Strategic Method - Mergers and Acquisitions Theory Practice Personal Observations

1. Strategic Method - • Mergers and Acquisitions • Theory • Practice • Personal Observations

2. Strategic Direction Strategic Direction can be seen in terms of the Products and Markets the firm has developed, entered or left in the course of its strategic development: The Ansoff Matrix

3. The Ansoff Matrix The Product/Market direction of the firm can be modeled around the Ansoff Matrix. It identifies four basic strategies business strategies for the firm: • Market Penetration • Market Development • Product Development • Diversification

4. Development Model Strategic Method

5. Strategic Method • The “ Method “ vector for corporate development can be adopted by the firm to fulfill its strategy in any of the Ansoff quadrants. • The Method Vector can be sub-divided into : • Internal Development • Joint Development • External Development - Acquisitions & Mergers Lets consider each one

6. Or put another way Organic Joint Mergers and Growth Ventures Acquisitions BRAND BUILD BRAND BUY STRATEGIESSTRATEGIES

7. Internal Development This method is often referred to as Organic Growth. The following highlights this method: • It is a natural and sequential move • It tends to be slow • It can be a high cost strategy but this can be spread over time • It adds to capacity and therefore to competition • The firm may face entry barriers

8. Joint Development • This is a semi internal/external method of development and is extensively used in many forms and often for entry into foreign markets. • Joint Ventures • Strategic Alliances each of these has • Consortia • Franchising/Licensing • Agents different elements of Risk, Profitability & Commitment

9. External Development - Acquisitions & Mergers Acquisitions & Mergers are the most obvious form of external development and such a method exhibits the following characteristics: • Faster • Side steps entry barriers • Does not add to capacity • May be costly - purchase cost and integration costs

10. Direction and Method are linked • The direction - products and markets are linked with the method vector.

11. Mergers and Acquisitions Definitions Motivations Selecting the target Paying for the target Fending off the bid M&A in the UK - a personal analysis Granada Vs Forte

12. Definitions • An acquisition is a combination of two or more businesses in which one firm acquires the assets and liabilities of the other (s). Acquisitions can be contested or agreed. • A merger is similar, usually agreed. The process usually creates a new entity when the shares in the two companies are pooled to create the new firm through the creation of new stock in an agreed proportion.

13. Hamill’s Model (1991) • Strategic Motives • Economic Motives • Behavioural and Managerial Motives • Financial Motives Source- J Hamill, (1991), Journal of General Management Volume 17, 1, Autumn, pp 27-44

14. Strategic Motivations • Instant growth • Buy rather than build market share • Diversification • Competitive motives • remove a competitor • market control • Defensive motives - prevent a hostile bid

15. Economic Motivations • Economies of scale • Synergy in the value chain • Improved efficiency • Purchase of unique resources • Purchase of managerial skills

16. Behavioural/Managerial Motives • Increased sales growth • Increased management utility • Separation of ownership from control • Personal goals of senior managers These issues are covered in the managerial theory of the firm. See work by Cyert and March, Williamson, Marris, Simon etc.

17. Financial Motivations • Increased shareholder value • Valuation gap theory • Financial engineering • The deal

18. M&A and the Authorities • The authorities in the US, UK and EU make no distinction between the two forms as the outcome often can create a dominant position. Authorities will regulate M&A activity to protect the public interest. In the EU context - articles 85 and 86 of the Treaty of Rome In the UK context - MMC and OFT regulate monopolies In the US context - various anti-trust laws apply

19. Selecting an Acquisition Target • In selecting a target the predator company has to consider the following: • Strategic objectives • Shareholder value • Acquisition objectives

20. Selecting the Target • The predator company has to consider the following in terms of its target: • Performance criteria • Company characteristics • Management • Industry sector dynamics

21. Performance criteria Company characteristics Management Industry sector characteristics Return on capital employed Sales margins Sales growth Market share Net present values Size of company Geographical locations Product range, R&D etc.. Quality of the management Management style Compatibility between the firms Stage of industry evolution Competitive dynamics Target Criteria

22. Portfolio Approach to Acquisitions • Look at sector characteristics using a portfolio matrix • Look at the nature of the industry • Identify yourself and others in the matrix and calculate shares and trajectories • Identify targets linked to acquisition strategy and corporate goals

23. Paying for the Acquisition • Paying for the target • Cash offer - may include ‘junk bonds’ • Cash and shares combination • Shares only • How a firm pays for the target depends on its share and its financial strength • The role of the institutional fund manager is crucial in the process • In the UK it is rare for a target company to beat-off a predator

24. Fending off a bid - the key 6 weeks • Mass advertising - particularly to the small shareholder • Mailings to all shareholders - paper and video • Press relations - keeping the spin in the financial press • Investor relations - keeping the fund managers and the banks informed • Public relations - shareholders and MPs etc.. • Press conferences to ensure news coverage

25. Mergers and Acquisitions in the UK 1995-98Some observations and a personal analysis

26. Rise in takeover activity has many factors • Short-term horizons of institutional fund managers • The rapid move away from the owner managed firm to that of the professional manager • The rise in the power and influence of the merchant banks • Internationalisation of capital markets • The financial sector willing to fund takeovers, often with ‘junk bonds’

27. Takeovers activity in recent years • 1986-1989 was the ‘golden era’ of the takeover where during that period takeovers were running at around £ 10 billion a year. • The recession of the early 1990s considerably reduced the level of takeover activity in the UK. • 1995 saw the return of the takeover era, with takeovers valued at over £ 40 bn.

