S, ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 Unita: Introduction of M & A: Meaning-types of mergers-Merger Motives-Theories of Mergers- Mergers and industry life cycle, Reasons for failures of M & A-synergy-types of synergy- value creation in M&A-SWOT analysis-BCG matrix. (Theory) XN Meaning and Definition of Merger The term ‘merger’ is often used loosely to refer to any form of business combinations. However it has a specific connotation. Merger is defined as a combination of two or more companies with or without forming a new company. In other words, it is a combination of two or more firms in which one firm survives (Absorption) or a new firm is emerged (Amalgamation) and one or more firms cease to exist. Thus, a merger of two or more companies, whereby an existing company continues its operations even after the merger and one or more companies cease to exist is known as Absorption. A merger of two or more companies whereby a new company is formed to take over the business of existing companies and the existing companies cease to exist is known as Amalgamation. ‘A merger is a combination of two or more companies into one company. It may be in the form of one or more companies being merged into an existing company or a new company may be formed to merge two or more existing companies. The Income Tax Act, 11961 of India uses the term ‘amalgamation’ for merger. According to the Companies Act, 1956, the term amalgamation includes ‘absorption’. In SS Somayajula vs. Hop Prudhommee and Co. Lid, the learned Judge refers to amalgamation as “A state of things under which either two companies are joined so as to form a third entity or one is absorbed into or blended with another”. Thus, merger may take any of the two forms:’ 1) Merger through absorption. 2) Merger through consolidation. 1) Absorption: A combination of two or more companies into an existing company is known as ‘absorption’. In a merger through absorption all companies except one go into liquidation and lose their separate identities. Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 1 @&S MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 Suppose, there are two companies, A Ltd. and B Ltd. Company B Ltd. are merged into A Ltd. leaving its assets and liabilities to the acquiring company A Ltd; and company B Ltd. is liquidated. It is a case of absorption. 2) Consolidation: A consolidation is a combination of two or more companies into a new company. In this form of merger, all the existing companies, which combine, go into liquidation and form a new company with a different entity. It is also known as triangular merger. The entity of consolidating corporations is lost and their assets and liabilities are taken over by (the new corporation or company. The assets of old concerns are sold to the new concem and their management and control also passes into the hands of the new concern. Suppose, there are two companies called A Ltd. and B Ltd; and they merge together to form anew company called AB Ltd. or C Ltd; itis a case of consolidation. TYPES OF MERGERS/AMALGAMATIONS On the basis of profitability of the merging firms, mergers are classified as follows. > Merger between two profitable companies > Merger between two losing companies > Merger between one profitable and one losing company * Merger between two profitable companies (P + P): In this case, both the transferor and transferee companies will be profit making (ie. healthy). * Merger between two losing companies (L + L): In this case, both the transferor and transferee companies will be loss making. Not necessarily sick. Such mergers rarely happen, * Merger between one profitable and one losing company (P + L / L+ P): In this case, a loss making company is merged with a profit making company or vice versa. When loss making company is merged with profit making company, itis known as Normal Merger. When healthy company is merged with loss making or sick company, it is known as Reverse Merger. Reverse merger is normally adopted as a bailout merger. The losses of sick company are not available to the healthy company unless an approval u/s 72A of the Income Tax Act. 1961 is obtained from the specified authority. And therefore the companies resort to the se Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page? e@M RGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 concept of reverse merger, wherein the assessable entity (ie. sick company) continues to exist even after the amalgamation and can get the benefit of carry forward and set-off of the losses. It is discussed in detail in the chapter -4 Tax aspects of amalgamation’. After the completion of the process of amalgamation, the name of the sick company can be changed into the name of the healthy company and the goodwill and reputation of the healthy company is retained for ever. Economic classification On the basis of the line of business of merging companies, the mergers are classified as follows. > Cogeneric Merger (Which include Horizontal and Vertical Merger) > Congeneric Merger or Concentric Merger > Conglomerate Merger Horizontal Merger: When two ot more companies in the similar line of business merge together, it is horizontal merger. For example when two companies publishing books combine together or two companies manufacturing Cement combine together it is horizontal merger. Horizontal mergers are believed to be potentially creating monopoly power on the part of combined entity enabling it to engage in anticompetitive practices. Motives: Following are the motives of Horizontal mergers * Economies of scale in production and marketing * Elimination of cutthroat competition + Increase in market power and synergy ete. Vertical Merger: Vertical merger occurs when business firms in different stages of production or distribution combine together. Generally, in Vertical merger the acquirer and target companies are in the same industry with strong supplier-buyer relationship. The acquired company is either a supplier or customer of the acquirer company. For example the combination of a coal company and railroad which carried coal. This type of merger was in vogue during 1920s. Company goes for vertical merger when the market of the ———_ _______________, Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Pages @ EAST WESToS @ MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 EAST WEST intermediate product is imperfect. In vertical mergers, a firm may acquire another firm ‘upstream’ from it such as suppliers of raw materials and / or firms ‘downstream’ from it such as its product distributors. Motives: Following are the motives of Vertical mergers * To ensure assured supplies * To minimize transaction cost * To create barriers to entry of competitors ete. Types of Vertical Mergers : Vertical mergers are further classified into two categories as follows. Backward Integration: When a firm acquires another firm ‘upstream’ from it such as suppliers of raw materials. Example: Takeover of Sidhpur Mills by Reliance in 1979, Sidhpur Mills would supply gray cloth to Reliance, Forward Integration : When a firm acquires another firm ‘downstream’ from it such as its product distributors. Congeneric or Concentric Merger: When the companies related through the basic technologies, production process or markets combine together, it is called as Congenerie or Concentric merger. The companies which are in the same industry but do not have a competitive supplier or customer relationship may opt for congeneric merger. The acquired company represents just an extension of the product line, market participations or technologies of the acquiring company. Cases: Merger between Prudential Financial and stock brokerage company Bache & Co. in 1981. Although both the companies were involved in the financial services sector, prior to the deal, Prudential was focused primarily on insurance while Bache dealt with the stock marke ss Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru PagetS @ MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8SMBAF M401 EAST WEST ee Merger of Alchemie Organics Ltd. with Aarti Industries Ltd. Spic Organics Ltd, with Manali Petrochemicals Ltd. ‘Types of Congeneric Merger : Congeneric merger is effected with either of the following motives. Product Extension : When a new product line (whether allied or complimentary to the existing product line) is added to the existing product line. Market Extension.. Market extension helps to add a new market either through the same line of business or adding an allied field. The justice department of the supreme court of the USA treated a product and market extension merger as more close to horizontal than conglomerate though it takes, common elements of vertical and conglomerate too. Conglomerate Merger: When the companies having unrelated business combine together, it is known as Conglomerate merger. In other words, the companies merging are in no way related to type of merger continues to be an important part of the total merger picture. Diversification of each other. This type of merger occurred mainly during 1960s. At present too this risk constitutes the rationale for such merger. Motives Following are the motives of Conglomerate mergers. * Diversification of risk * Acquiring company can enhance the overall stability and balance the total portfolio in terms of better use of resources and generation of revenue. * It does not have direct impact on acquisition of monopolistic power and then favoured throughout the world asa means of diversification. ‘Types of Conglomerates Conglomerate mergers arc further classified on the basis of the purpose for which they merge. These are Financial Conglomerate and Managerial Conglomerate. EF ar NUT] nr TORN TTOUETET OPP ERREEEEDEEINEE Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 5& MERGE. RS, ACQUISITION & CORPORATE RESTRUCTURING- 18MBAFM401 Financial Conglomerates: It provides a flow of funds to each segment of their operations, exercise control and are the financial risk takers, They undertake strategic planning but do not participate in operating decisions. Managerial Conglomerates: They not only assume financial responsibility and control, but also play a role in operating decisions and provide staff expertise and staff services to the operating entities Other Classification of Mergers Cash