INTRODUCTION TO MERGERS,

ACQUISITIONS AND RESTRUCTURING

CORPORATE RESTRUCTURING

Broad array of activities that
 expand or contract a firm’s operations
 substantially modify its financial structure
 change its organizational structure and internal
functioning

Includes different activities such as:

 Mergers
 Purchases of business units
 Takeovers
 Slump sales
 Demergers
 Leveraged buyouts
 Organizational restructuring

MEANING AND TYPES OF MERGERS

 A combination of two or more companies into
one company
 Absorption: one company acquires another
company
  Consolidation: two or more companies combine
to form a new company
 Horizontal: merger of firms engaged in same line
of business
 Vertical: merger of firms engaged at different
stages of production in an industry
 Conglomerate: merger of firms engaged in
unrelated lines of business
 Congeneric: merger of firms engaged in related
lines of business

REASONS FOR MERGERS

(A) Plausible Reasons
1) Strategic benefit
2) Economies of Scale
3) Economies of Scope
4) Economies of Vertical Integration
5) Complementary Resources
6) Tax Shields
7) Utilization of Surplus Funds
8) Managerial Effectiveness

(B) Dubious Reasons

1) Diversification
2) Lower financing costs
3) Earnings growth
MECHANICS OF A MERGER
According to Sec 391 to 394 of Indian Companies Act
1956, the procedure for amalgamation involves:

1) Examining the object clauses of both companies

2) Intimating stock exchanges where the
amalgamated and amalgamating companies are
listed
3) Getting draft amalgamation proposal approved by
respective boards of directors
4) Applying to National Company Law Tribunal
5) Dispatching notice to shareholders and creditors
6) Holding meetings of shareholders and creditors
7) Presenting petition to NCLT for confirming and
passing order of amalgamation
8) Filing NCLT order with ROC
9) Transferring assets and liabilities of amalgamating
company to amalgamated company
10)Issuing shares and/or debentures of the
amalgamated company
TAXATION ASPECTS
 For obtaining tax concessions, the amalgamated
company should satisfy the following conditions:
a) all the properties and liabilities of the
amalgamating company should become the
properties and liabilities of the amalgamated
company by virtue of the amalgamation
b) at least 90% of the shareholders of the
amalgamating company (by value of shares)
should become the shareholders of the
amalgamated company
 If the amalgamating company is an Indian
company, certain tax concessions are available
 Unabsorbed or unfulfilled deductions of the
amalgamating company that are available to the
amalgamated company after the amalgamation:
1) capital expenditure on scientific research
2) expenditure on patents, copyrights, know-
how
3) expenditure on license for operating
telecommunication services
4) amortization of preliminary expenses
5) carry forward of losses
6) unabsorbed depreciation
PURCHASE OF A DIVISION/PLANT
 For company purchasing: purchase
 For company selling: divestiture
 Value of such purchase: future benefits (free
cash flow plus horizon value) discounted at
opportunity cost of capital
 Horizon value: value of the purchase on the
horizon date
 Horizon date: last date of the horizon period used
for defining free cash flow
 Horizon period: period beyond which growth rate
of free cash flow is constant
 Free cash flow (FCF): cash flow from the
purchase net of investments needed for its
operation
 FCF = NOPAT – Net Investment

Approaches for Horizon Value

a) Value of purchase on horizon date discounted to
the present
b) Market value –NOPAT ratio approach: multiply
NOPAT in year H+1 by m (market value-NOPAT
ratio)
c) Market value – book value approach: multiply
book value of assets in year H by MBR (market
value – book value ratio)
TAKEOVERS
 Acquisition of a certain block of equity capital of
a company enabling the acquirer to exercise
control over the affairs of the company
 Theoretically, more than 50% of equity needed
for complete control
 Practically, 20-40% sufficient for exercising
control
 Various methods for takeovers:
a) Open market purchase: buying shares of the
listed company in the stock market; usually
hostile takeovers
b) Negotiated acquisition: buying shares of
target company from one/more existing
shareholders (mostly promoters) in a
negotiated transaction
c) Preferential allotment: buying shares of target
company through preferential allotment of
equity; friendly acquisition
 Various conflicting views for and against
takeovers
NEED FOR REGULATION OF TAKEOVERS
Necessary to regulate takeovers in the following
areas:
1. Transparency
 Transparent process will increase acceptance
as legitimate device among all parties
involved

