A:

In a general sense, mergers and takeovers (or acquisitions) are very similar corporate actions - they combine two previously separate firms into a single legal entity. Significant operational advantages can be obtained when two firms are combined and, in fact, the goal of most mergers and acquisitions is to improve company performance and shareholder value over the long-term.

The motivation to pursue a merger or acquisition can be considerable; a company that combines itself with another can experience boosted economies of scale, greater sales revenue and market share in its market, broadened diversification and increased tax efficiency. However, the underlying business rationale and financing methodology for mergers and takeovers are substantially different.

A merger involves the mutual decision of two companies to combine and become one entity; it can be seen as a decision made by two "equals". The combined business, through structural and operational advantages secured by the merger, can cut costs and increase profits, boosting shareholder values for both groups of shareholders. A typical merger, in other words, involves two relatively equal companies, which combine to become one legal entity with the goal of producing a company that is worth more than the sum of its parts. In a merger of two corporations, the shareholders usually have their shares in the old company exchanged for an equal number of shares in the merged entity. For example, back in 1998, American Automaker, Chrysler Corp. merged with German Automaker, Daimler Benz to form DaimlerChrysler. This has all the makings of a merger of equals as the chairmen in both organizations became joint-leaders in the new organization. The merger was thought to be quite beneficial to both companies as it gave Chrysler an opportunity to reach more European markets and Daimler Benz would gain a greater presense in North America.

A takeover, or acquisition, on the other hand, is characterized by the purchase of a smaller company by a much larger one. This combination of "unequals" can produce the same benefits as a merger, but it does not necessarily have to be a mutual decision. A larger company can initiate a hostile takeover of a smaller firm, which essentially amounts to buying the company in the face of resistance from the smaller company's management. Unlike in a merger, in an acquisition, the acquiring firm usually offers a cash price per share to the target firm's shareholders or the acquiring firm's share's to the shareholders of the target firm according to a specified conversion ratio. Either way, the purchasing company essentially finances the purchase of the target company, buying it outright for its shareholders. An example of an acquisition would be how the Walt Disney Corporation bought Pixar Animation Studios in 2006. In this case, this takeover was friendly, as Pixar's shareholders all approved the decision to be acquired.

Target companies can employ a number of tactics to defend themselves against an unwanted hostile takeovers, such as including covenants in their bond issues that force early debt repayment at premium prices if the firm is taken over.

For more on this topic, check out The Wacky World Of M&As, Bloodletting And Knights: A Medieval Guide To Investing and The Basics Of Mergers And Acquisitions.

RELATED FAQS
  1. What is the difference between a merger and an acquisition?

    Read about the legal and practical differences between a corporate merger and corporate acquisition, two terms often used ... Read Answer >>
  2. Why are the terms 'merger' and 'acquisition' always used together if they describe ...

    Learn about mergers and acquisitions and how these two corporate actions differ based on the size and participation of the ... Read Answer >>
  3. What's the difference between a merger and an acquisition?

    Learn about the difference between mergers and acquisitions. Discover what factors may encourage a company to merge or acquire ... Read Answer >>
  4. How long does it take for a merger to go through?

    Corporate mergers and acquisitions can vary considerably in the time they take to be completed. There are a number of individual ... Read Answer >>
  5. What is the difference between an acquisition and a takeover?

    There is no tangible difference between an acquisition and a takeover; both words can be used interchangeably - the only ... Read Answer >>
  6. How does a merger affect the shareholders?

    Explore the effect of a merger and understand how the process affects shareholders of the newly merged firm in terms of stock ... Read Answer >>
Related Articles
  1. Options & Futures

    Mergers and Acquisitions: Definition

    The Main Idea One plus one makes three: this equation is the special alchemy of a merger or an acquisition. The key principle behind buying a company is to create shareholder value over and ...
  2. Investing Basics

    The Merger - What To Do When Companies Converge

    Learn how to invest in companies before, during and after they join together.
  3. Personal Finance

    What Investors Can Learn From M&A Payment Methods

    How a company pays in a merger or acquisition can reveal a lot about the buyer and seller. We tell you what to look for.
  4. Economics

    The Merger: What To Do When Companies Converge

    Mergers occur when it’s beneficial for two companies to combine business operations. The question is; if you’re invested in a company that’s involved in a merger, will it benefit you?
  5. Investing Basics

    What Merger And Acquisition Firms Do

    The merger or acquisition process can be intimidating. This is why merger and acquisition firms step in to facilitate the process.
  6. Options & Futures

    Mergers and Acquisitions: Why They Can Fail

    It's no secret that plenty of mergers don't work. Those who advocate mergers will argue that the merger will cut costs or boost revenues by more than enough to justify the price premium. It ...
  7. Options & Futures

    Pinpoint Takeovers First

    Use these seven steps to discover a takeover before the rest of the market catches on.
  8. Investing

    A Guide To Spotting A Reverse Merger

    This corporate action can be profitable for investors who know what to look for.
  9. Investing Basics

    How To Profit From Mergers And Acquisitions Through Arbitrage

    Making a windfall from a stock that attracts a takeover bid is an alluring proposition. But be warned – benefiting from m&a is easier said than done.
  10. Investing

    Mergers Put Money In Shareholders' Pockets

    Learn the five ways mergers and acquisitions can increase a company's value.
RELATED TERMS
  1. Merger Of Equals

    The combination of two firms of about the same size to form a ...
  2. Merger Mania

    A period of time with significant merger and acquisition activity ...
  3. Mergers And Acquisitions - M&A

    A general term used to refer to the consolidation of companies. ...
  4. Organic Growth

    The growth rate that a company can achieve by increasing output ...
  5. Horizontal Merger

    A merger occurring between companies in the same industry. Horizontal ...
  6. Vertical Merger

    A merger between two companies producing different goods or services ...

You May Also Like

Hot Definitions
  1. Stop-Limit Order

    An order placed with a broker that combines the features of stop order with those of a limit order. A stop-limit order will ...
  2. Keynesian Economics

    An economic theory of total spending in the economy and its effects on output and inflation. Keynesian economics was developed ...
  3. Society for Worldwide Interbank Financial Telecommunications ...

    A member-owned cooperative that provides safe and secure financial transactions for its members. Established in 1973, the ...
  4. Generally Accepted Accounting Principles - GAAP

    The common set of accounting principles, standards and procedures that companies use to compile their financial statements. ...
  5. DuPont Analysis

    A method of performance measurement that was started by the DuPont Corporation in the 1920s. With this method, assets are ...
  6. Call Option

    An agreement that gives an investor the right (but not the obligation) to buy a stock, bond, commodity, or other instrument ...
Trading Center