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- - - - - - - - Chapter 17 - - - - - - - -. International Takeovers and Restructuring. Background. Significant proportion of total takeover activity has an international dimension. Main reasons for large increase in foreign M&A activity Europe is moving toward a common market

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- - - - - - - - Chapter 17- - - - - - - -

International Takeovers and Restructuring

©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 1


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Background

  • Significant proportion of total takeover activity has an international dimension

©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 2


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©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 3


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Historical and Empirical Data

  • U.S. acquisitions of foreign businesses

  • Foreign acquisitions of U.S. companies

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  • Dollar values of foreign acquisitions of U.S. targets have exceeded U.S. acquisitions of foreign targets

  • For 25 largest cross border transactions in history completed as of 12/31/99

    • Transactions involving U.S. targets amounted to $305.1 billion

    • Transactions involving U.S. acquirers amounted to $105.4 billion

    • Transactions involving only foreign companies amounted to $229.6 billion

©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 5


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  • Major reasons for cross border transactions exceeded U.S. acquisitions of foreign targets

    • Combine complementary capabilities

    • Strengthen distribution networks

    • Achieve critical mass required for new approaches to R&D, production, etc.

  • Industry characteristics related to M&A pressures

    • Telecommunications

      • Technological change

      • Deregulation

      • Efforts to develop a global presence

©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 6


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  • Media exceeded U.S. acquisitions of foreign targets

    • Technological change in content and delivery

    • Overlap in content of different media outlets

    • Attractive and glamorous industry

  • Financial

    • Globalization

    • Serve clients globally

  • Chemicals, pharmaceuticals

    • High amount of R&D

    • Rapid imitation

    • Rapid changes in technology

    • High risks due to competitive pressures

©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 7


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  • Autos, oil & gas, industrial machinery exceeded U.S. acquisitions of foreign targets

    • Advantage of size — critical mass

    • Global excess capacity

    • Oil price and supply instability

  • Utilities

    • Deregulation

    • Geographic expansion

    • Broadening of managerial capabilities

  • Food, retailing

    • Slower growth

    • Seek growth in new international markets

  • Natural resources, timber

    • Exhausting sources of supply

    • Match raw material supplies with manufacturing capacity

©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 8


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Forces Driving Cross Border Mergers exceeded U.S. acquisitions of foreign targets

  • Growth

    • Most important motive

    • U.S. highly regarded by foreign markets

    • U.S. firms have looked abroad to countries in relatively earlier faster-growing stages of life cycle — especially U.S. food companies

    • Enable medium-sized firms to attain size necessary to improve their competitiveness

    • Achieve size necessary for economies of scale; for effective global competition

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  • Technology exceeded U.S. acquisitions of foreign targets

    • Impact on international mergers

      • Technologically superior firm may exploit its technological advantage worldwide

      • Technologically inferior firm may acquire technologically superior target to enhance competitive position

    • Technological superiority tends to be more portable

      • No cultural baggage

      • Acquirer may select technologically inferior target — improve target competitive position and profitability

      • Buy into foreign markets to exploit their technological knowledge advantage

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  • Value increasing acquisitions exceeded U.S. acquisitions of foreign targets

    • Acquiring firm may have an advantage in general management functions such as planning and control or research and development

    • Specific management functions such as marketing or labor relations tend to be environment specific

      • Not readily transferable

      • May explain predominance of U.K. and Canada as international merger partners of U.S.

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  • Extend advantages in differentiated products exceeded U.S. acquisitions of foreign targets

    • Strong correlation between multinationalization and product differentiation

    • Firms that have developed a reputation for superior products in domestic market may also find acceptance for their products in foreign markets

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  • Roll-ups — combine firms in fragmented industries exceeded U.S. acquisitions of foreign targets

  • Consolidation — adjust to worldwide excess capacity

  • Government policy

    • Circumvent tariffs and quotas on imports or exports

    • Avoid restrictions that may protect a large lucrative market

    • Environmental and other regulations can increase cost of building de novo facilities

    • Response to changes in government policy and regulations

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  • Exchange rates exceeded U.S. acquisitions of foreign targets

    • Affect prices of foreign acquisitions, cost of doing business abroad

    • Affect value of repatriated profits to the parent

    • Exchange rate risk management becomes important

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  • Political/Economic stability exceeded U.S. acquisitions of foreign targets

    • Can alleviate or exacerbate higher risks inherent in operating abroad

    • Political factors

      • Changes in administrations in power

      • Likelihood of government intervention

      • Risk of expropriation

      • War vs. peace

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  • Economic factors exceeded U.S. acquisitions of foreign targets

    • Low or at least predictable inflation

    • Labor relations climate

    • Stability of exchange rates

    • Depth and breadth of financial markets

    • Transportation and communications networks

  • U.S. market attractive to foreign investors in terms of political/economic factors

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  • To follow clients exceeded U.S. acquisitions of foreign targets

