Chapter 88. Mergers and Demergers

PASCAL QUIRY

Professor of Corporate Finance, HEC Paris

MAURIZIO DALLOCCHIO

Lehman Brothers Professor of Corporate Finance, Bocconi University

YANN LE FUR

Professor of Corporate Finance, HEC Paris

ANTONIO SALVI, PhD

Professor of Corporate Finance, EM Lyon and Bocconi University

Abstract: Mergers and acquisitions (that is, business combinations) can take many forms. The most important distinction among them is the method of payment: (1) cash or cash and shares or (2) 100% in shares. All-share deals, in turn, can take several forms: legal merger, contribution of shares, and asset contribution. The economics of the business combination are independent of the financial arrangements. When the deal is negotiated, the companies are valued and the relative value ratio and exchange ratio are set. The relative value ratio determines the position of each group of shareholders in the newly merged group. The higher a company's price/earnings ratio (P/E) multiple is, the more tempted it will be to carry out acquisitions by issuing shares, because its earnings per share will automatically increase. The increase in earnings per share is a mathematical result deriving from the difference between the P/E multiples of the acquirer and the acquired. With a demerger a diversified group decides to separate several business divisions into distinct companies and to distribute the shares of the new companies to shareholders in return for shares of the parent group. The value created ...

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