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Mergers and Acquisitions

by ashwani verma

Acquisitions, mergers and amalgamations have become strategic devices in the hands of more and
more firms not only to stay in competition but also to extend their dominance. There are primarily
two ways of achieving growth, organic and inorganic for a business organization. A firm focusing
on organic growth essentially aims at achieving business growth through enhanced customer base
as well as higher sales, both physical and financial, together with growth in revenue. Essentially,
organic growth entails business growth aided and induced by a gradually and progressive increasing
deployment of the four inputs viz., men, money, materials and machines. An inorganic growth
opportunity provides the organization with an avenue for attaining accelerated – in a way
instantaneous – growth enabling it to skip a few steps on the growth ladder. Mergers and
Acquisitions (M&A) constitute one of the most important methods for securing inorganic growth.

A merger is a tool used by companies for the purpose of expanding their operations often aiming at
an increase of their long term profitability. There are different types of actions that a company can
take when deciding to move forward using M&A. Usually mergers occur in a consensual (occurring
by mutual consent) setting where executives from the target company help those from the purchaser
in a due diligence process to ensure that the deal is beneficial to both parties. Acquisitions can also
happen through a hostile takeover by purchasing the majority of outstanding shares of a company in
the open market against the wishes of the target’s board.

The Main Idea:

One plus one makes three: this equation is the special alchemy of a merger or an acquisition. The
key principle behind buying a company is to create shareholder value over and above that of the
sum of the two companies. Two companies together are more valuable than two separate companies
- at least, that’s the reasoning behind M&A.
This rationale is particularly alluring to companies when times are tough. Strong companies will act
to buy other companies to create a more competitive, cost-efficient company. The companies will
come together hoping to gain a greater market share or to achieve greater efficiency. Because of
these potential benefits, target companies will often agree to be purchased when they know they
cannot survive alone.

In business or economics a merger is a combination of two companies into one larger company.
Such actions are commonly voluntary and involve stock swap or cash payment to the target. Stock
swap is often used as it allows the shareholders of the two companies to share the risk involved in
the deal. A merger can resemble a takeover but result in a new company name (often combining the
names of the original companies) and in new branding; in some cases, terming the combination a
“merger” rather than an acquisition is done purely for political or marketing reasons.

Historically, mergers have often failed to add significantly to the value of the acquiring firm’s
shares. Corporate mergers may be aimed at reducing market competition, cutting costs (for
example, laying off employees, operating at a more technologically efficient scale, etc.), reducing
taxes, removing management, “empire building” by the acquiring managers, or other purposes
which may or may not be consistent with public policy or public welfare
Classifications of Mergers:

From the perspective of business structures, there is a whole host of different mergers. Here are a
few types, distinguished by the relationship between the two companies that are merging:

• Horizontal mergers take place where the two merging companies produce similar product in the
same industry. A typical example of this would be the merger of the German auto-manufacturer
Daimler-Benz and American car-maker Chrysler Corporation. A more recent example would be the
merger of Mittal Steel with the French firm Arcelor.

• Vertical mergers occur when two firms, each working at different stages in the production of the
same good, combine. It may be recalled that the UPA Governments taking over the reins at the
centre took place against a backdrop of rather difficult conditions persisting in the international oil
market which resulted in the crude-oil price crossing the threshold of $50 a barrel and then touching
$74 per barrel sometime in April, 2006. The unprecedented rise in international fuel prices led the
Ministry of Petroleum & Natural Gas to explore various alternatives including g rationalization of
customs and excise duties to soften the impact of increasing global prices on the consumer. One of
the alternatives which has been the subject of intensive national debate is the proposal to merge the
existing Oil PSUs into two vertically integrated behemoths – one centering around ONGC, and the
other around Indian Oil Corporation which, is yet to take off.

• Congeneric mergers occur where two merging firms are in the same general industry, but they
have no mutual buyer/customer or supplier relationship, such as a merger between a bank and a
leasing company. Example: Prudential’s acquisition of Bache & Company.

• Conglomerate mergers occur when a merger of firms engaged in unrelated lines of activity tales

There are two types of mergers that are distinguished by how the merger is financed. Each has
certain implications for the companies involved and for investors:
. Purchase Mergers - As the name suggests, this kind of merger occurs when one company
purchases another. The purchase is made with cash or through the issue of some kind of debt
instrument; the sale is taxable.

Acquiring companies often prefer this type of merger because it can provide them with a tax
benefit. Acquired assets can be written-up to the actual purchase price, and the difference between
the book value and the purchase price of the assets can depreciate annually, reducing taxes payable
by the acquiring company. We will discuss this further in part four of this tutorial.

Consolidation Mergers - With this merger, a brand new company is formed and both companies
are bought and combined under the new entity. The tax terms are the same as those of a purchase

The completion of a merger does not ensure the success of the resulting organization; indeed, many
mergers (in some industries, the majority) result in a net loss of value due to problems. Correcting
problems caused by incompatibility—whether of technology, equipment, or corporate culture—
diverts resources away from new investment, and these problems may be exacerbated by inadequate
research or by concealment of losses or liabilities by one of the partners. Overlapping subsidiaries
or redundant staff may be allowed to continue, creating inefficiency, and conversely the new
management may cut too many operations or personnel, losing expertise and disrupting employee
culture. These problems are similar to those encountered in takeovers. For the merger not to be
considered a failure, it must increase shareholder value faster than if the companies were separate,
or prevent the deterioration of shareholder value more than if the companies were separate.


