If you’re familiar with the corporate world, you may already have been involved in a merger or an acquisition (M&A), as it’s a popular way for businesses to scale, and to acquire assets or new technologies. However, if you’re new to M&As, the various options open to you can seem mystifying. In this guide, we take a look at the different types of mergers and acquisition and unpick the terminology.
We'll be covering:
- What is a merger?
- What is an acquisition?
- What’s the difference between a merger and acquisition?
- Different types of mergers and their advantages and disadvantages
- Different types of acquisitions and their advantages and disadvantages
What is a merger?
A merger, sometimes called an amalgamation, is where the businesses of two companies combine or merge. As each entity – normally a company – is a separate legal person, the usual way to achieve this is by forming a new company (referred to as ‘newco’) to which the staff, assets and liabilities of each business will transfer. The previous entities are then dissolved.
What is an acquisition?
With an acquisition, one company buys another’s shares or assets, with the company being acquired sometimes remaining a stand-alone legal entity and a subsidiary of the buyer, and sometimes eventually being absorbed. An example of an acquisition is the purchase of Android by Google.
What’s the difference between a merger and acquisition?
The main differences between a merger and an acquisition, is that mergers are perceived as ‘friendly’ affairs of equal partners, much like a joint venture. The business affairs and operations of the two companies are gradually integrated after the merger – well-known examples are Exxon and Mobile, and Heinz and Kraft foods.
In contrast, acquisitions can sometimes be ‘hostile’, with an approach by a potential acquirer being unwelcome to the board of directors and/or shareholders of the target (known as a hostile takeover).
With private limited companies, it’s virtually impossible for one company to acquire another unless all parties are willing, however with public companies whose shares are openly traded, hostile takeovers are more common. One of the biggest hostile takeovers was the purchase of Warner Lambert by the pharmaceutical giant, Pfizer.
As mergers and acquisitions can often be quite complex, the term M&A is coming to mean any transaction where two businesses are consolidated.
For more information on this and other useful answers on M&A processes, read our Mergers & Acquisitions FAQs.
Different types of mergers and their advantages and disadvantages
The main types of mergers are:
A horizontal merger involves a combination of two companies that are in direct competition, and which share the same product lines and markets.
The benefit of a horizontal merger where each company sells the same products is that they can both expand their market share. Alternatively, if they sell similar products, both can increase the range of products offered.
For this reason, a horizontal merger is a good way to expand your reach in a market, break into new markets, and diversify the products you offer to customers. With more resources and increased share of the market than competitors, you’ll also be able to exercise greater control over pricing.
When considering this type of merger, you’ll need to ensure the merger won’t breach competition law and should seek expert advice.
The type of merger that can run into competition law issues is known as a ‘relevant merger situation’ and is when:
- two or more entities cease to be distinct due to being brought under common ownership or control; and/or
- the target’s UK turnover exceeds £70million, or the transaction results in an entity which holds 25% or more combined share of sales or purchases in the UK.
A vertical merger is where a supplier buys a customer or vice versa. A key characteristic of vertical mergers is that they involve companies with a mutual relationship.
The benefit of a vertical merger is that the companies can combine their business to improve efficiency and reduce costs. For example, if a flour supplier merged with a bread making company, the merged entity will save money by not having to pay full market price for flour, as well as saving on costs incurred from finding suppliers and negotiating prices.
As with horizontal mergers, you will need to consider the impact of competition law. Since the merger may significantly reduce competition in the market (by committing the bread maker to one supplier and running the remaining suppliers in the supplier market out of business), the merger may not be allowed. Whether competition law applies to your merger will very much depend on the size and scale of your business, and the size of the affected market(s).
Similarly, since the merged entity will involve two sectors/industries which require different management skillsets, it may become difficult to run and manage both parts of the merged entities consistently and profitably. In addition to maintaining a high quality of service or products, there must also be a shared culture between the merged entities. A failure to ensure this could lead to conflict in the workforce, which can undermine productivity of the business.
Read our guide to learn more about complying with competition law in relation to horizontal and vertical agreements.
A congeneric merger involves a combination of two businesses that serve the same consumer base in different ways. The companies are usually in the same or related industries but won’t offer the same products. This means they may share similar distribution channels like a TV manufacturer and a cable company.
