© P.V. Viswanath, 2006
A project can be reliably identified as being positive NPV only if we
can also identify the sources of that positive NPV. In general, the sources
of such value enhancement represent some deviation from perfect competition
in the product market, such as the existence of barriers to entry in the
firm's industry, due to:
- the availability of economies of scale in production
Lesson: Investments that are structured to exploit economies of scale
are more likely to be successful than those that are not.
- the possibility of product differentiation
Lesson: Investments designed to create a position at the high end
of anything, including the high end of the low end, differentiated by
a quality or service edge, will generally be profitable.
- cost advantages
Lesson: Investments aimed at achieving the lowest delivered cost
position in the industry, coupled with a pricing policy to expand market
share, are likely to succeed, especially if the cost reductions are
- monopolistic access to distribution channels
Lesson: Investments devoted to gaining better product distribution
often lead to higher profitability.
- protective government regulation
Lesson: Investments in project protected from competition by government
regulation can lead to extraordinary profitability. However, what the
government gives, the government can take away!
Lessons for M&A from the Shapiro approach:
- Horizontal Mergers can reduce costs through economies of scale
- Merging vertically downwards to acquire distribution channels can
procure better product distribution
- Acquiring firms with R&D capabilities can help generate products
with quality edge (Yahoo’s acquisition of Inktomi in 2003 which
had a superior crawler); (e.g. according to a NY Times article, November
3, 2005, in the Business/Financial Desk section, "the main reason
Johnson & Johnson said that it purchased Alza was for the company's
technology, which includes innovative ways of delivering drugs to the
body. Questions have been raised about how quickly that technology is
being used by the parent company.")
- The flip side is to deny competitors such an ability – cf.
Yahoo’s acquisition of Altavista in 2003 to deny MSN access to
a ready-made search engine.
- Acquiring targets with R&D to reduce production costs; for example,
integrated steel producers acquiring minimills.
- Barriers to Entry can make it more difficult for new entrants into
- Regulatory restrictions (e.g. banking license),
- brand names (e.g. Xerox, McDonalds – can develop customer
loyalty; hard to develop and/or imitate)
patents (illegal to exploit without ownership; e.g. new drugs –
cf. also RIM)
- and unique know-how (e.g. WalMart’s “hot docking”
technique of logistics management)
- Accumulated experience (cf. learning curve)
- Customer Power (monopsony)
- Powerful customers can influence prices and product quality.
Examples are WalMart (consumer goods) and the US government (US
- If customers are weak, suppliers can keep prices rising, e.g.
in filmed entertainment, cigarettes and education.
- Supplier Power
- Powerful suppliers can extract high prices from firms.
- In contrast, in the 1990s, weak suppliers allowed auto manufacturers
to extract price concession.
- Threat of Substitutes
- Substitutes limit the pricing power of competitors in an industry.
- The price of coal for electric power generators is influenced
by the price of oil and natural gas.
- Rivalry Conduct
- Balance of competitive advantage can be altered by investments
- new product or new process innovation,
- opening new channels of distribution and
- entry into new geographic markets
- Cartels keep competition low
- Predatory pricing can keep profits variable and low.
- Rivalry is sharper where
- players are similar in size,
- the barriers to exit from an industry are high,
- fixed costs are high,
- growth is slow, and
- products/ services are not differentiated
Lessons for M&A from Porter
- Firms can look for targets to enhance resistance to new entrants –
e.g. smaller firms with proprietary intellectual property or R&D
(e.g. in the New York Times article, "Buyer's Remorse Is Causing
Some Palpitations at Johnson," Nov. 3, 2005, we read:
As an example, Mr. Finkelstein points to Johnson & Johnson's 1996
takeover of Cordis for $1.8 billion. While the acquisition was a chance
for Johnson & Johnson to cement its early lead in the stent business,
crucial Cordis talent, accustomed to an entrepreneurial approach, clashed
with Johnson & Johnson's more top-down structure, he said. Some
decided to leave the company.
''They tend not to be able to retain the innovative capability,'' Mr.
Finkelstein said. ''That resides in people.''
