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CPCU 540
Chapter 15
36
Other
Not Applicable
09/15/2006

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Term
1. Merger
Definition
1. A type of acquisition in which two or more busines entities are combined into one.
Term
2. Acquisition
Definition
2. The purchase of one company's stock by another company
Term
3. Consolidation
Definition
3. A combination of two or more business entities into a new entity
Term
4. Takeover
Definition
4. The change in the control of a company through merger, acquistion, or some other type of transaction
Term
5. Proxy Contest
Definition
5. A strategy for gaining control of a company by obtaining the voting rights of the target's shareholders.
Term
6. Tender Offer
Definition
6. A purchase offer made directly to the shareholders of the target, typically at an offer price greater than the current market price
Term
7. Divestiture
Definition
7. The disposal or sale of part of a company
Term
8. Spin-Off
Definition
8. The creation of a new company from part of an existing company
Term
9. Horizontal Acquisition
Definition
9. A combination of two companies in the same line of business
Term
10. Vertical Acquisition
Definition
10. A combination of two companies involved in related lines of business but at different stages of production.
Term
11. Congolerate Acquisition
Definition
11. A combination of two companies involved in unrelated lines of business
Term
12. Revenue Efficiency
Definition
12. In the context of acquisitions, a measure of the extent to which a company's revenues can be increased by combining the company with another entity or entities
Term
13. Cost Efficiency
Definition
13. In the context of acquisitions, a measure of the extent to which a company's costs can be reduced by combining the company with another entity or entities
Term
14. Due Diligence
Definition
14. The process of examining a company's operations, finances, and management and verifying material facts that affect company value.
Term
15. Loan Covenant
Definition
15. A condition tht must be met to keep the loan in compliance
Term
16. Purchase Method
Definition
16. The accounting method used in an acquisition under which the assets and liabilities of the acquired company are recorded at their fair market value and the excess of the purchase price over the net worth is recorded as goodwill.
Term
1. Identify market conditions that may lead to corporate changes in companies.
Definition
1. Market conditions that may lead to corporate changes in companies include deregulation, technological innovation, and capital market transformations.
Term
2. Describe how change in ownership and control of a company is accomplished through the following:
a. merger
b. acquisition
c. consolidation
d. takeover
e. proxy contest
f. tender offer
g. divestiture
h. spin-off
Definition
Describe how change in ownership and control of a company is accomplished through the following:
a. merger: two or more biz entities are combined into one. Assets and liabilities of the two companies are merged, and the target ceases to exist as a separate entity
b. acquistion - the purchase of one company's stock by another company. the buyer continues to exist, and the target can also continue to exist.
c. consolidation - the combination of two or more business entities into a new entity. both the buyer and the target cease to exist, and a new combined entity is formed
d. takeove3r- change in the control of a company, either friendly or hostile.
e.proxy contest - a takeover is achieved by obtaining the voting rights of the target's shareholders. may be used to facilitate an acquisition so that the buyer avoides paying a premium for the target.
f. tender offer: purchase offer made directly to the shareholders of the target, typically at an offer price greater than the current mkt price. It is usually contingent on the buyer's obtaining a min of 80% of the target company's voting shares to avoid income taxes.
g. Divestiture: Disposal or sale of part of a company. The selling company gives up all ownership in the divested portion.
h. Spin-off: Creation of a new company from part of an existing company. Shareholders of the existing company typically receive shares in the new company in the same proportion as their ownership in the original company
Term
3. Describe how the following types of acquistions differ:
a. Horizontal acquistion
b. Vertical acquistion
c. congolmerate acquistion
Definition
3. Acquisitions differ according to whether or not the buyer and the target operate in the same business area:
a. Horizontal acquistion- companies are in the same line of business
b. Vertical acquisition - Compabnies are involved in rlated lines of business but at different stages of production
c. Conglomerate acquisition - companies are in unrelated lines of business.
Term
4.List the possible reasons for acquisitions
Definition
4. Possible reasons for acquistions:
Cost Savings
Synergies
Competitive Advantage
Increased earnings per share
Management interests
Use of excess funds
Term
5. Explain the ways an acquisition can lead to cost savings for a company
Definition
5. An acquistion can lead to cost savings in the following ways:
1. Efficincies-acquisitions may lead to more efficient use of a company's financial resources by way of revenue efficiencies or cost efficiencies.
2. Tax Advamtages: Efficiency can be achieved by reducing income taxes through increasing the level of debt, increasing cash flows from recovery of taxes, and reducing income on which tax is calculated through the treatment of depreciable assets.
3. Reduced cost of financial distress-Debt holders and creditors reduce their credit risk because the debt risk of the combined company is lower, and the value of limited liability is lower when debt holders have reduced risk because they can claim against the combined cash flows
Term
6. Describe how a company can achieve revenue and cost efficiencies.
Definition
6. A company achieves revenue efficiency when its revenues cannot be increased, holding economic inputs constant, by combining the company with another entity or entities.
Term
7. Explain how companies can experience cost savings from acquisitions due to economies of scale and economies of scope.
Definition
7. Savings from economies of scale are expected in horizontal acquisitions and are size driven, leaving the range of products and services unchanged. If one or both companies have excess capacity that will be more fully used when the two companies combine, then reduced capital needs and associated capital costs will result.

