The Real Reason Why Corporate Mergers Fail
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Corporate acquisitions fail for one simple reason: the buyer pays too much.
An old Wall Street adage comes to mind: Price is what you pay, value is what you get. It all starts with a control premium. When we purchase shares of a stock, we pay a price that is within pennies of the last trade. When a company is acquired, the purchase price is negotiated during long dinners at fine restaurants and comes with a control premium that is higher than the latest stock quotation.
How much above? Acquisitions are a zero-sum game. Both buyer and seller need to feel that they are getting a good deal. The seller has to convince both directors and shareholders that they are selling at a high (unfairly good) price. The buyer, meanwhile, must convince those same constituents that they are getting a bargain. Remember, both are talking about the same asset.
This is where a magic word – which must have been invented by Wall Street research labs – comes into play: “synergy.” The only way this acquisitions dance can work is if the buyer convinces his constituents that, by combining two companies, they’ll be able to create additional revenues otherwise not available to them, and/or they’ll be able to eliminate redundant costs. Thus, the sum of synergies will turn the purchase price into a bargain.