Mergers and Acquisitions: Doing The Deal

Depending upon the type of deal, there are several ways that an M&A transaction can be executed.

Tender Offer

In this type of transaction, one company offers to buy the outstanding stock of the other firm. This offer is widely communicated to shareholders via advertisements and direct mailings to shareholders. This is a way for the acquiring company to bypass the management of the target company and acquire a controlling interest via acquiring enough shares of the company.

Tender offers are often used to execute a hostile takeover. The result of a successful tender offer can actually be a merger of the two firms.

Working with financial advisors and investment bankers, the acquiring company will arrive at an overall price that it's willing to pay for its target in cash, shares or both. The tender offer is then frequently advertised in the business press, stating the offer price and the deadline by which the shareholders in the target company must accept (or reject) it.

Once the tender offer has been made, the target company can do one of several things:

• Accept the Terms of the Offer - If the target firm's top managers and shareholders are happy with the terms of the transaction, they will go ahead with the deal.

• Attempt to Negotiate - The tender offer price may not be high enough for the target company's shareholders to accept, or the specific terms of the deal may not be attractive. In a merger, there may be much at stake for the management of the target If they're not satisfied with the terms laid out in the tender offer, the target's management may try to work out more agreeable terms that let them keep their jobs or, even better, send them off with a nice, big compensation package.

• Not surprisingly, highly sought-after target companies that are the object of several bidders will have greater latitude for negotiation. Furthermore, managers have more negotiating power if they can show that they are crucial to the merger's future success.

• Execute a Poison Pill or Some Other Hostile Takeover Defense – A poison pill scheme can be triggered by a target company when a hostile suitor acquires a predetermined percentage of company stock. To execute its defense, the target company grants all shareholders—except the acquiring company—options to buy additional stock at a dramatic discount. This dilutes the acquiring company's share and intercepts its control of the company.

• Find a White Knight - As an alternative, the target company's management may seek out a friendlier potential acquiring company, or white knight. If a white knight is found, it will offer an equal or higher price for the shares than the hostile bidder.

Mergers and acquisitions can face scrutiny from regulatory bodies. For example, if the two biggest long-distance companies in the U.S., AT&T and Sprint, wanted to merge, the deal would require approval from the Federal Communications Commission (FCC). The FCC would probably regard a merger of the two giants as the creation of a monopoly or, at the very least, a threat to competition in the industry.

If the target company agrees to the tender offer and regulatory requirements are met, the merger deal will be executed by means of some transaction. In a merger in which one company buys another, the acquiring company will pay for the target company's shares with cash, stock or both.

A cash-for-stock transaction is fairly straightforward: target company shareholders receive a cash payment for each share purchased. This transaction is treated as a taxable sale of the shares of the target company.

Other Types of Transactions   

In a purchase of assets transaction, the assets of one firm are acquired by another for cash. This can allow the buyer to purchase only specific assets or operating units of the company. This also limits the liabilities acquired to those associated with these specific assets.

In a merger transaction, payment to the shareholders of the acquiring company will be made in via shares of the acquirer’s stock, cash or a combination of the two.

In a management buyout the firm’s management are the leaders of or at least part of the deal. This is usually done via a tender offer which can lead to the company ceasing to exist as a public company and move forward as a private company. In a leveraged buyout the funds for the tender offer come primarily from the issuance of debt.

Tax Considerations

Tax considerations are a critical piece of the equation regardless of the size of the transaction and should be considered in structuring the deal.

If the transaction is made with stock instead of cash, then it's not taxable. There is simply an exchange of share certificates. The desire to steer clear of the tax man explains why so many M&A deals are carried out as stock-for-stock transactions.

When a company is purchased with stock, new shares from the acquiring company's stock are issued directly to the target company's shareholders, or the new shares are sent to a broker who manages them for target company shareholders. The shareholders of the target company are only taxed when they sell their new shares.

When the deal is closed, investors usually receive a new stock in their portfolios—the acquiring company's expanded stock. Sometimes investors will get new stock identifying a new corporate entity that is created by the M&A deal.