An acquisition, also known as a takeover, is the buying of one company (the ‘target’) by another.
An acquisition may be friendly or hostile. In the former case, the companies cooperate in
negotiations; in the latter case, the takeover target is unwilling to be bought or the target’s board has
no prior knowledge of the offer. Acquisition usually refers to a purchase of a smaller firm by a
larger one. Sometimes, however, a smaller firm will acquire management control of a larger or
longer established company and keep its name for the combined entity. This is known as a reverse

Whether a purchase is considered a merger or an acquisition really depends on whether the

purchase is friendly or hostile and how it is announced. In other words, the real difference lies
in how the purchase is communicated to and received by the target company’s board of
directors, employees and shareholders. It is quite normal though for M&A deal communications
to take place in a so called ‘confidentiality bubble’ whereby information flows are restricted due to
confidentiality agreements.

As you can see, an acquisition may be only slightly different from a merger. In fact, it may be
different in name only. Like mergers, acquisitions are actions through which companies seek
economies of scale, efficiencies and enhanced market visibility. Unlike all mergers, all acquisitions
involve one firm purchasing another - there is no exchange of stock or consolidation as a new
company. Acquisitions are often congenial, and all parties feel satisfied with the deal. Other times,
acquisitions are more hostile.

In an acquisition, as in some of the merger deals we discuss above, a company can buy another
company with cash, stock or a combination of the two. Another possibility, which is common in
smaller deals, is for one company to acquire all the assets of another company. Company X buys all
of Company Y’s assets for cash, which means that Company Y will have only cash (and debt, if
they had debt before). Of course, Company Y becomes merely a shell and will eventually liquidate
or enter another area of business.

Another type of acquisition is a reverse merger, a deal that enables a private company to get
publicly-listed in a relatively short time period. A reverse merger occurs when a private company
that has strong prospects and is eager to raise financing buys a publicly-listed shell company,
usually one with no business and limited assets. The private company reverse merges into the public
company, and together they become an entirely new public corporation with tradable shares.

Regardless of their category or structure, all mergers and acquisitions have one common goal: they
are all meant to create synergy that makes the value of the combined companies greater than the
sum of the two parts. The success of a merger or acquisition depends on whether this synergy is

Types of acquisition
 The buyer buys the shares, and therefore control, of the target company being purchased.
Ownership control of the company in turn conveys effective control over the assets of the
company, but since the company is acquired intact as a going business, this form of
transaction carries with it all of the liabilities accrued by that business over its past and all of
the risks that company faces in its commercial environment.
 The buyer buys the assets of the target company. The cash the target receives from the sell-
off is paid back to its shareholders by dividend or through liquidation. This type of
transaction leaves the target company as an empty shell, if the buyer buys out the entire
assets. A buyer often structures the transaction as an asset purchase to “cherry-pick” the
assets that it wants and leave out the assets and liabilities that it does not. This can be
particularly important where foreseeable liabilities may include future, unquantified damage
awards such as those that could arise from litigation over defective products, employee
benefits or terminations, or environmental damage. A disadvantage of this structure is the tax
that many jurisdictions, particularly outside the United States, impose on transfers of the
individual assets, whereas stock transactions can frequently be structured as like-kind
exchanges or other arrangements that are tax-free or tax-neutral, both to the buyer and to the
seller’s shareholders.

Distinction between Mergers and Acquisitions:

Although they are often uttered in the same breath and used as though they were synonymous, the
terms merger and acquisition mean slightly different things.

When one company takes over another and clearly established itself as the new owner, the purchase
is called an acquisition. From a legal point of view, the target company ceases to exist, the buyer
“swallows” the business and the buyer’s stock continues to be traded.

In the pure sense of the term, a merger happens when two firms, often of about the same size, agree
to go forward as a single new company rather than remain separately owned and operated. This
kind of action is more precisely referred to as a “merger of equals”. Both companies’ stocks are
surrendered and new company stock is issued in its place. For example, both Daimler-Benz and
Chrysler ceased to exist when the two firms merged, and a new company, DaimlerChrysler, was

In practice, however, actual mergers of equals don’t happen very often. Usually, one company will
buy another and, as part of the deal’s terms, simply allow the acquired firm to proclaim that the
action is a merger of equals, even if it is technically an acquisition. Being bought out often carries
negative connotations, therefore, by describing the deal as a merger, deal makers and top managers
try to make the takeover more palatable.

A purchase deal will also be called a merger when both CEOs agree that joining together is in the
best interest of both of their companies. But when the deal is unfriendly - that is, when the target
company does not want to be purchased - it is always regarded as an acquisition.


Some people say that mergers and acquisitions occur because the greedy corporations want to
acquire everything. As far as economic theory is concerned, the primary objective of a firm is to
maximize profits, and thereby maximize shareholder wealth.

When evaluating a new company, it becomes very important to identify the answers to various
questions concerning motives for merger and whether it has been actualized. On the other hand,
investors need to know if the new entity would take them to the heights of capital markets where
their aspirations regarding returns would get the wings and fire.
Some of the motives for mergers are as below:

1. Synergy: Synergic effect occurs when two substances or factors combine to produce a greater
effect together than the sum of those together operating independently. The principle of 2+2 =5, this
theory expects that there is really “something out there which creates the merged entity to maximize
the shareholders value”. To put in other words, synergy is the ability of a merged company to create
more shareholders value than standalone entity.

