Many consulting, corporate strategy, and corporate development roles require the interviewee to go through an M&A case study. Depending on the firm and specific role this case could be very strategic and operational like doing a market entry/growth-type case or very technical (i.e. building financial models like DCF, accretion/dilution, LBO, etc.). But before we dive into these cases it is essential to understand what M&A is as well as some of the key benefits and drawbacks of this approach.
What is Mergers and Acquisitions (M&A)?
Mergers and acquisitions, or M&A for short, involves the process of combining two companies into one. The goal of combining two or more businesses is to try and achieve synergy – where the whole (new company) is greater than the sum of its parts (the former two separate entities).
- Mergers occur when two companies join forces. Such transactions typically happen between two businesses that are about the same size and which recognize advantages the other offers in terms of increasing sales, efficiencies, and capabilities. The terms of the merger are often mutually agreed to and the two companies become equal partners in the new venture.
- Acquisitions occur when one company buys another company and folds it into its operations. Sometimes the purchase is friendly and sometimes it is hostile, depending on whether the company being acquired believes it is better off as an operating unit of a larger venture.
The result of both processes is the same, but the relationship between the two companies differs based on whether a merger or acquisition occurred.
Benefits of Combining Forces
Some of the benefits of M&A deals have to do with efficiencies and others have to do with capabilities, including:
- Improved economies of scale: if raw materials can be purchased in greater quantities, costs can be reduced.
- Increased market share: assuming the two companies are in the same industry, bringing their resources together may result in larger market share.
- Increased distribution capabilities: by expanding geographically, companies may be able to add to their distribution network or expand its geographic service area.
- Reduced labor costs: eliminating staffing redundancies can help reduce costs.
- Improved labor talent: expanding the labor pool from which the new, larger company can draw can aid in growth and development.
- Enhanced financial resources: the financial wherewithal of two companies is generally greater than one alone, making new investments possible.
Potential Drawbacks
Although M&A may result in huge potential rewards, there are also many disadvantages that can reduce or even outweigh the benefits of making an acquisition, including:
- Acquisition costs: these can be large, especially if there are other bidders or if the target company does not want to be acquired. (If the bidding company has a controlling interest in the target company, however, it may not have a choice regarding whether it is acquired.)
- Legal costs: these can be exorbitant if the target company does not want to be acquired.
- Opportunity costs: the opportunity cost of having to forego other deals in order to focus on bringing two companies together are easy to overlook.
- Negative investor response: a negative reaction from investors to the announcement of an M&A deal can drive the bidder company’s stock price lower. This can increase the cost of the acquisition in the case of a scrip bid.
- Employee distress: a proposed M&A deal can create distress and increased turnover within the employee base of each. Since a completed M&A deal invariably leads to consolidation of positions that are duplicated within the two companies, this can increase the chance of layoffs and place people out of work for an indefinite period of time.
- Increased debt levels and risk of financial distress: M&A may increase the amount of debt owed by the combined entity. If there are debts owed by each organization, then the M&A process may increase the total balance sheet debt of the combined company. Although not by itself catastrophic, this can impact the combined company’s ability to establish new credit lines or borrow additional funds to fuel a wanted expansion. If the bidding company used debt to finance the acquisition, this will further increase the total balance sheet debt of the combined entity, which can increase the risk financial distress and bankruptcy.
- Cultural differences: there can be differences in corporate culture that are not easy to consolidate. Let’s say Company A doesn’t have an official dress code policy. They don’t even care if someone wears shorts and sandals to work every day. The environment is relaxed, workers sit on couches instead of computer chairs, and every Friday the executive team lets their staff enjoy a beer or two while on the clock. Now Company B has a business formal dress code, requires compliance, and is structured with the standard cubicle office format. Drinking? Forget it. Consolidating office cultures can be more difficult than any other aspect of the M&A process.
Conclusion
At the end of the day, corporations use M&A as a growth strategy to quickly increase size, service area, talent pool, customer base, and resources in one fell swoop. However, the pros and cons show that this business transaction should not be something that is just rushed into without thought. An empowered decision is required.
So when going through an M&A case study don’t get lost under the plethora of information that is thrown at you by the interviewer, and always remember to go back to the fundamentals. The ultimate benefit needs to be justified relative to the cost and risk associated with the process. Additionally, try to get a good sense of specific industry primers and the macroeconomic news as they’ll help you understand the case quicker and earn you bonus points for pointing out specific facts.
Jason Oh is a management consultant at Novantas with expertise in scaling profitability and improving business efficiency for financial institutions.
Image: Pixabay
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