Mergers & Acquisitions

Mergers and acquisitions, or commonly referred to as M&A, is the process in which a company will; transfer, sell, or combine operating units or entire company to another company. Specifically, a merger is when two companies combine together to make one company. An acquisition is when one company takes ownership of another company and all of their assets, in effect creating a larger company. In your merger you have decided to keep your company name, and adopt their product lines. An example of an acquisition would be during the financial crisis of 2009 when larger banks were buying smaller banks. A merger is the preferred term to use, as an acquisition in most cases sounds hostile and has a negative connotation.

Tax Implications

In most cases an M&A is a tax free transaction. For the purposes of taxes an M&A is usually considered a reorganization. In a reorganization the purchasing company uses its stock as majority of its consideration paid to the seller instead of cash or debt. However, the IRS has outlined four conditions that must be met to qualify a merger for tax free treatment.

• Continuity of ownership interest—At least 50% of the consideration paid must be stock from the acquiring company.
• Continuity of business enterprise—The acquiring company must continue the business of the acquired company, or they must use a significant portion of the acquiring company’s assets in an existing business for no more than 2 years.
• Valid business purpose—Beyond tax avoidance, the transaction must serve a valid business purpose.
• Step-transaction doctrine—This is another aspect to prevent the paying of the tax. This condition states that the transaction cannot be part of a larger plan, which in the end would result in a taxable acquisition.

There are also varying tax implications for the stakeholders of a M&A. The tax implications are different for each stakeholder and the law requires different things from each of the stakeholders. These affects are:

Acquiring Entity—The acquiring entity assumes a carryover basis in the net assets and the stock received from the target shareholders equal to the target shareholders basis. There is no gain or loss on the exchange of either stock. Finally, the tax attributes of the target company survive to the acquiring company.

Target Entity—The only effect on the target entity is that they do not recognize a taxable gain on the transfer of assets.

Target Shareholders—The shareholders of the target company assume a tax basis in the acquirer stock. They receive a consideration equal the old tax basis on the old stock. There is no gain or loss on the exchange of the target stock for the acquired stock. Tax on the acquirer stock is not paid until the shareholder sells that stock.

Market Effect

Competition exists in the business world, and M&A’s are a way to get rid of competition or to make a sector of industry more competitive. While competition is good in business, there are some industries that have hundreds of companies that produce the same thing. Larger companies will merge or acquire other companies in order to limit competition or to increase revenue by acquiring their customer base. The merger that you are doing is a smart move because you are acquiring a company that could have the potential for serious competition if left unchecked.

Implications of a Merger

A management buyout is a unique type of acquisition. A management buyout happens when the management team of a company, or a division of a company, are offered the option to own the company. For example, a large company has a division that really is not part of what it mainly does. After consideration, it decides to offer the management of that division a buyout where the division splits off into its own company, and the management becomes the new owners. This can also happen if a company owns another company, and no longer wants to own it.

In your merger, there is really no need for the acquiring company’s clothing line, the real reason for the merger is to take possession of their new surf board design. To make the merger more simple you decide to offer a management buyout of the clothing department of the acquiring company.

A divestment or divestiture is something that a company does to grow financially. This generally happens when a company sells off one of its business units in order to focus its attention and resources on a market that it is more profitable in. In some cases a corporate divestiture is mandated by the government. An example of this is when the U.S. government broke Bell System into AT&T, and into smaller Bell companies.