Financial synergy

The resultant feature of corporate merger or acquisition on the cost of capital of the combined or
acquiring firm is called as financial synergy. It occurs as a result of the lower cost of internal
financing versus external. A combination of firms with different cash flow positions and investment
scenario may produce the synergic effect and achieve lower cost of capital. It means when the rate
of cash flow of the acquirer firm is greater than that of the acquired firm, there is tendency to
relocate the capital to the acquired firm and the investment opportunity of the latter increases. If the
cash flows of the two entities are not perfectly correlated, the financial synergy can be expected
thus reducing risk. The perceived reduction of the instability of the cash flow, would lead the
suppliers to trust the firm, the combined debt capacity of the combined firm may be greater than the
individual firms.

Operating synergy

Economies of scale and economies of scope exist in the industry and before the merger, the
activities of the individual firms are insufficient to exploit these.

Synergy takes the form of revenue enhancement and cost reduction. Speaking of cutting down
costs, this goal is typically achieved through economies of scale, particularly when it comes to sales
and marketing, administrative, operating, and/or research and development costs. As for revenue
synergies, these are achieved through product cross-selling, higher prices due to less competition, or
staking a larger market share.

The merger of ICICI with ICICI Bank and the reverse merger of IDBI Bank with IDBI served
multiple objectives. First, the institutions were strengthened financially. Second, they helped to
avoid the complex processes of restructuring the weaker of the units and to foster financial stability.
Finally, they have opened the possibilities of actively promoting universal banking.

When two companies in the same industry merge, the combined revenue tends to decline to the
extent, they overlap with one another and some of the customers may also become alienated. For
the merger to benefit the shareholders, there must be ample opportunities for the cost reduction, so
that the initial lost value is recovered in due course through synergy.

To calculate the minimum value of the synergy required, to compensate the acquiring firm’s
shareholders, we equate the post-merger share price with that of the pre-merger share price using
the following:
(Pre-merger value of both the firms + synergies) = Pre-merger stock price Post merger number of

2. Growth: Increasing a company’s growth is the most common reason behind merger. Growth can
be achieved through investing in capital projects internally or externally by buying out the assets of
outside companies. Emperical studies show that the faster growth rates are achieved through
external growth by means of mergers and acquisitions.
Merging internationally provides an immediate growth opportunity to a firm which was once
operating within a single country. There are various factors which encourage a firm to merge
internationally for growth are:

1. A firm with surplus cash flows operating in a slow-growing economy can invest its cash in fast-
growing economy.

2. The domestic markets if are too small to accommodate the corporate or if the domestic markets
have already reached saturation can go for international markets.

3. Overseas expansion may sometimes enable the medium size companies to improve their capacity
and ability to compete.

4. Size enables the companies to achieve the economies of scale.

In September 2002, Asian Paints India Ltd, announced its decision to acquire 50. 1 % controlling
stake in the Singapore-based Berger International Ltd for a consideration of Rs. 57. 6 crore. The
primary reason for the merger was to enter into the South-East Asian market that BIL offered. With
this acquisition, Asian paints would have a combined capacity of about 100,000 tones and will have
27 manufacturing facilities worldwide.

3. Market Power : One of the main motives of a merger is to increase the share of a firm in the
market. It means to increase the size of the firm and also leading to the monopoly power, hence the
firm gets an opportunity to set prices at levels that are not sustainable in a more competitive market.
There are three sources by which market power can be achieved. They are product differentiation,
overcoming entry barriers and improving market share.

One important reason that companies combine is to eliminate competition. Acquiring a competitor
is an excellent way to improve a firm’s position in the marketplace. It reduces competition, and
allows the acquiring firm to use the target’s resources and expertise. Unfortunately, combining for
this purpose is per se illegal under the antitrust acts as a predatory practice in restraint of trade.
Consequently, whenever a merger is proposed, a major part of the resulting press release often deals
with how this combination of firms is not anti-competitive, and is done to better serve the consumer.
Even if the merger is not for the stated purpose of eliminating competition, the regulatory agencies
may conclude that a merger is likely to be anti-competitive. For example, Canadian National’s
attempt to merge with Burlington Northern Santa Fe was blocked because of concerns that the
combination would prompt a series of mergers and acquisitions whose net effect would be to leave
the continent with only two transcontinental railroads. Although eliminating competition may result
in merger and acquisition activity, it is generally not acceptable to state this as the purpose of such

Horizontal mergers take place with a motive to attain market power. It is of great concern to the
government, because, it might lead to concentration or monopoly. Hence comparison between their
efficiencies versus their effects of increased concentration must be made. Note that horizontal
mergers are not the only type of mergers that can yield more market power. Vertical mergers can
enable a company to capture sources of supplies, for example, that are of paramount importance to
its competitors. This is why industry regulators routinely limit and even disallow horizontal and
vertical mergers if there is even a hint of too much market power concentrating in the hands of only
a few companies.
4. Corporate Tax Savings

Although tax savings may not be a primary motivation for a combination, it can sweeten the deal.
When a purchase of either the assets or common stock of a company takes place, the tender offer
less the stock’s purchase price represents a gain to the target company’s shareholders. Consequently,
the target firm’s shareholders will usually experience a taxable gain. However, the acquiring
company may reap tax savings depending on the market value of the target company’s assets when
compared to the purchase price. The acquiring company can write up the target company’s assets by
the amount that the market value exceeds the net book value of the target company’s assets. This
difference can then be charged off to depreciation with resultant tax savings. This differs from
goodwill in that goodwill is never tax deductible. Depending on the method of corporate
combination, further tax savings may accrue to the owners of the target company.

