Feeds

Why mergers LOSE money, but are GOOD for the economy

Takeovers never deliver... and disties are no different

Security for virtualized datacentres

So the distribution sector has had yet another round of consolidation. Mergers, takeovers - these are the things that make an M&A banker's heart* thumpety-thump with joy.

The big question, though, is whether this actually does any good for the shareholders of the various companies - you know, the people who actually own them? The usual answer from the economist is, 'No, not really, at least not very often'.

It doesn't really matter, for our purposes here, who has been buying whom or why. In fact, given the reasoning I'm going to use, it's probably better that we don't run down the list. It's also true that the analysis isn't specific to the distribution channel: as a general rule economists are convinced that the average merger or takeover reduces value, not adds to it. And the people who usually lose the most are the shareholders of the acquiring company.

On the other side the beancounters are also convinced that such mergers and takeovers are, in one sense at least, absolutely vital for the continuing functioning of the economy. So we've got a bit of a bind here: something that's usually value-reducing but also something vital.

The path through this contrariness comes in four parts.

1: Sometimes, it just makes sense

The first is the traditional justification for a takeover. We see something in that other company over there that no one else does. We can get that hidden gem very cheap, before anyone else realises.

This does actually happen at times. But it's rare: at least economists think it's rare. For the general assumption is that no one's all that clever and everyone else is all that stupid. Things tend to get valued at around and about what everyone thinks they're worth, and that tends to be close to the realistic level of profits that can be made out of it in the future: or at least closely related to it.

There are exceptions: say your new product needs vast quantities of unobtanium and you're able to buy the world's unobtanium mine before anyone knows that. OK, that would work. But that isn't where we think that most takeovers germinate. That's rather more something to do with the principal/agent problem.

2: Extra cash for CEO, or profit for the shareholders?

This is one of the thorny problems in economics that doesn't really have a solution. There's the people that actually own something, the principals (it has wider application than this but let's stay simple), and then there are the agents they hire to run it for them - for example, the shareholders and the management. And the interests of these two groups diverge to some extent. Managers would like huge salaries and job security, while shareholders would like a rise in profits. These aren't the same thing - for example, it's entirely possible for managers to reduce profits by awarding themselves huge pay rises. This is just an example but the basic problem, the divergence of interests, can be acute.

One of the ways of getting a huge salary is to be running a huge firm. Everyone knows that the top banana at a firm of 100,000 people deserves to go first class through life with millions in winga each year. But the bloke running a profitable company of only 5,000 people doesn't get to turn left on entering the plane. Nor is he feted nationally or fawned over by reporters. Which is one of the things that economists think drives merger mania.

It might be a conscious effort (if I buy lots of companies then I'll earn the dosh) or it might be an unconscious willingness to overlook the risks (it really is a good deal, honest) but many economists postulate that at least some of the temptation for management to expand by acquisition is this very status and income motivation. The problem is, as we've seen above, that the same economists are also convinced that most such acquisitions do not benefit the shareholders of the acquiring company. Far from it in fact. So much so that the standard action on hearing of a stock market takeover is to buy the shares of the company to be bought and sell those of that which is buying it. The former will rise, the latter fall - purely as a result of the offer.

It's that principal/agent problem. Or here, what makes the management rich may well not make the shareholders rich but it's the agents who have most of the say over what happens.

The third line of reasoning for an acquisition is an adaptation of this aforementioned problem. There really are times when it's better for the shareholders that a company just dies.

Not immediately of course: but over time.

Providing a secure and efficient Helpdesk

More from The Register

next story
Facebook pays INFINITELY MORE UK corp tax than in 2012
Thanks for the £3k, Zuck. Doh! you're IN CREDIT. Guess not
Facebook, Apple: LADIES! Why not FREEZE your EGGS? It's on the company!
No biological clockwatching when you work in Silicon Valley
Happiness economics is bollocks. Oh, UK.gov just adopted it? Er ...
Opportunity doesn't knock; it costs us instead
Sysadmin with EBOLA? Gartner's issued advice to debug your biz
Start hoarding cleaning supplies, analyst firm says, and assume your team will scatter
YARR! Pirates walk the plank: DMCA magnets sink in Google results
Spaffing copyrighted stuff over the web? No search ranking for you
Don't bother telling people if you lose their data, say Euro bods
You read that right – with the proviso that it's encrypted
Apple SILENCES Bose, YANKS headphones from stores
The, er, Beats go on after noise-cancelling spat
prev story

Whitepapers

Cloud and hybrid-cloud data protection for VMware
Learn how quick and easy it is to configure backups and perform restores for VMware environments.
A strategic approach to identity relationship management
ForgeRock commissioned Forrester to evaluate companies’ IAM practices and requirements when it comes to customer-facing scenarios versus employee-facing ones.
High Performance for All
While HPC is not new, it has traditionally been seen as a specialist area – is it now geared up to meet more mainstream requirements?
Three 1TB solid state scorchers up for grabs
Big SSDs can be expensive but think big and think free because you could be the lucky winner of one of three 1TB Samsung SSD 840 EVO drives that we’re giving away worth over £300 apiece.
Security for virtualized datacentres
Legacy security solutions are inefficient due to the architectural differences between physical and virtual environments.