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Reasons for Mergers and Acquisitions

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

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Corporate acquisitions

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

M. Bradley et al (1988) in their paper " Synergistic Gains from Corporate Acquisitions and Their Division Between the Stockholders of target and Acquiring Firms" have shown that a successful tender offer increases the combined value of the target and acquiring firms by an average of 7.4%. They have also shown that competition among bidding firms increases the returns to targets and decreases the returns to acquirers. However, this competition is not a zero sum game. Total synergistic gains are larger in multiple-bidder acquisition. Thus, the targets of multiple-bidder contests realize greater gains not only at the expense of the shareholders of the acquiring company but also from the greater synergistic gains that accompany these transactions. Earlier the same authors in 1982, based on dollar returns on a sample of 162 successful offers found that the combined dollar increase in value of bidder plus target was $ 17 million. Maltesta in 1983 had also provided evidence of increased combined market value. However M. Bradley et al (1988) do find that competition reduces the average gains to the acquirers to zero.

The other view is taken by the Richard Rolls paper " The Hubris Hypothesis of Corporate Takeovers". As per this paper the gains to the target firms are offset by the losses to the acquiring firms. In fact there may be overall losses to the extent of transaction costs. ...

Solution Summary

The solutions explains why corporation enter into M&A activity inspite of many of these acquisitions result into losses to the shareholders of the acquiring companies. It talks about role of Agency, hubris and free cash flows in explaining the existence of M&A markets. M. Bradley et al (1988) and Richard Rolls are major references used to argue the reason for M&A activity.

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