Firms are aggressively engaging in merger and acquisitions as financial strategies in today’s business world. Merger and acquisitions are a process discussed between two firms each seeking to benefit from the decision of marrying the two companies’. Factors to be considered when combining the firms are their financial benefits and operation efficiency from the transaction. The objective is to reduce the rate of risk to increase value on the firm, thus bringing a higher return to its shareholders.
In addition, combining firms with opposite beneficial phases in the business cycle will reduce their inconsistent performance. This has been more evident with international firms. As new countries have joined the global market force, there have been a substantial number of foreign companies penetrating the US industry. Most of these foreign firms have infiltrated the market using their influential power in the political and economic arena. Sony Corp. and Metro-Goldwyn-Mayer, (MGM) are two firms which consensually merged in early 2005.
Both are considered to be a conglomerate. They are highly compatible and recognized to have a strong hold in the motion picture industry; however, Sony has other units including electronic, and games. Sony is a foreign firm originated and based out of Tokyo while MGM was based in the US. Before Sony and MGM considered the acquisition they analyzed the pros and cons of merging, the factors considered in the price to be paid, the anticipated benefits, the fluctuation of their stock, and the combined capital structure.
Once the acquisition was completed other factors were examined, such as the overall outcome of the deal, and the international financial management issues, if any. Pros and Cons of Mergers and AcquisitionsIn order to make a well informed decision toward a merger or an acquisition, several factors must be taken into account, and possibilities explored. It is apparent immediately that in a merger or acquisition, certain function would not need to be replicated, so labor costs would immediately be reduced.
Other overhead costs such as land and building costs would be reduced as well as a supposed reduction in competition for that particular area of the market. Another advantage to a merger/acquisition is the possibility of the working together of two or more people, organizations, or things, especially when the result is greater than the sum of their individual effects or capabilities that may have not been present previously. This may also be considered a con in that there may be resistance toward working together. Redundancy of employees resulting in large layoffs would most likely result in a merger/acquisition deal.
The combining of corporate dealings is another hurdle to overcome such as logos, addresses, sales territories and so on. The buyout of one of the companies in a merger forces the company doing the buy-out to have to pay a premium on the shares. When a merger is announced, the stock will rise. On the other hand when companies combine, faster repayment of debt, cost savings, sharing the cost of new technologies among other things, make mergers and acquisitions enticing. There is always risk involved whether it is a merger or an acquisition.
It is usually a strategic plan that fosters the concept of a merger/acquisition according to “Why Mergers Fail” (Tobak, 2007). It is important that the two halves are stronger, resulting in increased shareholder value. In order to be successful, corporate strategies must be sound and similar for each company, each company must be forthcoming with truthful status, there must be a strategy in place ahead of time for the integration of the two, care must be taken to facilitate the retention of key employees and each company must be in good standing financially and otherwise to avoid forming one large company that is not stable.
Factors Used in Determining PriceIf a company is purchased by another company by cash, this is termed an acquisition because the shareholders of the company being purchased no longer have any say. A cash deal would be more advantageous during a downward trend in interest rates. The downside of paying cash is the cash flow constraint that results. Capital may be borrowed from a bank or raised by bond issuance, or the company doing the buying may offer stock in their company. If the acquisition is financed through debt, this is known as a leveraged buyout.
The debt will then be moved to the balance sheet of the company that was acquired. Five of the most common ways to valuate a business are: asset valuation, historical earnings, future maintainable earnings, relative valuation and discounted cash flow valuation, according to “Mergers and Acquisitions” (Wikipedia, 2008). Some combination of those five ways is typically used in the valuation process. The examination of the balance sheet and income sheet will provide adequate information. It is important to be accurate in business valuation as that will have a major impact on the business.
How Can You Determine Whether or Not the Anticipated Benefits Were Realized? A merger or an acquisition of another company is strategy to either reduce the competition or reap the benefits that both companies can provide when teamed together. Ultimately, the actions of the corporate strategy are to increase shareholders value. The key ingredient that makes a Merger or Acquisition (M/A) successful is whether proper due diligence is done and oftentimes M/A fail to add value because of this!
If done properly, combining different companies can help a growing company establish a foot hold in an industry that is rapidly growing as is the case with MGM and Sony. Other contributing deterrents that can hinder the real benefits to a M/A, is the approval process. The M/A must have approvals from the justice department and federal trade commission prior to the deal going through. Sometimes, during this process, additional stipulations are imposed, that can change the entire dynamics of the deal.
