Surge in the Urge to Merge: M&A Trends and Analysis

If history is any guide, we may be at the front end of another mergers and acquisition (M&A) wave. M&A activity tends to follow the stock market with a modest lag. The strong rally in equities off the March 2009 lows, combined with improved credit conditions, solid nonfinancial corporate balance sheets, and the presence of companies seeking to enhance their strategic positions, all point to more deals. Notably, research shows that companies making acquisitions in the early part of the cycle deliver better returns to their shareholders, on average, than those that act toward the end of the cycle. This is largely because early in the cycle there are more companies to choose from and the targets are cheap. As the cycle matures, options dissolve and valuations rise. Despite the importance of M&A, many companies and investors do not have a firm grasp of how M&A deals create or destroy shareholder value. In fact, research shows that roughly two‐thirds of M&A transactions destroy shareholder value for the acquiring companies. Executives appear to miss the mark because they focus on accounting‐based measures instead of considering the extent to which the value of synergies can exceed the premium. This paper provides a sound approach to evaluating M&A deals based on expected returns on invested capital and economic value added.