Merger,acquisition And Corporate Restructuring
Structure• Conceptual framework
• History of M&A
• Financial framework
• Corporate restructuring
• Accounting for amalgamation
• Tax benefits
• Exercise
CONCEPTIONAL FRAMEWORK
MEANING OF
• MERGERS
• ACQUSITIONS
• AMALAMATIONS
• TAKEOVERS
• ABSORPTIONS
TYPES OF MERGERS
• HORIZONTAL MERGER – SIMILAR LINES OF ACTIVITY
• as Ford announced the sale of the two British iconic cars to Tata Motors Ltd.
• Ford acquired Jaguar for $2.5 bn in 1989 and Land Rover for $2.75 bn in 2000 but put them on the market last year after posting losses of $12.6 bn in 2006 - the heaviest in its 103-year history.
• HDFC Bank's merger with Centurion Bank of Punjab and Walt Disney Company's acquisition of 17.2per cent stake in UTV Software Communication to increase its stake to 32.10 per cent in the company.
In February 2008, as many as 38 cross-border deals were announced with total value of $2.80 billion, of which 27 were outbound deals with a value of $2.57 billion.
Diologic Report
• Meanwhile, global financial information provider Diologic in its latest report said that India-targeted M&A volumes reached $11.9 billion through 345 deals so far this year. US was the leading acquiring country with deals worth 1.6 billion dollars, followed by the UK with $904 million and Germany with USD 584 million.
ADVANTAGES
• REDUCTION OF COMPETITION
• PUTTING AN END TO PRICE CUTTING
• ECONOMIES OF SCALE IN PRODUCTION
• RESEACH AND DEVELOPMENT
• MARKETING AND MANAGEMENT
VERTICAL MERGER –
FIRMS SUPPLYING RAW MATERIALS MERGE WITH FIRM THAT SELLS
ADVANTAGE
• LOWER BUYING COST OF MATERIAL
• LOWER DISTRIBUITION COST
• ASSURED SUPPLIES AND MARKET
• COST ADVANTAGE
CONGLOMERATE MERGER
UNRELATED INDUSTRIES MERGE
PURPOSE
• DIVERSIFICATION OF RISK
• Ex:Time warner-(they were into media & movie production) & AOL-(leading American website)
Expansion
• Merger and Acquisition
• Asset acquisition
• Joint ventures
• Tender offer
Contraction
• 1.Spin off-shares in subsidiary distributed to its own shareholders
• Kotak Mahendra Capital finance Ltd formed a subsidiary called Kotak Mahendra Capital Corporation by spinning off its investment division.
• 2.Split off- A new company is created to takeover an existing division or unit.
• It does not result in any cash inflow to the parent company
HISTORY
The First wave
• 1897-1904-horizontal Mergers• Monopolistic Market structure• Mega merger between US Steel and Carnegie Steel.It
also merged with 785 separate firms-75% of Steel production of US.
• More than 3000 companies disappeared.• General Electric,Navistar, Standard Oil, Du-Point,
American Tobacco-90% of market share• Transformation of regional firms into national firms.• Exploited the economies of scale.
Table-1
• Year Number of mergers
• 1897 69
• 1898 303
• 1899 1208
• 1900 340
• 1904 79
Problems of the first Wave
• Financial factors• Fraudulent financing• Stock Market crash in 1904 and Banking panic of
1907• Closure of many banks and formation of Federal
Reserve System.• Easy finance ends here.• The US President Teodore Roosevelt and President
William Taft made a crack down on Large Monopolies.As a result: ???? What happened to Standard Oil?
Standard Oil(SO)
• Broken in to 30 Companies.
