Mergers and Acquisitions - An explanation

Understanding how companies expand and grow with other players already in the market.

Mergers and Acquisitions (M&A) has been one of the most sought-after topics in the world of Finance. Any company can grow organically up to a certain extent, but in order to expand its operations and become a behemoth, it needs to acquire or partner up with other companies instead of starting out from scratch in the desired segment.

Often viewed together as a single concept, Mergers and Acquisitions are drastically different in essence.

A merger between two companies involves combining the resources of both the companies to create a single new entity. It is the voluntary fusion of two companies into a new legal entity. The previous entities cease to exist legally, and all the assets and liabilities are transferred to the new entity.

This usually happens between companies which are almost equal in terms of size and the scale of their operations, and are done for a variety of reasons:

To reduce operational costs.
To expand into new markets.
To boost revenue and profits.
To increase the scale of operations.
To acquire assets that would require significant time and resources to build otherwise.

A relevant example of a merger in the Indian Context would be that of Vodafone Idea Ltd. In 2018, Vodafone India and Idea Cellular combined their operations into a single entity – Vodafone Idea – which constituted the biggest user base in India, with a staggering 395 million subscribers. This move was in response to the tariff war launched by Reliance Jio Infocomm Ltd.

Vodafone India and Idea Cellular had a merger of equals, with both Vodafone and Aditya Birla Group having joint control of the company. Post the deal, Vodafone would have a 45.1% stake in the new company, named Vodafone Idea Ltd., whereas Aditya Birla Group would possess a 26% stake in the combined entity. Recently, the new entity rebranded itself as “Vi” to mark the successful completion of the merger.

When a company aims at expanding its interests to a field where it has little knowledge, it might choose two ways to do so. The classical method would be to start a business from scratch and work their way up through the hierarchy of companies in the segment, whereas the other alternative would be to buy their way into the segment. Here comes in the concept of Acquisitions.

An acquisition of a company involves the acquiring company buying out the stake in the other party. A majority stake, usually greater than 50% of the target firm’s shareholding pattern and assets. The purpose of acquisitions is to take control of the company, and to improve and expand the business of the target company thereon.

In case of an acquisition, both the acquiring company as well as the target company continue to exist as separate legal entities, but the overall control of the target company, including the decision-making process as well as the majority shareholding pattern, is transferred to the former. The acquiring company becomes the “parent company” of the other, and its motive is to run the business efficiently and smoothly in order to gain revenue as well as market share.

Acquisitions are often looked forward to as the medium for several companies to grow further, and it is done for the following reasons:

To establish their presence in a foreign market.
To gain access to new technology in order to get a competitive advantage over its rival firms.
Often, acquisitions are done to reduce the excess supply and competition in case a sector is oversaturated with players.

The Start-Up ecosystem throughout the world is familiar with acquisitions, as early investors and founders of a firm often look for an exit, handing over the reigns of the company to the next set of investors. India itself has recently seen several acquisitions, with an inclination to companies in the online-retail segment due to the growing popularity and unsaturated markets.

The Indian Ed-Tech unicorn, Byju’s, has been on an acquisition streak since the past few years. It expanded into the computer coding segment with its acquisition of WhiteHat Jr. for $300 Million in 2020, and is in talks to acquire the Indian test-prep Aakash Educational Services for $1 Billion. It is also currently in talks to acquire its rival ed-tech company, Toppr, for a price of $150 Million. With all these acquisitions, Byju’s is looking forward to cementing its position in the Indian Ed-tech market as a dominant player.

Byju Raveendran, Founder – Byju’s

On 17th February, the Tata Group was said to be in the final stage of acquisition of a 68% majority stake in Supermarket Grocery Supplies, the parent of Online grocery unicorn BigBasket. With a bunch of conglomerates like Amazon, Reliance and Walmart looking to enter into the Indian online-grocery segment, which remains unsaturated as of date, the Tatas are looking forward to acquire BigBasket, which has already created a significant presence in the online grocery market, instead of building their own brand.

The benefits of an M&A strategy are highlighted as under:

To boost the scale of operations – With an M&A transaction, the company has instant access to greater capital and resources, and has to incur lesser costs due to higher volumes.
Growth of the company – Organic growth of a company is only possible up to a limited extend, post which diversification in form of acquisitions is favourable for expanding the client base.
Increased market share – The market share of the companies is integrated after an M&A. This provides increased revenue flows to the company, and increases the size of the business.
Greater levels of competition – After the conclusion of an M&A transaction, the entity becomes bigger, and can fend off its rivals with greater ease.
Risk mitigation – With different sources of revenue for the company, the risk is diversified and the organization can take bold steps with greater ease.
Speedy growth – An M&A reduces the time required for a company to establish a business by providing a faster route in comparison to organic growth.

The disadvantages which a firm might face due to an M&A are:

Improper communication – The cultures of the two companies merging together might not complement each other positively, which will lead to a communication gap and will affect the performance of employees.
Loss of employment – In case the acquiring company is looking forward to turn the loss-making company profitable, it might resort to lay-offs of the underperforming assets. Experienced employees, which might have been beneficial to the acquiring company, can also get laid off at times.
Underperformance – The merger or acquisition of a company may not be as beneficial as planned, and it might result in underperformance and losses for the company.

Although not impossible, only a handful of firms reach the top of the chain without going forward with M&A transactions. It is imperative for companies to conduct M&As as the possibility of achieving feats from the very beginning and establishing a brand from scratch in various fields is bleak, considering the competitive environment in the modern world. There are ups and downs to Mergers and Acquisitions, but at the end of the day, the firm that drives growth is the firm that survives.

That’s all for this week! We hope you liked it and would love to know your thoughts in the comment section. This article is written and curated by Mudit Somani.