What Shareholders Need to Know about M&A

The battle for NYSE Euronext raises specific questions for its shareholders, and highlights larger issues for any CFO involved in a merger.

While one-time cuts increase a merged company’s value, the speed with which they happen matters. And it is ongoing cost savings that have a bigger impact, because they boost operating margins over a longer term. Otherwise, lacking more detail — including where, exactly, the cuts will come from — it’s difficult to compare the numbers from competing bidders.

3. Who gets the spoils?

If synergies do add significant value to a corporate tie-up, the next question becomes, Who gets the gains from the synergy? says Damodaran. Another way to frame the question is, Who has the bargaining power — the target or the acquirer?

For example, “If the cost savings [in a proposed deal] are unique to one acquiring firm, it will be able to demand a higher percentage of the synergy benefits,” says Damodaran. But if the cost savings are more general, and available to a competing bidder, “the target firm’s stockholders are likely to receive a larger share.

“For a target firm to extract the bulk of the synergy premium, it has to be able to open up the bargaining process and force the acquiring firm to match the bids of others,” says Damodaran. “A second bidder makes the process much easier because you can play them off against each other.”

4. Are the buyer’s shares overvalued?

In general, when a company uses its stock as consideration in a takeover, management is signaling that its shares are overvalued, says Damodaran. As of early May, Deutsche Boerse’s shares had risen 9% since its February announcement, and the company’s price-to-earnings ratio was 25, compared with NYSE Euronext’s 12.2. Indeed, one of the factors that could have driven up Deutsche Boerse’s stock was shareholders’ belief that they would get the New York Stock Exchange for a bargain price.

“Any time stock is part of a transaction, you have the issue of ‘Am I being paid with something that is overpriced?’ It’s basically inflated currency,” Damodaran says. While Nasdaq’s bid is less than one-quarter cash, the difference has to be considered. “The value of cash is not debatable,” he says.

5. Is it really worth it?

NYSE chairman Jan-Michiel Hessels called the unsolicited offer from Nasdaq and ICE “illusory” and “fraught with unacceptable execution risk.” But that could be said for just about any merger proposal. The chance of a strategic transaction failing is substantial. In numerous studies since the 1980s, mergers have been found, more often than not, to earn returns less than the cost of capital and to lead to lower stock and operating performance postacquisition. In addition, a significant number are reversed fairly quickly.

“The [NYSE–Deutsche Boerse deal] reminds me of DaimlerChrysler,” Damodaran says. “Two different cultures [are] meeting. I’m not sure the net effect is going to be good for either one.” A negative for the Nasdaq/ICE deal is that it would use $3.8 billion in debt, possibly leading to a credit-rating downgrade of Nasdaq OMX.

While NYSE Euronext shareholders should scrutinize all offers, Damodaran says he would be much more worried if he were a shareholder of Deutsche Boerse, Nasdaq OMX, or ICE. Buyers tend to overpay, for various reasons. As he notes, “There is more bad stuff that can happen on that side of the transaction.”

Vincent Ryan is senior editor for capital markets at CFO.

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