• SO of New Jersey named EXXON
• SO of New York named MOBIL
• SO of California renamed CHEVRON
• SO of Indiana renamed AMOCO
The Second Wave
• 1916-1929• Oligopolies industry structure• Industries like primary metals, petrolium products,
food products, chemicals• Outside the previously consolidated heavy
manufacturing industries.• Product extension merger like IBM and General
Foods• Vertical mergers In the mining and metal
industries(1920)
Prominent Corporations
• General Motors, IBM, Union Carbide, John DEERE
• Between 1926 and 1930- there were 4600 mergers took place
• Result of which between 1919 and 1930 12,000 manufacturing , mining,public utility and banking firms disappeared.
• This period rail transportation, motor vehicle transportation became national market.
• Radios in homes, entertainment enhanced the competition.
• Mass merchandising, national brand advertising
• Enhance productivity as a part of war effect.• The firms were urged to work together rather than
compete
• The second wave came to an end when stock market crashed on October 29,1929.
• Investment Bankers played in the first two phases of mergers.
The 1940s
• The second world war with merger of small firms with larger firms
• Motive of tax relief
• High estate taxes
• There were no increased concentration of wealth
• Mergers were small.
The third Wave-1965-1969
• Merger activity reached its highest level during this period
• Booming of economy• Conglomerate merger period-80%• Diversification strategy• It is because of ANTI TRUST enforcement• Federal government adopted a stronger antitrust
enforcement both with horizontal and verticle merger.
• 1963-1361 mergers; 1970-5152 mergers
Management sciences
• Management principles were applied in industries.• Management graduates were employed to manage
conglomerate mergers.• There were 6000 mergers which leads to 25000
firms disappeared.• Investment Bankers do not finance most of these
mergers• Finance:-????
Finance for mergers
• Equity financing
• Boom in stock market prices
• Many conglomerate merger failed
• The Revlon –cosmetic entered into health care and failed and suffered in cosmetic industry.
The Fourth Wave-1981-1989
• Recession in 1974-75• Hostile merger• Take over or targeting on target company’s board of
directors.• If the board accepts, it is considered friendly, and if it
opposes it, it is deemed to be hostile.• The great mergers such as Oil companies-21.6%Of dollar values of merger and acquisitionsDrugs and medical equipment industries due to deregulation
in some industriesDeregulation of airline industries
• Investment bankers played an aggressive role.
• M&A advisory services became a lucrative source of income for Goldman Sachs
• Innovation in acquisition techniques
The Fifth Wave-1992-till date
• Once again increased activity in merger in 1992• Mega mergers• Strategic mergers• Equity based• Deregulations and technological changes• Banking , telecommunications entertainment and
media industries• High growth in banking sectors in 1990 as banks grew
greater than central banks.• Banks fund M&A rather than new ventures.
Oligopoly market structure
• Competition declined• Very few competitors • Example: Coco-Cola-44.5%,Pepsi-31.4%,Cadbury
Schweppes-14.4%• Globalisation• Not confined to US companies• 1995-US companies were acquired
• 1981-2395
• 1989-2366
• 1990-2074 companies
• 2001-7528 companies merged
Major Mergers in the telecom
• Acquirer Target
• Vodafone Mannes man
• MCL worldcom Spirit
• Bell atlantic GTE
• AT&T MeCaw Celluar
• SBC Pacific Telesis
Major Mergers in Media and Entertainment sector
• AOL Time Warner
• VIOCOM CBS
• WALT DISNEY CAPITAL ITIES/ABC
• AT&T MEDIA ONE
• TIME WARNER TURNER BRODCAST
M&A IN INDIA
• License era-Unrelated diversification• Conglomerate merger• Friendly take over and hostile bids by buying equity
shares• Example: Swaraj paul attempted to raid on Escorts
Ltd.and DCM Ltd but could not succeed.• The Hindujas raided and took over Ashok leyland
and Ennore Foundaries.• Chhabria Group acquired stake in Shaw Wallace,
Dunlop india and Falcon Tyres.
• Goenka group from culcutta took over Ceat tyres.
• The Obroi-Pleasant hotels of Rane group.
