MODULE 2
Mergers and Acquisitions
transactions
• Types of mergers, Horizontal, Vertical, Conglomerate -
De-merger - Spin offs – Split ups – Split offs – Reverse
Merger
• Difference between Demerger and Reverse Merger
• structuring of transactions, regulatory approval, deal
making in India,
• methods of payment in M&A, distinction between
stock and cash transactions –
• Special kinds of M&A: Leveraged acquisitions,
Acquihire arrangements, Joint Venture Structures
• Private Investment in Public Equity (PIPE) Transactions.
TYPES OF MERGERS
• Merger or acquisition depends upon the
purpose of the offeror company it wants to
achieve. Based on the offerors’ objectives
profile, combinations could be vertical,
horizontal, conglomeratic.
Vertical Combination
• Same value chain but different stage of production
• A company would like to takeover another company or seek its merger with that
company to expand espousing backward integration to assimilate the resources of
supply and forward integration towards market outlets. The acquiring company
through merger of another unit attempts on reduction of inventories of raw material
and finished goods, implements its production plans as per the objectives and
economizes on working capital investments.
• In other words, in vertical combinations, the merging undertaking would be either a
supplier or a buyer using its product as an intermediary material for final
production. The following main benefits accrue from the vertical combination to
the acquirer company i.e.
• (1) It gains a strong position because of imperfect market of the intermediary
products, scarcity of resources and purchased products;
• (2) Has control over products specifications.
Merger of coal Mining and Railway company.
Maruti Suzuki Acquiring Nexa (Showroom)
P&G – Essel Propack (Package)
• Forward Integration : Company Acquiring
Retailers is forward integration where they are
going close to consumers.
• Maruti Suzuki Acquiring Nexa (Showroom)
• Flipkarts acquiring payment bank like
PayUMoney
• Backward Integration: Company acquiring its
suppliers is backward integration.
• Apple acquiring Powerby Proxi (Wireless
charger)
• Starbucks acquiring Coffee farms in China
Horizontal Combination
• It is a merger of two competing firms which are at the same stage of
industrial process.
• The acquiring firm belongs to the same industry as the target
company.
• The main purpose of such mergers is to obtain economies of scale in
production by eliminating duplication of facilities and the operations
and broadening the product line, reduction in investment in working
capital, elimination in competition, concentration in product,
reduction in advertising costs, increase in market segments and
exercise better control on market.
• Facebook acquired Instagram in 2012 for $1 billion, which was a
horizontal merger of two social media platforms
• Vodafone and Idea
Conglomerate Combination
• It is an amalgamation of two companies engaged in
unrelated industries.
• The basic purpose of such amalgamations remains
utilisation of financial resources and enlarges debt capacity
through re-organising their financial structure so as to
service the shareholders by increased leveraging and EPS
(Earnings Per share), lowering average cost of capital and
thereby, raising present worth of the outstanding shares.
• Merger enhances the overall stability of the acquirer
company and creates balance in the company’s total
portfolio of diverse products and production processes.
• Piramal (Non strategic partner) and Vodafone
• Microsoft and Linkdn
De-Merger
• A de-merger is the process of separating a
company into two or more independent
entities. It is essentially the opposite of a
merger and is done for various strategic,
financial, or regulatory reasons.
TYPES
• Divestitute
• Spin off
• Equity Carve Out
• Splits/divisions-Splits involve dividing the company into two or
more parts with an aim to maximize profitability by removing
stagnant units from the main stream business. Splits can be of
two types , Split-ups and Split-offs.
• Split-ups: all the capital stock and assets are exchanged for those of
two or more newly established companies resulting in the
liquidation of the parent corporation.
• How a Split-Up Works
• The company decides to separate into multiple independent entities.
• Each new entity takes over specific business operations, assets, and
liabilities.
• The original company dissolves, and its shareholders receive shares
in the newly created companies.
• AT&T (1984) – Broke into multiple regional telecom companies due to
antitrust regulations.
• Split offs: A split-off is a type of corporate restructuring in which a company
separates a part of its business into a new independent entity, and shareholders must
exchange their shares in the parent company for shares in the new entity. Unlike a
spin-off, where shareholders receive shares in the new company automatically, a
split-off requires them to choose between keeping shares in the parent company or
exchanging them for shares in the new entity.
• How a Split-Off Works
• The parent company creates a new subsidiary and transfers certain assets and
operations to it.
• Shareholders of the parent company are given the option to exchange their shares
for shares in the new company.
• Once the exchange is complete, the new entity operates independently, and the
parent company continues separately.