Because of the resulting delays in stent innovation, Johnson & Johnson
left the door wide open for competitors, including Guidant, allowing
other companies to capture the bulk of the stent market by 1998, according
to Mr. Finkelstein. It took Johnson & Johnson several years to recover.)
- Where competitor conduct promotes rivalry, mergers may be undertaken
to reduce susceptibility to competition – e.g.
- horizontal mergers can increase market share
- Targets with new products or new processes
- vertically merging downward to obtain new channels of distribution
- Merging with targets that permit entry into new geographic markets
- Where supplier/ consumer power is high, mergers can be used to counter
- Where supplier/ consumer power is low, horizontal mergers can be
used to exploit supplier weakness.
- If there are threats from substitutes, firms could
- Acquire targets in the “substitutes” industry
- Acquire targets with R&D to counter the attractiveness of
substitutes (e.g. according to a NY Times article, "Buyer's
Remorse Is Causing Some Palpitations at Johnson," November
3, 2005, in the Business/Financial Desk section, "the main
reason Johnson & Johnson said that it purchased Alza was for
the company's technology, which includes innovative ways of delivering
drugs to the body. Questions have been raised about how quickly
that technology is being used by the parent company.")
- Acquire targets in related industries that are regulated
- For example, a coal producer could integrate vertically and acquire
an electricity producer.
of Strategic Acquisition (Kauppi List):
- Acquire Customers
where the target is in the same business in a different geography (or
in a different context)
- Operating Leverage
improving profit margins through higher utilization rates for plant
- Capitalize on a company's strength
- Cover a weakness
- Buy a low-cost supplier
- Improving or completing a product line
- Technology -- build or buy?
- Acquisition to provide scale and access to capital markets
- Protect and expand mature product lines
- Protect customer base from competition
- Acquisition to remove barriers to entry
- Opportunistic acquisition for when the market turns
The Mittal-Arcelor merger
- First, find a description of the two companies -- this can often be
obtained by looking at the profiles on Yahoo or similar sites. wsj.online
also has these descriptions. In the case of Arcelor, I found a profile
description on yahoo.fr
- Then, get some information on the industry. You can search the web,
but you need to evaluate sites cautiously. One location that is very
useful for this is the Pace library website (library.pace.edu). Go to
NetAdvantage and get information about the industry.
- A third and very important source of information is the 10-K filings
of the companies. In our case, Arcelor does not trade on a US exchange
-- hence we will not find SEC filings. Mittal does trade on the NYSE,
but it is a foreign company -- hence it does not file 10-Ks, but rather
a 20-F filing.
- Use the information on the firm's websites (http://www.mittalsteel.com/Investor+Relations/Annual+Report+2004/Regions/)
- Get information on the organizational structure of the industry.
Who are the leaders? What are their market shares?
- What are the geographical areas where the merger parties operate?
In our case, operate can have two meanings -- one, where they produce,
and two, where they sell.
- What are the production economics?
- What can you say about the product mix between Mittal and Arcelor?
- What is the evaluation of the market?
Areas of specialization
· Interventional cardiology
· cardiac rhythm management (implantable cardioverter defibrillator
systems (ICD) – Ventak defibrillator family; cardiac pacemakers
· cardiac and vascular surgery markets.
· Minimally Invasive Medical devices used in interventional cardiology,
peripheral intervention, neurovascular, electrophysiology, gastroenterology,
gynecology, oncology and urology.
o Cardiovascular markets – products to treat atherosclerosis.
o Stent systems (current products are Express 2 system, incl. Express
stent and Maverick balloon dilatation catheter. Taxis and Taxus Liberte
o Endosurgery products – devices to diagnose, treat and palliate
gastrointestinal diseases and conditions such as esophagities, peptic
ulcers, esophageal cancer, etc.
Johnson and Johnson (Medical Devices and Diagnostics
· minimally invasive surgical products (incl. Procrit and Cypher
· circulatory disease management products;
· blood glucose monitoring products;
· professional diagnostic products;
· orthopedic joint reconstruction, spinal, and sports medicine
products; and disposable contact lenses; wound care and women's health
Complementarities between JNJ and GDT
JNJ has circulatory disease management products; GDT has interventional
cardiology and also operates in the cardiac and vascular surgery markets.
