Dr. P.V. Viswanath

pviswanath@pace.edu

Introduction to Mergers and Acquisitions

© P.V. Viswanath, 2006

• Conglomerate Mergers
• Takeover Premiums
• Tow-tiered transactions
• Leveraged buyouts
• Strategy

Conglomerate Mergers

In 1986, GE acquired Kidder Peabody. This is an example of a conglomerate deal; one that was not successful. Below is a paragraph from the 1994 G.E. Annual Report (http://www.scripophily.net/kidpeabcotra.html):

The Kidder story, and its $1.2 billion loss, is not a pleasant one;

Whether or not it was a good idea to buy Kidder in 1986 is academic -- in the end, it simply didn't work out. In 1994, weak trading markets lowered Wall Street earnings by billions of dollars from the levels of 1993, and Kidder was not immune to the weaknesses in these markets. But Kidder had another problem: a phantom trading scheme by a single employee, directed not against customers but against the firm itself, which cost it $210 million in net income. The combination of the two circumstances -- a downturn in earnings, and an employee's wrongdoing -- made it clear to us that it was time to get out; thus the sale of the brokerage assets of Kidder to PaineWebber, in return for 25% equity in that firm, and the liquidation of the trading operation.

Sheridan Square Entertainment and Hirsch International Corporation

http://www.hirschintl.com/news_index.cfm?newssel=21

• Who acquired whom?
• What is the purpose of the additional agreement to purchase the Series B convertible preferred stock of Sheridan Square at a price per share of $25,000?

Takeover Premiums

Have Dealmakers Wised up? (Businessweek article, February 21, 2005)

Why large takeover premiums? (Prof. Stephen Bainbridge, UCLA, http://www.professorbainbridge.com/2005/09/mannes_primer_o.html)

In standard economic theory, a control premium is not inconsistent with the efficient capital markets hypothesis. The pre bid market price represented the consensus of all market participants as to the present discounted value of the future dividend stream to be generated by the target—in light of all currently available public information. Put another way, the market price represents the market consensus as to the present value of the stream of future cash flows anticipated to be generated by present assets as used in the company's present business plans. A takeover bid represents new information. It may be information about the stream of future earnings due to changes in business plans or reallocation of assets. In any event, that pre bid market price will not have impounded the value of that information. To the extent the bidder has private information, moreover, the market will be unable to fully adjust the target's stock price.

Two-tiered transactions

http://www.findarticles.com/p/articles/mi_qa4048/is_200401/ai_n9382758

Campeau's two-tier bid
(from notes of Prof. Levent Koçkesen, Koç University, Istanbul)

Example 1.9 (Hostile Takeovers). During the 1980s there was a huge wave of mergers and acqui-sitions
in the Uniter States. Many of the acquisitions took the form of “hostile takeovers,” a term used to describe takeovers that are implemented against the will of the target company’s management. They usually take the form of direct tender offers to shareholders, i.e., the acquirer publicly offers a price to all the shareholders. Some of these tender offers were in the form of what is known as “two-tiered tender offer.”

Such was the case in 1988 when Robert Campeau made a tender offer for Federated Department Stores. Let us consider a simplified version of the actual story. Suppose that the pre-takeover price of a Federated share is $100. Campeau offers to pay $105 per share for the first 50% of the shares, and $90 for the remainder. All shares, however, are bought at the average price of the total shares tendered. If the takeover succeeds, the shares that were not rendered are worth $90 each.

For example, if 75% of the shares are tendered, Campeau pays $105 to the first 50% and pays $90 to the remaining 25%. The average price that Campeau pays is then equal to p = 105×(50/75 +90×(25/75) = 100
In general, if s percent of the shares are tendered the average price paid by Campeau, and thus the price of a tendered share, is given by p = 105 if s <= 50 and p = 105 × (50/s) + 90 x ((s-50)/s) if s > 50
Notice that if everybody tenders, i.e., s =100, then Campeau pays $97.5 per share which is less than the current market price. So, this looks like a good deal for Campeau, but only if sufficiently high number of shareholders tender.

The actual unfolding of events were quite unfortunate for Campeau. Macy’s joined the bidding and this increased the premium quite significantly. Campeau finally won out (not by a two-tiered tender offer, however) but paid $8.17 billion for the stock of a company with a pre-acquisition market value of $2.93 billion. Campeau financed 97 percent of the purchase price with debt. Less than two years later, Federated filed for bankruptcy and Campeau lost his job.

Leveraged Buyouts

Article by Greg Jarrell
http://www.econlib.org/library/Enc/TakeoversandLeveragedBuyouts.html

Trends in LBOs
http://www.oycf.org/Perspectives/18_093002/Leveraged_Buyouts.htm

Case study, with example
http://mba.tuck.dartmouth.edu/pecenter/research/pdfs/LBO_Note.pdf