Vertical merger

Oct, 11 2020

Many legal entities appear or cease to exist on the business market annually. However, it is rather usual issue when this or that company wishes to expand its scope of operation and in this regard decides to “connect” with another company, pursuing various goals. That is why the role of processes called “mergers and acquisitions” has risen recently. 

Meaning of term «merger and acquisition»

The term “merger and acquisition” includes the whole number of civil and corporate processes aimed at combining one company with another or several companies into a single one. As a result, commercial enterprises are reorganized, and their capital is merged.

The Civil Code of the Russian Federation does not provide for legal definition of such term as legal entity’s reorganization. However, for the purposes of rules set forth in the Code it may be inferred that reorganization means one of the ways to terminate the legal entity while preserving its rights and obligations. The result of legal entity’s reorganization is termination of its existence with the transfer of rights and obligations to another legal entity that already exists at the time of reorganization or is created as a result of such reorganization.

Classification of mergers and acquisitions 

Mergers and acquisitions can be classified according to their characteristic features.

Given the nature of integration, mergers and acquisitions may be divided into:

  • horizontal;
  • vertical.

Vertical merger or acquisition of two or more legal entities can reduce the cost of production, thereby increasing the manufacturer’s profit, and profitability of production.

Horizontal mergers and acquisitions take place if two or more organizations are merged into a single legal entity, provided that the merging companies operate in the same area of production of goods or services. The purpose of such association is usually to increase competitiveness in a particular area of commercial activity.

Given the consistency of the integration, mergers and acquisitions may be:

  • friendly;
  • hostile.

Note that such processes are of great interest to the state executive bodies in the field of antimonopoly regulation. In the Russian Federation, the responsible authority is the Federal Antimonopoly service (FAS). It ensures that principles of free competition are observed and applied in practice. In addition, the purpose of its activities is to ensure equal access of economic entities to goods or services, which leads to the formation of favorable competitive environment.

Necessity of company’s vertical merger in Russia

Vertical mergers and acquisitions occur in cases where two companies act as supplier – manufacturer. This means that one company is a supplier of raw materials to another. At the same time, the latter produces products using this raw material. 

Thus vertical merger involves companies that specialize in the same field of activity but are involved in different parts of production chain. A result of such companies’ merger is a single legal entity with more productive technological chain and centralized management.

Advantages of company’s vertical merger

Vertical merger has its advantages. This process will allow companies to increase the speed of new product’s production as well as reduce the number of production costs. Advantages of vertical merger include the following factors:

  • reduction of production costs;
  • improvement of company’s management efficiency;
  • control over most production processes.

At the same time, disadvantage may be the reduced flexibility of reorganized company due to increased scale of production, increased number of employees and shift of production centers. Moreover, vertical merger of two companies can also lead to internal conflicts.

The global experience of applying these processes shows different results. Company’s efficiency has increased somewhere, however some other companies have suffered a setback in production activity. It is worth carrying out a vertical merger when there is no other way to rehabilitate the legal entity. The decision shall be made by managers who understand the risks and responsibilities.

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