What You Should Know About Company Mergers

What is a company merger?

A company merger occurs when two firms come together to form a new company with one combined stock. Although a merger is typically thought of as an equal split in which each side maintains 50 percent of the new company, that’s not always the case. In some mergers, one of the original entities gets a larger percentage of ownership of the new company. 

Why do companies merge?

Mergers are a great way for two companies with unique experience and expertise to come together and form one business that is more profitable than if the two entities were on their own.

There are several reasons why two companies might want to merge. Sometimes, it is out of convenience and, other times, it is out of necessity. Regardless of the specifics, the goal of a merger is to take advantage of opportunities in the marketplace that benefit both businesses.

“The companies may be looking to take advantage of financial synergies, opportunities for efficiencies, new market dynamics or a chance at product diversification, to name a few things,” James Cassel, chairman and co-founder of Cassel Salpeter & Co., told Business News Daily. “The companies may see opportunities by merging product lines or by cutting redundancies, like having two CFOs [chief financial officers] when one will suffice for both companies if they come together.”

How does a company merger work?

A company merger occurs when two businesses with similar synergies decide that being one company together will yield more profits than being two separate entities. During a merger, the companies involved are likely to undergo quite a bit of restructuring in terms of corporate leadership and operations.

When a company merger happens, the two equal companies can convert their previous stocks into one new, combined company stock. First, they must decide what each company is worth, and then they split the ownership of the new company accordingly. [Related article: Small Business Valuation: How to Determine Your Business’s Worth]

“For example, it may be determined that company A is worth $100 million and company B is worth $200 million, making the combined value of the new company worth $300 million,” said Terry Monroe, founder and president of American Business Brokers & Advisors. “Therefore, the stocks from each of the companies will be surrendered, and new stock will be issued in the name of the new company based on the valuation of $300 million. The stock owners from company A would get one share of stock in the new company, and stock owners from company B would get two shares of stock in the new company.”

Although the creation of a brand-new stock with the new entity is ideal in theory, it is not always what happens. Oftentimes, when two companies merge, one company chooses to buy the other company’s common stock from its shareholders in exchange for its own stock.

What is the difference between a merger and an acquisition?

Mergers and acquisitions are often confused as interchangeable terms, but there are a few differences. Although both involve combining two entities, an acquisition is when one company buys and controls the other while a merger is when two companies come together to form a new entity.

“A lot of the time, no money is involved in a merger, whereas an acquisition is when one company pays to purchase another company, either with money or the issuing of stock or assumption of debt or a combination of all of these methods,” Monroe said. “With an acquisition, the acquiring company will remain in business, and the company that was acquired will no longer be in existence.”

Since an acquisition, or a takeover, involves one company consuming the other, the leadership in both companies often stays the same. Meanwhile, mergers frequently involve the restructuring of corporate leadership, which can cause conflict when both companies have headstrong leaders with different ideas on how to run the new organization.

For example, you will likely have to decide which CEO or president of the two merging companies will run the newly merged company. Although some merging companies attempt to have the CEOs of both companies share leadership through a co-CEO structure, this strategy rarely works out well, Monroe said. This is something business leaders should keep in mind when considering mergers versus acquisitions.

What are the different types of company mergers?

There are five main types of company mergers: conglomerate, horizontal, vertical, market extension and product extension. The merger type is based primarily on the industry and the business relationship between the two merging companies.

Conglomerate merger

A conglomerate merger is the combination of two companies from different industries and unrelated business activities. The benefits of a conglomerate merger include diversifying business operations, cross-selling products and minimizing risk exposure. A well-known example of a conglomerate merger was when The Walt Disney Company merged with the American Broadcasting Company (ABC).

Horizontal merger

A horizontal merger is the combination of two companies from the same industry; these companies can include direct and indirect competitors. The benefits of a horizontal merger include greater buying power, more marketing opportunities, less competition and a larger audience reach. Monroe said this type of merger is common in the restaurant industry, where different brands of restaurants merge to reach a wider customer base and gain greater buying power from the same vendors.