JNJ and GDT both sell minimally invasive surgical products (list of products
can be found at http://www.jnj.com/product/categories/Medical_Devices___Diagnostics.htm),
but JNJ is not really into heart surgery – mainly urology and orthopedics.
JNJ might be interested in GDT because it would have an opportunity to
broaden its product base.
Complementarities between GDT and BSX
GDT and BSX both operate in the cardiac and vascular surgery markets.
GDT stays mainly in these areas, while BSX is more wide-ranging.
BSX, by buying GDT would have an opportunity to consolidate its hold
in the sub-market of minimally invasive medical devices in the area of
cardiac and vascular surgery.
Since BSX and GDT are selling to the same market, they can increase their
Rationales for Mergers
and BSX both operate in the cardiac and vascular surgery markets.
GDT stays mainly in these areas, while BSX is more wide-ranging.
has circulatory disease management products; GDT has interventional
cardiology and also operates in the cardiac and vascular surgery
and GDT both sell minimally invasive surgical products (list of
products can be found at http://www.jnj.com/product/categories/Medical_Devices___Diagnostics.htm),
but JNJ is not really into heart surgery – mainly urology and orthopedics.
by buying GDT would have an opportunity to consolidate its hold
in the sub-market of minimally invasive medical devices in the area
of cardiac and vascular surgery.
JNJ might be interested
in GDT because it would have an opportunity to broaden its product
BSX and GDT are selling to the same market, they can increase their
would probably think of its market as being a market for medical
devices, and the GDT acquisition would also allow it to obtain increased
might be opportunities for operating synergies.
There might be opportunities for revenue synergy; and maybe also
of operating synergies.
merged firm would be more focused
merged firm would be more of a conglomerate, though still not an
needs GDT to compete against MDT.
On the other hand, in order to be able to pay for the deal,
BSX has to give away GDT’s
vascular intervention and endovascular businesses and share
the rights to GDT’s drug-eluting technologies.
doesn’t necessarily need GDT, it could go for St. Jude’s or maybe
even the merged BSX or MDT!
It is looking at a broader market.
Balance of competitive advantage can be altered
by investments in new product innovation; BSX can do with some of
a certain extent, this applies to JNJ as well, but not so much.
On the other hand, it is slowing, in terms of growth in its
other markets, and might end up losing some of the niche markets
to the more specialized competitors.
Hence, it might also need a merger like this in order to
be able to compete against its rivals.
BSX might be targeting GDT in order to deny
JNJ access to GDT; if so, this is short-sighted, since JNJ probably
has other targets.
Acquiring GDT could
allow JNJ to cement its position as a stent manufacturer and forestall
the development of new products. (This would have been a very good
strategy a few years ago, but it might still be a reasonably good
There is also speculation that BSX might
have to get rid of GDT’s interventional cardiology business –stents
and balloons – in order to obtain antitrust approval.
Rivalry in the industry
Medtronic is similar to BSX, and is about 4 times the size of BSX. Buying
GDT can improve BSX’s clout and market share relative to MDT.
Even though customers don’t have much power because they can be
held hostage by their suppliers, nevertheless, with an industry that has
a lot of players, it’s not impossible for the hospitals to pick
and choose, to some extent. Furthermore, hospitals have a lot of market
power, relative to their customers (viz. patients), so that gives them
some power vis-à-vis their own suppliers.
A catheter is a tube that can be inserted into a body cavity duct or vessel.
Catheters thereby allow drainage or injection of fluids or access by surgical
A stent is a small, lattice-shaped, metal tube that is inserted permanently
into an artery. The stent helps hold open an artery so that blood can
flow through it.
Drug-eluting stents are stents that contain drugs that potentially reduce
the chance the arteries will become blocked again.
In atherosclerosis, plaque builds up on the inner walls of arteries, the
blood vessels that carry oxygen-rich blood throughout the body. As the
artery walls thicken, the pathway for blood narrows. This can decrease
or block blood flow through the body.
Minimally invasive surgery is surgery performed without a making a major
incision or opening, resulting in less trauma for the patient and yielding
significant cost savings as a result of shorter hospitalization times
and reduced therapy requirements.