M&As have always been an area of debate for business experts. However, new research explains who acquires whom, whether payment is made in cash or stock, what valuation consequences arise from mergers, and why there are merger waves
According to the study, managers with long horizons will make the best of their situation by buying more assets with their high share price while it stays high, fully exploiting their knowledge of market inefficiencies.
In the case of the technology sector in the late 1990s, smaller technology firms were willing to sell to giants such as Cisco and receive overpriced shares as payment, because of their short run horizons and the fact that they could quickly sell the Cisco stock and get access to cash. For these small firms, selling Cisco shares was much easier than trying to sell their own overpriced shares.
The Synergy Story
Mergers and acquisitions rely heavily on the perceived synergy of the combination. This synergy may simply be a story invented by investment bankers or academicians or the market, and have little to do with the reality of what drives acquisitions.
Investors want to see a real reason for the valuation, and therefore aren’t satisfied with a company admitting that it is overvalued and using its stock as currency before it crashes, because that will precipitate the crash itself. It is natural that companies will tell a synergy story even when the real cost-cutting opportunities cannot justify the premium paid.
In some cases, stories for synergy might have some validity; however, in most cases, synergy is played up and is really just a story. The real reason for an acquisition is usually the different valuations of the target and the acquirer.
In the case of AOL’s acquisition of Time-Warner using AOL stock, it is debatable whether there were some synergies, but note that there was also unquestionably a potential valuation motive for wanting the acquisition. In this case, the acquisition was an attempt by the management of overvalued AOL to buy hard assets in Time-Warner to avoid even worse long-run returns.
Besides positive perceived synergies, the advantage of acquisitions is that they contribute to the growth of earnings of the firm, and thereby help justify the high valuations. Acquisitions were part of the growth strategy of many technology firms in the ‘90s that helped keep share prices high. The alternative of simply issuing overvalued shares and parking the proceeds in cash would have quickly burst the valuation bubble of these high-flying companies.
According to the study, managers with long horizons will make the best of their situation by buying more assets with their high share price while it stays high, fully exploiting their knowledge of market inefficiencies.
In the case of the technology sector in the late 1990s, smaller technology firms were willing to sell to giants such as Cisco and receive overpriced shares as payment, because of their short run horizons and the fact that they could quickly sell the Cisco stock and get access to cash. For these small firms, selling Cisco shares was much easier than trying to sell their own overpriced shares.
The Synergy Story
Mergers and acquisitions rely heavily on the perceived synergy of the combination. This synergy may simply be a story invented by investment bankers or academicians or the market, and have little to do with the reality of what drives acquisitions.
Investors want to see a real reason for the valuation, and therefore aren’t satisfied with a company admitting that it is overvalued and using its stock as currency before it crashes, because that will precipitate the crash itself. It is natural that companies will tell a synergy story even when the real cost-cutting opportunities cannot justify the premium paid.
In some cases, stories for synergy might have some validity; however, in most cases, synergy is played up and is really just a story. The real reason for an acquisition is usually the different valuations of the target and the acquirer.
In the case of AOL’s acquisition of Time-Warner using AOL stock, it is debatable whether there were some synergies, but note that there was also unquestionably a potential valuation motive for wanting the acquisition. In this case, the acquisition was an attempt by the management of overvalued AOL to buy hard assets in Time-Warner to avoid even worse long-run returns.
Besides positive perceived synergies, the advantage of acquisitions is that they contribute to the growth of earnings of the firm, and thereby help justify the high valuations. Acquisitions were part of the growth strategy of many technology firms in the ‘90s that helped keep share prices high. The alternative of simply issuing overvalued shares and parking the proceeds in cash would have quickly burst the valuation bubble of these high-flying companies.
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