“For example, in 2019, Papa Murphy’s, a company in the pizza business, merged with a company called MTY Food Group ― which owns restaurants, such as TCBY, Cold Stone Creamery and Planet Smoothie ― which would allow the new company to have a centralized marketing and advertising department and franchised sales department,” Monroe said.

Vertical merger

A vertical merger is the combination of two companies that operate in different stages of the same supply chain, producing different goods or services for the same finished product, such as one company selling something to the other company. The benefits of a vertical merger include a more efficient supply chain, lower costs and increased product control. An example of this type of merger is when The Walt Disney Company merged with Pixar Animation Studios for its innovative animations and talented employees.

Market extension merger

A market extension merger, similar to a horizontal merger, is the combination of two companies from the same industry. However, in this merger, the two companies are from separate markets. The primary benefit of this merger is to expand and increase market share. Monroe said this type of merger is commonly seen with banks.

“With the government implementing more regulation and compliance from banks, it sometimes behooves smaller bankers to merge with other banks of similar size to reduce the cost of operations and regulatory compliance and increase their market share, since they all offer essentially the same product,” Monroe said.

Product extension merger

A product extension merger, also known as a congeneric merger, is the combination of two companies that sell similar, but not necessarily competing, products. The benefits of a product extension merger are expanding customer reach and increasing profits. Monroe said this type of merger is common in the software industry, where one company may offer virus protection software and another company may offer financial protection software for your personal financial data.

“The idea of these two companies merging would be a good idea, as both of their products would be applicable to the same customer,” Monroe said. “The product merger can continually be extended with add-on services and products once a customer has been acquired.”

More examples of major mergers

We’ve covered a few examples of mergers, but they only tell part of the story. Some of the largest corporate mergers in history can highlight the scope of these deals and what companies stand to benefit from going through the process. When mergers reach this scale, governments get involved, as the rippling effects of the merger can shake up entire economies.

America Online and Time Warner

This merger happened in 2000 and began the massive consolidation of internet service providers. At the time, America Online was the largest ISP in the business, but cable providers were beginning to realize that internet services were the future. Time Warner was valued at $164 billion and was one of the biggest cable companies in the United States.

This merger put two powerhouses together, and the new company created the roadmap for utilizing cable infrastructure to rapidly and dramatically improve internet access and performance.

Pfizer and Warner-Lambert

This is another major merger that happened in 2000. In this case, both companies existed in the pharmaceutical space. Originally, Warner-Lambert was planning to sell to a different company, American Home Products. That deal collapsed, and Pfizer swooped in to complete a merger of its own.

The merger went through for $90 billion, and the two companies were able to consolidate profits for production and distribution of the cholesterol medication known as Lipitor.

Exxon and Mobil

This merger happened a year earlier than some of the other giants’ mergers ― in 1999. These were already two of the largest oil refinery and distribution companies in the world. Their merger consolidated those resources, and the impact was so great that it changed the price of crude oil forever. That was the motivation for the merger, as it reallocated more than 2,000 gas stations across the U.S. You might recognize the resulting company, ExxonMobil, as the result of this merger.

Disney and Fox

The Disney and Fox merger was announced in 2019 to the tune of $52.4 billion. The price eventually rose to $71.3 billion before the deal was finalized, making it one of the largest mergers in history. It also represented one of the largest industry consolidations ever recorded. Disney and Fox were already two of the three largest media content owners in the world. With this merger, they became a superpower, with ownership of more movie and TV intellectual properties than any other organization in history so far.

What should you consider with mergers and acquisitions?

You might be happy with your current business structure and operations, but you never know when a potentially appealing merger or acquisition opportunity might arise. If one does, ask yourself the following questions:

• Will the shifts in leadership and control be worth the potential benefits?
• Is an acquisition worth it compared to a merger? 
• What is your current situation? If it is fine, you might want to continue as is.

Whatever answers instinctively feel correct to you should lead your future actions. Though history is full of mergers and acquisitions, plenty of successful businesses have been independent from the start.

Max Freedman contributed to this article. Source interviews were conducted for a previous version of this article.