Retirement or Cashing Out

For a family-owned business, when the owners wish to retire, or otherwise leave the business, and
the next generation is uninterested in the business, the owners may decide to sell to another firm.
For purposes of retirement or cashing out, if the deal is structured correctly, there can be significant
tax savings. By using the pooling method, the sellers may be able to account for their sale of their
interest as a tax-free exchange. Provided the sellers receive common stock of the purchasing
company in exchange for their interest, they can assign the book value of their former investment to
the shares received. Therefore, no tax would be due until the shares received are sold.

Other tax incentives

If a firm having operating losses merges with another firm which has taxable profits, then there will
be a net gain to the acquiring firm often at the expense of the government. The losses can be used to
reduce the taxable income. Even if the two firms, which have merged have current profits, a merger
can reduce future tax liability as the variability of cash flows is lowered after the merger. One firm’s
profit can be off-set by other firm’s losses thus resulting in tax savings. Smaller the correlation
between the firm’s cash flows, larger is this effect.

5. Market/Business/Product Line Issues

Often mergers occur simply because one firm is in a market that another wants to enter. All of the
target firm’s experience and resources (the employees’ expertise, business relationships, etc. ) are
available by buying the targeted firm. This is a very common reason for acquisitions. For example,
Monsanto acquired G. D. Searle because Monsanto wanted to acquire the pharmaceuticals and
consumer chemicals (Aspartame) businesses. Sentry Insurance acquired John Deere Insurance
Group to enter the market for insuring implement dealers, and transportation. CSK Automotive
purchased All-Car to have access to the Central Wisconsin automotive parts market. Similarly,
Canadian National purchased Wisconsin Central to enter the U. S. rail market. Whether the market
is a new product, a business line, or a geographical region, market entry or expansion is a powerful
reason for a merger.

Closely related to these issues are product line issues. A firm may wish to expand, balance, fill out
or diversify its product lines. For example, merger and acquisition activities of Nortek/Peachtree
Companies are primarily product line related.
6. Acquire Needed Resources

One firm may simply wish to purchase the resources of another firm or to combine the resources of
the two firms. These resources may be tangible resources such a plant and equipment, or they may
be intangible resources such as trade secrets, patents, copyrights, leases, etc. , or they may be talents
of the target company’s employees. One reason given for the mergers in the petroleum industry is
that companies wish to acquire the leases of their competitors. If acquiring a company for its talent
seems strange, consider that Cisco Systems CEO John T. Chambers said, “Most people forget that
in a high-tech acquisition, you are really only acquiring people . We are not acquiring current
market share. We are acquiring futures”. It emphasize that often the reasons for mergers and
acquisitions are quite similar to the reasons for buying any asset. Both firms and individuals
purchase an asset for its utility.

7. Diversification: Diversification is another frequently cited reason for mergers. Actually, it was
THE reason during the conglomerate merger wave. The idea was to circumvent regulatory
restrictions on horizontal and vertical mergers by going outside a company’s industry into new
markets and to achieve growth there.

International mergers provide diversification both geographically and also by product line. When
various economies are not correlated, then the international mergers reduce the earning risk,
inherent in being dependent on a single economy. Thus international mergers reduce systematic and
unsystematic risk.


Documentation required for an M&A programme varies widely depending on the deal to be struck.
However, the starting point frequently is the confidentiality agreement to be executed by the parties
to safe guard the dissemination of their confidential non-public business information. Signing of the
confidentiality agreement is often followed by a letter of intent or a Memorandum of Understanding
which may be signed after the parties have agreed on certain preliminary terms and conditions. The
essential terms of the deal, however, get captured in the definitive agreement once the parties agree
that their legal rights and obligations pertaining to the proposed M&A activity or plan be placed in
black and white. In addition to these, there is a specific company law requirement that there shall be
a scheme of amalgamation or merger which has to be approved by the Members of the merging

The acquisition document usually sets out the merger consideration by ay of share swap and/ or
cash payment,, the representations and warranties of the merging companies/ acquiring or to be
acquired companies, pre-conditions to the M&A, if any, such as continuance of existing man power,
circumstances under which the merger may be called off which must, of course, be before approval
by the shareholders and other miscellaneous provisions.

Where, however, the companies under merger are actually holding and subsidiary companies,
separate agreements as above, may not be entered into between the two companies. Instead, it may
be quite in order for the two companies to draw up more or less identical draft Scheme of
Amalgamation which, on clearance by their respective Board of Directors, becomes the governing
document which their members are to approve.

Start with an Offer

When the CEO and top managers of a company decide that they want to do a merger or acquisition,
they start with a tender offer. The process typically begins with the acquiring company carefully and
discreetly buying up shares in the target company, or building a position. Once the acquiring
company starts to purchase shares in the open market, it is restricted to buying 5% of the total
outstanding shares before it must file with the SEC. In the filing, the company must formally
declare how many shares it owns and whether it intends to buy the company or keep the shares
purely as an investment.

Working with financial advisors and investment bankers, the acquiring company will arrive at an
overall price that it’s willing to pay for its target in cash, shares or both. The tender offer is then
frequently advertised in the business press, stating the offer price and the deadline by which the
shareholders in the target company must accept (or reject) it.

The Target’s Response

Once the tender offer has been made, the target company can do one of several things:

Accept the Terms of the Offer - If the target firm’s top managers and shareholders are happy with
the terms of the transaction, they will go ahead with the deal.