• 1989- Tata Tea acquired 50% of the equity shares of Consolidated Coffee Ltd from resident shareholders.
• merged to form HCL Ltd??.
HCL
• Hindustan Computers, Hindustan Reprographic, Hindustan Telecommunications and Indian Software Ltd.
Comparative study
• US India• Strategic By default(ANZ&
Standard chartered• Gains by invest Not benefited by banksment bankersCapital goods consumer goodsBorrowedEarlier debt later by equity cash/FDIAnti trust MRTP later The competition
bill 2001
FINANCIAL FRAMEWORK
IT COVERS THREE INTERRELATED
ASPECTS
1.DETERMINING THE FIRM’S VALUE
2.FINANCING TECHNIQUES IN MERGER
3.CAPITAL BUDGETING
DETERMINIG THE FIRMS VALUE
QUANTITATIVE FACTORS – BASED ON1. THE VALUE OF THE ASSETS• BOOK VALUE – OWNERS EQUITY• DEPENDS ON FIXED ASSETS AND WORKING CAPITAL2. APPRAISAL VALUE- INDEPENDENT APPRISAL AGENCIES3. MARKET VALUE – BASED ON STOCK MARKET
QUATATIONS ,BUT CHANCE FOR SPECULATION4. EARNING PER SHARE AND P/E RATIO – IMPACT OF EPS
AFTER MERGER
• THE EARNINGS OF THE FIRM
EXERCISE
COMPANY A• NO. OF SHARES 2
LACS• MARKET VALUE
PER SHARE RS.25• EPS RS.3.125
COMPANY B• NO. OF SHARES 1
LAC• MARKET VALUE
RS.18.75• EPS RS.2.5
CONCLUSIONS
• EXCHANGE AT EPS – NO EFFECT ON EPS AFTER MERGER
• EXCHANGE MORE THAN EPS RATIO – COMPANY WITH LOWER EPS GAINS
• IF LESS THAN EPS RATIO – COMPANY WITH HIGHER EPS BEFORE MERGER GAINS
PRICE EARNING RATIO APPROACH
• MEANING
• COMPUTATION :
P/E RATIO = MP/EPS
• EPS = EAT/NO. OF EQUITY SHARES
• MARKET PRICE = P/E (NO. OF TIMES) * EPS
EXAMPLEPRE MERGER SITUATION
FIRM A FIRM B
EAT 6,25,000 2,50,000
NO. OF SHARES 2,00,000 1,00,000
EPS 3.125 2.5
P/E RATIO(TIMES) 8 7.5
MARKET PRICE PER SHARE(MPS)
25 18.75
TOTAL MARKET VALUE (N*MPS) OR (EAT*P/E RATIO)
50,00,000 18,75,000
POST MERGER SITUATION 1
(BASED ON CURRENT MARKET PRICE
SITUATION 2
EXCHANE RATIO/ SWAP RATIO (ASSUMING)
2.5:3.125=.8 1 : 1
EAT(COMBINED FIRM) 6.25+2.5=8.75 8,75,000
NO. OF SHARES 2.8 lakhs 2,00,000+1,00,000=3,00,000
EPS 8.75/2.8=3.125 8,75,000/3,00,000=2.91/
P/E RATIO
(ASSUMED TO BE THE SAME)
8 7.5
MPS 3.125*8=25 21.825
TOTAL MARKET VALUE 70,00,000 65,47,500
CONCLUSION
• IF SHARES ARE EXCHANGED BASED ON CURRENT MARKET PRICE PER SHARE , POST MARKET PRICE SHARE INCREASED AT HIGHER RATE THAN EXCHANGED BELOW THIS RATIO
• Boot strap effect
