Reading: Creating Value with M&A

Does M&A Pay?

There is extensive academic literature on the question of whether or not M&A creates value. The key findings of some of these studies can be summarized as follows:

• Short-run effect for target shareholders:
• Target shareholders typically earn a substantial positive announcement return, often in excess of 30%. In this sense, the case of MuleSoft that we have discussed in the preceding section is no exception.
• The return is higher for targets with multiple bidders as well as for hostile bids. Both these dimensions increase the likelihood of a "biddingwar," as we have discussed in the section on the Initial Offer Price.
• The return is also higher for cash-only than for equity-only bids. This is consistent with our conclusion from before that paying cash signals stronger commitment. 
• Often, target shareholders earn substantial pre-announcement returns (the so-called run up). Rumors that a company is "in play" and could become a potential takeover target fire the traders' imagination. In fact, "merger arbitrage" is a popular hedge fund strategy, in which these funds speculate on potential takeover targets and buy their shares in anticipation of a sizable takeover premium.
  
  
• Short-run effect for bidder shareholders
  • For the acquiring firm, the short-term return around the announcement of an M&A deal is essentially zero. Some studies document slightly positive average returns whereas others document slightly negative returns.
  • The announcement return is higher, on average, if the target company is privately held than if it is a publicly traded company. A possible explanation for this phenomenon could be that the acquisition of a private company entails an additional liquidity premium. It could also be that there is less bidding competition since private companies are less in the spotlight of the media and financial analysts.
  • The announcement effect is generally larger for cash deals than for stock deals. Again, the reason could be that cash deals signal stronger commitment.
  • Also, small bidders seem to do better than large bidders.
     
• Combined short-term effects
  • On average, takeovers slightly increase the combined market value of the two firms.
  • However, most of the takeover gains go to the target shareholders.
     
• Long-term effects
  • Long-term effects are extremely difficult to measure because a lot of things happen in the long-run and it is often not clear to the observer what is do to a specific M&A transaction and what is due to other reasons.
  • There are several studies that show that a significant part of the merged companies subsequently underperform their industry peers.
  • There are various explanations for this phenomenon, including the overestimation of synergies, overconfidence, underestimation of integration costs, lack of strategy, sample selection, etc.
  • Taken together, M&A is not a panacea. This is very important to keep in mind, as many managers believe that M&A is a reliable source of valuable growth. On average, that is not true.
  • Equally importantly, we should point out that failure rates among other forms of corporate restructuring are similar.