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Mergers - Why and at what Cost?

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Many corporate acquisitions result in losses to the acquiring firms' stockholders. Why do firms purchase other corporations? Are they simply paying too much for the acquired corporation? A co-worker asks your opinion.

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This posting discusses in detail the reasoning behind mergers and acquisitions and why the acquiring corporation often ends up paying too much.

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Why do firms purchase other corporations?

Merger Deals can be worth billions of dollars and can dictate the fortunes of the companies involved for years to come. For a CEO, leading an M&A can represent the highlight of a whole career.

The key principle behind buying a company is to create shareholder value over and above that of the sum of the two companies. Strong companies will act to buy other companies to create a more competitive, cost-efficient company. The companies will come together hoping to gain a greater market share or to achieve greater efficiency. Because of these potential benefits, target companies will often agree to be purchased when they know they cannot survive alone. Synergy allows for enhanced cost efficiencies of the new business. Synergy takes the form of revenue enhancement and cost savings.

By merging, the companies hope to benefit from in following ways:

Economies of scale - Mergers translate into improved purchasing power to ...

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