Merger: A merger in which certain shareholders are required to accept cash for their shares while other shareholders receive shares. Down Stream Merger: Merger of a parent company with its subsidiary is called Down Stream merger. Example: Merger of ICICI Ltd. (Parent) with ICICI Bank (Gubsidiary) Up Stream Merger: Merger of subsidiary company with its parent company is called Up Stream merger. Example:Merger of ITC Bhadrachalam Paper Boards (Subsidiary) with ITC Ltd. (Parent) Triangular Merger: Amalgamation of two companies by which the disappearing company is merged into subsidiary of surviving company and shareholders of the disappearing company receive shares of the surviving company. Short-form Merger: Merger of a subsidiary company with its parent company where the parent owns substantially all of the shares of the subsidiary. It is less expensive and less time consuming than the normal type of merger. Defacto Merger: A merger which has the economic effect of a statutory merger but is cast in the form of an acquisition of assets. ‘Accretive Merger: When one company acquires another company whereby the earnings per share of acquiring company increases, the merger is called Accretive merger. Dilutive Merger: The opposite of the accretive merger is dilutive merger. In this case, the merger decreases the acquiring company’s earnings per share. Dilutive merger cannot be said always bad because, the merger initially dilutive may create value over time. Another way to calculate accretive is price-earnings ratio (ie. ratio between the company’s market price per share and earnings per share) between the acquiring and the — Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Pages wS@S @ MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 EAST WEST OO — Ee target firm. If the price- earnings ratio of the acquiring firm is higher than that of the target firm, the merger is accretive. Subsidiary Merger: In this type of merger, the target firm becomes a subsidiary or is merged with the subsidiary of the acquirer. Reverse Subsidiary Merger: In this case, a subsidiary firm of the acquirer is merged into the target firm, Demergers: A simple definition of ‘demerger’ is “Split the conglomerate (multidivision) of a company into separate companies. Types of Demergers (Forms of Corporate Dow nsizing) Demergers take place in the form of Spin-off or Hive-off Split-off, Split-up, Equity carve out (ECO), Divestiture so on. THEORIES OF MERGERS Following are the theories of mergers 1. Efficiency Theories 2. Theory of Information and Signaling 3. Theory of Agency Problem and Mismanagement 4, Theory of Managerialism 5, FCF Hypothesis 6. Theory of Hubris Hypothesis 7. Theory of QRatio 8. Theory of Redistribution = Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page?MERGE 'TRUCTURING- ISMBAFM401 RS,ACQUISITION & CORPORATE RE 1. Efficiency Theories : Efficiency theories state that mergers and acquisitions have potential for social benefits. They generally involve improving the performance of incumbent management or achieving a form of synergy. According this theory, the more efficient firms acquire less efficient firms and realize gains by improving the efficiency of target firm. This is also called as Differential Efficiency Theory. The differential efficiency would be most likely to be a factor in mergers between firms in related industries where the need for improvement could be more easily identified, 2, Theory of Information and Signaling: Sometimes the announcement of merger or acquisition conveys the information to the market that the future cash flows are likely to be increased due to increased size of the company. 3, Theory of Agency Problem and Mismanagement: Agency problem arises when managers own only a fraction of the ownership shares of the firm. This partial ownership may cause managers to work less vigorously than otherwise and to enjoy more perquisites. The market for takeovers provides an external control device of last resort. In other words, mergers or acquisitions are undertaken to correct the situation where there is a divergence between goals of the management and the owners. A takeover through tender offer or a proxy flight enables outside management to gain control of the decision process of the target while circumventing existing managers and the board of directors. 4, Theory’ of Managerialism: Managers generally believe that their compensation is determined by the size of the company and therefore the mergers are undertaken to increase the size. But in practice, management compensation is determined by the profitability but not by size of the company. Therefore the basic premise of managerialism theory' emphasizing size is in doubt. 5. FCF Hypothesis: The hypothesis states that takeovers take place due ot conflicts between managers and owners over the payout of Free Cash Flow. The hypothesis ‘advocates that FCF (Which is excess of management needs) should be paid out to shareholders, reducing the power of management and subjecting, managers to the scrutiny of the capital market more frequently. 6. Theory of Hubris Hypothesis or Winners Curse : Hubris is an animal with spirit of arrogance and pride. Hubris hypothesis states that even though current market value of the target firm reflects its true economic value, the bidder believe that their own valuation of target firm is superior and tend to overpay. The winner is cursed in the sense that he Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Pages SSACQUISITION & CORPORATE R UCTURING- I8MBAFM401 OO paid more than the company’s worth. The excess premium paid for the target company benefits its shareholders but the shareholders of the acquiring company suffer a diminution in wealth. 7. Theory of ‘Q’ Ratio :'Q' ratio is defined as the ratio of market value of the acquiring firm’s stock to the replacement cost of its assets. Mergers are undertaken when the market value of the company is less than the replacement cost of its assets. Generally the increasing inflation rate causes the replacement of the assets too costlier. In such a situation mergers or acquisition is the cheapest route of possessing the assets. This ratio was developed by James Tobin in 1969, an American economist. It is also known as Tobin’s Q Ratio. If Q ratio is greater than 1, then the market value of the firm's assets is greater than the value of the firm's recorded assets. It suggests that market value reflects there are some unmeasured or unrecorded assets or undervalued assets. High Tobin's Q ratio encourages firms to invest more in capital base. They are worth more than the price they paid for them, Firm’s with high Tobin's ratio are attractive investment opportunities, 8, Theory of Redistribution: The theory of redistribution suggests that the shareholders are benefited from the mergers at the cost of other stakeholders in the company like government, bondholders etc. In case of LBO’s, there are evidences of negative impact on bondholders due to increased debt. A merger between loss making firm and healthy firm also has redistribution of income (in terms of tax savings) from the government to the company. Company converting into public. The most important factors influencing this type of restructuring are organizational misfit with strategy and nature of the board of directors. INDUSTRY LIFE CYCLE Industry life cycle concept can be used. as a framework for indicating, when different types of mergers and acquisitions may have an economic basis at different stages of an industry’s development, For this purpose industry life cycle is divided into four stages. Viz. Introduction stage, Exploitation stage, Maturity stage and Declining stage. — Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page @&MERGERS ACQUISITION & CORPORATE RESTRUCTURING- 18MBAFM401 =| Maturity Stage Explotation Beclining Stage Stage Introduction Stage: Newly established companies are generally sold to larger companies in a mature or declining industry. This kind of restructuring enables the larger companies to enter a new growth industry, Which in turn result in to related or conglomerate mergers. The smaller companies wish to sell because they want to convert personal income to capital gain. And they do not want to place large investments in the hands of managers not having long record of success. Horizontal mergers between smaller companies may also occur, enabling such companies to pool management and capital resources. Exploitation Stage: Mergers during the exploitation stage are similar to mergers during the introductory stage. The impetus for such mergers is reinforced by the more visible indications of prospective grow'th and profit and by the larger capital requirements of a higher growth rate. Maturity Stage: In this stage, mergers are undertaken to achieve economies of scale in research, production, and marketing in order to match the low cost and price performance of other firms: domestic or foreign. An acquisition of smaller firms by larger firms takes place for the purposes of rounding out the management skills of the smaller firms and providing them with a broader financial base. Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 10S&S MERGERS.ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 EAST WEST ee Declining Stage: In this stage, horizontal mergers are undertaken to ensure survival. Vertical mergers are carried out to increase efficiency and profit margins. Concentric mergers involving firms in related industries provide opportunities for synergy and carry-over. Conglomerate mergers & acquisitions of firms in growth industries are undertaken to utilize the accumulated cash position of mature firms in declining industries, whose internal flow of funds exceeds the investment requirements of their traditional lines of business. Reasons for failures of M & A ¥ Inaccurate Data and Valuation Mistakes. Overly idealistic valuations and lofty projections are frequent culprits in a deal's demise. Insufficient Owner Involvement. Integration Obstacles, Resource Limitations. Unexpected Economic Factors. Lack of Planning and Strategy. ans VALUE CREATION IN HORIZONTAL MERGERS Horizontal mergers take place between the firms of similar business. The economic benefits from such mergers are: increased market share and economies of large scale operations. Generally such mergers occur in the industries whose products or services are in the mature or declining stage of product life cycle. Horizontal mergers create value to the merged firm through the following sources: (i) Revenue enhancement (i) Cost cutting (iii) Generating new resources Revenue Enhancement; Horizontal merger enhances the revenue by three sources as discussed below: (a) Revenue Enhancement through Increased Market Power (b) Revenue Enhancement through Network Externalities (©) Revenue Enhancement by Providing Complementers (d) Revenue Enhancement through Leveraging Market Resources & Capabilities Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 11MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 SSS Revenue Enhancement through Increased Market Power: Merger of a firm with another firm which is an equal competitor in the market results into increased market share. If such merger is successful the combined firm can extend the market by dictating the price of their products or services and thereby increasing revenue of the combined firm. Revenue Enhancement through Network Externalities: A network externality exists whenever the value of a product to an individual customer depends on the number of other users of the product such as the internet or email. Network externality arises from the creation of a customer data base. This customer data base consists of the experiences shared by the customers which can be facilitated, enriched or made more effective by interacting with them. This provides an incentive to intensify interaction and to join the installed base that in turn provides the incentive to buy a product. Revenue Enhancement by Providing Complementers: Complementers are those goods and services which are used by the customers together. For instance, Cell phone and battery are said to be complementers. A firm manufacturing cell phone if merges with a firm manufacturing battery offer complementers to the users and which gives more value to the consumers. Such merger enables to get valued and satisfied customers and thereby helps to earn more revenue. Revenue Enhancement through Leveraging Market Resources & Capabilities: The merging firms can exploit each other’s marketing resources and capabilities such as brand name, distribution channels, sales outlets, sales promotions ete. and boost sales of each other’s products. Thus, each other's existing market resources and capabilities are effectively utilized and thereby increasing the revenue of the combined firm. Cost cutting: Horizontal merger enables the merged firm to rationalize their production and take out excess capacity. Such rationalization results into lowered fixed cost. Horizontal merger also provides economies of scale in various functional aspects. Many of the activities carried out by the merging firms separately can now be combined and streamlined. Generating New Resources: Most of the mergers and acquisitions are driven by sharing and transfer of complementary resources and capabilities between the acquirer and acquired firms. The resources exchanged and the extent of that exchanged depends on the particular source of value driving an acquisition. Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 12S MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 ee \VALUE CREATION IN VERTICAL MERGERS Vertical merger takes place between two firms producing different goods or services for one specific final product/service. It may be in the form of backward integration or forward integration. The economic benefits arise from the comparative efficiency of vertical integration in terms of the technical and coordination efficiency. The vertical merger to create sustainable competitive advantage the merged firm has to tap other sources of value such as revenue enhancement and new growth opportunities through leveraging existing resources and capabilities of the merging firms. Revenue enhancement arises from the ability to offer a package of products and services rather than just products alone. But care is taken in bundling the products with succeeding products/services. Because this strategy may not be successful always. Vertical integration offers increased market power and also yields anti-competitive benefits shown below: (i) Provide opportunities for indirect price discrimination (ii) Squeeze non-integrated final product manufacturers by cutting the price of the final products (iii) Raise entry barriers by raising the capital requirement for new entrants fiv) Eliminate the suppliers or distributors with countervailing power WALUE CREATION IN CONGLOMERATE MERGERS Merger between the firms which are totally unrelated to each other is called Conglomerate merger. The rationale behind the conglomerate merger is diversification which enables to reduce risk exposure. In addition to diversification benefits, conglomerate merger yields other benefits such as increased market share and cross selling. The flip-side of conglomerate merger is that if the merged firm becomes too large after merger, the performance of the entire merged firm will suffer due to risk of diversification. This was witnessed during the conglomerate merger phase of 1960s SWOT ANALYSIS Appraising a company’s resource strengths and weaknesses and its external opportunities and threats, commonly known as SWOT analysis, provides a good overview of whether its overall situation is fundamentally healthy or unhealthy. Just as important, a first-rate SWOT analysis provides the basis for crafting a strategy that Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 13, S&SMERGERS, ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 capitalizes on the company’s resources, aims squarely at capturing the company’s best opportunities and defends against the threats to its well-being. What is a'SWOT Analysis’ SWOT analysis is a process that identifies an organization's strengths, weaknesses, opportunities and threats. Specifically, SWOT is a basic, analytical framework that assesses what an entity (usually a business, though it can be used for a place, industry or product) can and cannot do, for factors both internal (the strengths and weaknesses) as well as external (the potential opportunities and threats). Using environmental data to evaluate the position of a company, a SWOT analysis determines what assists the firm in accomplishing its objectives, and what obstacles must be overcome or minimized to achieve desired results: where the organization is today, and where it may be positioned in the future. SWOT Analysis 1, Strengths - Strengths are the qualities that enable us to accomplish the organization's mission, These are the basis on which continued success can be made and continued / sustained. Strengths can be either tangible or intangible. These are what you are well-versed in or what you have expertise in, the traits and qualities your employees possess (individually and asa team) and the distinct features that give your organization its consistency. Strengths are the beneficial aspects of the organization or the capabilities of an organization, which includes human competencies, process capabilities, financial resources, products and services, customer goodwill and brand loyalty. Examples of organizational strengths are huge financial resources, broad product line, no debt, committed employees, etc. ee Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 14 FAST WESTMER ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 2. Weaknesses - Weaknesses are the qualities that prevent us from accomplishing our mission and achieving our full potential. These weaknesses deteriorate influences on the organizational success and growth. Weaknesses are the factors which do not meet the standards we feel they should meet. Weaknesses in an organization may be depreciating machinery, insufficient research and development fac: ties, narrow product range, poor decision-making, etc. Weaknesses are controllable, They must be minimized and eliminated. For instance - to overcome obsolete machinery, new machinery can be purchased. Other examples of organizational weaknesses are huge debts, high employee turnover, complex decision making process, narrow product range, large wastage of raw materials, etc 3. Opportunities - Opportunities are presented by the environment within which our organization operates. These arise when an organization can take benefit of conditions in its environment to plan and execute strategies that enable it to become more profitable. Organizations can gain competitive advantage by making use of opportunities. Organization should be careful and recognize the opportunities and grasp them whenever they arise, Selecting the targets that will best serve the clients while getting desired results is a difficult task. Opportunities may arise from market, competition, industry/govemment and technology. Increasing demand for telecommunications accompanied by deregulation is a great opportunity for new firms to enter telecom sector and compete with existing firms for revenue. 