We are in a period of merger frenzy.
The modern world of mergers was created in the 1960’s when International Telephone and Telegraph showed that a giant conglomerate could run profitably with a wide range of disparate holdings. Harold Geneen was the man who developed the accounting and financial statement based management system that made it work.
Business people began to see that any viable businesses could be packaged for sale to the growing market of companies that wanted to expand by buying other firms. What was needed was an excellent accounting and financial system, a president who had a team of managers who formed a coherent cluster of experience and a structure that was working well together.
Why merge? In the 1960’s a major reason was the volatility of stock prices that made some firms very desireable when bought in a low market. All that was needed was for the purchasing company to have a higher multiple of earnings to stock price. Adding a new company with good earnings, even from fields where such multiples were historically lower, meant raising total earnings and consequently the stock price of the purchaser.
That is less reasonable today because management of a diverse conglomerate is much harder when there are more competent managers in the market who can run independent companies well and aggressively with independent sources of capital.
Mergers today make sense for several new reasons. First and foremost, in the U.S., government regulation is so intrusive and odious that a corporation needs to be very large to cope with the cost of fighting a bureaucracy. That is true in the banking world and most true in the pharmaceutical world. It is now, thanks to Obamacare, true in the medical, hospital and senior care world.
Second, large companies need mergers in any industry that is prone to labor harassment and perennial lawsuits (autos, international construction). This is because the legal department has to be big in real numbers but small as a percentage of the total expenses.
Third, mergers are an efficient way to buy research. Often creative people and entrepreneurs develop new products and markets on their own better than in a large company. So they are bought after they have developed and tested new products.
Fourth, American corporate taxes are among the highest in the corporate world. This means mergers with overseas corporations in lower tax domains can increase the merged company’s after tax earnings. More commonly it means that a large lobbying operation within the business budget can get specialized favorable domestic tax treatment.
Finally, but not lastly, some volatile industries are ripe for mergers into bigger firms to create some form of stability. True in advertising and food products.
The current merger frenzy comes at a time of gross government bureaucratic expansion and low domestic economic growth.