Types of Acquisitions
In general, acquisitions can be horizontal, vertical, or conglomerate. A horizontal acquisition takes place between two firms in the same line of business. For example, one tool and die company might purchase another. In contrast, a vertical merger entails expanding forward or backward in the chain of distribution, toward the source of raw materials or toward the ultimate consumer. For example, an auto parts manufacturer might purchase a retail auto parts store. A conglomerate is formed through the combination of unrelated businesses.
Another type of combination of two companies is a consolidation. In a consolidation, an entirely new firm is created, and the two previous entities cease to exist. Consolidated financial statements are prepared under the assumption that two or more corporate entities are in actuality only one . The consolidated statements are prepared by combining the account balances of the individual firms after certain adjusting and eliminating entries are made.
Another way to acquire a firm is to buy the voting stock. This can be done by agreement of management or by tender offer. In a tender offer, the acquiring firm makes the offer to buy stock directly to the shareholders, thereby bypassing management. In contrast to a merger, a stock acquisition requires no stockholder voting. Shareholders wishing to keep their stock can simply do so, however by doing so the shareholder maybe left with holding stocks within a company that no longer exists.
A bidding firm can also buy another simply by purchasing all its assets. This involves a costly legal transfer of title and must be approved by the shareholders of the selling firm. A takeover is the transfer of control from one group to another. Normally, the acquiring firm (the bidder) makes an offer for the target firm. In a proxy contest, a group of dissident shareholders will seek to obtain enough votes to gain control of the board of directors.
Taxable Versus Tax-Free Transactions
Mergers and acquisitions can be either tax-free or taxable events. The tax status of a transaction may affect its value from both the buyer's and the seller's viewpoints. In a taxable acquisition, the assets of the selling firm are revalued or "written up. "Therefore, the depreciation deduction will rise (assets are not revalued in a tax-free acquisition). But the selling shareholders will have to pay capital gains taxes and thus will want more for their shares to compensate. This is known as the capital gains effect. The capital gains and write-up effects tend to cancel each other out.
Certain exchanges of stock are considered tax-free reorganizations, which permit the owners of one company to exchange their shares for the stock of the acquirer without paying taxes. There are three basic types of tax-free reorganizations. In order for a transaction to qualify as a type A tax-free reorganization, it must be structured in certain ways. in contrast to a type B reorganization, the type A transaction allows the buyer to use either voting or non-voting stock. It also permits the buyer to use more cash in the total consideration since the law does not stipulate a maximum amount of cash that can be used. At least 50 percent of the consideration, however, must be stock in the acquiring corporation. in addition, in a type A reorganization, the acquiring corporation may choose not to purchase all the target's assets.
In instances where at least 50 percent of the bidder's stock is used as the consideration but other considerations such as cash, debt, or non-equity securities are also used the transaction may be partially taxable. Capital gains taxes must be paid on those shares that were exchanged for no equity consideration. A type B reorganization requires that the acquiring corporation use mainly its own voting common stock as the consideration for purchase of the target corporation's common stock. Cash must comprise no more than 20 percent of the total consideration, and at least 80 percent of the target's stock must be paid for by voting stock by the bidder.
Target stockholders who receive the stock of the acquiring corporation in exchange for their common stock are not immediately taxed on the consideration they receive. Taxes will have to be paid only if the stock is eventually sold. If cash is included in the transaction, this cash may be taxed to the extent that it represents a gain on the sale of stock.
In a type C reorganization, the acquiring corporation must purchase 80 percent of the fair market value of the target's assets. In this type of reorganization, a tax liability results when the acquiring corporation purchases the assets of the target using consideration other than stock in the acquiring corporation. The tax liability is measured by comparing the purchase price of the assets with the adjusted basis of these assets.
Hostile Acquisitions
The replacement of poor management is a potential source of gain from acquisition. Changing technological and competitive factors may lead to a need for corporate restructuring. If incumbent management is unable to adapt, then a hostile acquisition is one method for accomplishing change.
Hostile acquisitions generally involve poorly performing firms in mature industries, and occur when the board of directors of the target is opposed to the sale of the company. In this case, the acquiring firm has two options to precede with the acquisition a tender offer or a proxy fight. A tender offer represents an offer to buy the stock of the target firm directly from the firm's shareholders. in a proxy fight, the acquirer solicits the shareholders of the target firm in an attempt to obtain the right to vote their shares. The acquiring firm hopes to secure enough proxies to gain control of the board of directors and, in turn, replace the incumbent management.
Management in target firms will typically resist takeover attempts either to get a higher price for the firm or to protect their own self-interests.