4, Threats - Threats arise when conditions in external environment jeopardize the reliability and profitability of the organization’s business. They compound the vulnerability when they relate to the weaknesses. Threats are uncontrollable. When a threat comes, the stability and survival can be at stake. Examples of threats are - unrest among employees; ever changing technology; increasing competition leading to excess capacity, price wars and reducing industry profits; etc, BCG MATRIX/ PORTFOLIO MATRIX The BCG matrix (BCG. analysis, BCG-matrix, Boston Box, Boston Matrix, Boston Consulting Group analysis, portfolio diagram) is a chart created by Bruce Henderson for the Boston Consulting Group in 1968 to help corporations with analyzing their business a Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 15 BwMERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 units or product lines. This helps the company allocate resources and is used as an analytical tool in brand marketing, product management, strategic management, and portfolio analysis. It uses market growth rate and market share as its two main indicators in order to classify companies into one of four quadrants: stars, question marks, cash cows and dogs Relative Market Share jn (Cash Generation) Low Question Marks h Hig (Cash Usage) 8 E 3 8 i : Low. Stars- Stars represent business units having large market share in a fast growing industry. They may generate cash but because of fast growing market, stars require huge investments to maintain their lead. Net cash flow is usually modest. SBU’s located in this cell are attractive as they are located in a robust industry and these business units are highly competitive in the industry. If successful, a star will become a cash cow when the industry matures. Cash Cows- Cash Cows represents business units having a large market share in a mature, slow growing industry. Cash cows require little investment and. generate cash that can be utilized for investment in other business units. These SBU’s are the corporation’s key source of cash, and are specifically the core business. They are the base of an organization. These businesses usually follow stability strategies. When cash cows lose their appeal and move towards deterioration, then a retrenchment policy may be pursued. SS ————— el Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalure Page 16 @ EAST WESTMERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 Question Marks- Question marks represent business units having low relative market share and located in a high growth industry. They require huge amount of cash to maintain or gain market share. They require attention to determine if the venture can be viable. Question marks are generally new goods and services which have a good commercial prospective. There is no specific strategy which can be adopted. If the firm thinks it has dominant market share, then it can adopt expansion strategy, else retrenchment strategy can be adopted. Most businesses start as question marks as the company tries to enter a high growth market in which there is already a market-share. If ignored, then question marks may become dogs, while if huge investment is made, and then they have potential of becoming stars. Dogs- Dogs represent businesses having weak market shares in low-growth markets. They neither generate cash nor require huge amount of cash. Due to low market share, these business units face cost disadvantages. Generally retrenchment strategies are adopted because these firms can gain market share only at the expense of competitor’s/rival firms. These business firms have weak market share because of high costs, poor quality, ineffective marketing, etc. Unless a dog has some other strategic aim, it should be liquidated if there is fewer prospects for it to gain market share. Number of dogs should be avoided and minimized in an organization. ——— Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 17 Sw— MERGERS, ACQUISITION & CORPORATE RESTRUCTURI} \G- 1SMBAFM401 Unit2: Merger Process: Procedure for effecting M & A-Five-stage model-Due diligence-Types, process and challenges of due diligence-HR aspects of M & A-Tips for successful \ mergers-Process of merger integration. (Theory) Dynamics of Merger and Acquisition Process Creating a brand post-merger cannot be separated from the actual act of merging. It is a dynamic process that can quickly get out of control. In many respects, a merger is like a snowball that starts at the top of a hill and gets larger as it heads downward. The larger it is, the less time people have to react to it, internalize its true nature, and move on. For a merger to become fully ingrained in an organization's culture takes another five to seven years. When two organizations enter a new relationship, it is marked by a pattern of conflict and resolution. While the public initially experiences the building of a new brand asa series of events (merger announcement, unveiling of logo, advertisements, banners, news stories, etc.), in actuality it more closely resembles a long-term partnership involving courtship and marriage, in which the two parties move through predictable stages - preparation, announcement, transition, and integration. Stages in Merger Process The steps or stages involved in a merger or acquisition are as follows: 1) Identifying Target or Candidate Companies: The choice of potential merger or acquisition partners is primarily utilitarian. It is meant to add economic value. It is greatly a matter of finding another company in the right businesses and markets with current interest or availability in joining forces (often implying some vulnerability), at the right Price. 2) Narrowing the Field of Choices: Narrowing the field is partly a matter of getting realistic. There will be a great deal of behind-the- scenes research and investigation that takes place, primarily from a strategic standpoint. But a great deal of human emotion can be built during this part of the process, including the potential for decision- makers becoming somewhat fixated on one potential company that seems to be the “ideal” that will create what they are hoping to achieve. ee —____ Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 18 Sw \ aS MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8SMBAFM401 3) Selecting “First-Choice” Companies: The first-choice company (and as implied here, several may be under review at once) may be the ideal match - or it may be simply the best alternative available, given the circumstances. 4) Reviewing Regulatory Compliance: This stage of the process is primarily a search for “dealkillers”. Are there any issues about the companies under review that are likely to turn into overriding liabilities? To some extent, this stage is preparation for second- guessing by regulatory agencies, such as the Federal Trade Commission, 5) Conducting Preliminary Discussio: : Until this stage, most of the activity will have been done very quietly and behind the scenes. Now is the time when things become serious. In the case of a merger or some other cooperative alliance, both parties have probably been involved. 6) Signing a Letter of Intent: If discussions are successful, plans for a deal are formalized between the parties, This moves the process from one of investigation to one of purposeful activity - the beginning of the creation of real changes in both organizations. 7) Conducting Due Diligence: This is the phase in the merger and acquisition process where seller makes its business process open for the buyer, so that it can make an in- depth investigation on the business as well as its attorneys, bankers, accountants, tad advisors etc. 8) Completing the Financial Negotiations: In the current financial climate, with stock prices sometimes reflecting valuations of a hundred times earnings for companies that have never shown a profit, there can be fairly wide fluctuations in estimations of the worth of a company. 9) Signing the Definitive Agreement: For those involved in “doing the deal’, this step is the consummation of what often involves many evenings and weekends of work, and sometimes sleepless nights. It is no wonder that there would be a desire to celebrate this as an end-point. A] _—————- Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 19 SoMERGERS, ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 Five-stage model The five-stage model/ approach has been designed to help to manage a corporate finance process effectively and efficiently. These processes can be viewed as a cycle of due diligence, containing critical points at which to decide whether or not to move forward. If each stage is ‘favorable’ move to be next stage. If not, either defer the project or reject it outright. Stage 1: Preferred Sector Analysis Stage 2: War Room Stage 3: Setting Targets Stage 4: The Corporate Deal Stage 5: Finalization and Integration Stage 1: Preferred Sector Analysis: This stage involve conducting preliminary research, before undertaking due diligence to check the viability of the intended merger at macro level. Before setting-up the corporate team and allocating responsibilities, the strategist needs to conduct the necessary macro-research to determine whether a project will be profitable and within sectors that are appropriate to the company’s designated long-term plans. Stage 2: War Room: War room is the central location, generally a dedicated room or office, for due diligence documents for potential investors, acquirers, or investment bankers to use. Stage 3: Setting Targets: Setting targets or the right scope of work is a key area to address early in the process, as financial due diligence can vary widely in scope and content, depending on circumstances. It can cover aspects of the broad range of a target’s business or be very focused on a few areas of specific interest to the buyer. Stage 4: The Corporate Deal: This stage is the detailed action plan and budget. The budget should include all significant and foreseeable transaction costs and expenses related to corporate activities Stage 5: Finalization and Integration: The objective of this stage is to finish negotiations and to close the deal on reasonably reliable and satisfactory terms. Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 20 S&SS MERGERS,ACQUISITION & CORPORATE RE. TRUCTURING- 18MBAFM401 DUE DILIGENCE Meaning & Definition of Due Diligence Due diligence is a thorough examination of all critical aspects of the business subject to the transaction (‘Target’), typically undertaken prior to agreeing the final value and signing of the sale and purchase agreement terms. Every aspect of the Target's operations should be subject to due diligence - financial, commercial, operational, tax, human resource, IT, anti-bribery /corruption, integrity, environmental, social, health and safety, governance, regulatory, and so on. Due diligence is usually the most time-consuming, nerve-wracking, and expensive stage of the M&A process. . According to Reckholtz, Diligence is defined as, “The all- embracing company analysis drawn as a single potential acquisition target due to the investigation of all information relevant for the acquisition decision” Types of Due Diligence 1) Financial Due Diligence 2) Legal Due Diligence 3) Tax Due Diligence 4) Environmental Due Diligence 5) Commercial Due Diligence 1) Financial Due Diligence: In financial due diligence, the financial position and the financial planning of a company is checked. The scale of the financial due diligence depends fundamentally on which information is already available from the reports of the auditor to the prospective purchaser, and how far this information satisfies their demands. 