• MARKET VALUE AFTER MERGER = MARKET VALUE BEFORE MERGER = 68,75,000
• NET GAIN = 15,00,000? IF EXCHANGE RATIO IS 2.5:1 WHO GAINS
WHO LOSES? IF EXCHANGE RATIO IS 1:1 WHO GAINS
WHO LOSES? HOW TO CALCULATE TOLERABLE SHARE
EXCHANGE RATIO
DETERMINATION OF TOLERABLE SHARE EXCHANGE RATIO
TOTAL MV
LESS: MINIMUM TO BE GIVEN TO B
75,00,000
10,00,000
NET BENEFIT TO A 65,00,000
NO. OF SHARES OF A TO A CO. SHARE HOLDERS
1,00,000
DESIRED POST MERGER MPS 65 PER SHARE
NO. OF EQUTY SHARES TO BE ISSUED BASED ON DESIRED MARKET PRICE
10,00,000/65 = 15,385 SHARES
TOLERANCE SHARE EXCHANGE RATIO
50,000/15385 = 3.25 SHARES OF FIRM B, 1 SHARE IN FIRM A
1:3.25
CONCLUSION
• FIRM WITH HIGHER P/E RATIO CAN ACQUIRE FIRM WITH LOWER P/E RATIO WHICH WILL INVARIABLY INCREASES MARKET VALUE AFTER MERGER
CAPITAL BUDGETING
• THE TARGET FIRM SHOULD BE VALUED BASED ON PV OF INCREMENTAL CASH INFLOWS
CORPORATE RESTRUCTURING
• FINANCIAL RESTRUCTURING
• RESTRUCTURING SCHEMES : INTENAL AND EXTERNAL RESTRUCTURING
• DEMERGERS
• BUYOUTS
ACCOUNTING FOR AMALGAMATION
• POOLING INTEREST METHOD
CONDITIONS AS PER AS 14:
1. ALL ASSETS AND LIABILITIES OF TRANSFEROR CO. TO BE THE ASSETS OF THE TRANSFREE CO.
2. AT LEAST 90% OF F.V OF EQUITY SHARE HOLDERS SHOULD BE SHAREHOLDERS OF NEW CO.
3. PURCHACE CONSIDERATION TO BE SETTLED BY THE NEW CO.
4. THE BUSINESS OF NEW CO. SHOULD CONTINUE
5. NO ADJUSTMENT IS INTENDED TO BE MADE TO BOOK VALUE OF ASSETS AND LIABILITIES OF TRANSFEROR CO.
OTHER ACCOUNTING TREATMENTS
1. CROSS HOLDINGS OF SHARES TO BE CANCELLED SUBSIQUENT TO MERGER
2. INTER CO. TRANSACTIONS LIKE DEBTORS AND CREDITORS – SALE OF GOODS FROM ONE CO. TO ANOTHER
3. SALES TAX PAID ALREADY CAN NOT BE RECOVERED
INCOME TAX RELATED ISSUES FOR
AMALGAMATIONCONDITIONS OF AMALGAMATION UNDER INCOME TAX ACT SEC 2
(1B)1. ALL ASSETS AND LIABILITIES OF TRANSFEROR CO. TO BE THE
ASSETS OF THE TRANSFREE CO.2. SHARE HOLDERS HOLDING NOT LESS THAN 3/4TH IN VALUE OF
SHARES OTHER THAN SHARES ALREADY HELD SHOULD BECOME SHARE HOLDERS OF AMALGAMATED COMPANY
EX. NO. OF SHARES OF Altd CO. 1,00,000 NO. OF SHARES HELD BY Bltd IN Altd IS 20,000 NOMINAL VALUE OF SHARE IS RS.10 ASSUME Altd MERGE WITH Bltd THEN 75% OF 1,00,000- 20,000 =
60,000 TO BE THE SHARE HOLDES OF B CO.NOTE:SHARE HOLDERS MAY BE EQUITY OR PREFERNCE SHARE
HOLDERS
OTHER CONDITIONS
• THE AMALGAMATED CO. IS AN INDIAN CO.