Other defensive tactics include poison pills and dual class recapitalization. With poison pills, existing shareholders are issued rights which, if a bidder acquires a certain percentage of the outstanding shares, can be used to purchase additional shares at a bargain price, usually half the market price.
Do Acquisitions Benefit Shareholders?
There is substantial empirical evidence that the shareholders in acquired firms benefit substantially. Gains for this group typically amount to 20 percent in mergers and up 300 percent and above in tender offers above the market price.
The gains to acquiring firms are difficult to measure. The best evidence suggests that shareholders in bidding firms do gain. Losses in value subsequent to merger announcements are not unusual. This seems to suggest that overvaluation by bidding firms is common.
History
Do Acquisitions Benefit Shareholders?
Merger and acquisition activity in the United States has typically run in cycles, with peaks coinciding with periods of strong business growth US merger activity has been marked by five prominent waves:. One around the turn of the twentieth century, the second peaking in 1929, the third in the latter half of the 1960s, the fourth in the first half of the 1980s, and the fifth in the latter half of the 1990s.
This last peak, in the final years of the twentieth century, brought very high levels of merger activity. Bolstered by a strong stock market, businesses merged at an unprecedented rate. The total dollar volume of mergers increased throughout the 1990s, setting new records each year from 1994 to 1999. Many of the acquisitions involved huge companies and enormous dollar amounts. Disney acquired ABC Capital Cities for $ 19 billion, Bell Atlantic acquired Nynex for $ 22 billion, World com acquired MCI for $ 41.9 billion, SBC Communications acquired Ameritech for $ 56.6 billion , Traveler's acquired Citicorp for $ 72.6 billion, Nation Bank acquired Bank of America for $ 61.6 billion, Daimler-Benz acquired Chrysler for $ 39.5 billion, and Exxon acquired Mobil for $ 77.2 billion.
Merger Guidelines
Do Acquisitions Benefit Shareholders?
In the vast majority of antitrust challenges to mergers and acquisitions, the matters have been resolved by consent order or decree. The United States Regulators Commission have sought to clarify how they analyze mergers through merger guidelines issued May 5, 1992 (4 Trade Reg. Rep . [CCH] 13,104). These guidelines are law. nevertheless, the antitrust enforcement agencies will use them to analyze proposed transactions.
The 1992 merger guidelines state that most horizontal mergers and acquisitions aid competition and are beneficial to consumers. The intent of issuing the guidelines is to "avoid unnecessary interference with the larger universe of mergers that are either competitively beneficial or neutral."
The guidelines prescribe five questions for identifying hazards in proposed horizontal mergers:?? Does the merger cause a significant increase in concentration and produce a concentrated market Does the merger appear likely to cause adverse competitive effects Would entry sufficient to frustrate anti-competitive conduct be timely and likely to occur? Will the merger generate efficiencies that the parties could not reasonably achieve through other means? Is either party likely to fail, and will its assets leave the market if the merger does not occur?
The guidelines essentially ask which products or firms are now available to buyers and where could buyers turn for supplies if relative prices increased, which tends to yield lower concentration increases than Supreme Court merger decisions of the 1960s.
Rule 144: Selling Restricted Securities
When you acquire restricted securities or hold control securities, you must find an exemption from the US Regulator's registration requirements to sell them in the marketplace. Rule 144 allows public resale of restricted and control securities if a number of conditions are met. This overview tells you what you need to know about selling your restricted or control securities. It also describes how to have a restrictive legend removed.
What Are Restricted and Control Securities?
Restricted securities are securities acquired in unregistered, private sales from the issuer or from an affiliate of the issuer. Investors typically receive restricted securities through private placement offerings, as compensation for professional services, or in exchange for providing "seed money" or start-up capital to the company.
What Are Restricted and Control Securities?
Restricted securities are securities acquired in unregistered, private sales from the issuer or from an affiliate of the issuer. Investors typically receive restricted securities through private placement offerings, as compensation for professional services, or in exchange for providing "seed money" or start-up capital to the company.
What Are the Conditions of Rule 144?
If you want to sell your restricted or control securities to the public, you can follow the applicable conditions set forth in Rule 144. The rule is not the exclusive means for selling restricted or control securities, but provides a "safe harbor" exemption to sellers .
The rule's conditions are summarized below:
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Can the Securities Be Sold Publicly If the Conditions of Rule 144 Have Been Met?
Even if you have met the conditions of Rule 144, you are still unable to sell your restricted securities to the public until you have removed the legend from the certificate. Only a designated transfer agent can remove a restrictive legend from your shareholding.
Since removing the legend can be a complicated process, an investor buying or selling a restricted security should engage a transfer agent to facilitate the procedures for removing a legend.
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