2) Legal Due Diligence: Legal due diligence is usually canied-out by experienced lawyers. They check whether existing contracts constitute economic risks. In this phase, however, a difficult balance must be struck. 3) Tax Due Diligence: From a taxation point of view, it is the aim of tax due diligence to develop the optimal structure for the takeover of a company. St Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalure Page 21 Sw& MERC S, ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 4) Environmental Due Diligence: Environmental due diligence checks whether or which environment-related risks are connected to the business of the target company. Environmental due diligence has its main emphasis in the legal area and therefore differences, sometimes considerable ones, appear in international comparisons. 5) Commercial Due Diligence: The future market position of the company in question is on the foreground of commercial due diligence. In the area of possible market potentials, commercial due diligence is particularly concerned with know-how potential (eg., competence in the fields of R&D or a special aptitude of the organization), strategic aspects (e.g,, product quality, ecological positioning, brand image and the like) and synergy effects which result, in scale effects in sales, marketing, and the product program or logistics. Due Diligence Process Due diligence process includes following points: 1) Information Resources 2) Planning 3) Team 4) Realization 5) Documentation 1) Information Resources: Since a due diligence review focuses on sourcing information, it can only be successful if based on reliable high quality resources. Distinguished by accessibility these are outlined as: i) Internal Information Resources: These provide inside details of the target company which can only be obtained in cooperation with the selling party. They are the most fertile yet challenging resource to be used during the due diligence process. An efficient and commonly used resource is the data room provided by the selling party. This room contains all documents and information of relevance to the due diligence process. Other resources are interviews with the management and employees of the target enterprise as well as inspecting the company on location. —_—- NNN _-—_ Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 22 S&S EAST WESTMERGERS, ACQUISITION & CORPORATE RESTRUCTURING I8MBAFM401 if) External Information Resources: These are not influenced by the target company which makes them useful for preparation of negotiations and interviews as well as for verifying internal information. Usual external resources are annual financial reports or credit agencies. 2) Planning: The number of measurable company aspects is limitless, On the other hand, time and budget available for the due diligence are not. Thus, it is vital to keep monetary and working expanses to a minimum by following a stringent project management. 3) Team: Due to its project character, the due diligence process is usually executed by a team consisting of the future director of the target company, members of the acquiring company representing all relevant departments and external specialists such as tax consultants, advocates, M&A service providers. The team approach ensures an optimal mix of human resources since they can be adapted to the individual requirements of every company M&A. 4) Realization: The realization of the due diligence process is divided into three phases of collecting, processing, and analyzing information based on the chronological and content drawn agreements settled in the Letter of Intent: i) Collecting Information: In this phase, the aforementioned internal and external information resources are utilized. ii) Processing Informatio: During this phase all information collected is processed into systematic schemes like due diligence checklists which are adaptable to the subsequent analysis. In addition, all information is thoroughly documented for fast accessibility. ili) Analyzing Information: The final phase includes the analysis of all information regarding the basic acquisition decision, company valuation, and integration measures. 5) Documentation: A thorough documentation is of utmost importance as due to the enormous amount of information involved in the due diligence process. Its functions not only consists of documenting the results and the progresses made during the project but also re-constructing and proving controversial circumstances as well as exculpating external experts. In that light all documentation needs to be complete, precise, clear, and truthful and on time: i) Working Papers: These are the common correspondence during the everyday routine. —Hy iii ______—_—_- Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 23 @= MERGE! ‘TRUCTURING- ISMBAFM401 ACQUISITION & CORPORATE ii) Due Diligence Memoranda: These are short reports used during the negotiation phase. Their function is to enable team leaders and negotiators to direct the due diligence process by communicating progress or critical developments on time. iii) Due Diligence Report: It is the document which finalizes the due diligence process. It incorporates all results and recommendations as well as remarks on the modus operandi of the due diligence team. Usually the report is expanded with a rough planning of integration measures following a decision in favour of the acquisition. Due diligence challenges Conducting due diligence in India differs significantly from conducting due diligence in other countries. In particular, foreign corporations need to understand the Indian business environment, political landscape and local culture, as well as the complex ownership structure of Indian companies. In India, 85 percent of the country’s largest global companies are privately- or publicly-listed companies. In comparison to other countries, there is limited availability of public- and private-sector searchable databases; however government records and corporate documents in India are more accessible and are in English, Although recordkeeping is more advanced in India, some of the key issues Indian companies continue to face today are less-developed corporate governance processes, regulatory compliance and financial reporting practices, as well as high levels of corruption and bribery. 1. A weak corporate governance system 2. Be aware of changing regulations 3. Financials will require added scrutiny 4, Rampant corruption and bribery to be expected HR aspects of M & A + Creation of new policies to guide the new organization. + Retention of key employees. + Employee selection and downsizing, ‘+ Development of compensation strategies. + Creation of a comprehensive employee benefits program. a ____—__ Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 24 @— MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 Tips for successful mergers 1. Recognize and adopt the mindset that any M&A effectively results in a new organization. Redevelop a start-up mindset and work ethic to ensure a complete and successful integration. 2. Communicate to each group of stakeholders the reasons behind the M&A and the value and associated costs it will bring to each group. Getting buy-in from everyone impacted is an important step toward optimizing benefits and minimizing costs, and leads to a more integrated outcome. 3. Integration ownership should be at the highest level. While it’s smart to include all the key players, the president and /or CEO should drive the process and lead the group. 4. An integration plan must contemplate and include all facets of the respective businesses, operations, organizations and cultures; and should be measurable in the following increments: 30/60/90/ 180 days. 5. Assign individuals or teams (with a designated team leader) ownership of every item on the plan. The ind successfully executing an integration plan. jual accountability that comes with ownership is critical to 6. Develop tools to assess progress of the plan. It's the only way to ensure in an objective way whether necessary progress is being made. 7. Meet regularly and often to review and discuss progress and make tweaks or changes to the plan. Meetings with integration plan owners should occur weekly, and in some circumstances daily, and should focus on a review of measurable progress and a preview of next steps. 8. M&As are relationship-intensive; communication with all stakeholders, external and internal, should occur in some form or fashion at least once a month. 9. Bridging cultures into a common core and allowing a bit of each to survive is important. The best way to find commonalities to be embraced and differences respected is achieved through dedicated, purposeful time together both in and out of the office. 10. Get, and use, employee feedback. Use this as an additional information tool to assess integration progress and performance. You can never have too much information, and the eee Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalure Page 25 Seoe MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- 18MBAFM401 thoughts and moods of employees are the pulse that every CEO and/or president should have his or her finger firmly on, particularly during times of great change and stress such asa M&A integration. Process of Merger Integration Although many corporate objectives, such as increases in effectiveness or improvements in competitive position, can also be achieved through organic growth, companies frequently opt in favor of inorganic growth in order to gain a time advantage. However, this is a goal that can only be realized if the new parts of the company are integrated with sufficient thoroughness and rapidity. In this respect, post-merger integration can be either a linchpin or a major stumbling block. The post-merger integration process - as explained in the following consists of three phases: 4) Start-Up Phase: There is the start-up phase, which is initiated before the closing (the point at which the contract is concluded and corporate responsibility is transferred) and involves the planning of integration activities. 2) Project Implementation Phase: There is the project implementation phase, in which important integration topics, such as the integration of brands and products, are addressed. 