Acquisition Financing

Gillis, W. E. & Combs, J. G. (2009). Acquisition financing: Does how you pay for it have implications for success? Academy of Management Perspectives, Nov2009, Vol. 23 Issue 4, p96-97, 2p. Retrieved April 6, 2010 from: http://web.ebscohost.com.ezproxy.waterfield.murraystate.edu/ehost/pdfviewer/pdfviewer?vid=1&hid=9&sid=243834a8-0462-4eb8-9f4a-ec93bc196ad2%40sessionmgr10

This research brief, published in the Academy of Management Perspective, discusses the findings of research done to see if there is a correlation between how an acquisition is paid for and its success. The researchers state that sometimes when firms pay for an acquisition with cash on hand, shareholders see that as empire building and if they pay with equity, shareholder may perceive that as the stock being overvalued and therefore driving the stock price down. Roughly 60% of acquisitions fail, which makes shareholders leery anyway, so managers need to find the best way to finance acquisitions that will satisfy their shareholder and ensure at least some measure of success. If the acquiring firm wants to reduce their risk and doesn’t mind sharing their controlling interest, equity is a best way because the acquired company’s owners have a stake in the success or failure also. If the acquiring firm wants full control of the company, they should pay cash for the acquisition. The researcher state that the source of cash is very important also because when a firm is borrowing the money from banks, as opposed to selling more stock or gaining cash from overvalued stock, the banks do extensive checks into the acquisition and will not approve the loan if they feel that it does not have a good chance of succeeding. Further, since management does not have the cash on hand to spend freely in this situation, they are not tempted to look for ways to spend it, which could lead to bad decisions; they instead have to turn to the banks for funding, which will restrict their options. These factor make bank financed acquisitions more likely to succeed. This is important information for managers and investors to understand because as a manager involved in an acquisition, you must ensure as much as possible that the acquisition will work but you must also make sure it is done in a way that will keep shareholders on board also.