• Attempt to Negotiate - The tender offer price may not be high enough for the target company’s
shareholders to accept, or the specific terms of the deal may not be attractive. In a merger, there
may be much at stake for the management of the target - their jobs, in particular. If they’re not
satisfied with the terms laid out in the tender offer, the target’s management may try to work out
more agreeable terms that let them keep their jobs or, even better, send them off with a nice, big
compensation package.

Not surprisingly, highly sought-after target companies that are the object of several bidders will
have greater latitude for negotiation. Furthermore, managers have more negotiating power if they
can show that they are crucial to the merger’s future success.

• Execute a Poison Pill or Some Other Hostile Takeover Defense – A poison pill scheme can be
triggered by a target company when a hostile suitor acquires a predetermined percentage of
company stock. To execute its defense, the target company grants all shareholders - except the
acquiring company - options to buy additional stock at a dramatic discount. This dilutes the
acquiring company’s share and intercepts its control of the company.

• Find a White Knight - As an alternative, the target company’s management may seek out a
friendlier potential acquiring company, or white knight. If a white knight is found, it will offer an
equal or higher price for the shares than the hostile bidder.

Mergers and acquisitions can face scrutiny from regulatory bodies. For example, if the two biggest
long-distance companies in the U.S., AT&T and Sprint, wanted to merge, the deal would require
approval from the Federal Communications Commission (FCC). The FCC would probably regard a
merger of the two giants as the creation of a monopoly or, at the very least, a threat to competition
in the industry.
Closing the Deal

Finally, once the target company agrees to the tender offer and regulatory requirements are met, the
merger deal will be executed by means of some transaction. In a merger in which one company
buys another, the acquiring company will pay for the target company’s shares with cash, stock or

A cash-for-stock transaction is fairly straightforward: target company shareholders receive a cash

payment for each share purchased. This transaction is treated as a taxable sale of the shares of the
target company.

If the transaction is made with stock instead of cash, then it’s not taxable. There is simply an
exchange of share certificates. The desire to steer clear of the tax man explains why so many M&A
deals are carried out as stock-for-stock transactions.

When a company is purchased with stock, new shares from the acquiring company’s stock are
issued directly to the target company’s shareholders, or the new shares are sent to a broker who
manages them for target company shareholders. The shareholders of the target company are only
taxed when they sell their new shares.

When the deal is closed, investors usually receive a new stock in their portfolios - the acquiring
company’s expanded stock. Sometimes investors will get new stock identifying a new corporate
entity that is created by the M&A deal.


Section 391 to 394 of the Companies Act, 1956 contain the major provisions for amalgamations and
acquisitions these sections would have to be read with the Companies (Court) Rules, 1959 which
forms a complete procedural code for implementing mergers. The normal steps involved are:
• Examination of Objects clause – The Memorandum of Association of both
companies – the transferor company and the transferee company – should contain
enabling for the amalgamation to take place. If such clause do not exist necessary
• alteration of the Memorandum of Association would have to put through at the

• Approval of the scheme by the Board of Directors – Respective Board of Directors

of the transferor and the transferee companies is to approve the Scheme of
Amalgamation including the exchange ratio. To enable the Board to take a decision,
the draft Scheme of Amalgamation is prepared by the Legal Advisors, the Valuation
Report is prepared by the Financial Advisors and a Merchant Banker would also give
a Fairness Opinion Certificate on the Valuation Report.

• Intimation to Stock Exchange – Since the decision of the Board on a proposed

merger of the company is a price-sensitive information, both the companies are
inter-alia required under clause 36 of the Listing Agreements with the Stock
Exchange, to communicate the said price-sensitive information to the Stock
Exchanges immediately after the Board Meeting deciding on the merger and/or
according approval to the merger scheme.
• Application to the Court for directions – The next step is to make an application
under Section 391(1) to the High Court having jurisdiction over the company. The
transferor company and the transferee company should make separate applications to
the respective High Court. The application under Section 391(1) of the Act for an
order convening a meeting of creditors and/or members is to be made by a Judge’s
summons in Form 33 supported by an Affidavit in Form 34in terms of Rule 67 of the
Companies (Court) Rules, 1959, A copy of the proposed Scheme of Amalgamation
needs to be annexed to the Affidavit. Documents accompanying the summons would
be a true copy of the Company’s updated Memorandum and Articles of Association
and certified copy of the Board Resolution which authorizes making of the
application to the Court.

• High Court directions for convening shareholder’s Meeting – During the hearing of
the summons, which is usually attended by the representatives of the merging
companies as well as the Legal Consultants, the High Court gives directions under
Rule 69 of the Court Rules in form 35 determining the class or classes of creditors
and/or of members whose meeting or meetings are to be held for considering the
proposed merger, fixing the date, time and place of the meeting, appointed by the
Chairman who would preside over the meeting, fixing the quorum and the procedure
to be followed at the meeting(s) including voting by proxy, the notice of the meeting
and the advertisement thereof and the time within which the chairman of the meeting
is to report to the Court the result of the meeting. In case a request has been made in
the application for dispensing with holding of the creditors’ meeting, the Court may
after considering the grounds for dispensation, direct the separate requirements of the
Creditors’ Meeting be dispensed with.

• Dispatch of Notice to Shareholders and Creditors – In order to convene the meeting

of the Shareholders and Creditors, a Notice and an Explanatory Statement of the
Meeting, as approved by the Court, should be dispatched by the transferor and the
transferee companies under section 393 of the Act read with Rule 73 of the Court
Rules to their respective shareholders and creditors together with the Scheme of
Amalgamation at least 21 clear days prior to the date of the meeting. The Notice is to
be drawn up in Form 36 of the Court Rules and a proxy form in Form 37 of the Court
Rules is to be sent. The documents have to be mailed under certificate of posting.

