There are at least twenty three practical reasons for a business to acquire another company. In an acquisition, both businesses begin and remain as separate legal entities, with one of the businesses owning the other after the acquisition closes. (In a merger, only one of the companies survives as a legal entity.)
Financial Benefits of Business Acquisition
Access to Capital
There are three ways that a business acquisition can provide more operating capital.
- Increased Borrowing Capacity – The acquiring company may be able to negotiate a higher line of credit based on the increase in combined sales and net revenue, which could support a higher debt service coverage ratio.
- Buying a Line of Credit – In some cases, the company acquired may already have access to a line of credit that is greater than that enjoyed by the acquiring company.
- Buying Cash – In this situation, the acquired company has significant cash and cash equivalents, sometimes more than enough to pay for the acquisition.
- Market Cap and Valuation – The acquisition itself can Increase the valuation and market cap of the acquiring company.
- Increased MRR – Buying a company with enrolled customers can increase MRR (monthly recurring revenue).
There are many tax benefits possible with acquisitions. These will often affect the valuation of the acquired company. Tax benefits can also depend on the form of organization of the acquired company (such as S or C corporation).
- Tax Deduction – Acquisition expenses can help offset acquirer profits during a profitable year to reduce taxes.
- Depreciation – In some cases, the acquired company will have accrued a substantial depreciation expense in the current tax year that can help offset profits in the acquiring company.