Savings from economies of scope are expected in vertical acquisitions and result from broadening the range of products and services offered. Cost savings can come from the use of shared resources, improvements in a company's competitive position, and additional revenue opportunities.
Term
8. Describe how a company's competitive advantage in the marketplace might be improved through a horizontal acquisition.
Definition
8. A company's competitive advantage in the marketplace might be improved though a horizontal acquisition. When few companies complete in a line of business of market, acquisitions are likely to increase the market power of the combined company, which enables the company to influence price, product offerings, and contract terms.
Term
9. Describe an indication that an acquisition resulted in economic gain and how the value of a gain is determined
Definition
9. One indication that an acquisition resulted in economic gain is if the companies combined are more valuable together than apart, demonstrated by additional net cash inflows. The value of the economic gain is calculated as follows:
G-Vab - (Va + Vb)
Term
10. Explain how the market price is established regarding a publicly traded company and a privately held company
Definition
10. The market price of a publicly traded company is directly observable. The market price of a privately held company is estimated using valuation techniques, such as a discounted cash flow valuation model. In an acquisition financed with cash, the acquistion price is simploy the amount of cash paid for the target firm. The acquistion price in a stock acquisition depe3nds on the market price per shar eof stock in the combined entity after the merger.
Term
11. Explain how to ensure that the gains to both parties are equal in an acquisition, regardless of wether it is financed with cash or with stocks
Definition
11. To ensure that the gains to both parties are equal in an acquisition, the number of shares issued in an acquisition financed with stock must reflect the benefits of the acquisition by using the expected share price once the acquisition has been completed.
Term
12. Describe the advantages and disadvantages of acqusitions as a way to change ownership or control of a company
Definition
12. The advantages of acquistions as a way to change ownership or controll of a company include simplicity, lower costs, and no need to transfer title to individual assets or assume individual liabilities. A disadvantage is that acquisitions must be approved by a majority of shareholders of both companies.
Term
13. Describe the purpose of due diligence during an acquisition
Definition
13. Due diligence performed during an acquisition provides a foundation for valuation analysis, deal negotiation, and the post-acquistion integration process. The due diligence process covers a wide range of business areas.
Term
14. Identify areas of financial concern when performing due diligence in the insurance industry
Definition
14. An area of financial concern when performing due diligence in the insurance i9ndustry is the solvency position of an insurer. The buyer also needs to ascertain whether existing agreements impose any potential restrictions on financial operations.
Term
15. Define how goodwill arises under the purchase method of accounting for an acquisition
Definition
15. Goodwill arises under the purchase method of accoutingn when the purchase price exceeds the estimated fair market value of the net worth.
Term
16. Explain why a buyer might be willing to pay more than the market value of a target company's net worth.
Definition
16. A buyer might be willing to pay more than the market value of the target company's net worth because the acquired company may have franchise value related to a brand name, expertise (human assets), technology, or other sources of competitive advantage beyond the fair value of the tangible and intangible assets recorded in its financial statements.
Term
17. Describe how the following levels of ownership interest-affect financial statements under GAAP:
-Ownership interests of more than 50%
-Ownership interests between 20-50%
-Ownership interests of less than 20%
Definition
17.

-Ownership interests of more than 50%
The target co must consolidate the results of the target into its financial statments using the purchase method
-Ownership interests between 20-50%
The investment in the target firm is recorded as an asset on the buyer's balance sheet. This investment account is increased for returns of capital received using the equity method of accounting.
-Ownership interests of less than 20%
Recorded at cost on the buyer's financial statements but might be adjusted for changes in market value under fair value acounting rules.
Term
18. Describe defensive tactics a firm might use to make a takeover less likely.
Definition
18. A firm (target) can make a takeover less likely by employing defensive tactics designed to thwart unfiendly takeovers, such as the following;
-initiate a target repurchase from a raider in order to terminate the takeover attempt
-find a friendly buyer, known as a white knight
-make the acquisition more difficult or costly to the bidder by using "shark repellents"
Term
19. List the common defensive tactics collectively know as "shark repellents" used to prevent a takeover
Definition
19. The following defensive tactics, collectively know as "shark repellents", are used to prevent a takeover:
-golden parachute
-super majority
-staggered board
-poison pills
-poison puts
-crown jewel
-lockup
Term
20. Explain why target companies in an acquisition generally earn higher percentage returns than acquiring companies.
Definition
20. Target companies generally earn higher percentage returns in an acquisition transaction thatn acquiring companies because acquiring companies are typically larger. Therefroe, on a percentage basis, the acquisition benefits do not increase the buyer's value
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