Merger and Acquisitions Explained: Types & Differences

Mergers and acquisitions (M&A) are operations to combine or consolidate companies. These activities are often used as strategies to increase market share, offer more products or services, or even eliminate competition.

In this article, you’ll find the differences between mergers and acquisitions, types, and examples.

Differences between mergers & acquisitions

A merger is when two companies combine and create a new legal entity. The new entity's name can be a combination of the previous names, a completely new one, or even just one of the originals.

Acquisitions happen when a company buys another company.

Before a merger and acquisition, the businesses are valued so the buyer and the target company can agree on how much to pay for the assets. The transaction can be covered through debt, cash, stock, or other combined sources.

Famous mergers & acquisitions

To further explain the differences between mergers and acquisitions, here are a few examples from the past decades.

Example of an acquisition: Facebook buys Instagram

Facebook bought Instagram in 2012 for US $1 billion. At the time, it was the largest purchase that the social network company made since other previous acquisitions had been valued at less than $100 million. Instagram retained its identity while Facebook sought to leverage synergies and expand its market presence. The acquisition was a strategic move to increase their presence in mobile.

Example of a merger: Exxon and Mobil

In 1999, the top two American oil producers, Exxon and Mobil, completed their merger. There was a significant restructuring due to the creation of the combined company. The transaction was valued at US $73.5 billion.

Types of M&As

1. Mergers

During a merger, both businesses create a new combined company. By doing so, each venture brings its expertise and resources to form a stronger competitor.

2. Acquisitions

An acquisition happens when the buyer company owns the majority stake in the acquired business. These business deals are a typical move for companies that wish to enter new markets or industries. By doing so, the buyer can offer more services to an existing customer base.

Additionally, acquisitions can lead to revenue synergies, where combined companies generate higher revenues through strategies like cross-selling, enhancing market share, or raising prices.

3. Consolidations into a combined company

Consolidation is the process of combining two or more businesses into a single, larger entity. This can be achieved through various mergers, acquisitions, or asset purchases. Some goals of consolidations include increasing market share, eliminating competitors, and improving efficiency.

4. Tender offers

This type of M&A occurs when an acquiring company publicly offers to buy shares directly from the shareholders of a target company at a premium over the market price, making it more attractive for the sellers.

Here, you can find hostile takeovers (without the target company's approval) and friendly acquisitions, meaning the company approves the purchase.

5. Acquisition of assets

Acquisition of assets happens when a company purchases the assets from another business. The company that owns the acquired assets must seek approval from its shareholders before the transaction occurs. This business deal is expected in bankruptcy proceedings.

One or more companies can buy the assets with this deal.

6. Management-led buyout (MBO)

An MBO happens when a company's existing management or executives buy a controlling stake in the business, often making it private. A common practice in a management-led buyout is to fund the transaction with debt by partnering with a financier or former corporate officers.

Also, the majority of the shareholders must approve the deal.

Mergers structure

Mergers can be classified by structure. This will depend on the relationship between the companies involved in the transaction.

1. Horizontal merger

It happens when two businesses are direct competitors and share the same products, services, and markets. An example of this business deal is the merger between the tech companies HP and Compaq in 2001.

2. Vertical merger

A vertical merger occurs when companies operating at different stages within the same industry's supply chain combine. This can involve a company merging with a supplier, distributor, or customer.

The merger between eBay and PayPal was once considered a prominent example of a vertical merger, but they are now separate entities. eBay spun off PayPal in 2015.

3. Congeneric mergers

A congeneric merger involves companies in the same industry that offer different products. The goal is often to achieve synergies by leveraging shared resources, technologies, or distribution channels.

The similarities shared between the two companies help develop an easier integration. The purpose behind a congeneric merger is to gain access to a product or service that is already established and known among customers and to have more access to the market share.

The 1998 deal between Citicorp and Traveler's Group is an excellent example of a congeneric merger. The two companies belonged to the financial industry, but they offered different services. Through this operation, the acquiring firm could access a broader audience.

4. Market-extension mergers to increase market share

When two companies selling the same product or service in different markets merge, it's known as a market-extension merger. With this strategic business decision, the company can access a broader market and increase its presence.

For example, Anheuser-Busch InBev acquired Grupo Modelo in 2013. The deal brought together two major beer producers. AB InBev had a strong presence in the United States and Grupo Modelo dominated the Mexican market. The merger allowed AB InBev to expand its market share in Mexico and other Latin American countries, while Grupo Modelo gained access to AB InBev's global distribution network.

5. Conglomeration

A conglomeration occurs when companies with no common business grounds merge. It can involve several organizations. The purpose of this structure is to reduce the business risk that comes from operating in one sole industry.

Because of this, they acquire ventures from across different sectors. However, some conglomerates (such as those in the mining industry) stay in their sector.

Amazon, Procter & Gamble, Unilever, Meta, and Johnson & Johnson are a few examples of conglomerations, to name a few.

Mergers valuation methods

Business valuation is one of the main steps to a merger and acquisition. The acquired company must set a fair price for the assets the acquiring firm is willing to cover.

Here is a list of valuation methods used in mergers and acquisitions.

1. Price-to-earnings ratio

With the price-to-earnings ratio, the acquiring company will make an offer based on multiple earnings from the target company. A higher P/E ratio generally indicates that the market expects the company to grow its earnings in the future, and it can be compared to industry averages to gauge relative value.

This valuation method is commonly used in companies from the same industry.

2. Enterprise value-to-sales ratio

The enterprise-value-to-sales ratio (EV/Sales) considers the company's total value (equity and debt) relative to its sales, providing a broader picture of its valuation compared to P/E ratio. A lower EV/Sales ratio can suggest a company is undervalued relative to its peers.

3. Discounted cash flow

This valuation method determines a business's value by estimating its future cash flows. It's heavily reliant on accurate projections and the discount rate (WACC) used.

Discounted cash flow (DCF) is one of the most used valuation methods for mergers and acquisitions.

4. Replacement cost

This valuation method estimates the cost of replacing a company's assets with similar assets at current market prices. It considers the value of tangible assets like buildings, equipment, and inventory.

Replacement cost is often used as a floor valuation, particularly for asset-intensive industries like manufacturing or natural resources, where the value of physical assets is a significant component of the overall business value. However, it may not fully capture the value of intangible assets like brand reputation, intellectual property, or customer relationships, which can be crucial for service-based companies.

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