Changes made after the start of the process, may make the M/A not reach its perceived potential until several years later or sometimes not at all. Sometimes these deals are pulled off the table because it has become too restrictive to proceed with the deal after the justice and trade commissions have weighed in. Why Did the Acquiring Company’s Stock Rise or Fall after the Deal Was Announced? According to the Washington Post, the reason Sony’s stock prices rose was because the expectations for the merger were very promising.
It was believed Sony would generate 3. 6 billion in sales and an increase in the home video market by 16. 5 the share. The combination of the firm’s reputable business success and that of the future expectations of acquiring a new line of business convinced investors to consider Sony the top leader amongst its competitors. This belief persisted in the market believing the acquisition would convert Sony into a highly profitable company. Moreover, major financial partners, such as Texas Pacific Group and Providence Capital Inc. placed a higher interest on Sony which pushed its stock prices even higher. MGM’s stock prices dipped while Sony’s increased by $0. 66 at 42. 61(V Business). Why Did the Acquired Company’s Stock Rise or Fall after the Deal Was Announced? When a company merges with another company, usually the company that has merged stocks will rise; however, not in the case with MGM and Sony. According to Carl Diorio, “MGM shares dipped and Sony stock rose a day after reports of a possible Lion takeover by the Japanese-controlled Studio” (Diorio, 2004).
According to Carl Diorio, “normally the buyers stock would decline and the targeted company’s shares would rise in which MGM shares fell $. 17 to $19. 58 and Sony was up $. 66 at $42. 61 on Thursday” (Diorio, 2004). David Miller stated, “there’s no conclusion to be drawn here, except that this leaping into the press means MGM has informally put itself up for sale” (Diorio, 2004). The words of Michael Savner were, “Banc of America Securities stated in the terms of tax considerations, Kerkorian would prefer to do stock-based deal” (Diorio, 2004).
According to Block and Hirt, “stock-for-stock exchange uses an analytical approach in which the emphasized earnings per share impact exchanging of securities and ultimately the market valuation of those earnings” (Block, 2004, p. 590). What is the Expected Impact on the Combined Company’ Capital Structure? The impact Sony will gain from merging with MGM is the strong positive outlook on the company’s structure. In 2003, a “merger between Sony and MGM would create a combined home video business that would generate $3. 69 billion in sales which represents 16. 5 percent of the total home video market” (Andrew, 2004).
In line with Dolbeck Andrew, “Sony merging with MGM will gain an impressive film library which contains over 4,000 films, and has less than 30 percent of the library released on DVD in which the catalog generates over $400 million annually in royalties” (Andrew, 2004). By merging with MGM, Sony will have a “position to capitalize on future technological developments in the audio-visual arena” (Andrew, 2004). According to William Pesek, “Sony’s strategy is to combine the entertainment and technology business to increase growth and rely less on the tough consumer electronics market” (Pesek, 2004).
The combined companies will produce over “8,000 film titles in which MGM has an agreement with the Comcast Corporation to let viewers select and view movies from the two movie libraries via high-speed links” (Pesek, 2004). The total outcome of merging MGM with Sony will impact the video industry in which Sony has the technology and capability to enhance some of the classic movies MGM carries. How Can You Determine Whether this Deal Was Considered a Success or Failure, and Why? Since the merger of MGM and Sony, shares of Sony stock have continued to rise and have shown steady growth since the merger.
By investors’ perspectives, steady growth would be considered a successful merger because it increased shareholders value. Mutually, both MGM and Sony benefited from the merger because combined it gave them an upper hand in a rapidly growing industry that generated sales in the several billion dollar range and they were able to capture their lion’s share of that market. With their combined resources, of film library and audio/visual equipment, it gave the new company an edge over their nearest competitor.
Since then their sales revenues have continued to climb while they have been able to reduce operating expenses making the company more profitable and enticing to investors. It also gave them a technological advantage and better position the company for the future markets of movies and home videos due to their expansive libraries and technological knowhow. What are Four International Financial Management Issues a Combined International Company Must Address that a Domestic Company Would Not Face? There are many differences faced when a merger takes place between an international business and a domestic business.
