Nowadays, the scale of corporate mergers and acquisitions is getting larger and larger, and the amount of mergers and acquisitions is getting higher and higher. International corporate mergers and acquisitions even reach tens of billions of dollars. Successful mergers and acquisitions require strong financial support. Mergers and acquisitions without financial support will eventually fail.

However, it is difficult for companies to complete mergers and acquisitions only by relying on their own accumulated funds. They must rely on external financing to complete mergers and acquisitions. Therefore, corporate mergers and acquisitions require external financing, and external financing requires the selection of appropriate financing methods to help companies complete mergers and acquisitions.

What Is M&A Financing

M&A financing refers to the process of financing for the completion of corporate mergers and acquisitions. M&A financing is a financing activity carried out by an enterprise for a special purpose. The special direct purpose is for the acquiring enterprise to merge or acquire the acquired enterprise. The characteristics of M&A financing are that the amount of financing is relatively large, the channels are relatively wide, and the methods adopted are many, which has a significant impact on the capital structure, corporate governance structure, future business prospects, and other aspects of the post-merger enterprise.

M&A Financing Methods

M&A financing methods can be divided into internal financing and external financing according to the source of funds. Internal financing refers to raising the required funds from internal sources of funds within the enterprise. Therefore, internal financing is generally not the main method of financing corporate mergers and acquisitions. The most commonly used financing method in mergers and acquisitions is external financing, that is, enterprises develop sources of funds from outside and raise funds from economic entities other than the enterprise, including professional bank credit funds and funds from non-bank financial institutions.

Internal financing

• Own funds. An enterprise’s internal funds are the safest and most secure source of funds for an enterprise. Usually, the internal funds that can be used by enterprises come in the form of after-tax retained profits, depreciation, and the sale of idle assets.
• Unused or unallocated special funds. These special funds only serve as a source of internal financing before they are used and distributed, but judging from the long-term average trend, these special funds have long-term possessions. This special fund consists of the following parts: first, the renewal fund and repair fund formed from sales revenue; second, the new product trial production fund, production development fund, and employee welfare fund formed from profits.
• Taxes, profits, and interest payable by the enterprise. From the balance sheet point of view, the taxes, profits, and interest payable by the enterprise are debt in nature, but their origin is still within the enterprise. This part of the funds cannot be occupied for a long time and must be paid when due, but judging from the long-term average trend, it is also a source of internal financing for the enterprise.

External financing

• Debt financing. Mainly include Priority debt financing. Senior debt refers to debt that enjoys priority in the order of payment. In M&A financing, it is mainly M&A loans provided by financial institutions such as commercial banks. In Western corporate merger and acquisition financing, the financial institution that provides the loan enjoys first-level priority on the acquired assets. Subordinated debt financing. Subordinated debts generally do not have mortgage guarantees like senior debts, and their repayment order is also behind senior debts. Subordinated debt includes various types of unsecured loans, unsecured debt, and various types of corporate bonds and junk bonds.
• Equity financing. The most commonly used equity financing method in corporate mergers and acquisitions is stock financing, which includes common stock financing and preferred stock financing.

Barriers to M&A Financing

• The size of the company’s capital is an obstacle. Enterprises’ funds are endogenous financing for enterprises to carry out mergers and acquisitions. They have low cost, simple procedures, and can be used as a guarantee for other financing. However, at present, Chinese enterprises are generally small in scale and have poor profitability. The amount of their funds makes it difficult to meet the funding requirements for mergers and acquisitions, so they cannot yet become the main channel for mergers and acquisitions financing.
• Policy restrictions on loan financing. Bank loans can make up for the lack of internal financing of enterprises, but most bank loans have short terms and are not suitable as capital.
• Obstacles to Bond Financing. Since bond-issuing companies have not yet established a complete self-discipline mechanism, to protect the interests of investors, the state has imposed strict restrictions on bond issuance, and companies cannot decide on financing behaviors based on market conditions and their own needs.
• Obstacles to Equity Financing. Funds from stock issuance serve as long-term capital for enterprises and are the main source of financing for mergers and acquisitions. The problem with issuing stocks is whether the acquiring entity is qualified for stock issuance and the regulations for stock issuance are strict.

Factors Affecting M&A Financing

M&A is essentially an investment activity for the merging party (acquirer). The prerequisite for enterprises to carry out investment activities is to raise the required funds. In financing arrangements, we must not only ensure the total demand, but also fully consider the financing costs and financing risks.

Financing Cost Analysis

According to different sources of financing, financing can be divided into debt financing and equity financing.

• Liability financing costs: Liability financing mainly includes long-term borrowing and bond issuance.
• Equity financing costs: Equity financing mainly includes common stocks, preferred stocks, and retained earnings. The funds financed through equity financing constitute the enterprise’s own capital, there is no problem with repayment at maturity, the amount is not limited, and it can increase the debt capacity. However, the cost is higher than debt financing.

Financing Risk Analysis

• Financing method risk analysis: Financing risk is an important factor in corporate financing. When choosing a financing method, you must not only consider the cost but also reduce the overall risk.
• Financing structure risk analysis: The huge amount of funds required for corporate mergers and acquisitions is difficult to solve with a single financing method. When raising merger and acquisition funds through multiple channels, companies also have financing structure risks.

Financing Method Analysis

• Indirect financing analysis: Indirect financing is the financing of funds by enterprises through banks or non-bank financial institutions.
• Direct financing analysis: Direct financing is divided into two parts: internal financing of the enterprise and external financing of the enterprise.

Conclusion

Different types of mergers and acquisitions have significantly different impacts and requirements on financing arrangements. Both creditors and debtor lawyers must have in-depth experience in financing arrangements in different types of mergers and acquisitions so that they can assist borrowers and lenders in reaching pragmatic and prudent financing and guarantee arrangements within a short merger and acquisition delivery window, and achieve smooth lending.