Every now and then there is a headline in newspapers “XYZ acquired some percentage of ABC company” or “XYZ company to get merged into ABC company”. The question is why do companies take such a step and how it can impact the consumers. To start with, let us first understand the difference between acquisition and merger.
Mergers and acquisitions are two forms of corporate restructuring. Acquisitions occur when one company buys enough equity in another to become its owner, usually 50% to gain control of that company. A merger occurs when two separate entities combine their forces to create a new entity. Some common types of mergers are conglomerate merger, horizontal merger, market extension merger, vertical merger and product extension merger. The term used for any merger depends on the economic function, purpose of the business transaction and relationship between the merging companies. In a vertical merger, a merger takes place between 2 companies producing different goods which in turn are used to make the same finished product. These companies usually exist in the same supply chain. On the other hand, a horizontal merger takes place between 2 companies which are in the same industry, generally competitors. There is a third type of merger known as conglomerate merger in which firms that are involved in totally unrelated business activities merge. There are two types of conglomerate mergers: pure and mixed. Another type of merger is the Market Extension Mergers
which takes place between two companies that deal in the same products but in separate markets. This helps in increasing the reach of the new company ensuring a larger client base. Lastly, there are product extension mergers which take place between two business organizations that deal in products which are related to each other and operate in the same market. The new company formed to group together their products and get access to a bigger set of consumers and hence earning higher profits.
WHY DO COMPANIES TAKE THIS STEP?
Mergers and acquisitions take place for many strategic business reasons, but the mostly the reasons for any business deal are mostly economic at their root. A business would acquire or merge with another business for multiple reasons. Synergies: When the combined value of 2 companies is more than one individual company, we call it “synergies”. It generally happens because of reduced cost due to efficiency in operations or an increased revenue because of better asset productivity.
Cost cutting: This is a cause as well as a result of merger/acquisition. To achieve reduced costs via economies of scale, companies decide to merge or acquire. On the other hand, when companies merge, they have the opportunity to reduce their costs by combining locations which ultimately helps in maximising profits. In acquisition, by buying out one of its suppliers or distributors, also known as a vertical merger, helps a company to eliminate an entire tier of costs. It saves them the margin which the supplier had for his own profits. Growth: A firm can grow by expanding internal operations or by merging with a similar company (horizontal merger). It helps in reducing competition due to fewer players and hence gain a larger market share. Due to increased production, it also helps the company to achieve economies of scale. Increasing capabilities: Increased capabilities may come from expanded research and development opportunities by combining the expertise of different companies in different fields.
To cite an example of acquisition, in 2018, US retail giant Walmart Inc acquired 77% stake in India’s largest online retailer Flipkart for $16 billion with a vision of acquiring larger market share by expanding its reach through ecommerce by competing with the top leading e commerce entity: Amazon. Flipkart was the first online company which had the option of ‘Cash on Delivery’ which people in India prefer over Digital Mode of Payments especially in the pre-Covid era. Walmart wanted to tap on the existing customers of Flipkart and also enter Indian Market which is going towards digitalisation. The retail experience and expertise in the supply chain of Walmart could have increased the efficiency of Flipkart’s operations. We saw that it’s certainly beneficial for the business to merge or acquire but what about consumers?
How does M/A impact the consumers?
The impact on consumer well-being depends on the type of merger taking place to the size of the companies and also on the competition which exists in the market. Merged companies generally operate efficiently due to economies of scale with low costs of production which can mean a lower price as well which is a good thing for the consumer. But on the other hand, if 2 or more firms merge in a marketplace where the competition is already very low, prices can become higher due to restricted competition and lesser options in the market. A case where firms merge and form a monopoly, firms can potentially charge a very higher price.
A merger can affect the customers of the involved business entities on other levels such as the quality of the product or service, the level of satisfaction received from the company. A merger could enhance the quality of customer services. They can deliver faster than before due to more resources available which were previously less or even absent in some cases.
M/A also has an impact on the employment opportunities. When a new company is formed out of many companies, it might lead to a layoff in some jobs. To cite an example, if any 2 groups of people decide to come together to work on a project, only the best of both get to work in the team. The rest are asked to leave. But a counter argument can be that due the reduced prices of the goods, it helps the consumers to attain a higher real income implying a higher purchasing power to spend on other goods which can create more employment opportunities in the economy. We saw that mergers and acquisitions are generally proved to be beneficial for both consumers and businesses but there is always another side of the coin. Just the way the impact of merger/ acquisition on consumers is conditional on a lot of factors, the case doesn’t differ for the companies which enter in this contract.
Companies merge or acquire when they see some potential in the deal. But to achieve this potential, a lot of vital factors are involved. To list, there can be external factors involved such as the collapse of the economy. A pandemic such as Covid-19 may outbreak which can destroy all the potential. Internal factors like poor communication can also act as a reason behind a merger/ acquisition failing. Financial losses can occur in future if any company overpays the other. At times there is a significant difference between the work culture of the companies which can lead to lower the productivity of employees post merger.
This article is written by Manvi for The Connectere.