2. Interest of small shareholders

 Regulation should ensure that shareholders
holding small numbers of shares should not
suffer

3. Realization of economic gains

 Ensure that primary rationale for takeover is
efficiency of operations and better utilization
of resources
 Provision of suitable fiscal incentives for
takeovers of ailing units

4. No undue concentration of market power

 Acquirer should not enjoy undue
concentration of market power which may
be used to detriment of customers or others
ROLE OF FINANCIAL INSTITUTIONS
 Competent persons should be able to participate
in takeovers irrespective of financial resources
 Financial institutions/investors should provide
funds to capable managers/entrepreneurs to
support their takeover proposals

SEBI TAKEOVER CODE

Salient points of SEBI’s takeover code:
1) Disclosure
 Any acquirer who acquires holdings
(shares/voting rights) which alongwith existing
holdings add up to 5%, 10% and 14% of the
total, should announce at each stage to the
company and concerned stock exchange about
such holdings
 Stock exchanges shall put up such information on
public display

2) Trigger Point
 No acquirer can acquire holdings which alongwith
his existing holdings become equal to or more
than 15% of the total
  An acquirer can do so only if he makes a public
announcement to acquire shares through a public
offer to the extent of 20%

3) Offer Price
 The offer price to the public should be atleast the
highest of the following:
a) negotiated price
b) average price paid by acquirer
c) preferential offer price (if made in last 12
months)
d) average of weekly high and low for last 26
months

4) Contents of Public Announcement

 The public announcement should provide the
following information:
a) number of shared proposed to be acquired
b) minimum offer price
c) object of acquisition
d) date by which offer letter will be posted
e) dates of opening and closing of offer
  An acquirer can do so only if he makes a public
announcement to acquire shares through a public
offer to the extent of 20%

5) Creeping Acquisition
 No acquirer can acquire more than 5% of
holdings in any financial year without complying
with open offer requirements if his existing
holdings are between 15% and 75% of the total
 An acquirer can do creeping acquisition of up to
5% per year without triggering off the open offer
requirements
 Any purchase/sale of holding amounting to 2% of
the total should be reported within two days of
the transaction

ANTI-TAKEOVER DEFENCES IN THE US

(A) Pre-offer Defenses
1) Staggered Board: electing one group of
directors out of three every year
2) Super majority clause: high percentage of
votes (around 80%) required to approve a
merger
 3) Poison pills: granting existing shareholders
the right to purchase convertible bonds or
preference stock of the acquiring firm on
favorable terms in the event of a merger
4) Dual class: creating new class of shareholders
with superior voting rights
5) Golden parachute: high compensation to
incumbent management in the event of
takeover

(B) Post-offer Defenses

1) Greenmail: buying acquired shares from
bidder at a premium in exchange for his
promise of refraining from hostile takeover
2) Pacman defence: making counter bid for the
stock of the bidder
3) Litigation: filing a suit against the bidder for
violating anti-trust or security laws
4) Asset restructuring: selling the most
attractive assets and/or buying assets that
are unwanted or problematic for the bidder
5) Liability restructuring: repurchasing own
shares at premium or issuing shares to
friendly third party
ANTI-TAKEOVER DEFENCES IN INDIA
1) Preferential allotment: allotting equity shares
or convertible securities preferentially to
promoters to enhance their equity stake
2) Creeping enhancement: raising equity
holding by creeping enhancement
3) Amalgamate group companies:
amalgamating two or more group companies
to form a larger company less vulnerable to
takeover
4) Selling crown jewels: selling the assets which
are attractive to bidder
5) Searching for white knight: soliciting support
from a friendly third party
BUSINESS ALLIANCES
 Viable alternatives to mergers and acquisitions
 Most commonly used forms:

Joint ventures: independent legal entity in
which two or more separate legal
organizations participate preserving their
own corporate identity and autonomy

Strategic alliances: co-operative relationship
without creation of separate legal entity

Equity partnership: co-operative relationship
in which one party takes a minority equity
stake in the other

Licensing: licensing of
technology/product/process or
trademark/copyright

Franchising alliance: right to sell goods and
services to multiple licensees in different
geographical locations

