If you have ever had a conversation with an investment banker, or somebody interested in investment banking, you have likely heard of mergers and acquisitions (or M&A). In fact, it would not be surprising to hear if the individual you were talking to made them sound extremely important to the corporate finance world, because, well, they are! As such, this article will explain what a merger is, what an acquisition is, and why they are both important.
The basic principle behind mergers and acquisitions is the idea that two companies put together are more valuable than the two companies as stand-alone entities. Moreover, this concept is specifically captivating to companies when they are experiencing a period of hardship. In some cases, well-performing companies will step in and buy other companies in order to create an even better-performing company, and ultimately, value for its shareholders. Further, it is not uncommon for this to take place when target companies fall to a point where they would not be able to survive on their own and need to be “saved” through the process of being purchased.
Now that you have some general knowledge regarding the concept, it is important to understand the distinctions between mergers and acquisitions. Although sometimes used as interchangeable terms, the words merger and acquisition do describe different situations. For example, an acquisition is when one company purchases another (acquiring it) and clearly establishes itself as the new owner. Legally, when an acquisition takes place the target (or purchased) company no longer exists as it has been completely absorbed by the buyer. This is particularly important to investors as the buyer’s stock continues to be traded while the acquired company’s stock disappears altogether.
On the other hand, the term merger describes a situation where two companies agree to move forward by joining forces, becoming a single new company, rather than continuing to be separately owned and ran. In a perfect world, the merger would be a “merger of equals” meaning that the two companies were of equal size and had an equal amount to gain by accepting the deal. However, perfect scenarios are hard to come by despite them being the general goal. With attention to investing, this matters because both companies’ stocks are relinquished and new company stock is issued in its place. For instance, in 1998 when Daimler-Benz and Chrysler merged through a $36 billion deal, the two become one as Daimler Chrysler and the preexisting individual entities ceased to exist. Interestingly, many people also consider any purchase deal a merger when both CEOs agree that combining is in the best interest of their company. In contrast, unfriendly deals (when the target does not what to be bought out) are almost exclusively referred to as acquisitions. Therefore, it would not be completely wrong to say that the way in which the target company and its investors respond to being purchased is the main factor to consider when making a distinction between the two terms.
Although you might be just beginning your journey as an investor and, perhaps, do not plan on being part of a major deal on Wall Street anytime soon, it is extremely important to remain informed and understand terminology being used. This is especially true while reading (or watching) the news because it will enable you to comprehend more of the information being shared with you — potentially aiding in setting you up for new investment opportunities. That is if the information is applied correctly. Ultimately, furthering your knowledge of the financial services industry should help you in the long run!