Spring 2022 Class Quiz on Mergers and Acquisitions- Finance, Texas Tech University
State and explain the factors that an acquiror should consider when tailoring the initial approach to potential vendors.
- Shareholders versus management
- Use of intermediaries
- Publicly listed companies
In companies with a wide spread of shareholdings and a professional management team, the executive control of the company is in the hands of management, divorced from the ownership of the company which lies with the shareholders. It is management's responsibility to run the business on behalf of the shareholders and in normal circumstances there is little reason to expect them to do otherwise. However, the interests of the two groups may diverge sharply in the case of an actual or threatened takeover bid.
Management may be concerned principally with retaining their power, prestige and livelihood, particularly if they are not well protected by service contracts. Shareholders, on the other hand, are understandably attracted by the chance of realizing an immediate and substantial gain in the value of their investment. Particularly in the case of a cash offer, they may not feel greatly concerned about how the company is run afterwards or who is running it This divergence of interest may have two undesirable consequences. If an incumbent management is convinced that they have no future after an disguise the fact that they have been. If they are forced to recognize the existence of an offer, their first reaction may be to criticize its terms whatever the financial advantages to Emotive language may be used against the offeror who will be labelled a 'corporate raider' or 'asset stripper This may of course be true or partly true but misses the point Shareholders wish to be told whether the long-term prospects of yet-to-be achieved profits justify rejecting the bird in the hand Arguments put forward by managements as regards the need for stability to ensure the long run success of the company can sound very high minded but may be spiced with a dash of self-interest.
On occasions, managements have been prepared to pay 'greenmail to un aggressive acquiror of shares who is bought out using the company's resources This rewards the opportunistic buyer at the expense of the existing shareholders It tends to leave the company with a weakened capital structure while denying the body of shareholders an equal offer for their shares. Once one raider has been bought off, another may pounce.
A similar danger for existing shareholders is a management which is wooed by an acquiror Management may be flattered by comments on their abilities and the importance of their remaining in office after the acquisition. If they become convinced that a takeover would enhance their own position, they can make ideal advocates of the proposals to shareholders. It is not uncommon to find proposals from acquaintances or associates of existing management being recommended to shareholders as being in their interests only to be topped by a less welcome party whose appetite has been aroused by the prospects of a bargain. In this situation, the tactical advantage lies heavily with the less welcome party. The board of the target company has not only lost credibility by its premature recommendation of a low offer but has also deprived itself of a major defensive ploy, the argument that the price offered is too low.
A mutual acquaintance, merger broker or other agent may be of assistance in making the first approach. A seller may indicate a willingness to deal to a third party without being thought to display weakness. In a direct contact, the potential seller might well be more cautious. The role of a 'marriage broker' to break the ice is as useful in this context as in a number of others.
A third party using 'shuttle diplomacy' between principals has more chance of narrowing the gap between two sets of proposals without being hung up on a particular structure or price. A skillful intermediary will seek to make both parties Feel he is on their side. As someone who is committed to neither and paid only if a deal is consummated his interest lies in seeking ways to reconcile the objectives of buyer and seller.
If emotions run high, a direct meeting between acquiror and the target company’s management or shareholders may be bad tempered. A clash of personalities can hinder the conclusion of a proposal which might otherwise have good chance of success.
If the target company is publicly listed, special considerations apply. A leak of the possibility of an offer being made or that negotiations are in progress may cause a rise in the share price This works against the interest of the offeror by making his proposals look less attractive when compared with the market price ruling immediately before a public announcement. A sharp price rise may also embarrass a management which is seeking to be helpful Precautions aimed at keeping confidential by restricting know ledge of them to the minimum number of people are essential Holding talks on neutral ground is worthwhile if proposals reach an advanced stage On the other hand, a management which wishes to frustrate an offer may resort to a deliberate The stock exchanges and other regulatory authorities are alert to unusual Jeak levels of trading of companies' shares and will monitor the position as a matter of course. Sometimes pressure will mount for an announcement which the parties regard as premature Ritual denials can look very foolish in light of the unveiling of a detailed transaction, sometimes hours later.
If the proposals are not likely to be welcome to the target company, the acquiror may decide to maintain secrecy in order to achieve a surprise attack. If it is decided that negotiations in advance will be fruitless, the acquiror will wish to give the target the minimum time possible to marshall its defense and present its case Announcements immediately prior to major holidays such as Christmas and New Year are not unknown A public company offer usually has to be open for a minimum period (say three weeks) but holidays are not excluded.
What are the guidelines involved during merger and acquisition negotiations?