EXCEPTION
1. IF SHARES OF INDIAN CO.HELD BY FOREIGN BEFORE MERGER AND SUCH FOREIGN CO. TAKEN OVER BY ANOTHER FOREIGN CO.
2. ATLEAST 25% OF THE FOREIGN CO. (BEFORE MERGER) TO BE SHARE HOLDERS OF THE NEW FOREIGN CO.
? WHAT IS THE BENEFIT TO THE AMALGAMATED CO. AMALGAMATING CO.(OLD CO.)
• NO CAPITAL GAIN ON TRANSFER ON CAPITAL ASSETS BY THE TRANSFEROR CO. UNDER SEC 47(VI) OF I.T ACT
? CAN NEW CO. CARRY FORWAD AND SET OF LOSS AND DEPRECIATION
SEC 72 A TO BE FULFILLED1. ACCUMULATED LOSSES REMAIN UNABSORBED FOR 3 OR MORE
YEARS2. 75% OF BOOK VALUE TO BE HELD ATLEAST FOR 2 YEARS
BEFORE AMALGAMATION3. THE AMALGAMATED CO. CONTINUES TO HOLD 3/4TH OF BOOK
VALUE ATLEAST FOR 5 YEARS4. NEW CO. SHOULD CONTINUE FOR ANOTHER 5 YEARS5. NEW CO. SHOULD ACHIEVE ATLEAST 50%OF INSTALLED
CAPACITY BEFORE END OF 5 YEARS AND SHOULD CONTINUE FOR 5 YEARS
6. THE NEW AMALGAMATED CO. SHOULD FURNISH TO ASSESSING OFFICER ABOUT PARTICULARS OF PRODUCTION
BENEFIT
• THIS SCHEME IS ALSO APPLICABLE TO BANKING INSTITUTIONS
?TATA VOLTAS & KELVINATOR HYDERABAD DIVISION vs. CBDT
EXAMPLE
A LTD AMALGAMATES WITH B LTD AS ON 2007
PARTICULARS DOES NOT SATISFY SEC 2(1B) & 72 A
SATISFIES 2(1B) BUT DOES NOT SATISFY 72 A
SATISFIES BOTH 2(1B) & 72 A
A MERGES WITH B (A GOES OUT)
NO BENEFIT TO A & B
DOES NOT ATTRACT CAPITAL GAIN FOR A BUT NO GAIN FOR B
NO CAPITAL GAIN TAX & ACCUMULATED LOSSES & UNABSORBED DEPERICIATION CAN BE CARRIED FORWARD
? If b merges with a & b goes out of market who gains under above 3 situations
? If a&b merge with c what are the tax implication under above situations
Assume b is a loss making co.& Have accumulated losses & unabsorbed depreciation
? If c is not an Indian co.
OTHER TAX BENEFITS
1. Expenditure on amalgamation or de-merger – allowed under sec 35DD both revenue and capital expenditure allowed
2. Expenditure on scientific research can be carried forward
3. Expenditure on acquisition of patent rights copyrights – depreciation can be provided
4. Expenditure for obtaining license for tele-communication service can be written off
5. Preliminary expenses
6. Capital expenditure on family planning
7. Bad debts are allowed
Tax Concession To Share Holders Of Amalgamating Co.
• No capital gain tax provided, new co. is an Indian co.& Shareholders are acquired everything in shares
EXERCISE
PARTICULARS CO. A CO. B
EAT 1,40,000 37,500
NO. OF SHARES 20,000 7,500
EPS 7 5
MARKET PRICE 70 40
P/E RATIO 10 8
• Co. A is acquiring co. B Exchanging one share for every 1.5 shares of B ltd & p/e ratio will continue even after merger
? Are they better or worse of than they were before in merger
? Determine the range of minimum & maximum ratio between the two firms
? A is an Indian co. ? A is a foreign co.? A merges with T & formed a new co. AT ltd? What are the tax planning required before & after
merger
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