3) Business Transformation Phase: The transformation phase, where the results are transferred to the line organization. TENE Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 26a MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 (units: ») Financial Evaluation of M & A: Merger as a capital budgeting-Business valuation approaches-asset based, market based and income based approaches-Exchange Ratio (Swap Ratio)-Methods of 7 determining exchange rate. (Theory and Problems) BUSINESS VALUATION A crucial issue in merger, acquisition and restructuring is valuation of a company or division. The objective of business valuation or corporate valuation is to estimate a fair market value of a company. Valuation is the process of estimating the potential market value of a financial asset or liability. Valuation is required in the context like investment analysis, capital budgeting, M & A, financial reporting etc. Capital budgeting represents the process of planning expenditure whose returns extend over a period of time. Capital budgeting is generally applied in relation to investment in fixed assets like land, building, plant and machinery etc. but this concept is also equally applicable to investment in mergers and acquisitions and other restructuring activities. CONCEPTS OF VALUE To enable an appraiser in carrying out the valuation process in an objective manner, understanding the various concepts of value is required. These concepts are explained below: Book Value: It is the value at which assets are shown in balance sheet. It is in consistent with the going concem principle of accounting. Value of the business is arrived at by taking book value of physical assets less all external liabilities including preference share capital. Fictitious assets and deferred revenue expenditure, cost of issue of securities not written off are not considered. The only drawback of the method is that it does not reflect current market value Market Value: Market value refers to the price at which an asset can be sold in the market. However, market value of business is arrived at by aggregating market value of Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalure Page 27, @&— MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 all equity shares outstanding and debt capital. Market value can be applied with respect to tangible assets only but not with intangible assets. Liquidation Value: Liquidation value represents the price at which an asset can be sold if business operations are discontinued in the wake of liquidation of the firm. In other words, it is a measure of value that would be derived if the firm’s assets were liquidated. Liquidation value may be more realistic measure than the book value, but is does not measure the earings power of the assets. Replacement Value: Replacement value is the price at which an asset of equal utility and usefulness can be acquired. Itcan be applied only for tangible assets. Fair Value: Fair value is the price at which the property changes hands between willing, buyer and willing seller. Both the buyer and seller have reasonable knowledge of the relevant facts. Fair value is generally taken to be the average of book value, market value and intrinsic value. BUSINESS VALUATION APPROACHES, There are three broad approaches to determine the value of a business firm. 1. Asset-based Approach 2. Market-based Approach 3, Income-based Approach or Discounted Cash Flow Approach (DCF) 1, ASSET-BASED APPROACH This approach views the business as a set of assets and liabilities that are used as building blocks to construct the picture of business value. The basic idea behind this approach is that the company’s value is determined by looking at the balance sheet. Unfortunately, the values of the assets and liabilities appearing in the balance sheet cannot be the same as the real market value, except the liabilities. In other words, book value of the assets will be different from the market value or liquidation value. Therefore, the appraisers must make certain adjustments to the book value of assets and liabilities according to the purpose of valuation of the firm, And therefore itis also called as Adjusted Book Value approach. Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 28 @&— MERGERS ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 This valuation approach can be applied for the valuation of small and private companies where the estimation of cash flow is difficult. This method is also suitably used for the companies where the assets form larger part of the business value for instance, the companies like real estate, forestry etc. There are two ways for ascertaining value of a company under this approach. Viz. Investors Claim Approach and Asset-Liabilities Approach. Under Investors Claim approach book value of investors claim is aggregated to get value of a company. In case of Asset-Liabilities approach, agreed value of the assets taken over are aggregated and there from agreed value of the liabilities and provisions assumed are deducted to get value c: the company. This method is used when liquidation is being considered a distinct possibility, Valuation of Various Assets For the purpose of valuation of a target company, the buying company is required to undertake the valuation of various assets. These assets are valued as follows. Current Assets: Inventories : Inventories consist of raw materials, work-in-process and finished goods. Raw Materials are valued at recent cost of acquisition (i.e. FIFO method is used for the issue of materials). Work-In-Process are valued on the basis of cost (ie. cost of raw materials + cost of processing). Finished Goods are valued at the sales price realizable in the ordinary course of business and the expenses to be incurred in packaging, holding, transporting, selling and collection of receivables are deducted from it Debtors ; Debtors are valued at face value and a provision is made for likely bad and doubtful debts. Casi ‘ash is always valued at face (i.e. book) value. Other Current Assets: All other current assets are valued at book value Fixed Assets: Land and Building: Land is valued as if it is vacant and available for sale. Building and Civil Works are valued at replacement cost and the amount of depreciation and deterioration is deducted there from. Se UI SanEEEIEEEEEES TIEN Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 29 @ FAST WEST= TRUCT MERGERS,ACQUISITION & CORPORATE RE JRING- 18MBAFM401 Plant and Machinery: Plant and machinery is valued at market price of similar used assets and the cost of transportation and installation is added to it. Non-operating Assets: Non-operating assets like financial securities, excess land, infrequently used buildings etc. are valued at their fair market value. Merits and Demerits Merits 1, This approach is relatively simple to apply and does not require to make any guess work and assumptions. 2. Since this model divides the value into various assets and liabilities, it shows exactly which asset contributes economic value to the company and to what extent 3. It is useful in negotiating the selling or purchase price since it is known exactly how much the assets and liabilities of the company are worth. Demerit This model does not consider surplus value (1. synergy) arising from the combination of the entities, 2. MARKET-BASED APPROACH This approach relies on signs from the real market place to determine what a business is worth, The market-based approach determines value of a business firm by comparing one or more aspects of the subject company to the similar aspects of other companies which have an established market value. There are two methods of compare the companies: 1 Comparable Public Company Method and 2. Comparable Transaction Method. Comparable Public Company Method: This method involves using the current trading multiples of public companies that are similar to the company in reference as a yardstick to measure its value. This method is based on the principle that similar asset is sold at the same price. Under this method, the company is valued by looking at the price at which a comparable company has changed hands between a reasonably informed buyer and seller. The advantage of this method is that all the information required to conduct the valuation is publicly available. This method is very popular, as it relies on multiples that are easy to relate to and can be obtained easily and quickly. This method is also called as — Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 30 @& cAST WESTSoS MERGERS, ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 EAST WEST Direct Comparison or Comparable Company approach or Relative Valuation method. The value of a business firm is arrived as follows. Valuation formula xT Ve vray V T= Value of the target firm x Observed variable for the target firm that drives value Xe = Observed variable for the comparable company Ve = Observed value of the comparable firm This method is suitably used when (j) The current earnings of the firm are reflective of future earnings capacity (ii) The company expects to enjoy stable growth rate (iii) There are comparable companies. Steps The following steps are being followed to value a firm under Relative Valuation approach. 