- Knowledge of the other party
- Assembling a team
- Timing
- Win a recommendation
- Keeping something in reserve
- Setting limits
During investigation of a target, some information should have been obtained concerning its directors and shareholders. As the first approach would normally be to the chairman of the target company, a knowledge of this person's character and personality may be particularly valuable. The initial contact with the chairman is probably the moment of greatest danger as, if this goes badly, all subsequent negotiations may be irretrievably soured. It may sometimes be possible to use a divide and rule tactic, splitting the directors into two camps. Experience suggests that an unsolicited approach to buy a company is one of the few things which will unite directors who may have quarrelling bitterly over other matters. If it seems likely that an appeal will be made to the general body of shareholders over the heads of directors, the personalities of the major shareholders (or, if institutions, their representatives) will be relevant. Do they regard themselves as 'loyalists' or will they treat a bid in an objective way? Has the company done anything in the recent past, such as missed a profit forecast, which would have unsettled them?
A team approach to negotiations can be very productive. It is not easy for one person to grasp all aspects of a transaction and impossible for him to analyses thoroughly all the various alternatives which may be open. A properly bricked team of advisors is necessary to keep a negotiator effective in the front line The composition of such a team will depend on the business of the target company but will normally include a firm of accountants and lawyers as well as a merchant banking advisor and, if the company is listed, a stockbroker.
Presentation of the arguments and analysis carried out by the team may be put forward more effectively by a single person. Some effort may be expended by the negotiator to conceal the depth of analysis and planning which lie behind an approach. The negotiator may be significantly assisted by a go-between of some sort, perhaps a non-executive director of the target company known to both parties or a merger broker. The broker's objective will be to bring a deal to fruition. He will therefore seek to solutions to the problems rather than to negotiate the toughest possible deal for one side or the other. Negotiations which result in a deal which is too tough on one side frequently collapse at a later stage.
The outcome of many negotiations is dependent upon timing The state of mind of the vendor may critically affect his attitude to a sale. At times of difficulty, either for the economy as a whole or for a particular company, a realistic attitude towards doing a deal is likely to prevail on the part of the vendor. This however is precisely the time when a purchaser will need most courage to push forward.
Confidence born of a thorough analysis of the target is important. A well thought-through program to assimilate the acquisition into the acquiror's group can pay great dividends at this stage. If the purchaser delays until the market recovers, he is likely to find that the seller has changed his mind or at least his expectations of price.
Recommendation of an offer by a target public company's board is probably the most single important factor in success. Recommended offers fail principally if they are topped by a third party, in which case the initial suitor can at least retire with a dealing profit if he has built a share stake as a platform for a bid Obtaining a recommendation tends to deter third parties from entering the Buyers who might have been interested may be reluctant to disturb an agreed deal. They fear rebuff and are conscious of the premium price they would fray have to offer. There may also be the risk of legal sanctions if they can be considered to have persuaded a seller to break a contract. If a recommendation is not achieved and the bid vigorously opposed, it can often be repulsed Even if it succeeds, a substantially increased offer may well be required, resulting in a pyrrhic victory which the purchaser lives to regret. On other occasions, the ultimately successful party enters later in the day and the bidder who has made the running finds that the prize is elusive A recommendation is so important that it can be regarded as a factor separate from the financial and business position of the target company It has a value which may be estimated as equivalent to the cost of fees, expenses and management time of a contested bid, plus the intangible damage to business morale and image which may be caused by failure.
Company chairmen spend a significant proportion of their working lives in negotiations of one sort or another. They like to behave that they are successful negotiators Unless the target company is so vulnerable that it has to accept anything it can get, a purchaser should keep something in reserve in the initial approach which can be conceded at a later stage. The chairman or his advisers can feel that extracting this concession is their contribution to the deal.
Care must be taken that, in allowing some scope for improvement in an offer, the initial level is not pitched so low that it cannot be considered a serious offer. If it can be dismissed as a sighting shot, the purchaser may find he has to begin all over again from a higher base, without extracting any worthwhile response from the target. The alternative is to let the bid drop at a level which is far below what the offeror was in fact prepared to pay, which is even more unsatisfactory.
It is important for an offeror to consider his upper price limit before serious negotiations begin. Once personalities are engaged, it is all too easy to be carried away in 'hot pursuit of an acquisition. Success becomes an end in itself, a matter of corporate and personal pride which can overwhelm other factors and lead to poor judgment.
It is legitimate to review prices set in advance if more information becomes available. This is in fact likely to happen during negotiations or as part of defense documents issued by a target company. However, strict control must be exercised to ensure that the information provided does indeed justify revision of the limits to demand unrealistic rates of growth or very high increases in asset values to be set in the cooler atmosphere before a bid began. Prices paid in contested bids tend to demand unrealistic rates of growth or very high increases in asset values to be justified.