwork and research and to take advantage of dedicated company and commercial law expertise for this purpose.

An M&A solicitor will carry out due diligence, draft the legal documents and letters essential to a transaction, help with negotiations and provide expert advice and support throughout the process.

For more details about our services in this area of law, please call our corporate and commercial solicitors on 0800 088 6004, or complete our online contact form, and we will be in touch as soon as possible.