1. Analysing the Economy 2. Analysing the Industry of the subject company 3. Analysing the subject Company 4, Identifying comparable companies 5. Analysing financial aspects of subject and comparable companies 6. Selecting valuation yardstick 7. Valuation of the subject company —— Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 31@& @ MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 EAST WEST Analysing the Economy: Analysis of the economy provides the basis for assessing the prospects of various industries and companies within the industry. The economy analysis includes examining the following factors: Gross National Product (GNP), Industrial Production, Agricultural output, Inflation, Interest rates, Balance of payment, Exchange Rate and Government budget. Analysing the Industry of the subject company: After analyzing the economy, the industry to which the company under reference belongs to is to be analysed. For this purpose, the following factors are considered. = Relationship of the industry to the economy as a whole = The stage of the industry in its life cycle = The profit potential of the industry = The nature of regulation applicable to the industry = The relative competitive advantage of procurement of raw materials, production costs, marketing and distribution arrangements, and technological resources. Analysing the subject company: The factors considered for assessing competitive and financial position of the company under consideration are as floows. = Product portfolio and market segments covered by the firm = Availability of inputs and its cost = Technological and production capability = Market image, distribution channel, and customer loyalty = Product differentiation = Managerial competence = Quality of human resources = Competitive dynamics = Liquidity position = Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 32S MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 = Margin of profit and return on investment m= Leverage and access to funds Identifying Comparable Companies: After analyzing the subject company, the next step is to identify a set of publicly traded companies that have a high degree of similarity to the subject company. The company selected should be similar in terms of lines of business, nature of markets served, scale of operation, growth profile etc. It is very difficult to identify the companies that are similar in all respects, however, it is necessary to include the companies in the list that are similar in some ways but very different in others. For this purpose, 10-15 companies in the industry are looked and of these 3-4 companies close to the subject company should be selected. Analysing Financial Aspects of the subject and comparable companies: After the comparable companies are selected, the financial statements of the subject company and comparable companies are analysed to identify similarities and dissimilarities and made proper adjustments. Adjustments are required for differences in inventory valuation methods, for intangible assets, for off-balance sheet items. The purpose of adjustment is to normalize the financial statements. Selecting Valuation Yardstick: The valuation yardstick commonly used are: Enterprise Value-to-Sales, Firm value-to-Book value of assets, Enterprise Value-to-EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortisation), Firm value-to-EBIT, Price-to- Eamings Ratio (P/E Ratio) Equity Value-to-Net Worth ( Market-to-Book Value ratio) etc. The most popular measures among these are P/E Ratio and EV-to-EBITDA. In some companies particularly those that require a significant investment in plant and equipment EBIT is used instead of EBITDA. In this case depreciation and amortisation are considered to be a real cash expenses as continuous investment is required to maintain and replace equipment. Valuation of the subject Company: Appropriate multiples are applied to the financial numbers (sales, EBIT, etc.). If several bases are employed, the several value estimates may be averaged by using either simple or weighted average. Comparable Transaction Method: This method is similar to the comparable public company method, except that instead of looking at public companies traded on a stock Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 33 @ EAST WESTMERGERS, ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 market, a valuation yardstick is developed by looking at companies that have been bought and sold recently. The advantage of this method is that many such transactions involve small private and public companies which may make them more comparable to the subject company. The disadvantage of this method is that this information is generally not publicly available. Merits and Demerits of Market-based Approach Merits: () This approach reflects the current mood of the market and it is simple to use than the asset-based and income-based approach. i) It requires less information than the other approach ii) Since no estimation is required, this approach is less time consuming than the other approaches. Demerits (i) Difference in the scale of operation makes it difficult to find directly comparable properties. i) The multiples used in the valuation reflect the valuation errors (overvaluation or undervaluation) of the market. ii) Multiples are amenable to misuse and manipulation. Since no two firms are likely to be identical in terms of risk and growth, the key determinants of multiples, the choice of comparable. 3. INCOME-BASED APPROACHES Income-based methods include Discounted cash flow method, Adjusted present value method and Capitalised earnings method. Discounted Cash Flow Method This approach undertakes valuation of a business firm by calculating the present value of all the future cash flows expected to be generated from the company. It is also called as Intrinsic value or economic value. Traditionally Adjusted Book Value approach and a — Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 34 @@ MERGERS,ACQUISITION & CORPORATE RESTRUCI JRING- 18MBAFM401 Direct Comparison approaches were widely used. However, from early 1990s, because of its conceptual superiority, DCF approach received greater significance and recommended by leading consultancy organisations. Corporate valuation using DCF method is conceptually identical to evaluation of a capital project using the net present value method. Only the difference is that the capital project is deemed to have a definite life and therefore it is valued as a one-off investment. However, a firm is considered to be having an indefinite life and hence it is viewed as a growing entity. Therefore for valuing a firm all the investments in fixed assets and net working capital that are expected to be made over time to sustain the growth of the firm are taken into account. The DCF approach is ideally suited under the following situations (@ When fairly credible business plans and cash flow projections are available for the explicit forecast period of five to ten years or even more. (ii) When the firm is expected to reach a steady state at the end of the explicit forecast period, Under this method net present value (NPV) of acquiring a firm is ascertained. The merger or acquisition is recommended if NPV is positive and rejected if it is negative. NPV = Present Value of a Target Firm - Cost of Acquisition Cost of Acquisition Particulars Amount Payment of cash / Issue of shares to equity shareholders XXX Add: Payment of cash / Issue of shares to preference shareholders XXX Payment to Debenture holders XXX Payment to other external liabilities XXX Obligations assumed to be paid in future XXX Dissolution expenses paid by acquiring firm XXX Unrecorded liability /contingent liability assumed by acquiring firm. XXX Less: Cash proceeds from sale of assets of target firm = XXX (not to be used after acquisition) Cost of Acquisition XXX SU EEEEEEEETEEn Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 35So ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 EAST WEST Present Value of Target Firm Present value of the target firm is the sum of present value of FCF during explicit forecast period, present value of FCF after the explicit forecast period (ie. PV of Terminal Value or Continuum Value) and Value of Non-operating Assets. Steps: 1, Forecasting the cash flow during the explicit forecast period 2. Determination of the cost of capital (WACC) 3. Determine of the Continuing Value (CV) 4, Calculation of the firm value Forecasting the Cash Flow During Explicit Forecast Period Before forecasting the cash flow, one has to determine explicit forecast period. Explicit forecast period generally ranges from 5 to 15 years. The period should be such that the business reaches a steady state at the end of this period. The forecast period required for various types of companies is given below. Type of Companies Explicit Forecast Period For Slow-growing Companies: The companies which operate in highly 1 year competitive situation and with low margin industry For Sold Companies: The companies which operate with advantage such 5 years as strong marketing channels, recognizable brand name or regulation advantage For Growing Companies: The companies with very high barriers to entry __10 years and dominant market position After determining explicit forecast period, revenue growth rate of the company during the explicit forecast period is determined. Forecasting a company’s revenue is possibly the most important assumption one can make about its future cash flows. For forecasting revenue growth, one has to consider various factors such as expansion or contraction of the market, performance of market share of the company etc. Since future is uncertain it is valuable to consider more than one possible outcomes for the company. Generally the —— Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 36—— MERGE ACQUISITION & CORPORATE RESTRUCTURING- I8MBA. company’s revenue growth will stay strong in the initial period which ranges from 3-7 years and in the later stage, it could either slow down or be stable. FCF represents the actual amount of cash that a company has left from its operations which could be used to pursue opportunities. It is also called as financing flow. It is calculated as follows. Computation of FCFF FCFF = OFCF + Non-operating CF OFCF = NOPLAT - Net Investment NOPLAT = EBIT - Taxes on EBIT Taxes on EBIT = Tax provision + Tax shield on interest exp. - Tax on interest income - Tax on non-operating income DETERMINATION OF DISCOUNT RATE. Having projected the company’s FCF during explicit forecast period, the FCF is converted into present value, which requires estimation of an appropriate discount rate. If the risk complexion of the target firm is similar to that of acquiring firm (generally found in horizontal merger) or if both the firms have identical debt-equity ratio, the acquiring firm can use its own Weighted Average Cost of Capital (WACO) as discount rate. In case the risk complexion of the target firm is different, an appropriate discount rate is computed reflecting the riskiness of the projected FCF of the target firm. Formula KO = We x Ke + Wd x Kd (1-1) Ke = Cost of equity Kd = Cost of debt We = Weight of equity Wd = Weight of debt = Tax rate SO Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 37 @— MERGERS, ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 Cost of Equity: