By Eduardo Solamone Rosa
Lawyer at Marcos Martins Advogados
Considering that the market is a structure of value formation, in which its individuals seek to serve their specific interests, the law is the only way to govern these relationships. With globalization, the economic concentration of companies has become an inevitable requirement in the restructuring of markets, with vigorous impacts on the optimization of capital and the structure of modern companies.
Thus, talking about the importance of acquisitions in company strategy is commonplace. What we have witnessed is the increasing occurrence of transactions, many with astronomical values and also countless smaller ones, which do not attract attention in the news, but which silently help to transform the business world.
ACQUISITIONS AS PART OF THE STRATEGY
The life of companies is permeated by countless questions. No matter how large, capitalized or technologically advanced, a company needs to do something in a way that others cannot. This differentiation can occur either by delivering a unique benefit, or by delivering the same benefit as its competitors, but at a lower cost.
In this sense, companies need to overcome the so-called “Efficiency Frontier[1]”, a term coined and enshrined by the eminent Harvard Business School professor Michael Porter. This means that, just like its best competitors, the company is able to get the most out of its investment, as far as current technology allows, with the aim of always producing the most for what it costs. Therefore, if it is not on the frontier, its problem is not one of strategy, but one of efficiency.
That said, it is possible to measure the double challenge generated by competition between companies: (a) the incessant race to be on the frontier; and (b) the search for something that others don’t do, that the customer values and that is difficult to imitate.
At this stage, acquisition or sale may be the best alternative for a company to be on the Efficiency Frontier and make its position unique.
STRATEGIC MOTIVATION
It is the recurring work of scholars and researchers on the subject to enumerate and structure, in search of coincidences, a pattern of behavior when analyzing a set of operations carried out over a given period of time. However, such studies are full of subjectivity, given the infinite number of elements that impact the decision to acquire or sell, which requires studying the specifics of each business.
In any case, it is important to look at some of the motivations most frequently found in these transactions, whether isolated or combined, namely: i) economies of scale and scope; ii) concentration of market power; iii) overcoming or erecting barriers to entry; iv) reducing competition (capacity reduction); v) substitution of research and development; and vi) diversification.
Economies of scale and scope: occur through the dilution of fixed costs. If a significant portion of a company’s costs are fixed, then increasing production will cause the unit cost to fall. In turn, economies of scope refer to the cost reduction caused by an increase in the variety of products and services that a company produces, through the common use of some resource.
Concentration of market power: the ability to impose a higher price on customers or a lower price on suppliers than would be possible in a highly competitive market, either through a dominant position in size or a monopoly over a resource.
Overcoming or erecting barriers to entry: these are usually associated with a higher attractiveness of the industry, simply because they restrict the number of competitors. Thus, those who manage to overcome them are able to participate in a more lucrative market. Similarly, those who succeed in erecting barriers to entry guarantee themselves higher profits.
Reducing competition (capacity reduction): the presence of idle capacity encourages competitors to sacrifice price in an attempt to increase capacity, with losses for all companies. In the so-called “Game Theory”, this is a situation known as the “prisoner’s dilemma”. This is a situation in which the player can already foresee that a particular action will put him, at the end of the process, in a worse situation than the initial one. However, even if he doesn’t take action, the other players will, in which case his situation will be even worse.
Replacing research and development: seen as a strategy, acquisition as a replacement for research and development brings cost savings and a gain in development speed, but there is a catch. By choosing this path, the company always runs the risk of disqualifying itself from future development, becoming dependent on finding new acquisition targets.
Diversification: undoubtedly the most controversial reason for acquisitions. Finance theory does not deny the benefits of diversification, but it does say that a company that diversifies its business does not create shareholder value, as it could diversify on its own. The question therefore arises as to whether or not diversification creates value, since the possibility of the same company offering different business units would not be attractive to investors who can diversify their investments much more easily on their own. However, two Indian professors based in the United States, Tarun Khanna and Krishna Palepu, disagree with this rule, in the sense that in emerging markets, such as Brazil, there are situations that justify unrelated diversification, i.e. acquiring companies with independent activities[2].
VALUATION AND INVESTMENT DECISIONS
An asset is defined as a generator of future benefits for its holder. Since these future benefits are measured in monetary terms, a decision criterion can be used to opt for the acquisition of an asset, which is to establish a value for the deal such that the amount of benefits expected to accrue from its ownership exceeds the value of the deal. The future benefits are translated into capital to be received throughout the period of ownership of the asset.
More than determining the value, it should be emphasized that the process that led the appraisers to determine the expectations adopted about the future of the business being appraised is the most important. It can be said that valuing an asset is projecting a decision into the virtual realm to enable managers to make it a reality.
Considering the countless possibilities of objectives and alternatives, determining value is fraught with subjectivity and depends on the process of choosing alternatives, as well as forming an opinion on the expectations created
In this respect, it is important to adopt a possible margin of error for the results found. The probable values fall within a range in which any one of them is viable for negotiation. Nonetheless, detailed justification must be provided for the considerations adopted in the valuation, so that the calculated value can be questioned in a consistent manner.
CONCLUSION
Having made these considerations, it can be seen that given the complexity of modeling and implementing these operations, there are several professionals involved in achieving the objectives and business plans outlined. It is therefore essential that these people are familiar not only with the language adopted, but also with concepts and subjects that are sometimes outside the primary scope of their work, but which are of enormous relevance to the quality of the work to be delivered.
BIBLIOGRAPHY
ASSAF NETO, Alexandre. Estrutura e Análise de Balanços: Um Enfoque Econômico-Financeiro. 10. ed. São Paulo: Atlas, 2012.
BARROS, Betânia Tanure de. Mergers and acquisitions in Brazil: understanding the reasons for successes and failures. São Paulo: Atlas, 2003.
FABRETTI, Láudio Camargo. Mergers, acquisitions, shareholdings and other business management instruments: legal, tax and accounting treatment: updated with the new Bankruptcy Law (Law No. 11.101/05) and the changes to the National Tax Code (LC No. 118/05). São Paulo: Atlas, 2005.
MARTELANC, Roy; PASIN, Rodrigo; CAVALCANTE, Francisco. Company valuation: a guide to mergers and acquisitions and value management. São Paulo: Pearson Prentice Hall, 2010.
PADOVESE, Cloves Luis. Management Accounting. 7. ed. São Paulo: Atlas, 2010;
