Why Do Companies Merge Or Buy Other Companies?

So why would a company wish to merge or acquire another company?

The answer is usually down to synergies; the other firm may possess a technology which gives them a competitive edge. Developing the same technology in-house may take a very long time therefore it is easier to just buy the firm and you have their technology. When google bought Motorola, they wanted access to their patents more than anything.

The other firm may have an attractive customer base, this could come in many shapes and forms. So they may have access to foreign markets, access to a particular customer segment within the home country. Once acquired one firm can start cross-selling and up-selling products to the other company`s customers. An example is a Bank merging with an insurance company; the bank can now sell its accounts, savings products to the Insurance firm`s customer base and vice versa the insurance firm can sell insurance to the bank`s customers. This pushes their revenue up and generates more income than if the two companies remained individual entities. This is very important; when two firms come together they must generate more revenue, wealth, profits than they would have on their own otherwise what is the purpose of bringing the two together?

When two firms combine, it becomes easier to cut costs. It offers them bargaining power with the suppliers since they are now purchasing larger quantities; economies of scale. They can also reduce other costs such as marketing. When Unilever buys a smaller firm, it goes to the advertising firm and renegotiates the price down to what they are paying.

A large entity means they can now borrow money easily and cheaper. So they can renegotiate their credit facilities (loans) with the bank and reduce the interest paid to the banks.

They can combine departments or share service. Would the firm need two marketing, accounting, HR and IT departments after the merger? No, therefore they will reduce the number of staff within those departments.

However before a firm decides to merge or acquire another firm, it must run a reality check (known as due diligence). This means ensuring that the two firms are compatible and will complement each other. A high number of mergers and acquisitions fail. Why do they fail? It is because their corporate cultures are very different; their thinking and ways of doings things are not in sync. Why do mergers and acquisitions fail will be covered in the next article.