International mergers are often very complex and pose many challenges when dealing with the financial matters of it. One area is the fact that an international firm has access to more funds and resources than a domestic business would. Because the funds are more plentiful, it has an effect on many other factors. Interest rates and market conditions are also very different and present a level of instability between the companies. One example of that is the debt ratio. The debt ratios in foreign countries are higher than those in the United States.
The distribution of dividends is yet another difference that presents somewhat of a challenge when dealing with international mergers; however, with the various opportunities for challenges and roadblocks, Sony and MGM were able to make the deal and proceed with the merger. One of the benefits of the Sony merger was to push for the establishment of the Blue-ray Disc technology for high-definition video storage as the successor to the standard DVD. The other Japanese electronics firms do not own any video content, so choosing to partner with Japan was a wise investment because of the lack of competition.
The limited knowledge of the market as to the product itself was an educational period and advertising is going to be much more than what would be needed if this merger was not international. With domestic businesses there are a high volume of competitors and the market and demand is plentiful. Yet on the other hand Sony is in danger of losing the portable music war to the Apple iPod and other competitors because that is an international product. International mergers sometimes change the power balance between employers and workers because the wages are set by monopolistic trade unions.
The assumption is it is easier for workers to organize within national borders as opposed to across the border mergers; however, unions within the nation tend to cooperate more easily than unions in different countries. An international merger, opposed to a domestic one, would therefore, experience more opposition and challenges in determining salaries and benefits. A national merger makes market shares less sensitive to wage changes, which gives the unions an incentive to raise wages. An international merger, on the other hand has a different effect on determining the set wages.
An international merger would indicate that the merged firm is served by two different unions, each producing input to one of the merged firm’s two products. Then the merged firm can partly replace sales of one of its products by increasing the sales of the other product. This leads to price flexibility and fuels increased competition between the unions. As a result, the unions compete more aggressively on wages. This would be a non-issue in a domestic merger. What are Some Ways an International Company can Protect Itself From Risks and Effects From Financial Management Issues Listed Above?
An international company can protect itself from the risk of suffering from the challenges that may arise due to merging with a domestic business by studying the monetary system prior to the merger. Foreign currency and the interest rates are very different and not being prepared for the reduction in rates can become very problematic as well. Politics are also very alive and present when across the border mergers are conducted. Political risks sometimes involve negative decisions that discriminate against foreign firms. All the above mentioned are challenges that are faced when merging an international and domestic business.
ConclusionIt is clear this merger was not about innovation, but more about using existing assets from the other company’s innovation to reproduce at a low-risk. One thing is certain; Sony successfully entered the new market industry where TV media and music companies are recycling existing products to create a better quality picture or sound. Sony will combine its top of-the-notch technology with MGM’s superb productions for a stronger and more solid presence in the market industry. ReferencesDolbeck, A. (2004, July 5). Sony and MGM: Figuring Out a $5 Billion Deal. Weekly CorporateGrowth Report.
Retrieved April 29, 2008 from http://findarticles. com/p/articles/mi_qa3755/is_200407/ai_n9444994. Block, S. & Hirt, G. (2004). Foundations of Financial Management (11th ed. ). New York:McGraw-Hill. Diorio, C. (2004, Apr. 22). Wall Street Skeptical of Sony as Lion Tamer: Studio’s Offer isProbably Too Low for Kerkorian. Daily Variety. Retrieved April 28, 2008 fromhttp://www. variety. com/article/VR1117903697. html. Pesek, W. (2004, Oct 4). Sony Dreams New Dream with Deal for MGM. Los Angeles BusinessJournal. Retrieved April 29, 2008 fromhttp://findarticles. com/p/articles/mi_m5072/is_40_26/ai_n6256432.
Tobak, S. (2007, October). Why Mergers Fail. Retrieved April 28, 2008, fromhttp://www. cnet. com/8301-13555_1-9796296-34. html. V Business. Wall Street Skeptical of Sony as Lion Tamer. Retrieved April 30, 2008. http://www. variety. com/article/VR1117903697. html? categoryid=18=1…. Washington Post. Sony-Led Group to Buy MGM in $2. 9 Billion Deal. Retrieved April 30, 2008. http://www. washingtonpost. com/wp-dyn/articles/A18297-2004Sep13. html. … Wikipedia. (2008). Mergers and Acquisitions. Retrieved April 28, 2008, fromhttp://en. wikipedia. org/wiki/Mergers_and_acquisitions.