28. Takeovers - completed and pending 1995 £bn

29. Means, Motives and Opportunity • Means • After the recession of the early 1990s, firms paid a lot of attention to restructuring their finances. In 1994, firms had record cash surpluses. • Companies are profitable but nervous. They are uncertain about future demand.

30. Means • Firms are using their cash surpluses to pay: • extra dividends • buy back their own shares • make takeovers • With Interest rates low, there is little incentive to keep cash in the bank. • Invest to build or invest to buy ?

31. Motives • The motive behind many of the 1995 deals tended to be the need for industrial restructuring rather than financial engineering. • Pharmaceuticals - Glaxo/Welcome, Fisons/Rhone Poulnec Rorer • Lloyds Bank/ TSB; Lloyds/C&G Building Soc.

32. Motives • The motives behind the examples : • Pharmaceuticals - synergies and restructuring of costs due to high R&D costs to compete • The Bank mergers - access to new markets and to reduce the branch network and staff costs. The UK is seen as being ‘ over banked’. Lloyds Bank believe that they can save £ 350 million per year when linked with the TSB.

33. Motives • With low inflation and with economic growth sluggish, it is difficult to raise prices, so firms are more likely to find it easier to raise profits by cutting costs than from growing sales. • Restructuring the sector through the elimination of a competitor. • Access to cash generating assets.

34. Opportunity The opportunity of a company as a target is obvious for a predator. • Hanson’s takeover of Eastern Electricity • Trafalgar House’s aborted attempt to buy Northern Electricity • Lyonaise des Eaux’s purchase of Northumbria Water. • Granada’s takeover of LWT

35. Opportunity • Some analysts argue that a likely Labour victory at the next election due in 1997 would mean that a number of bids now allowed would be referred to the MMC. • Post-merger rationalization by a future Labour Govt... would be very difficult. This was particularly so in the utility sector. See the American acquisition invasion in the electricity sector the majority of the REC are US owned and controlled.

36. UK electricity sector Source: FT - 16/4/98

37. Conclusions - 1995-96 • In many aspects, the 1995 takeover activity seems to follow the Hamill table of motives for mergers and acquisitions. • Economic Motives • Financial Motives • Strategic motives • Will the new wave of acquisitions result in a better and more competitive economy ?

38. 1997-98 • Stock market rises continually for two years in the US and UK. OK some minor blips, but in 1998 the market is some 14% up on the year. In July ‘98 FTSE = 6195and in mid Jan ‘99 the FTSE = 6100 • Falling inflation • Capital markets buoyed by American growth and falling interest rates • Banks willing to lend to companies - high degrees of liquidity in the banking sector

39. FTSE 100 Index Nov ‘97-24 Feb ‘99

40. Takeovers in 1997 • In one week in October £ 100 bn worth of takeovers were announced. This became known as ‘Mad Monday’. • Most of these takeovers involved cross border mergers motivated by a need to create size and compete in an increasingly global world.

41. Takeovers and Mergers in 1998 • Takeover activity has not slowed down • Consolidation in many sectors continues to be a major motive: • Chemicals • Aerospace - both in the EU and US context • Pharmaceuticals • Banking and Financial Services • Primarily cross border. In 1998, Cross border deals made by UK firms amounted to £ 77bn • Search for scale

42. Some memorable deals in 1998-early 99 • BP and Amoco - Oils sector - late 1998 merger largest by UK firm - $61bn • Daimler Benz and Chrsyler - Auto sector - late 1998 merger to create new global firm • Vodafone and Airtouch - Telecoms sector -takeover now largest by UK firm - £36bn -Jan 1999 • BAT merger with Rothmans - Tobacco sector - worth £15bn - Jan 1999 • BAe is set to acquire Marconi from GEC for around £ 7 bn - mid Jan 1999

43. Example - GUS and Argos • Ansoff Factors • Motives • Means • Price • Search for scale • Defensive protection • Market changes - takeover easier than growing a business.

44. Granada Vs Forte The anatomy of a takeover BBC Video - Blood on the Carpet and see the Neale et al (1998)reference in the reading supporting this talk

45. Points to consider in the case • Forte and Robinson - personality & culture types • Business style of the two parties • The process of the takeover • The strategic logic (if any) behind the takeover • Look at the takeover in terms of the Hamill model. What can we deduce from the facts of the case ? • What can Robinson bring to the table ? • If you were Carol Galley ( MAM fund mgr.) how would you have voted - Forte or Robinson? Why?