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Unformatted text preview: Chapter 20 Discussion Questions 20-1. Name three industries in which mergers have been prominent. Telecommunications, public utilities, pharmaceuticals, and energy. 20-2. What is the difference between a merger and a consolidation? In a merger two or more companies are combined, but only the identity of the acquiring firm is maintained. In a consolidation, an entirely new entity is formed from the combined companies. 20-3. Why might the portfolio effect of a merger provide a higher valuation for the participating firms? If two firms benefit from opposite phases of the business cycle, their variability in performance may be reduced. Risk-averse investors may then discount the future performance of the merged firms at a lower rate and thus assign a higher valuation than was assigned to the separate firms. 20-4. What is the difference between horizontal integration and vertical integration? How does antitrust policy affect the nature of mergers? Horizontal integration is the acquisition of competitors, and vertical integration is the acquisition of companies that produce goods and services used by the company. Antitrust policy generally precludes the elimination of competition. For this reason, mergers are often with companies in allied but not directly related fields. 20-5. What is synergy? What might cause this result? Is there a tendency for management to over- or underestimate the potential synergistic benefits of a merger? Synergy is said to occur when the whole is greater than the sum of the parts. This 2 + 2 = 5 effect may be the result of eliminating overlapping functions in production and marketing as well as meshing together various engineering capabilities. In terms of planning related to mergers, there is often a tendency to overestimate the possible synergistic benefits that might accrue. S20-1 20-6. If a firm wishes to achieve immediate appreciation in earnings per share as a result of a merger, how can this be best accomplished in terms of exchange variables? What is a possible drawback to this approach in terms of long-range considerations? The firm can achieve this by acquiring a company at a lower P/E ratio than its own. The firm with a lower P/E ratio may also have a lower growth rate. It is possible that the combined growth rate for the surviving firm may be reduced and long-term earnings growth diminished. 20-7. It is possible for the postmerger P/E ratio to move in a direction opposite to that of the immediate postmerger earnings per share. Explain why this could happen. If earnings per share show an immediate appreciation, the acquiring firm may be buying a slower growth firm as reflected in relative P/E ratios. This immediate appreciation in earnings per share could be associated with a lower P/E ratio. The opposite effect could take place when there is an immediate dilution to earning per share. Obviously, a number of other factors will also come into play....
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- Spring '10