• Advertisement of the notice of the Meeting – Rule 74 of the Court Rules stipulates
that the Notice of the Meeting should be advertised adopting the format specified in
Form 38. The advertisement is to be issued by both the companies in English daily
together with a translation thereof published in the regional language of the place
where the registered office of the company is situated. Under Rule 76 of the Court
Rules, the Chairman appointed for the meeting shall file with the Court-not less than
7 days prior to the date of the meeting – an affidavit confirming that the Notice has
been dispatched to the Shareholders/ Creditors and that the same has been published
in the newspapers as directed.
• Holding of the Shareholders’ and Creditors’ Meeting – The Shareholders’/
Creditors’ Meeting would need to be held on the appointed date. Rule 77 of the Court
Rules prescribes that the decision(s) of the meeting(s) held pursuant to Court Order
on all resolution shall be ascertained only by taking a poll. The Amalgamation
Scheme should be approver by the members/ creditors by a majority in number
present in person or by proxy and this majority must represent at least 75% in value
of the Shareholders/ Creditors present and voting on the poll.

• Submission of the Chairman’s Report on the conduct of the Meeting to the Court -
Pursuant to the Rule 78 of the Court Rules, the Chairman of the Shareholders’/
Creditors’ meeting is required to submit to the Court within the time fixed by the
judge or where no time has been fixed, within 7 days after the date of conclusion of
the meeting, a Report in Form 39 of the Court Rules inter alia setting out therein the
number of persons who attended & voted at their meeting personally or by proxy,
their individual values and the percentage of members who voted in favour of or
against the Scheme.

• Filing of Resolution with the Registrar of Companies - Within 30 days from the
date of passing the resolution, a copy of the resolution passed by the Shareholders/
Creditors approving the Scheme of Amalgamation is required to be filed with the
Registrar of Companies in Form 23 appended to the Companies (Central
Government’s) General Rules and Forms, 1956.

• Submission of Petition to the Court for sanction of the scheme – In terms of Rule
79 of the Court Rules, within 7 days from the date on which the Chairman submitted
his report on the result of the meeting to the Court, the transferor and the transferee
companies would be required to make a petition to the High Court for confirmation
of the Scheme of Amalgamation. The petition has to be drawn up in Form 40 of the
Court Rules. Rule 80 of the Court Rules enjoins that based on the petition the court
will fix the date of hearing of the petition and direct that the notice of the hearing
shall be advertised in the same newspapers in which the Notice of meeting had been
announced or in such other newspaper as the court may direct. Such advertisement
has to be issued not less than 10 days before the date fixed for the hearing. The said
notice inter alia affirms that should any member or creditor of the transferor
company raises written objections to the proposed amalgamation, no objection shall
be raised to the said member or creditor being heard on its objection by the court.

• Issue of Notice to Regional Director, Company Law Board, Registrar of

Companies and to the Official Liquidator – On receipt of the petition, the Court
issues Notice of the petition to the concerned Regional Director - Company Law
Board – having jurisdiction over the transferor and the transferee companies, the
respective Registrar of Companies as also to the Official Liquidator of the company
which is to be dissolved upon the merger.
• Conduct of Hearings and Issue of Order confirming the Scheme – Proceedings
would begin with the Court hearing the objections, if any, ion the Amalgamation
Scheme filed – in response to the advertisement vide Sl. 11 above – with the
concerned Regional Director Company Law Board, the concerned Registrar of
Companies and/or the Court by any member, creditor or any other person desirous of
opposing the petition. Thereafter the Court may pass an order sanctioning the
Amalgamation Scheme in Form 41 of the Companies (Court) Rules. The Court may
also pass order in Form 42 directing that all properties, rights and powers of the
transferor company to be specified in the schedule attached to the Order, be
transferred without any further act or deed to the transferee company and all
liabilities and duties of the transferor company be similarly transferred to the
transferee without any further act or deed.

• Transfer of Assets and Liabilities to the Transferee Company – Passing of the Order
is pursuant to the Scheme of Amalgamation which provides that with effect from the
Appointed Date and upon Scheme becoming effective, all assets including rights,
licenses, know-how, trademark, patent etc. in relation to the transferor company or to
which the transferor company is a party shall be in full force and effect on, against or
in favour of the transferee company and may be enforced as fully and effectually as
if, instead of the transferor company, the transferee company has been a party or
beneficiary thereto without any further act or deed by the transferee company. This
provision springs from Section 394(2) of the Companies Act, 1956 which empowers
the Court to order for the transfer of any property or liability from the transferor to
the transferee company.

• Filing of Court Order with the Registrar of Companies by both the companies –
Under Section 394 (3) of the Act read with Rule 81 of the Court Rules, the transferor
and the transferee companies are required to file the Court’s Order sanctioning the
Scheme of Amalgamation with the Registrar of Companies under their respective
jurisdiction. The filing is to be made in Form 21 appended to the Companies (Central
Government’s) General Rules and Forms, 1956. Under section 394(3) the time limit
given for the filing is 30 days (substituted for 14 days with effect from 15.10.1965)
from the date of issue of the Order. However, since the time- frame under Rule 81
still shows 14 days, it would be advisable to complete the filing within 14 days. The
amalgamation takes effect from the date on which the Court’s Order is filed with the
Registrar of Companies. Therefore, in the interest of synchronization of the Effective
date of Merger, it would be advisable for both the transferor and the transferee
companies to file the Order with their concerned Registrar of Companies on the same

• Issue of Shares to the shareholders of the transferor Company – Pursuant to the

sanctioned Scheme of amalgamation, the Shareholders of the transferor company
would be issued shares in the transferee company as per the exchange ratio or the
swap ratio approved under the scheme. This is made by way of an allotment
following which the return of allotment in Form 2 would have to be submitted to the
Registrar of Companies by the transferee company within 30 days from the allotment
date in accordance with Section 75 of the Companies Act, 1956. Necessary entries in
the Register/ Index of Members would also be made in compliance with Sections
150& 151 of the Act.
• Listing the new Shares – After making the allotment the transferee company will
apply to the stock exchange where its securities are listed, for listing the new shares
allotted to the shareholders of the transferor company.

