New Businesses. In the past few years news media have been filled with reports of busi-

In the past few years news media have been filled with reports of busi-

nesses combining and splitting to form new businesses. These deals vary

dramatically in magnitude, form, and effect.

The terms most often used to describe all of this activity are mergers,

acquisitions and leveraged buyouts. The difference between a merger

and an acquisition is fairly technical, having to do with how the financial

transaction is structured. Basically in a merger, two companies combine

to create a new company by pooling their interests. In an acquisition,

one company buys another company and emerges as the controlling

corporation. The slip side of an acquisition is a divestiture. One com-

pany sells a portion of its business to another company. In recent years,

many acquisitions have taken the form of a leveraged buyout, when one

or individuals purchase the company (or a division of the company) with

borrowed funds, using the assets of the company they’re buying to secure

(or guarantee repayment of) the loan. Mergers and acquisitions repre-

sent relatively radical ways in which companies are combined.

There is nothing new about the deals of this sort. Companies have

been combining in various configurations since the early days. In fact,

one of the biggest waves of merger activity occurred between 1881 and

1911, when ”robber barons” created giant monopolistic trusts to control

the market. These trusts were horizontal mergers, or combinations of

competing companies performing the same functions. The purpose of a

horizontal merger is to achieve the benefits of economies of scale and to

prevent cutthroat competition.

A second great wave occurred in the boom decade of the 1920s. This

era was marked by the emergence of vertical mergers, in which a com-

pany involved in one phase of a business absorbs or joins a company

involved in another phase of that business. The aim of a vertical merger

is often to guarantee access to supplies or markets.

A third wave of mergers occurred in the late 1960s and early 1970s,

when corporations acquired strings of unrelated businesses. These con-

glomerate mergers were designed to augment a company’s growth and

diversify its risks.

A new round of business combinations is currently underway. A num-

ber of factors have combined to bring about the recent wave of “merger

mania”. Here are three of the most significant:

Operational improvements. Perhaps the most fundamental reason is

a desire to improve operations. Mergers, acquisitions, and divestitures

often perk up a company’s performance. In some industries, like the air-

lines, for example, consolidation lowers costs. In others, splitting a com-

pany into pieces gives performance a boost. In still other cases, mergers

represent the cheapest, fastest way to achieve growth or to expand into

new product and market areas.

Profit potential. The opportunity to make money is also a factor.

When a recent wave of merger mania began, many companies were

actually worth more than the combined value of all their stock. As the

stock market rose in the late 1980s, fewer companies were undervalued,

but enough bargains remained to stimulate activity, particularly deals fi-

nanced largely with debt. The “leverage” in leveraged buyout enables the

investors to achieve a big return on their investment.

Political and regulatory climate. A final factor that favors the merger

wave is the political and regulatory climate. Deregulation has shaken up

transportation industries to such an extent that railroads, trucking com-

panies, and airlines have found it necessary and desirable to consolidate.

Similarly, deregulation of the financial-services industry has paved the

way for bank mergers. In addition to deregulating certain industries, the

government has relaxed its position on trusts, thus paving the way for

mergers that would have been ruled illegal only a few years ago.

In the final analysis, mergers are probably a mix of good and bad. In

some cases and for some people, the results are beneficial; other cases,

no real advantages are achieved for either a company or society.

Unit 4