    • Importance of long-term client relationships

    • Example: Financial firms expand abroad to retain clients who have expanded abroad

  • Diversification

    • Provide diversification

      • Product line

      • Geographically

    • Systematic risk reduction possible if world economies are not perfectly correlated

©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 17


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Premiums Paid exceeded U.S. acquisitions of foreign targets

  • Foreign bidders pay higher premiums to acquire U.S. companies than premiums paid in all acquisitions

  • Harris and Ravenscraft (1991)

    • Sample of companies between 1970-1987

    • Foreign bidder pays higher premia by 10 percentage points

    • High foreign currency values led to increased premia

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  • For period 1987-1998, premiums in foreign acquisitions exceeded all acquisitions by about 5 percentage points

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    • Possible reasons they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • Foreign buyers may offer higher premium to preempt potential domestic bidders

      • U.S. targets have less knowledge of foreign buyers and need higher premiums to resolve uncertainty

      • If foreign currencies are strong, can afford to pay more in dollars

      • If prospective future exchange rate movements favor the U.S. dollar, foreign firms must pay more in dollars

    ©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 20


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    Event Returns they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

    • General results

      • Similar results as domestic transactions

      • Targets receive large abnormal returns

      • Buyers earn nonsignificant returns

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    • Doukas and Travlos (1988) they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • Positive abnormal returns for U.S. multinational enterprises with no previous operation in target firm's country

      • Positive but not significant when U.S. firms expand internationally for first time

      • Negative but not significant for U.S. firms that have already been operating in target's home country

      • Greatest benefits from foreign acquisitions when there is simultaneous diversification across industry and geography

    ©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 22


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    • Harris and Ravenscraft (1991) they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • Sample of 1,273 U.S. firms acquired in 1970-1987

      • 75% of cross-border transactions, buyer and seller not in related industries

      • Takeovers more frequent in R&D intensive industries than are domestic transactions

      • Percentage gain to U.S. targets of foreign buyers significantly higher than targets of U.S. buyers

      • Cross-border effects positively related to weakness of U.S. dollar

    ©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 23


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    • Kang (1993) they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • Japanese takeovers of U.S. firms

      • Significant wealth gains for both Japanese bidders and U.S. targets

      • Returns increase with

        • Leverage of bidder

        • Bidder's ties to financial institutions

        • Depreciation of dollar in relation to Japanese yen

    ©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 24


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    • Dewenter (1995) they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • Controls for relative corporate wealth and levels of investments in different countries

      • Finds no significant relationship between exchange rate levels and foreign investment relative to domestic investments in U.S. chemical and retail industries

    ©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 25


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    • Eun, Kolodny, and Scheraga (1996) they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • 225 foreign acquisitions of U.S. firms during 1979-1990

      • For eleven-day window, [-5,+5], CAR was a positive 37.02% and significant for whole sample of U.S. targets

      • Firms acquired by firms from other countries than Japan had CARs between 35% and 37%

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    • Cakici, Hessel, and Tandon (1996) they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • 195 foreign acquisitions of U.S. firms during 1983-1992

      • Sample compared to 112 U.S. acquisitions of foreign firms

      • Foreign acquiring firms experienced positive and significant CARs of 0.63% for event period [0,+1] and 1.96% for period [-10,+10]

      • U.S. acquirers had negative but not significant CARs of -0.36% for event period [0,+1] and -0.25% for period [-10,+10]

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    • Doukas (1995) they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • 234 U.S. bidding firms involved in 463 international acquisitions during 1975-1989

      • Study relationship between bidders' gains and its q ratios

      • Value maximizing firms (q ratios > 1), CAR was positive and significant 0.41% for window [-1,0]

      • Overinvested firms (q ratio < 1), CAR was negative and insignificant -0.18%

      • Negative relationship between dollar exchange rate and level of foreign direct investment

      • Method of payment and industry relatedness not significant

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    • Seth, Song, and Pettit (1999) they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

      • 100 cross-border acquisitions of U.S. targets during 1981-1990

      • For event window [-10,+10], CAR for acquirers was an insignificant 0.11%, CAR for targets was significant 38.3%

    ©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 29


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    International Joint Ventures they buy U.S. firms — intensity is 50% higher than in purely domestic transactions

    • Advantages

      • May be only feasible method of obtaining raw materials

      • May involve different capabilities and link together complementary skills

      • Local partners may reduce risks involved in operating in foreign country

      • May be necessary to overcome foreign government restrictions

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  • Disadvantages

    • Provide information which makes partner a future competitor

    • Different cultures may increase tensions normally found in joint ventures

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    • Principles for management of successful collaborations as economies of scale and may provide basis for faster growth rate

      • Should involve complementary capabilities

      • Contracts should make it easy to terminate relationship

      • Control and ultimate decision makers should be specified

      • Formulate terms under which one company can buy out other

      • Activities and information flows should be tied into normal communications structures

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    • Chen, Hu, and Shieh (1991) as economies of scale and may provide basis for faster growth rate