• Annexation of Court Order to the Memorandum of Association – Section 391(4) of

the Act stipulates that a certified copy of the Court’s Order sanctioning the Scheme
of Amalgamation is to be annexed to every copy of the Memorandum of Association
issued by the transferee company failing which penal clauses would become

• Preservation of Books and Papers of the Transferee Company – In terms of Section

396A of the Companies Act, 1956 the books and papers of the amalgamated
company are to be preserved and not to be disposed of without prior permission of
the Central Government.

Although in a number of countries an additional approval under applicable Anti-Trust Laws is

required, this is still not necessary under the Indian Law. Nevertheless, the stage has been set for a
change with the introduction of the Competition Act, 2002. Once this Act becomes fully
operational, acquisition and mergers would require the approval of the Competition Commission of
India where the combined assets of the acquirer and the acquired enterprise in India crosses the
various threshold sizes envisioned under the said law.


The most commonly used methods of determining the exchange ratio or the swap ratio are as

(1) Net Asset Value per share – The relative Book Value or Net Realizable Value or Replacement
Cost per share of the two firms are commonly used to determine the Exchange or the Swap Ratio.
Under the Book Value approach, the Book Value of the firm is ascertained by initially considering
the audited written-down value of the assets – i.e. historical cost of the assets less accumulated
depreciation – deducting there from the external liabilities. The net worth so arrived at is to be
adjusted for net appreciation/diminution in the value of investments and is reduced by the quantum
of perceived contingent liabilities. The results adjusted net worth is then divided by the number of
shares in the paid-up capital to give the Net Asset Value per share.

If the Book Value per share of the acquiring company so arrived at is say Rs. 20/- and the Book
Value per share of the transferor company is say Rs.15/-, the swap ratio based on Book Value would
be 15/20 i.e. 3:4. This means for every 4 shares in the transferor company, 3 new shares in the
acquiring company would be issued to the shareholders of the transferor company.

While the Book Value methods affords a simply yet objective basis for computing the exchange
ratio, a major shortcoming is that different companies follow different methods for accounting of
depreciation reflecting subjective judgments which dilute objectivity. Again, since Book Value does
not reflect the purchasing power of money,, the company – whether the transferor or the transferee
with significantly older assets is some what unfairly prejudiced. The shortcomings are, however,
mitigated by applying the methods after necessary re-valuation of assets based on either Net
Realizable Value or Replacement Cost.
(2) Capitalized Earnings Per Share – Under this method the average net maintainable profit of the
Company (EBIDTA) is projected – based on the trend of past earnings – for a future term of say 3
to 5 years after adjusting for non-recurring, non-operating or abnormal items of income and
expenditure to arrive at the Adjusted Operating Profit. The Adjusted Operating Profit is then
capitalized on an expected rate of return (commonly the Price/Earnings multiple) to arrive at the
capital employed in earning the said Adjusted Operating Profit.

To the said capital employed is added the value of surplus/non-operating assets such as investments
and from the aggregate sum is deducted the contingent liabilities to give the total value of business
for Equity Shareholders. This when divided by the number of shares in the paid-up capital gives the
capitalized earnings value of the shares.

(3) Market Value Per Share – The Swap Ratio may be based on the relative market price of the
shares of the acquiring company and the target company. Assume that the shares of the acquiring
company are quoted at an average market value of Rs.500 on the Stock Exchange whereas the
shares of the target company are quoted at Rs.200. The exchange ratio based on the market price
would then be 200:500 or 2:5. This signifies that for every 5 shares in the transferor company, 2
new shares in the acquiring company would be issued to the shareholders of the transferor company.
It is customary to work out the average Market Value of the shares taking into account the stock
market quotations during the preceding 3 years i.e. considering the high and low of each month in
the preceding 12 months and the high and low of 2 years preceding the last 12 months. Some
Financial Advisors prefer to work out the weighted average market price by multiplying volume of
shares dealt with during the year by price prevailing (average or closing) and then dividing the
summation by total volume of shares traded during the period under computation.

(4) Discounted Cash Flow – Under this method the projected free cash flows from business
operations are discounted at the weighted average cost of capital to the providers of capital to the
business and the sum total of such free cash flows is the value of the business.

It is, however, noteworthy that the process of valuation can hardly be reduced to a uniform and rigid
mathematical exercise to cover all situations. In fact, experts in valuation recognize that valuation
ultimately would need to be tempered by application of logical discretion, prudence and judgment
taking into consideration all factors that affect the valuation matrix. The valuation matrix would
include several subjective factors such as integrity, transparency and quality of the management,
potential competition, prevailing sentiment which though not reflected in the balance sheet, greatly
impact the valuation process. Similarly, the accounts of either company might have elements
entailing window dressing or creation of secret reserves which needs to be addressed during the
course of valuation. The role of Financial Advisors in this area is very crucial.