Reverse Merger
• A reverse merger (also called a reverse takeover (RTO) or reverse IPO)
is when a private company acquires a publicly traded company to bypass
the traditional initial public offering (IPO) process. This allows the private
company to become publicly listed without going through the lengthy and
expensive IPO process.
• How a Reverse Merger Works
• A private company identifies a public company (usually a dormant or shell
company with little to no operations).
• The private company acquires a controlling stake in the public company.
• The private company’s management and operations take over, effectively
making it the new publicly traded entity.
• The original public company’s shareholders may retain some shares or be
bought out.
1. When a large company is being acquired or taken
over by a small company.
• Reverse Merger
• Tata Steel – Corus
2. Private Company takes over a public listed company.
Backdoor Listing. Indian Companies Act doesn’t allow.
• Lenovo (china) and Motorola (USA): Buy stake in US
Company to enter that market.
3. Subsidiary buys Holding Company – ICICI ltd (parent)
merged with ICICI Bank ( Subsidiary) 2002
Advantages of a Reverse Merger
• Faster and Cheaper than a traditional IPO.
• Avoids Market Volatility that can impact IPO pricing.
• Access to Public Capital for future expansion.
• Easier Regulatory Process compared to a traditional IPO.
Disadvantages of a Reverse Merger
• Risk of Low-Quality Shell Companies that may have hidden
liabilities.
• Limited Investor Interest compared to IPOs.
• Regulatory Scrutiny due to past fraud cases involving shell
companies.
SPECIAL FORMS OF M & A
• Leveraged acquisitions
• Acquihire arrangements
• Joint Venture Structures
• Private Investment in Public Equity (PIPE)
Transactions
Acquihire arrangements
• An acquihire is when a company buys another primarily to
acquire its talent rather than its products, technology, or
revenue. This strategy is often used by larger companies to
quickly build a skilled team, especially in competitive
industries like tech and startups.
• Swiggy makes first acqui-hire of the year with AI startup
[Link] for better computer vision and a premium
experience for its customers.
• Strategic Advantage: Such deals allow larger companies to
quickly onboard skilled teams, which can be especially
valuable in tech-driven industries.
• Distinction: While a traditional acquisition values both the
business and the team, an acqui-hire focuses almost
entirely on the talent.
Reasons for Acqui-Hires
• Team Efficiency: The acquirer can bypass lengthy
recruitment processes by acquiring a team that
already works cohesively.
• Cost Savings: Acquiring an existing team saves on
training and onboarding costs.
• Market Intelligence and IP: Besides talent,
acquirers might also gain access to intellectual
property and specialized knowledge, potentially
reducing product development time.
Deal Structure in Acqui-Hire Transactions
• Components:
– Asset Purchase: May involve acquiring tech-related assets like websites and
domains (this part can be optional).
– Intellectual Property Assignments: Ensures that the work produced by the
team is legally transferred.
– Employment Agreements: Typically include retention incentives, joining
bonuses, and sometimes stock options to keep the team engaged post-
transaction.
• Financial Considerations: The deal might involve a lump sum payment to
the startup's promoters, with founders often seeing this as a way to
ensure their team’s continued employment and to add credibility to their
entrepreneurial track record.
• Sectors and Timing
• Target Startups: Acqui-hires are common among startups at a nascent
stage—often bootstrapped or in early funding rounds—where the team
has shown capability but the startup might be facing challenges scaling.
• Industry Focus: Sectors like IoT, blockchain, AI, VR, and machine learning
are often attractive targets due to their reliance on specialized tech talent.
Due Diligence and Risks
• Due Diligence: While comprehensive due diligence might
be limited (given the primary focus is on acquiring the
team), it’s still important to review financials, legal
documents, and existing employment contracts.
• Potential Pitfalls:
– Cultural Mismatches: Integration of a startup’s agile culture
with a larger company’s more structured environment can be
challenging.
– Retention Issues
– Mismatch in Expectations: Differences in work culture and
career progression opportunities can lead to dissatisfaction
among the acquired employees.
Private Investment in Public Equity
(PIPE) Transactions
• Private investors invest in publicly traded corporations.
• Private Investment in Public Equity (PIPE) transactions
are a financing mechanism where publicly traded
companies raise capital by selling equity securities—or
securities that can be converted into equity—directly to
selected institutional or accredited investors. Unlike
traditional public offerings, PIPE deals are conducted
privately.
• • May involve shares at discount, at premium as far as
India is concerned
• It is an example of a private investment (PIPE) into a
public company with a market capitalization of INR
400 crore (cr). The scenario compares raising INR 100
cr via a private placement versus raising capital
through an FPO (Follow-on Public Offering) or a
Rights Issue.
