ANDREW J. SHERMAN is a partner in the Washington, D.C., office of Jones Day and an internationally recognized authority on the legal and strategic issues of emerging and established companies. A top-rated adjunct professor in the MBA and Executive MBA programs at the University of Maryland and Georgetown University Law School, he is the author of Harvesting Intangible Assets, Franchising and Licensing, and Mergers Acquisitions from A to Z .

1. The Basics of Mergers and Acquisitions

Over the past few decades, we have seen countless examples of companies, such as Amazon, Facebook, General Electric, Google, and Cisco, that have grown dramatically and built revenues through aggressive acquisition programs. Seasoned executives and entrepreneurs have always searched for efficient and profitable ways to increase revenues and gain market share. The typical strategic growth options are as follows: organic, inorganic, or by external means. Examples of organic growth are hiring additional salespeople, developing new products, and expanding geographically. The best example of inorganic growth is an acquisition of another firm, something that is often done to gain access to a new product line, customer segment, or geography. Finally, external revenue growth opportunities include franchising, licensing, joint ventures, strategic alliances, and the appointment of overseas distributors, which are available to growing companies as an alternative to mergers and acquisitions as a growth engine. Figure 1-1 discusses the benefits of organic versus other forms of growth.

This book focuses primarily on mergers and acquisitions (M&A) as a means of growing, although toward the end of the book certain external means are explored as well.

UNDERSTANDING KEY TERMS

The terms merger and acquisition are often confused or used interchangeably. It is important to understand the difference between the two. A technical definition of the words from David L. Scott in Wall Street Words: An A to Z Guide to Investment Terms for Today’s Investor is as follows:

Merger - A combination of two or more companies in which the assets and liabilities of the selling firm(s) are absorbed by the buying firm. Although the buying firm may be a considerably different organization after the merger, it retains its original identity. The merger of equals between XM and Sirius to form Sirius XM is an example.

Acquisition - The purchase of an asset such as a plant, a division, or even an entire company. For example, Oracle’s acquisition of Sun Micro-systems was a significant technology transaction in 2009.

On the surface, this distinction may not really matter, since the net result is often the same: Two companies (or more) that had separate ownership are now operating under the same roof, usually to obtain some strategic or financial objective. Yet the strategic, financial, tax, and even cultural impact of a deal may be very different, depending on the type of transaction. A merger typically refers to two companies joining together (usually through the exchange of shares) as peers to become one. An acquisition typically has one company, the buyer, that purchases the assets or shares of another, the seller, with the form of payment being cash, the securities of the buyer, or other assets that are of value to the seller. In a stock purchase transaction, the seller’s shares are not necessarily combined with the buyer’s existing company, but are often kept separate as a new subsidiary or operating division. In an asset purchase transaction, the assets conveyed by the seller to the buyer become additional assets of the buyer’s company, with the hope and expectation that, over time, the value of the assets purchased will exceed the price paid, thereby enhancing shareholder value as a result of the strategic or financial benefits of the transaction.

Large corporations are acquiring strategic targets with the aim of attaining goals that they could not have achieved prior to the credit crisis and the resulting lower valuations; it was an opportune moment for Bank of America to acquire Countrywide for a significantly low value and increase its market share in the mortgage industry. A few of the Wall Street banks were acquired in 2008 on fears of impending liquidation or bankruptcy and, by 2016, were rewarded for their risks—look how nicely the public bank stocks had recovered by the end of 2017. However, the essential characteristic of these deals, which have attracted extensive media coverage, is that the target entities would ideally have preferred not to be acquired. Protection-driven and risk allocation–driven deal terms are more hotly contested.

A notable trend has emerged in recent times where the participants in the “voluntary,” if you will, deals are mainly midsize businesses. These so-called middle-market transactions utilize bank debt, which is available, although at a higher cost and in tougher circumstances than previously. Thomson Financial reports that there were more than $10 billion in U.S. midcap private equity deals in the early part of 2016. Efficient companies that have not been exposed to the subprime hullabaloo are preferred targets for financiers, perhaps also because they have simpler balance sheets and a realistic revenue stream. Indeed, the circumstances under which banks are willing to provide debt financing are tougher than have been seen in a long time—most banks were exposed not only to subprime mortgage loans, but also to different layers of securities and derivatives backed by these subprime mortgages that are now standing still in an illiquid market, and the banks holding them are unsure of what their value actually is today.

Excerpted from MERGERS AND ACQUISITIONS FROM A TO Z, Fourth Edition by Andrew J. Sherman. Copyright © 2018 Andrew J. Sherman. Published by AMACOM Books, a division of American Management Association, New York, NY. Used with permission. All rights reserved. http://www.amacombooks.org.