Network alliance: web of inter-connecting
alliances for collaborations between
companies
RATIONALE FOR BUSINESS ALLIANCES
 Sharing risks and resources
 Access to new markets
 Cost reduction through sharing or combining of
facilities
 Favorable regulatory treatment
 Preclude to acquisition or exit

SUCCESS FACTORS FOR BUSINESS ALLIANCES

 Complementary strengths of partners
 Sharing of exorbitant cost of developing new
product
 Ability of partners to cooperate with each other
 Clarity of purpose, roles and responsibilities
 Perception of equitable division of risks and
rewards among partners
 Similar time horizons and financial expectations
of partners
MANAGING AN ACQUISITION

DISCIPLINED ACQUISITION PROGRAMME

1. Manage the Pre-acquisition Phase
 Thorough evaluation of itself
 Brainstorming for acquisition ideas
2. Screen Candidates
3. Evaluate Remaining Candidates
4. Determine the Mode of Acquisition
5. Negotiate and Consummate the Deal
6. Manage the Post-acquisition Integration

PITFALLS/SINS OF ACQUISITION
1. Straying into very unrelated areas
2. Striving for large size
3. Failure to investigate thoroughly before
acquisition
4. Overpaying
5. Failing in post-acquisition integration
DIVESTITURES
a) Partial Sell-off
b) Demerger
c) Equity Carveout

A) PARTIAL SELL-OFF
 Sale of business unit/plant of one company to
another
 Also called slump sale

Motives for Sell-off

 Raising capital
 Curtailing losses
 Strategic realignment
 Efficiency gain

Financial Evaluation of Sell-off

 Estimating divisional post-tax cash flows
 Establishing discount rate for the division taking
as base cost of capital of some firm of almost the
same size engaged solely in the same line of
business
 Calculating PV of division by using discount rate
  Finding market value of division specific liabilities
i.e. PV of obligations arising from the division’s
liabilities
 Deducing parent firm’s value of ownership
position (VOP)
VOP = PV of division’s CF – MV of division-
specific liabilities
 Comparing VOP with divestiture proceeds (DP)
 Taking decision about sell-off

B) DEMERGER
 Transfer of one or more undertaking by a
company to another company
 Demerged company: whose undertaking is
transferred
 Resulting company: to which undertaking is
transferred
 May take form of spin-off or split-up
 Spin-off: undertaking/division of company is spun
off into an independent company; parent and
spun off company are separate corporate entities
 Split-up: company is split up into two or more
independent companies; parent company
disappears and new corporate entities emerge
  Spin-offs and split-ups enable sharper business
focus
 Strengthens managerial incentives and increases
accountability

C) EQUITY CARVEOUT
 Parent company sells a portion of its equity in a
wholly owned subsidiary
 Sale may be made to general public or a strategic
investor
 Brings cash infusion to the company
 Helps induct strategic investor in a subsidiary

OWNERSHIP RESTRUCTURING
a) Going Private
b) Leveraged Buyout
c) Holding Company

A) GOING PRIVATE
 Converting publicly held company into private
company
 Stock of private company usually held by small
group of investors with incumbent management
having substantial stake
  Typically done by buying out shares held by
public
 Factors prompting management:

Cost savings

Focus on long-term value creation

B) LEVERAGED BUYOUT
 Transfer of ownership consummated mainly
with debt
 Mostly involve a business unit of a company
 Often buyout is by management (MBO)
 After LBO/MBO, unit becomes private company

C) HOLDING COMPANY
 Company holding stocks of other companies to
exercise control over them
 Advantages:

Control with fractional ownership

Isolation of risk

Enormous financial leverage
 Disadvantages:

Partial multiple taxation

Parental responsibility
 PRIVATIZATION
 Transfer of partial or total ownership (represented
by equity shares) of public enterprise from the
government to individuals and non-government
institutions
 Rationale behind privatization:

Improving efficiency

Generating resources

Promoting popular capitalism

ORGANISATIONAL RESTRUCTURING
Elements in organizational restructuring programmes:
 Regrouping of businesses
 Decentralization
 Downsizing
 Outsourcing
 Business process re-engineering (BPR)
 Enterprise resource planning (ERP)
 Total quality management (TQM)