corporate finance Corporate finance is an area of finance that deals with the sources of funding, and the capital structure of businesses, the actions that managers take to increase the Value investing, value of the firm to the shareholders, and the tools and analy ...

, a stock swap is the exchange of one equity-based asset for another, where, during the merger or acquisition, the swap provides an opportunity to pay with stock rather than with cash; see .

Overview

The acquiring company essentially uses its own stock as cash to purchase the business. Each

shareholder A shareholder (in the United States often referred to as stockholder) of corporate stock refers to an individual or legal entity (such as another corporation, a body politic, a trust or partnership) that is registered by the corporation as the ...

of the acquired company will receive a predetermined number of shares from the acquiring company. Before the swap occurs each party must accurately value their company so that a fair " swap ratio" can be calculated. The valuation of a company is complicated in general; here though, additional to

fair market value The fair market value of property is the price at which it would change hands between a willing and informed buyer and seller. The term is used throughout the Internal Revenue Code, as well as in bankruptcy laws, in many state laws, and by several ...

, the investment- and intrinsic value are to be determined as well. After the valuation is complete, the parties will agree upon the swap ratio; this will determine the number of shares that each shareholder will receive. In theory, a fair ratio is such that shareholders in both previous companies now own a pro-rated share of the new company: value-wise or re

earnings per share Earnings per share (EPS) is the monetary value of earnings per outstanding share of common stock for a company during a defined accounting period, period of time, often a year. It is a key measure of corporate profitability, focusing on the inte ...

. The acquiring company may also need to add an extra incentive in the form of shares to ensure that the

board of directors A board of directors is a governing body that supervises the activities of a business, a nonprofit organization, or a government agency. The powers, duties, and responsibilities of a board of directors are determined by government regulatio ...

of the acquired company approve the takeover. In

South Korea South Korea, officially the Republic of Korea (ROK), is a country in East Asia. It constitutes the southern half of the Korea, Korean Peninsula and borders North Korea along the Korean Demilitarized Zone, with the Yellow Sea to the west and t ...

, the merger ratio is defined by a certain formula according to the law, if both companies are listed on the KRX. When this swap is realised, the shareholders receive the new stock and own a share in the new company. Sometimes, a part of the agreement will not allow the new shareholders to sell for a certain time period to avoid a sudden drop in share price. This is a form of a

shareholder rights plan A shareholder rights plan, colloquially known as a "poison pill", is a type of defensive tactic used by a corporation's board of directors against a takeover. In the field of mergers and acquisitions, shareholder rights plans were devised in the e ...

or poison pill strategy that is used to combat

hostile takeover In business, a takeover is the purchase of one company (law), company (the ''target'') by another (the ''acquirer'' or ''bidder''). In the UK, the term refers to the acquisition of a public company whose shares are publicly listed, in contrast t ...

s. When all things come together and are fair, then the takeover will proceed without incident.

Internal swap

Stock swaps can also happen internally within a company.

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has used this strategy in the past. When the stock options they offered to their employees dropped so low in price that they became virtually worthless, Starbucks offered a swap option. The company allowed the employees to swap their worthless shares for more that had a higher value.Merrit, Cam. Demand Media. The Nest. Web. July 21st, 2014. http://budgetting.thenest.com/stock-swaps-work-22564.html

References

{{Authority control Accounting terminology Corporate finance Mergers and acquisitions