Despite the world going through a tumultuous time, with wars, pandemic and most recently a pinch on the cost of living, the wheels of entrepreneurship and growth are still spinning. No where is this more notable than in the always active field of Mergers and Acquisitions (M&A).

M&A brings to mind large companies either banding together to create an even larger company, or one of those aforementioned companies eating smaller ones to improve themselves. This is a reality, but this also is not Suits. Instead, M&A is useful even to a Mum and Dad shop or family run business looking to improve their capability, help with growth or prepare for a sale themselves.

First it helps us to understand what a merger or an acquisition is before we try and determine on a “smaller” scale of what a horizontal or vertical is or its usefulness.

Let’s use a fictitious transaction between Coca-Cola and Pepsi, to explain the difference, this will be helpful to define what a horizontal is and what it is not.

Merger

A merger occurs when in this case, Coke, purchases another company’s shares, this time being Pepsi. Let’s keep in mind a company’s ownership is dictated by who holds the shares. Once the shares are obtained by Coke, the companies generally create a new, larger company worth more than the original pieces utilising savings owing to increased level of production (economies of scale), increased market share, less competition, and other potential synergies. We’ll call this company the Soft Drink Company (SDC) which is a result of what is the merging aspect of a merger.

This process leads to the original companies of Pepsi and Coke being eaten by the new company SDC who will hold the shares and assets of the former Coke & Pepsi.

Acquisition

In this case, Coke still purchases Pepsi’s shares, but allows it to continue to operate as its own company, with the only caveat being they will owe responsibilities to their new Coke overlords who will be their shareholders from this point on.

In this scenario, Coke and Pepsi will still both exist as separate companies, but Pepsi may begin to operate under the name of Coke, and this could extend to changing its name to align with its new parent company. Operations will also generally be under the control of the parent company.

Horizontal:

Put simply, a horizontal acquisition is an acquisition where one company purchases another company (i.e Purchases the other company’s shares) operating in the same industry and providing the same service or product. This is generally done with the idea of a merger to occur to create one larger firm from the two originals to dominate that space and reduce competition.

Think of the Coke-Pepsi example, these are two soft drink manufacturers, meaning they are operating in the soft-drink industry and competing with one another with a similar product. If a transaction was to occur, regardless of if it’s a merger or acquisition in nature, this would serve as an extension of their already existing capability.

After this Coke may use Pepsi as it existed prior to the purchase and receive the revenue and other benefits by flowing up to them. Alternatively, they may merge Coke and Pepsi and become the SDC company mentioned in the merger aspect of this article, thereby combining assets, revenue and all the other good stuff a company looks for.

A horizontal acquisition or merger has several beneficial effects on one or both businesses involved:

1. Increased market share in the industry in which they operate
2. Long term gains on share price (if publicly listed)
3. Economies of Scale
4. Increased range and scope of products and services
5. Increased exposure

Vertical:

Although a vertical is still broadly, a purchase of another company, just like a horizontal, the type of company/level of production of said company being purchased is the deciding factor on how we define the purchase.

For example – A computer manufacturer purchases their supplier who provides the motherboards or software they use in all their computers. This is a vertical, again whether this becomes a merger, or an acquisition is not important to the defining nature of vertical vs horizontal.

A simple explanation is to say that a vertical occurs where a buyer purchases a seller in the same industry but who is a supplier of the buyer.

This is normally done with an eye towards vertical integration whereby the supply chain (or a partial piece of the chain) is integrated and owned by the purchasing company.

A Vertical acquisition or merger has the following advantageous features:

1. Reduction to supply chain disruptions
2. Reduced production costs
3. The always popular Economies of scale (although less than a horizontal)
4. Expansion to additional markets
5. Increases competitive advantage over companies lacking control over supply chain.
   
   

Conclusion:

Mergers, acquisitions, Horizontals and Verticals, they all exist in the same realm, but they are distinct, existing for disparate, but equally useful reasons.

The realm of Mergers and Acquisitions can become complex quickly, how these effect a company requires careful consideration with particular attention given to structure, type of transaction and method of funding the transaction.

If you’re interested in acquiring a company, please reach out to Frank Law and we can assist with the process from start to finish ensuring the deal is good for you from a commercial and legal perspective.