Finance 101 Series: Your Guide to Mergers & Acquisitions

On June 20th, 2018, two mega-corporations—AT&T and Time Warner—merged, marrying one of the world’s largest wireless and telecommunications companies with one of the world’s largest media and entertainment companies. When the dust finally settled, AT&T acquired Time Warner Inc. in a historic blockbuster deal that cost the telecommunications giant $85 billion and took months of court proceedings in order to establish the legality of the vertical merger.  

But this deal was not done on a whim—rather, it was years in the making and likely involved rigorous planning, negotiating, and analysis before an initial proposal was ever even sent. There were squadrons of legal, financial, and accounting analysts on both sides of the aisle reviewing in painstaking detail the viability of a proposed merger. 

Put simply, the deal could not have been struck without the help of a mergers & acquisitions (M&A) team.

What are Mergers & Acquisitions?

M&A refers to the transactions between two companies that combine in some shape or form. While they are often used synonymously, they have two distinct legal meanings:

  1. Mergers – When two companies of a similar size pool together to form a new, larger company.
  1. Acquisitions – When a larger company absorbs a smaller company (whether through a friendly deal or a hostile takeover). 

In most cases, acquisition occurs in one of two ways. The first is a stock purchase, wherein the acquirer pays the target company’s shareholders shares, cash, or a combination of both (a mixed offering) in exchange for shares of the target entity. The second is an asset purchase, wherein the acquiring company buys the target’s assets, paying the target directly. This route often allows the acquirer to avoid the need to obtain shareholder approval.

A successful M&A has the opportunity to provide myriad benefits to both sides of the deal. It can accelerate the time it takes for new products or channels to reach the market, reduce competition through horizontal integration, or optimize supply chains via vertical integration. Common benefits include: 

  • Creating new synergies 
  • Increased growth and revenues 
  • Strengthened market share
  • Tax benefits 
  • Diversification   

On the other side, an unsuccessful M&A can damage value, particularly for the buyer. While it depends on the deal, the most common reasons for a failed M&A include: 

  • Shoddy due diligence 
  • Overestimating the potential benefits of the deal
  • Mismanaged integration of the two conglomerates
Types of Mergers & Acquisitions Transactions

Generally speaking, there are three forms of M&A transactions: 

  1. Vertical – A merger that consolidates operations between a company and its supplier or a customer along the supply chain. 
  1. Horizontal – A merger between two companies operating in similar industries. They may or may not be in direct competition. 
  2. Conglomerate – A merger between a company and another company in an unrelated industry. Often this is done to diversify the company’s holdings and revenue streams.
Forms of Mergers & Acquisitions Integrations 

Similarly, there are three forms of M&A integrations:

  1. Consolidation – Both companies form a new company, ceasing to exist as individual entities. 
  1. Statutory – A much larger acquirer absorbs the target company’s assets and liabilities. Afterward, the target company no longer exists as a separate entity.
      
  2. Subsidiary – The acquirer allows the target company to continue operating as usual, just under the auspices of the new owners.
The M&A Process

In the runup to a successful merger or acquisition, there are typically a variety of stakeholders involved in the process, including: 

  • C-suite members and investment committee – The most influential group of decision-makers within the company are responsible for driving the M&A process early on, creating a unified strategy, and ensuring the right infrastructure is in place to get the deal done. 
  • Financial planning and analysis teams – These teams conduct M&A financial modeling, working with senior management to assess the business financial assumptions and verify that the deal is a sound move for the company. 
  • Corporate development – Typically limited to enterprise-size companies, this is a dedicated team responsible for developing and maintaining the M&A pipeline and acquisition strategy. 
  • Transaction leads – Act as the closer for the deal, driving execution and then integration.

For a deal to be successful, all of these various parts must be working in unison. 

It is worth noting that mergers and acquisitions are not limited to major enterprises. To that end, it can be a strategic way for startups and small- to midsize-businesses to achieve greater competitive advantage. That said, for smaller companies, a handful of people may have to wear multiple hats throughout the M&A process.

M&A Modeling 

For any company facing M&A opportunities, there are a variety of factors that must be considered before the deal goes ahead, such as compatibility between the two companies, the likelihood of an easy negotiation process, and the impact the arrangement will have on the company’s financial future. 

The backbone to the mergers and acquisitions process involves M&A modeling. These types of financial models help inform decision-makers about the cost benefit of acquiring or merging with another company. While each model is customized according to both businesses historical, current, and future financials (as well as the specifics factors surrounding their industry), most will follow a general principle known as the merger model (AKA Accretion Dilution model). 

Generally speaking, the merger model is composed of five primary steps: 

  1. Make acquisition assumptions
  2. Making projections
  3. Valuation of each business
  4. Business combination and pro forma adjustments
  5. Deal accretion/dilution  

By performing this process, you can see whether the deal would be dilutive for the acquirer’s earnings per share, or of net benefit.

CFO Hub—Your M&A Guide

M&A is rarely a simple process. There are many steps, considerations, and players involved from beginning to end, even for smaller acquisitions or mergers. So, what do you do if you’re a small- to medium-sized business that’s lacking the existing infrastructure to properly analyze potential mergers and acquisitions opportunities? 

That’s where we can assist. At CFO Hub, we provide companies of all shapes and sizes with outsourced finance and accounting professionals, including CFOs, controllers, and accounting teams. Our team of experienced professionals offer a wide assortment of financial consulting services, including financial modeling and mergers & acquisitions support. 

Is a big deal on the horizon? Fantastic. We’re here to champion your position.