The Art of Combining and Splitting Companies

Low interest rates, deep corporate pockets and a rebounding economy have combined to spur mergers and acquisitions to a level that has not been seen for more than seven years.

In the first half of 2014, U.S. merger and acquisition activity reached $786 billion, the highest level in more than seven years, according to Dealogic, a New York-based investment analytics platform.

Businesses merge, split and restructure for a number of reasons. They merge to grow, spark innovation and capture more marketshare. They split to decouple money-losing wings or refocus unique business divisions as separate companies.

And while all of the attention is paid to the publicly traded companies that merge and acquire, small- and midsized business merger activity mirrors the activity from their larger, public counterparts.

There are many things to think about when pursuing a merger or acquisition, or seeking to split off a business division into a separate company. Here are four themes to consider during the process:

Will company culture and systems mesh?

Companies have distinct personalities and unique cultures. And combining two corporations with vastly different structures can be very difficult.

The accountants and executives will run the numbers and parse industry data, but before a merger and acquisition is completed, owners and executives should question how the personnel and culture will mesh. Sometimes a merger and acquisition can make complete sense on paper, but simply factoring the two companies’ unique cultures and operating structures can be enough to red light the deal.

Company divestitures can also be dictated by culture and operating systems. Sometimes divesting a business division can allow a division to become more nimble, innovative and successful.

What are you buying?

This question sounds almost too simplistic, but it is actually difficult to answer. Are you buying talent, infrastructure, product development or market share?

Acquisitions need to be scrutinized for the value they bring to a company. Ask what competitive advantage you gain from the acquisition; compare the value of acquiring a company for growth versus accomplishing that growth through expansion.

Acquisitions often make the most sense when you are acquiring a technology that would be difficult or impossible to develop yourself, gaining marketshare in regions where you have no presence, or acquiring talent or infrastructure that would take too long to develop. Understand what you are buying, and whether it makes sense to buy it rather than build it yourself.

How do you judge valuation?

Valuation can be a tricky to determine, especially when merging with, or acquiring, early-stage companies. Is the valuation determined by current value, future growth potential, or a combination of both?

Early stage companies with potential for large-scale growth often need an attractive acquisition offer to be compelled to sell. Deals like Facebook’s $19 billion acquisition of WhatsApp are hard to fathom until you look at the immense value that companies like Facebook give the hundreds of millions of active users that a platform like WhatsApp attract.

If you are merging with companies that are not of equal maturity, valuations can become a complex calculation that ignores traditional measurements like earnings or profit. Make sure to analyze this carefully to pin down the most accurate valuation possible, and pay attention to the value of stock vs. cash used in completing the transaction. Undervalued stock or equity could prove more valuable than cash, while inflated stock or equity could prove to be less valuable than cash.

What are the tax implications?

Finally, mergers and acquisitions can have a big impact on the tax liability of a company. A merger or acquisition can drastically reduce a corporation’s tax liability by moving the company’s headquarters to a more tax-friendly location. This tactic made headlines and garnered significant criticism when Burger King and Tim Horton’s merged, moving Burger King’s corporate headquarters to Canada.

Mergers can also trigger significant tax consequences. The structure of any corporate merger or business combination needs to be thoroughly analyzed by an accountant before a transaction is finalized.

The Art of Combining and Splitting Companies