The benefit of a congeneric merger is that both companies can extend their product line and expand their market. This is a good way to grow your business and increase profitability.
However, when choosing a congeneric merger as a method to grow your business, you must ensure that the companies are compatible. As well as coordinating operations across a larger a business, you’ll need to make sure that the teams of both companies are a good cultural fit. Because of the uncertainty in staff caused by this kind of merger (fear of redundancy), a short- to medium-term drop in productivity is likely.
A market-extension merger involves a combination of two companies that sell the same products in different markets. An example would be a merger of a UK software company with a foreign software company.
The benefit of this type of merger is the acquisition of new customers and territories. The potential downsides are similar to those with other mergers – it can be difficult to manage and coordinate separate operations, and cultural fit can cause problems and reduce productivity.
A product-extension is a merger between two companies selling different but related products in the same market. An example would be a company manufacturing laptops, and a company which manufactures portable hard disks. Both products are distinct and different, but they fall within the same category.
The benefit of this merger is that it allows you to offer more products and/or services to customers, thereby expanding your business and increasing profitability.
However, there are disadvantages – management and operational difficulties and cultural conflict can undermine the productivity of the merged entity.
A conglomerate merger is a combination of two companies with no common business areas.
One benefit of a conglomerate merger is that it allows both companies to expand their services by reaching into markets across wider sectors. Since the companies can rely on the specialism, experience, and expertise of the other, the merged entity gains a competitive edge.
Another benefit of a conglomerate merger is that it allows the companies to diversify their business and reduce their risk exposure. For example, if the sector you operate in faces widespread difficulty (for example, clothing retail), your operation in other unaffected sectors (for example, supermarkets) means the adverse impact on your business will be mitigated.
If you do consider a conglomerate merger, you should take care not to overspread your business, particularly if you lack experience in the sector/industry, as this increases the risk of failure. There are additional downsides, as with other mergers, such as cultural differences, that can cause a dip in productivity.
A reverse merger is when a private company acquires a public company, in order to become publicly listed. Although the main way to become public is to make an initial public offering (IPO), it’s often quicker to become public by reverse merger.
As with traditional acquisitions, a reverse merger allows your business to grow and reach new markets. This can increase the profitability of your business as well as strengthening your reputation, as public companies are viewed as being more established.
The disadvantage of a reverse merger is that it’s a risky way to become public, as the company being acquired may have undisclosed risks and liabilities such as unpaid debts and litigation.
Similarly, your company may not be ready to go public. If you have no experience of working in a public company, you’ll be unfamiliar with the extensive and expensive regulatory and compliance requirements. Last but not least, this can be an expensive route to becoming public, as in addition to funds for the purchase, you’ll need enough cash to continue operating.
Different types of acquisitions and their advantages and disadvantages
An acquisition involves a company purchasing another. There’s no exchange of shares, and no new company created. Instead, the company purchased is ‘absorbed’ into the buying company or remains a subsidiary.
The most common form of an acquisition is when a company buys another company, either by purchasing all the shares or by buying the assets (leaving a shell company which is liquidated).
An acquisition is a great way to expand your business. For example, if you run a café business, you could acquire a café company with premises in locations where you’d like to new branches. This allows you to expand your client base, build your reputation geographically, and increase profitability.
However, there are some disadvantages. If you are acquiring a company by way of share sale (as opposed to an asset/business sale), you will also acquire the liability of the company purchased. This may be burdensome, considering that you’re also likely to obtain a loan to finance the acquisition.
As with mergers, there’s also a risk of conflicting corporate culture. A failure to ensure all employees work well together and are happy with the acquisition may cause reduced motivation among employees. This can reduce the productivity of your business and may also lead to employees leaving. Managing the expanded business whilst also ensuring consistency in culture and employee satisfaction may be a barrier to a successful expansion.
Here are the main types of acquisition:
This is a where a company buys another in order to turn it around, improve performance and sell at a profit. The company will likely remain a subsidiary.
A consolidating acquisition is where you buy a company to eliminate a competitor and increase market efficiency.
This is where you buy a company to get hold of its assets such as intellectual property, staff, technology or customers.
A market access acquisition is where you purchase a company to improve or expand your access to a market sector.
This is where you buy a company with a new product or service that you have the skills to grow quickly because of your superior knowledge or market position.