Although different values may be arriver at under each of the above methods, it is common for the
Financial Advisors working out the merger consideration to determine the fair basis or fair value of
amalgamation. Thus for the purpose of recommending a fair ratio of exchange it is necessary to
arrive at a single value for the shares of the transferor and the transferee company. This is readily
done by taking an average of the values obtained as above, either simple average or better still
weighted average by allotment of weights to each of the above value per share to facilitate
computation of a weighted fair value.
For instance, in a given amalgamation scenario the Financial Advisors may, after considering
background factors, decide to allot a weight of 20% to the net asset value, 40% to the capitalized
earnings value and 40% to the market value of both the companies. Although the methods of
valuation are best left to the wisdom of Financial Advisors especially appointed to make the
valuation and not laid down by the law, judicial precedents do recognize that the process involves
multifarious qualitative factors and key underlying assumptions relevant to the acquiring and the
target company tempered by their business dynamics and growth potentialities.

As can be expected, intangible assets valuation is more challenging because standard financial
modeling/valuation techniques may not be readily applicable.


Merges and acquisitions may be financed in several ways. Merger financing can take place totally
on the basis of securities or wholly in cash or partly by way of securities and partly in cash. In
deciding on which option to use and in considering the relative merits the management team
entrusted with the merger negotiations may consider the following aspects :-

(a) Empirical evidence seems to indicate that acquisitions/ mergers financed by cash tends to be
relatively more successful presumably because the transferee company acquiring in cash tends to be
more circumspect and rigorous in evaluating the pros and cons of the merger especially during the
process of financial & legal due diligence before parting with cash consideration.. Having said that,
it may be relevant to state that exponents of M&A are yet to categorically lay down generally
accepted criteria for a successful merger.

(b) If exclusively cash compensation is paid, the shareholders of the transferor company neither
bear the risk nor do they partake in the rewards of the merger. Consequently, from the acquirer’s
perspective, there is no dilution in the shareholding interest of the existing members.

(c) Cash compensation could be a taxable income in the hands of the shareholders of the transferor
company, whereas issue of stock is not.

(d) If the transferor company’s share price is quoting at a considerably higher value that that of the
transferee company, the preference could be for meeting the merger consideration in shares since
this tends to be relatively more cost-effective than payment in cash. Even otherwise, share swap is
the most commonly accepted/ agreed merger consideration.

Under the Income-Tax Act, 1961, the transferor company is described as the amalgamating
company while the transferee company is called the amalgamated company. Section 72A of the
Income-Tax Act, 1961 stipulates that the accumulated loss and unabsorbed depreciation of the
amalgamating company shall be deemed to be the loss or depreciation allowance of the
amalgamated company for the previous year in which the amalgamation is effected and can be set-
off or carried forward as per other provisions of the said act. However, the right of setoff is subject
to the following conditions:

(a) There has been an amalgamation of a company owning an individual undertaking a ship or hotel
with another company within the meaning of section 5 of the banking regulation act, 1949 with a
specified bank as defined.

(b) The amalgamating company has been in business from which loss has occurred or depreciation
has remained unabsorbed for a minimum period of 3 years.

(c) The amalgamating company has held, continuously for a period of 2 years preceding the date of
amalgamation, at least 3/4th of the book value of its fixed assets.

(d) The amalgamated company holds, continuously for a minimum period of 5 years from the date
of amalgamation, at least 3/4th the book value of the fixed assets acquired under the amalgamation

(e) The amalgamated company continues the business of the amalgamating company for a
minimum period of 5 years from the date of amalgamation and fulfils such other conditions as may
be prescribed to ensure that the amalgamation is for a genuine business purpose.

On fulfillment of the above conditions, the unabsorbed business losses and the unabsorbed
depreciation of the amalgamating company would be deemed to be the loss or depreciation as the
case, of the amalgamated company for the year of amalgamation. This would give scope for a fresh
term of 8 years for set off or carry forward.

Upon the amalgamation taking effect, a few other deductions such as the following are available to
the amalgamated company under the income tax 1961 to the extent the same are available to and
remains unabsorbed in the hands of the amalgamated company :-
• Capital/revenue expenditure on in-house scientific research and contributions to approved
scientific research associations/ approved national laboratory[section35]
• Amortization of preliminary expenses [Section 35D]
• Expenditure on in-house research & development facility [Section 35(2AB)]
• Amortization of expenses incurred exclusively for the amalgamation [Section 35DD]
• Amortization of expenses on prospecting etc. for development of certain minerals [Section
• Amortization of telecom license fees incurred for acquiring right to operate telecom services
[Section 35ABB]
• Expenditure on acquisition of patent right, copy right, know-how. [Section 35AB]

One size doesn’t fit all. Many companies find that the best way to get ahead is to expand ownership
boundaries through mergers and acquisitions. For others, separating the public ownership of a
subsidiary or business segment offers more advantages. At least in theory, mergers create synergies
and economies of scale, expanding operations and cutting costs. Investors can take comfort in the
idea that a merger will deliver enhanced market power.

By contrast, de-merged companies often enjoy improved operating performance thanks to

redesigned management incentives. Additional capital can fund growth organically or through
acquisition. Meanwhile, investors benefit from the improved information flow from de-merged

M&A comes in all shapes and sizes, and investors need to consider the complex issues involved in
M&A. The most beneficial form of equity structure involves a complete analysis of the costs and
benefits associated with the deals