Mergers and Acquisitions

Mergers and Acquisitions

Acquisitions are the absorption of a smaller firm by a larger firm, while a merger is the combination of two firms to form a single entity. In a merger, there is often an exchange of stock between the companies where one company issues shares to the shareholders of the other company at a certain ratio. The firm whose shares continue to exist is generally referred to as the acquiring firm while the other is the target firm. Except for synergies, the post-merger value of the two firms is equal to the pre-merger value (Brealey, Myers, & Marcus, 2007, 598). The target firm’s shareholders, however, often benefit because they are paid a premium for their shares.

There are three ways that an organization can be acquired: a merge of all the assets and liabilities from a target firm into the acquiring firm, purchase the stock of the target company also known as a tender offer, and the purchase of individual assets of the target. “A merger adds value only if synergies, better management, or other changes make the two firms worth more together than apart” (Brealey, Myers, & Marcus, 2007, 592).

Synergies are revenue enhancements and cost savings gained through the merger/acquisition. Many merger decisions are made without regard to differences in culture between firms, especially in international mergers. However, there is much evidence to suggest that cultural differences are a major reason why many mergers eventually fail. Cultural integration is also a very important factor. Each company will have its own distinct culture and this need to be carefully considered when conducting a merger (Brealey, Myers, & Marcus, 2007, 599).

Home Depot is the largest home improvement store chain in U.S. and like many other corporations; it is focused on becoming a global entity. In December of 2006, Home Depot signed a deal to acquire the Chinese-based company The Home Way. The Home Way acquisition allows for Home Depot to gain a direct retail presence in China. The Home Way already possesses an educated, reputable management team. As part of The Home Depot's strategy to expand its business globally, The Home Way provides the Company with an immediate retail presence in China with 12 stores in six cities (The Home Depot, 2007).

Mergers and acquisitions immediately impact organizations with changes in ownership, in ideology, and eventually, in practice. There are multiple reasons, motives, and institutional factors to engage in mergers or acquisitions. The financial risks of merging with or acquiring an organization in another country and how those risks can be mitigated are important issues for corporations. Conducting business internationally can be a risky investment. Political risks, exchange rate risks, transaction risks, translation risks, and economic exposure are tendencies that international businesses have to deal with. Foreign business risks can leave a company in ruins if the business does not research and protect itself (Brealey, Myers, & Marcus, 2007, 589).

Political risk is the possibility of negative events such as expropriation of assets, changes in tax policy, expropriation for minimal compensation below market value, restrictions on the exchange of foreign currency, governmental controls in the foreign country, local governments requiring equity positions, or other changes in the business climate of a country (Noble, 2007).

The exchange rate risk is the risk of an investment's value changing due to changes in currency exchange rates. If money must be converted to another currency to make a certain investment, then any changes in the currency exchange rate will cause that investment's value to either decrease or increase when the investment is sold and converted back into the original currency. Exchange rates impact the mergers and acquisitions in a number of ways; with the US dollar weak against the euro, US companies become likely targets for European buyers seeking to take advantage of their currency's current buying power (CFO.com, 2007).

Translation exposure is the risk that a company's equities, assets, liabilities or income will change in value as a result of exchange rate changes. This occurs when a firm denominates a portion of its equities, assets, liabilities or income in a foreign currency. Transactions exposure happens during international trade as well, this is the potential risk that currency exchange rates will change after financial obligations are entered into (Brealey, Myers, & Marcus, 2007, 599).