CH1 :: intro m&a

Question 1

Why does diversification can destroy value?

Answer 1

Berger and ofek: value loss caused by OVERINVESMENT and CROSS-SUBSIDIZATION (=some segments subsidize other segment bij charging high price in segment A to lower price in segment B)

–> excess value en imputed value:
imputed value= value if all segments operated as standalone businesses

excess value= ln(1500/1310)= 13% –> actual value is 13% less then when u break up the conglomered in different sections

Question 2

Give the reasons for value destruction with diversification

Answer 2

1) capital misallocation
the more ur investment opportunities are diverse, harder to allocate the funds to the segments that need it

2) overinvestment
consistent with agency theory of overinvestment in underpreforming assets

3) corporate governance
consistent with agency explanation for diversification –> conflict of interest between management and shareholders

4) lower efficienty
conglomered have more activities –> hard to manage it all, NO single-firm focus

Question 3

2 argumenten tegen value destruction of diversification

Answer 3

conglomerated do it better when
1) in developing country –> when legal is not developed, counter it by conglomered

2) economic downturns

Question 4

explanation for merger waves

Answer 4

1) business environment shocks

2) market timing
take advantage of overvalued equity

buffet indicator= total value all public stocks/GDP

if buffet indicator high= overvaluation –> more m&a’s
because bullish market stimulates m&a’s

Question 5

why m&a’s is stock prices are high (overvalued)

Answer 5

if you pay in own shares, you can pay relatively small share, mimited number of stocks to finance your acquisition

Question 6

motivations for m&a’s

Answer 6

1) synergies:
cross-selling, economies of scale/scope, combining complementary resources

2) economies of vertical intergration
control supplier may reduce costs

3) size and returns to scale
benefit from synergies: AVG cost decline, implement specialization -> meestal in industries with high fixed costs

4) whole is more then the sum of the parts
1+1=3 –> create synergies: cut costs, use combined assets more effectively

–> PROFIT MARGINS IMPROVE DUE SPREADING FIXED COSTS OVER MORE UNITS OF OUTPUT

Question 7

!!!!!!!!!!!!!!!!!!!!!!!!!!!!
value effects of m&a’s
value INCREASING theories –> = EFFICIENTY THEORIE

Answer 7

1) transaction costs theory
= the way your firms is organized is balancing your internal and external activities –> if transaction costs go down enough, merger is good

2) mergers create synergies
economies of scale, more effective management, improved production tehcniques, combination of complementary resources

3) takeover are disciplinary
remove poor managers

Question 8

!!!!!!!!!!!!!!!!!!!!!!
value effects of m&a’s
value DECREASING theories

Answer 8

1) agency cost of FCF
More FCF –> less contorl SH have on what is happening in the firm –> manager can do what he wants, can do m&a’s

2) managerial entrenchment
Manager hesitant to give cash to SH –> instead does m&a’s –> because with a m&a –> create difficult en diverse group wich will lead to the SH thinking they really need that ceo to run the ‘big’ group –> because m&a ceo makes network around him wich makes it harder for SH to kick the ceo out –> CEO DOES M&A JUST TO SAVE HIMSELF

bad because ecq is just happened to defend ceo

Question 9

!!!!!!!!!!!!!!!!!!!!!!
value effects of m&a’s
value neutral theory hubris

Answer 9

mergers result from managers being to self confident –>winners curse:
- manager with most optimistic forecast wins bidding proces –> bidder overpay

–> zero effect: target sells when bid is higher that target value –> acquirer confident and pays to much –> no value gain, just tranfer of money

Question 10

patterns of gains between

• efficiency/ synergy
• agency costs/entrenchment
• hubris

Answer 10

combines gains, gains to target, gains to bidder

• efficiency/ synergy: +, +, non-neg
• agency costs/entrenchment: -, +, more neg
• hubris: 0, +, -

–> gains to target always positive -> always higher price than stock price bein paid

Question 11

explain bootstrap game

Answer 11

1) acq firm had high P/E ratio
2) selling firm has low P/E ratio (low number of shares)
3) after mergers, acquiring firm has ST EPS rise
4) LT: acquirer has lower than normal EPS growth

–> Mislead investors because they focus on EPS
–> increase ST EPS, SLOWER GROWTH LT because SHARE DILLIUTION