Financing of mergers and acquisitions

Jan, 10 2024

The mergers and acquisitions are one of the most effective tools for business development. M&A deals help to expand the business, improve its production indicators, and enter new markets. In addition, mergers and acquisitions increase the competitiveness and increase the profitability of the business. However, such transactions are often carried out by companies that already have the financial and technological capabilities to expand their own production or invest in development.

However, M&A transactions involve a lot of risks, especially when it comes to transnational operations. The efficiency of such operations largely depends on the quality of planning and optimization of funding sources. Significance of preparation for the transaction is difficult to overestimate, since a thorough analysis of the internal and external environment of the company is necessary, as well as identification of weaknesses of the business and assessment of opportunities for its further development.

Stages of planning mergers and acquisitions

If business owners decide to conduct an M&A transaction for external transformation, they will need the assistance of qualified lawyers and experts. Planning mergers and acquisitions is the most important stage that is the foundation for further profitability and competitiveness of the enterprise.

The first stage of planning is due diligence of the absorbed company. Experts should check its financial, economic, legal state, make sure that in the future there will be no disputes with local authorities. Also, a preliminary check implies calculating the market value of the business that you plan to absorb. It is impossible to calculate this numbers without access to the company’s records, because verification always implies the conclusion of a non-disclosure agreement.

The second stage is negotiations with the management of the company being absorbed. At this stage, business owners may also need qualified assistance from experts who will be able to represent and defend the most favorable terms of transaction.

The next stage is the conclusion of an agreement of intent. After that, analysts can get access to the absorbed company’s records. And if before that experts could only name the approximate market value of the enterprise, now they will determine the objective market price of the absorbed company and its future value can vary.

Based on the analysis of financial records and accounts, experts develop an optimal transaction structure. The parties will have to agree on it, as well as determine the method of transferring property, clarify the procedure, and take care of ensuring the fulfillment of obligations.

How is financing of mergers and acquisitions conducted

The question of financing arises at the earliest stages of planning. When they determine how justified this transaction can be as a way of developing the company, they also discuss the potential ability to implement this transaction. After completing the due diligence stage and determining the price of the absorbed company, it becomes possible to more accurately estimate the amount of funds needed for the purchase.

To determine how much finance is required for a transaction, experts take into account a number of factors. The main ones are:

  • existence of debt obligations;
  • the value of the shares and assets of the absorbed company;
  • expenses related to the preparation and execution of the transaction itself;
  • business needs for current capital.

It is important to determine how much financing for M&A is needed. Only after that you can proceed to its optimization. This procedure is aimed at reducing the amount of capital required for the transaction, and at the same time finding suitable sources of financing.

The most attractive scheme for the buyer to pay for the cost of external sources of financing is their payment using cash flows from the acquired company. However, in practice, such a scheme does not always work, so initially the buyer has to pay with borrowed or raised funds. This can increase the risk of insolvency, reduce the profitability of operations and reduce its estimated cost by reducing the amount of net cash, and that is why it is so important to optimize the financing of the transaction wisely.

There are different ways to raise funds for an M&A transaction. Each of them helps to optimize the process in regard to the economic situation and the internal characteristics of the companies involved in the transaction.

Sources of financing for mergers and acquisitions

  • The company’s own funds. This is the most expensive method, but it eliminates interest payments, reduces time periods, and does not require transparency of business on a specific transaction. Companies rarely use their own capital, however it is the least risky source of financing.
  • Loans and borrowed funds. This method has its drawbacks, as the business becomes dependent on lenders. Before contacting the bank, you should calculate what the situation in the company will be in a few years, whether it is worth taking risks and getting involved in long-term debt obligations. Of course, it is impossible to foresee everything, but force majeure should also be considered: does the business have enough margin of safety to withstand them in the presence of loans?

The most popular source of financing for M&A transactions is bank lending. However, loans provided by banks are associated with great risks. They are always long-term, so the business becomes more vulnerable and dependent on currency fluctuations, the position of the lender.

To conduct M&A transactions, you need the help of lawyers with a lot of experience in this field. It is desirable that they accompany the transaction from beginning to end, but it is possible to involve experts at separate stages. Together with our finance department, they should come up with a plan to optimize the financing of mergers and acquisitions and help with its implementation.

Author of the article
Financing of mergers and acquisitions
Valentina Khlavich
Managing Partner
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