I have referred to mergers
and acquisitions a number of times during my blogposts. My interest in this
business activity is that they appear to be able to create or destroy shareholder
wealth quicker than any other business activity. To further reflect on my
learning of the impacts of international mergers, I have decided to assess the recent
deal established to merge food giants Kraft and Heinz.
The Deal
3G Capital and Berkshire
Hathaway have co-operated to create a deal to merge the two companies and
create a combined company that will become the 5th largest food
company in the world. But why?
Firstly, I have identified
the merger as an example of a horizontal merger of two companies within similar
business activity, rather than a vertical or conglomerate merger. The deal,
like other horizontal mergers, is expected to create a number of synergies that
create value (Sudarsanam, 2003). The increase in volume will lead to economies
of scale increasing, reducing costs. This will allow the company to be more
competitive on price and potentially increase market share. The deal is
expected to create $1.5 billion in annual cost savings by 2017 (Armstong and
Roland, 2015). The combined company will also be able to integrate their
networks to drive growth of their brands in different markets. Cost savings are
also likely to be made by the means of reduced headcount and the closure of
less efficient manufacturing facilities.
The Price
The merger links to a number
of the concepts that I have been taught on the FN0363 module, such as: capital
structure and dividend policy.
The proposed deal will see
the shareholders of Heinz hold a 51% stake in the combined company, with Kraft
holding the remaining shares. Kraft shareholders received a one of dividend of
$16.50 (costing $10 bn in total), as well as a share in the new combined
entity. This has been praised by investors. With Kraft experiencing poor growth
in its developed North America market, they are receiving a premium and a new
share that holds the potential of a lot more value. The deal was unanimously
approved by both boards of directors and the news was warmly welcomed by
investors who improved Kraft’s share price by 35 pc after the announcement.
This clearly indicates an intention to enhance the wealth of shareholders, and
the stock market agrees. But are potential synergies the only factor that need
considering as to whether a merger or acquisition is in the interests of
shareholder wealth?
The impacts on capital
structure also feature in the success of the merger. The deal in total will
cost $45 billion and will be finance by equity. The reason for doing so has
been outlined by Warren Buffett publicly. By funding the deal using equity
rather than debt, the combined entity will have a stronger credit rating that
will allow them greater access to debt markets. Heinz is highly geared in
comparison to the less geared Kraft. By resisting using an increase in leverage
to finance the deal, the combined entity will be able to refinance the debt of
Heinz to a lower-yielding investment grade debt. This decision will lower the
cost of capital of the combined entity (Myers, 1984). Lowering the cost of
capital will further contribute to shareholder wealth maximisation. This will
increase the scope of investments that can be authorised which have a positive
NPV of future cash flows (Rappaport, 2006).
There are many articles that
have studied the effect on shareholder wealth that mergers and acquisitions
have. Many have found that this activity can actually be wealth destruction;
however, I feel that each case is very unique and dependent on a complex link
of many financial concepts and managerial motivations. I look forward to
studying the topic further in the academic essay section of the assignment.
References:
Armstrong, A. & Roland,
D. (2015). Heinz to merge with Kraft to
create US food giant. Retrieved 23rd April 2015 from http://www.telegraph.co.uk/finance/newsbysector/retailandconsumer/11493874/Heinz-owners-acquire-Kraft-to-create-US-food-giant.html
Myers, S. C. (1984). The
capital structure puzzle. The journal of finance, 39(3), 574-592.
Retrieved 25th April 2015 from Wiley Online Library http://onlinelibrary.wiley.com/doi/10.1111/j.1540-6261.1984.tb03646.x/full
Rappaport, A. (2006) Ten
Ways to Create Shareholder Value, Harvard Business Review, 84 (9), pp. 66-77.
Retrieved 29th March 2015 from
http://cmsu2.ucmo.edu/public/classes/young/Guidance%20Research/Ten_ways_to_create_sharholders_value-Alfred_Rappaport.pdf
Sudarsanam, S. (2003). Creating Value from Mergers and
Acquisitions: The Challenges. (1st ed.) Harlow, Essex: Pearson
Education
