Acquisition: Meaning, Types, and Examples

What Is an Acquisition?

An acquisition is a transaction in which one company purchases most or all of another company’s shares to gain control of that company.

Acquisitions are common in business and may occur with or without the target company’s approval. There’s often a no-shop clause during the process of approval.

Most people commonly hear about the acquisitions of large well-known companies, but mergers and acquisitions (M&A) occur more regularly between small- to medium-sized firms than between large companies.

Understanding Acquisitions

An acquisition is a financial transaction that occurs when one business acquires the majority or all of its target’s shares. The goal of an acquisition is to gain control of the target’s operations, including its assets, production facilities, resources, market share, customer base, and other elements.

Companies acquire other businesses for various reasons. They might seek economies of scale, diversification, greater market share, increased synergy, cost reductions, or new niche offerings. They might simply want to cut out the competition.

Acquisitions are usually friendly endeavors. They occur when the target firm agrees to be acquired. Its board of directors approves of the deal. Friendly acquisitions often work toward the mutual benefit of both the acquiring and target companies.

Both companies develop strategies to ensure that the acquiring company purchases the appropriate assets, and they review the financial statements and other valuations for any obligations that may come with the assets. The purchase proceeds when both parties agree to the terms and meet any legal stipulations.

Special Considerations

A company must evaluate whether its target company is a good candidate. Acquirers may have to consider some key steps before pondering whether they should go through with a deal:

1. Is the price right? The metrics that investors use to value an acquisition candidate vary by industry. Acquisitions can fail because the asking price for the target company exceeds these metrics.
2. Examine the debt load. A target company with an unusually high level of liabilities should be viewed as a warning of potential problems ahead. The target company might require the directors of the buying company to sign a whitewash resolution confirming the firm’s solvency.
3. Undue litigation. Lawsuits are common in business, but a good acquisition candidate isn’t dealing with a level of litigation that exceeds what’s reasonable and normal for its size and industry.
4. Scrutinize the financials. A good acquisition target will have clear, well-organized financial statements. This allows the acquirer to smoothly exercise due diligence. Complete and transparent financials also help to prevent unwanted surprises after the acquisition is complete.
   

Reasons for Acquisitions

Entering a New or Foreign Market

Buying an existing company in another country could be the easiest way to enter a foreign market if a company wants to expand its operations to that country or a totally new market.

The purchased business will already have its own personnel, a brand name, and other intangible assets. This could help to ensure that the acquiring company will start off in a new market with a solid base.

Growth Strategy

Perhaps a company met with physical or logistical constraints or depleted its resources. It’s often sounder to acquire another firm than to expand its own when a company is encumbered in this way.

Such a company might look for promising young companies to acquire and incorporate into its revenue stream as a new way to profit.

Reducing Excess Capacity and Decreasing Competition

Companies may start making acquisitions to reduce excess capacity, eliminate the competition, and focus on the most productive providers when there’s too much competition or supply.

Federal watchdogs often keep an eye on deals that may affect the market. Acquisitions between two similar companies may harm consumers, including higher prices and lower-quality goods and services.

Gaining New Technology

Sometimes it can be more cost-efficient for a company to purchase another company that has already implemented a new technology successfully than to spend the time and money to develop the new technology itself.

Acquisition vs. Takeover vs. Merger

Acquisition and takeover mean almost the same thing, but they have different nuances on Wall Street.

An acquisition generally describes a primarily amicable transaction in which both firms cooperate. A takeover suggests that the target company resists or strongly opposes the purchase. The term “merger” is used when the purchasing and target companies mutually combine to form a completely new entity.

But the exact use of these terms tends to overlap in practice because each acquisition, takeover, and merger is a unique case with its own peculiarities and reasons for undertaking the transaction.

Takeover

Unfriendly acquisitions are commonly known as hostile takeovers. They occur when the target company doesn’t consent to the acquisition.

Hostile acquisitions don’t have the same agreement from the target firm, so the acquiring firm must actively purchase large stakes of the target company to gain a controlling interest. This forces the acquisition.

It implies that the firms aren’t equal in one or more significant ways even if a takeover isn’t exactly hostile.

Merger

A merger is the mutual fusion of two companies into one new legal entity, so it’s a more-than-friendly acquisition. This deal generally occurs between roughly equal companies in terms of their basic characteristics, including their size, customer base, and scale of operations.

The merging companies strongly believe that their combined entity would be more valuable to all parties, especially shareholders, than either one could be alone.

Example of Acquisitions

AOL was the most publicized online service of its time, extolled as “the company that brought the internet to America.” Founded in 1985, it grew to become the United States’ largest internet provider by 2000. Meanwhile, the legendary media conglomerate Time Warner was being labeled an old media company, given its range of tangible businesses like publishing and television and an enviable income statement.

AOL Buys Time Warner

The young upstart AOL purchased the venerable giant Time Warner for $165 billion in 2000 in a masterful display of overweening confidence. The deal dwarfed all records and became the biggest merger in history.

The vision was that the new entity, AOL Time Warner, would become a dominant force in the news, publishing, music, entertainment, cable, and internet industries. AOL became the largest technology company in America after the merger.

But the joint phase lasted less than a decade. The expected successes of the merger failed to materialize as AOL lost value and the dotcom bubble burst. AOL and Time Warner dissolved their union.

• AOL Time Warner dissolved in a spinoff deal in 2009.
• Time Warner remained an entirely independent company from 2009 to 2016.
• Verizon acquired AOL for $4.4 billion in 2015.

AT&T’s Deal to Buy Time Warner

AT&T and Time Warner announced that AT&T would buy Time Warner for $85.4 billion in October 2016, morphing AT&T into a media heavy-hitter. AT&T completed the acquisition in June 2018 after a protracted court battle.

The AT&T-Time Warner acquisition deal of 2018 was as historically significant as the AOL-Time Warner deal of 2000. The U.S. Department of Justice sought to end the deal, saying the acquisition would hurt competition, leading consumers to face higher fees and bills.

The government lost its appeal in court and dropped the lawsuit. AT&T decided to spin off its media assets, including Time Warner, despite this.

The Bottom Line

Financial transactions can range from simple buy-and-sell deals to acquisitions that take place when one company acquires most or all of another entity’s shares to take over the target’s operations. Other reasons for acquisitions can include entering a new market, gaining market share, or even cutting out the competition. Large-scale acquisitions make big news, but these deals are fairly common in the small-sized to midsized business market.