      • Sample of 88 international joint ventures

      • Significant positive portfolio excess returns when U.S. firms invest relatively small amounts in joint venture

      • Excess returns no longer significant when firms make relatively large investments

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    • Mangum, Kim, and Tallman (1996) as economies of scale and may provide basis for faster growth rate

      • Summary data on investments by 7 foreign steel makers in U.S. joint ventures

      • In-depth case studies of 7 joint ventures

        • Foreign partners mainly form Japan

        • Initial motive was availability of foreign capital for modernizing U.S. steel industry

        • Another main objective was transfer superior process technologies of Asian partners to American plants

        • Tension from cross-cultural differences

        • Joint ventures generally successful

        • Only joint venture that experienced great difficulties — NKK of Japan and National Steel Corporation of the U.S.

    ©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 35


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    Cost of Capital in Foreign Acquisitions and Investments as economies of scale and may provide basis for faster growth rate

    • Main concepts

      • Fundamental international parity or equilibrium relationships — related to cost of debt of domestic and foreign firm

      • Issues of whether global capital markets are integrated or segmented — related to cost of equity capital in different countries

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    • Cost of Debt Relationships as economies of scale and may provide basis for faster growth rate

      • International parity relationships assume perfect and efficient markets

        • Financial markets are perfect

        • Goods market are perfect

        • Future is known with certainty

        • Markets are in equilibrium

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    • Interest rate parity theorem (IRPT) as economies of scale and may provide basis for faster growth rate

      • Ratio of forward and spot exchange rates equal current ratio of foreign and domestic nominal interest rates

        where Xf = current forward exchange rate expressed as number of foreign currency units (FC) per dollarX0 = current spot exchange rate expressed as FC per dollarRf0 = current foreign nominal interest rateRd0 = current domestic nominal interest rateEf = current forward exchange rate expressed as dollars per FCE0 = current spot exchange rate expressed as dollars per FC

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    • Forward parity theorem (FPT) as economies of scale and may provide basis for faster growth rate

      • Current forward foreign exchange rates should be unbiased predictors of future spot rates

      • Current forward rate, Xf , should equal future spot rate, X1

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    • Purchasing power parity theorem (PPPT) as economies of scale and may provide basis for faster growth rate

      • Expression of the law of one price

      • In competitive markets, exchange-adjusted prices of identical tradable goods and financial assets must be equal worldwide (taking account of information and transaction costs)

        where Tf = 1 + foreign country inflation rateTd = 1 + domestic inflation rate

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    • International Fisher relation (IFR) as economies of scale and may provide basis for faster growth rate

      • Nominal interest rates reflect anticipated rate of inflation

        where T = 1 + rate of inflationr = real rate of interestRn = nominal rate of interest

      • If other parity relations hold, real rates will be the same across countries, but nominal rates will differ by the countries' inflation factors

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    • Notes on parity relationships as economies of scale and may provide basis for faster growth rate

      • In the shortrun, many real world frictions cause departures from parity conditions

      • In the longrun, international financial markets move toward parity relationships

      • Hedging foreign exchange risk

        • Futures markets

        • Borrowing in foreign markets for foreign projects

        • Conducting manufacturing operations in multiple countries

        • Making sales in multiple countries

    ©2001 Prentice Hall Takeovers, Restructuring, and Corporate Governance, 3/e Weston - 42


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    Cost of equity and cost of capital as economies of scale and may provide basis for faster growth rate

    • Capital asset pricing model (CAPM)

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    • Market definition as economies of scale and may provide basis for faster growth rate

      • Integrated global markets — investments are made globally and systematic risk is measured relative to world market index

      • Segmented capital markets — investments are predominantly made in particular segment or country and systematic risk is measured relative to domestic index

    • World is moving toward a globally integrated capital market

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    • If capital markets are not fully integrated only a relatively small part of their funds abroad

      • Gains from international diversification

      • Multinational corporation (MNC) would apply to foreign investment a lower cost of capital than would a local (foreign) company

      • MNC will have a cost of equity capital related to beta measured with respect to markets in which it operates

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    • Procedure only a relatively small part of their funds abroad

      • Cost of equity for a foreign investment in nominal foreign currency terms should reflect risk differential above cost of debt borrowing in that foreign country

      • Cost of capital calculated based on an estimated leverage ratio and tax rate

      • Cash flows expressed in foreign currency units (FC) discounted by the FC cost of capital gives present value expressed in FC

      • Present value in FC can be converted to dollars at the spot exchange rate to give net present value of investment in dollars

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    • Similar alternate procedure only a relatively small part of their funds abroad

      • Begin with expected cash flows in FC

      • Adjust expected cash flows by risk factors that reflect foreign country's risk

      • Convert risk-adjusted expected FC cash flows to dollars over time by using expected foreign exchange rates at time t based on interest rate parity and relative inflation rates

      • Discount dollar cash flows by WACC of U.S. firm

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