Mergers vs. Takeovers: What’s the Difference?

Merger vs. Takeover: An Overview

Mergers and takeovers are two types of business transactions. They involve consolidating two different companies into a single entity. Both of these deals come with operational advantages, including an increase in market share, improved efficiency, better company performance, increased shareholder value, and the potential for an increase in profitability.

While mergers and takeovers may seem similar, there are inherent distinctions between them. For instance, mergers tend to be friendly deals between two companies while takeovers may be unwelcome by the target firm. Their motivations may also be different. We focus on the differences between these two types of transactions below.

Mergers

A merger occurs when two companies are combined to form a single unit. This business transaction is normally a friendly deal that takes place between two like entities, which means they are similar in size and share product lines, revenue, and markets.

Companies merge for one or more reasons. Mergers may occur out of convenience, for financial reasons, or out of necessity. Combining two similar companies may lead to increased efficiency, cost-cutting, a boost in profits, and exposure to new products and markets, It also tends to boost shareholder value.

Both companies cease to operate independently after the merger and assume operations as a single unit. They may operate under one of the company’s names or combine both names into one. Others choose to adopt a new name altogether. There may also be an impact on their employee pools (including their leadership teams) and changes to processes and management styles.

If the companies are public, their shares are also affected. Some mergers see one company’s shares converted to the other’s. The newly formed company then trades under these shares. In other cases, both companies may dissolve their shares. Trading begins under new issues by the new company.

Types of Mergers

Mergers come in many shapes and sizes. The following are the most common types of mergers that occur between companies:

• Horizontal Merger: Companies that operate in the same industry can undergo a horizontal merger. This allows them to reduce costs and improve efficiencies.
• Vertical Merger: This kind of merger involves companies that have different production or supply chain functions for the same product or service.
• Reverse Merger: Private companies that want to go public without incurring the cost of an initial public offering (IPO) can go through a reverse merger. This involves buying a public company and maintaining that company’s stock listing.
• Conglomerate: This type of merger occurs between two companies that have nothing to do with one another. More specifically, companies involved in a conglomerate merger have different business activities.

Takeovers

A takeover is a type of acquisition that occurs when one organization purchases another—usually when a large company buys a smaller one. The purchasing company is called the acquirer while the one being purchased is called the target.

Takeovers tend to be an acquisition of opportunity, where the acquirer sees the target as a viable way to boost its position in the market. Like mergers, takeovers may be motivated by one or more factors, including:

• Eliminating the competition and gaining market share
• Reaching new markets
• Accessing new products and services
• Boosting profitability

The target may also be well-priced and, given the timing, the acquirer may move in to execute the takeover.

Takeovers can be friendly, which means they are a mutually beneficial transaction. The acquirer may choose to take a controlling interest in the target firm by purchasing more than 50% of its outstanding shares. In other cases, it may buy the company and operate it as a subsidiary, or purchase the company and merge it into its operations. Or the target’s owner/leadership may be looking for a buyer and give up control.

Some targets may not want to be acquired, which can lead to a hostile takeover. The larger company buys its target despite resistance from the smaller company’s management. In this type of acquisition, the purchaser usually offers a cash price per share to the target firm’s shareholders, or the acquiring firm’s shares to the shareholders of the target firm. Either way, the purchasing company finances the purchase, buying it outright for its shareholders.

Takeover Defense Strategies

Target companies can employ one or more defensive strategies to avoid being taken over. They include:

• Covenants: Including covenants in their bond issues can force early debt repayment at premium prices if the firm is taken over.
• Poison Pill: The target dilutes its shares. The acquirer isn’t able to get a controlling share in the target without incurring a huge expense.
• White Knight: The target seeks out a friendlier company to take it over. This white knight generally pays a premium above the original acquirer’s price. Or it may agree to reorganize the target company when the deal is completed.
• Golden Parachute: The target has a provision in place to provide members of its management team with significant financial benefits if they are let go after the company is taken over.

Special Considerations

Both mergers and takeovers can be funded through the purchase and exchange of stock. This is the most common form of financing. In other situations, cash can be used, or a mix of both cash and equity. In certain instances, debt can be used, which is known as a leveraged buyout, which is most common in a takeover.

Shareholders with common stock have voting rights. This means they can vote on whether a merger or takeover can take place. In the case of a hostile takeover, when a shareholder’s voting rights do not have enough sway, some voting rights contain language that may inadvertently prevent a merger or takeover, such as a poison pill.

Examples of Mergers and Takeovers

Mergers

In 1998, American automaker Chrysler merged with German automaker Daimler Benz to form DaimlerChrysler. This had all the makings of a merger of equals, as the chairmen in both organizations became joint leaders in the new organization. The merger was thought to be quite beneficial to both companies, as it allowed Chrysler to reach more European markets, and Daimler Benz would gain a greater presence in North America.

Energy giant ExxonMobil (XOM) entered into a merger agreement with Pioneer Natural Resources (PXD) in October 2023. The all-stock deal was valued at $59.5 billion and expands ExxonMobil’s upstream portfolio, promising shareholders double-digit returns. The merger is expected to be completed in the first six months of 2024.

Takeovers

Walt Disney (DIS) bought Pixar Animation Studios in 2006 in a takeover deal. This financial transaction was friendly rather than hostile. That’s because Pixar’s shareholders all approved of the decision to be acquired. As such, the transaction went through without any resistance from Pixar.

In 2023, Choice Hotels launched a bid to take over rival Wyndham Hotels & Resorts. Choice (CHH) went public with its cash and stock offer to bring Wyndham’s (WH) board to the negotiating table after the target refused to entertain the deal. According to Choice, it owns 1.5 million shares in Wyndham, which said it is reviewing the offer.

The Bottom Line

Mergers and takeovers are a key part of the business world. These business transactions involve the consolidation of two businesses into one. Mergers are usually friendly deals, where both companies are consolidated into one while takeovers occur when one company buys another one. As an investor, you need to know the difference between the two and what happens if you own shares in a company involved in a merger or takeover.