• 1. Pre-money Setup
• Pre-money Market Cap: INR 400 cr
– This is based on 40 million shares at INR 10 per share.
• Shareholding:
– Promoters hold 60% (worth INR 240 cr).
– Public holds 40% (worth INR 160 cr).
2. Private Investment (PIPE) Scenario
• Investment Amount: INR 100 cr
• Price per Share: INR 12.5
– This is a premium to the market price of INR 10.
• New Shares Issued: 8 million shares (100 cr / 12.5 per share)
• Post-money Market Cap: INR 500 cr
– Before investment: 400 cr
– Plus new cash of 100 cr => total valuation at 500 cr
• Post-Transaction Shareholding
• Promoters: 51% (down from 60% because of dilution)
• Public: 34% (down from 40%)
• New Investor: 15%
• Timing and Cost
• Faster Process: The table mentions about 2 months to complete a PIPE
deal.
• No Need for Deep Discounts: Because the private investor is willing to pay
INR 12.5/share, which is actually a premium over the INR 10 market price.
3. Comparing with FPO or Rights Issue
• Longer Timeline
– FPO can take 6 months or more from the date of filing.
– Rights Issue also involves regulatory filings, shareholder notifications, etc.
• Discount Pressure
– A Rights Issue often requires a significant discount to the market price to
incentivize existing shareholders to subscribe.
– A heavily discounted issue can hamper the share price and overall market
sentiment.
• Net Proceeds
– The table suggests that for the same 15% dilution, the company might net only
about INR 54–55 cr through an FPO/Rights Issue once you factor in the
required discount and underwriting or issue expenses (approx. 5%–6% of the
deal size).
– This is substantially lower than the INR 100 cr raised via the private
investment.
• Bottom Line
• Less Capital for the Same Dilution: The FPO/Rights route would likely raise only
~INR 54–55 cr for 15% stake (post-expenses and discounts) compared to INR 100
cr for 15% stake via a private placement.
• Time and Cost: FPO or Rights Issue is more time-consuming (6+ months) and has
higher associated costs, whereas a private deal closes faster (2 months or so).
Conclusion: Why the Private Investment Is More
Beneficial
• Quicker Access to Funds: Only 2 months to finalize the
private placement.
• Higher Proceeds: INR 100 cr raised for the same
dilution (15%) compared to INR 54–55 cr under an
FPO/Rights scenario.
• Avoid Deep Discounting: The private investor pays a
premium (INR 12.5 vs. market price of INR 10), so the
company does not have to discount its shares.
• Less Market Uncertainty: No prolonged marketing
period or reliance on public market appetite.
Methods of Payment
• From the beginning of 1990s the number of M& A has risen. Today, majority of M&As are
paid through stocks rather than cash. Such a shift has tremendous ramifications for
shareholders of both the acquiring and acquired companies. Naturally, the managements of
both the companies need to consider various issues about how to pay for, and whether to
accept a deal or not, before a firm decision is made. The following are the important points in
this regard
• 1. The acquirer has to decide whether to finance the deal through stock or pay cash.
• 2. If the acquirer decides to issue stock, then it must decide whether to offer a fixed value of
shares or a fixed number of shares
• 3. Cash offer places all the potential risks and rewards the acquirer, and sends a strong
message to the stock markets that the management is confident about the deal as well as its
own stock value.
• 4. By issuing shares, however, an acquirer in essence offers to share the newly merged
company with they stockholders of the acquired company, a signal the market often interprets
as a lack of confidence in the value of the acquirer's stock, and that it will decline before the
deal goes through. Offering a fixed value of shares sends a more confident signal to markets,
as the acquirer assumes all the risk.
Stock v/s cash
In a cash deal, there is a simple transfer of ownership of the company for cash. But
in a share exchange offer, it is difficult to identify who the buyer is and who the
seller. The shareholders of the acquired company become the new owners of the
acquirer company, and in some cases, they can be the largest shareholders
depending upon the valuations and agreed share exchange ratio. In many takeovers,
the acquirers are so large compared to the targets, that the selling shareholders end
up owning only a negligible proportion of the combined company. Companies that
pay for their acquisitions with stocks, share both the value addition and the risks of
the transaction with the shareholders of the acquired company. The decision to use
stock instead of cash can affect shareholder returns. Various studies show that at the
time of announcement, shareholders of acquiring companies fare worse in stock
transactions than they do in cash transactions. In a cash transaction, acquiring
shareholders take on the entire risk, if the expected synergy value embedded in the
acquisition premium does not materialize. In stock transactions, such a risk is
shared with selling shareholders, and more precisely, it is shared in proportion to
the percentage of shareholding in the combined company.