The most commonly used method for calculating cost of equity is Capital Asset Pricing Model (CAPM). In this model, interest rate of Treasury bills or the Long term bond rate is frequently used as risk-free rate Cost of Debt: The cost of debt is fairly straight forward to calculate. The current market rate of interest that company is paying on the debt is taken to be the cost of debt. TERMINAL VALUE (TV) Having estimated the FCF over the forecast period, FCF after the forecasted period is also need to be ascertained for the valuation of a company. It is very difficult to forecast cash flow over entire life of the company. To make the task a little easier, a terminal value approach is used. Terminal Value is a dominant component in a corporate valuation. It is also called as Continuum Value (CV). There are several ways to estimate terminal value but one well known method is to value the company as a perpetuity using Gordon Growth model. Methods of Computing TV Cash Flow Methods (i) Gordon Growth model (ii) Value Driver Method Non-Cash Flow Methods (i) Replacement Cost Method (i) Price-PBIT Ratio Method (ii) Market-to-Book Ratio Method CORPORATE VALUATION GUIDELINES For corporate valuation various approaches or methods are available. Every approach has its own merit and demerits, And therefore one cannot rely on a single approach. Some of the principles or guidelines are being suggested below which may enable the appraiser in undertaking the valuation process. Sd Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalune Page 38 EAST WESTMERGERS, ACQUISITION & CORPORATE RE. JRING- 18MBAFM401 1. Use Minimum Two approaches: Since every approach has some limitations, completely dependence on one approach may lead to valuation bias. And therefore it is suggested to go for valuation under two or more approaches. And the final value of the company may be arrived by taking weighted average of the valuation figures obtained under the two or more methods. For this purpose, weights are decided by the appraiser. 2. Use of Value Range: Since valuation is inherently inexact and uncertain exercise, it is not correct to attach great precision to any single value estimate. Therefore more sensible approach would be to look at two or more plausible scenarios and define a value range, based on the value indicators for these scenarios, to take care of the imponderables. 3. Blend Theory with Judgment: Milton Rock said “In the end, even when armed with the results of various analyses such as DCF values, secondary market trading, levels, a history of comparable transactions and estimates of liquidation or replacement values, the evaluator moves from the arena of seeming precision and science to the realm of judgment and art”. Thus valuation of a company requires blending of theory, judgment and experience. 4. Longer Forecast Horizon: Analysts often commit mistake using short horizon period for estimating future cash flow of the target company. The horizon period should be such that at the end of it, the growth rate stabilizes or the return on capital becomes equal to the cost of capital, Typically, this period is longer than the planning period of the firm, 5. Avoid Reverse Financial Engineering: Sometimes the appraiser may start the valuation with a given value estimate and then work backwards to specify the assumptions that produce the pre-determined value figure. This is known as Reverse Financial Engineering. This approach of valuation is highly misleading. A professionally honest appraiser should not use this approach, 6. Avoid Use of Shortcuts: Many times appraisers use shortcuts in the valuation process. For instance, forecasting only the income statement and a partial balance sheet ete. This kind of short cut approach will not help to cross check the validity of their assumptions by studying financial ratios change during the forecast period. ar T/ vr nna TTvar Uren re UnENUP NI uIpETPT=OnETETSr PTE EEEEEDPSRNETIOT Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 39 @& EAST WESTTRUCT JRING- ISMBAFM401 east West & MERGERS,ACQUISITION & CORPORATE RE — Since the people and the world around us do not act rationally it is impossible to estimate fair value. The estimated value can be taken to be starting point for the negotiation than a final definitive value. EXCHANGE RATIO Exchange ratio means the number of shares the acquiring firm is willing to give in exchange for a share of the target firm. It is also called as Swap ratio. METHODS OF DETERMINING EXCHANGE RATIO Exchange ratio is calculated by using any of the following methods. Methods 1, Earnings Per Share (EPS) Method 2. Market Price Per Share (MPS) Method 3, Book Value Per Share (BVPS) Method 4, Discounted Cash Flow (DCF) Method 1. Earnings Per Share (EPS) Method Under this method exchange ratio is based on the relative Earnings Price Per Share (EPS) of the acquiring and the target firm, The exchange ratio is calculated as follows. ER = EPSt / EPSa Merits Itreflects current earnings of both the firms. Demerits (ji) Difficult to use when EPS is negative. (ii) Problem of measuring normal level of current earnings. (ai) EPS may be influenced by certain transient factors like wind fall profit ete (iv) It fails to take into account the factors like : the difference in the growth rate of earnings of the two companies, The gains in earnings arising out of merger and The differential risk associated with the earnings of the two companies 2. Market Price Per Share Method Under this method exchange ratio is based on the relative market prices of the shares of the acquiring and the target firm. It is calculated as follows. MPST/MPSA Merit Page 40@ MERGERS, ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 EAST WEST See It reflects not only current earnings but also growth prospects and risk characteristics. Demerits (i) Non availability of market prices for the shares which are not listed in the stock exchange. (ii) Market prices may not be reliable when the trading is meager. (iii) Market price may be manipulated by those who have a vested interest in the firm. 3. Book Value Per Share Method Under this method the relative Book Value Per Share (BVPS) of the merging companies is used to determine the exchange ratio. It is calculated as follows. ER = BVPSt / BYPSA Merit It reflects intrinsic value of the firm. Demerits (i) Book value does not reflect changes in purchasing power of money (il) Book value is influenced by the accounting policies which reflect subjective judgments (iii) Book values often differ from the true economic values. 4, Discounted Cash Flow (DCF) Value Per Share Method Under this method, exchange ratio is based on the relative DCF values per share of the merging companies. It is ideally suited when fairly credible business plans and cash flow projections are available for a period of five to ten years for the merging companies. It is calculated as follows. The greatest disadvantage of the method is that it overlooks the value of options embedded in the business. ER = DCFVPS of Target firm / DCFVPS of Acquiring firm DCFVPS the DCF method - Debt value / No. of equity shares irm value using — SS), Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 41MERGERS,ACQUISITION & CORPORA ‘TRUCTURING- I8MBAFM401 SHARE EXCHANGE Large acquisitions almost always involve an exchange of shares, m whole or in part. The advantage of this method of financing is that the acquirer does not part with cash and does not increase financial risk by raising new debt. It is also possible that the acquirer can ‘bootstrap’ earnings per share if it has a higher P/E ratio than the acquired entity. Share Exchange Ratio (Swap Ratio) After the acceptable valuations of both the acquirer and the target companies the exchange of the acquirer’s shares for the target’s shares are calculated if the deal is not finalized for cash method of settlement. The Share Exchange Ratio (SER) or the swap ratio indicates the number of shares of the acquiring company to be given to the erstwhile target company’s shareholders in exchange of their holdings. It is calculated as: SER — Pt Target's share price) ~~ Pa (Acquirer’s share price) Example 1: Ram Ltd. wants to take over Rahim Ltd. The following details of both companies are as follows: Particulars Ram (Rs) | Rahim (Rs) Profit after Tax and Preference Dividend | 4,80,000 | 3,00,000 Preference Share Capital 7,00,000 | - Equity Share Capital of Rs.50 each 10,00,000 | 5,00,000 You are required to calculate the share exchange ratio to the shareholders of Rahim Ltd. based on Earning per Share (EPS). ——_—_— Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 42 S&STRUCTURING- ISMBAFM401 Solution: Calculation of Share Exchange Ratio Particulars Ram (Rs) | Rahim (Rs) Profit after Tax and Preference Dividend 4,80,000 3,00,000 Number of equity shares 20,000 10,000 Earnings per Share = 80,000 | 3,00,000 Profitafter Tax andPreference Dividend 20,000 10,000 Number of Equity Shares = Rs.24 = Rs.30 SER = Earning Per Share of Acquired Company (Rahim) Earning Per Share of Acquiring Company (Ram) 30 =1.25 24 Thus, number of shares to be issued by Ram Ltd. is: = 10,000 shares x 1.25 = 12,500 shares. Example 2: Madhu Company wishes to take over Sudha Company. The financial details of the company are as follows: Madhu | Sudha Co. Madhu Co. | Sudha Co. Liabilities Assets Co. (Rs) (Rs) (Rs) (Rs) 10% Debentures | 1,00,000 | 50,000 | Fixed Assets | 6,00,000 | 2,10,000 Profit and Loss A/c | 1,70,000 | 90,000 | Current Assets | 370,000 | 2,00,000 Share Premium - 20,000 Ase Equity Share 2 5,00,000 | 2,50,000 of Rs.100 per Share Preference Shares | 2,00,000 > 9,70,000 | 4,10,000 9,70,000 | 4,10,000 Additional Information: 1) Annual profit available for equity shareholders after tax and preference dividend: —— Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 43@ 'TRUCTURING- ISMBAFM401 EAST WEST ACQUISITION & CORPORA: Madhu Ltd. - Rs.1, 80,000 Sudha Ltd. - Rs.70,000 2) Market price per equity share: Madhu Ltd, - Rs.210 Sudha Ltd. - Rs.270 What offer do you think that the Madhu Company could make to Sudha Company in terms of exchange ratio based on: 1) Net assets value, 2) Earnings per share, and 3) Market value per share, Solution: 1) Net Assets Method: Calculation of share exchange ratio based on Net Assets Value: Particulars Madhu (Rs) ‘Sudha (Rs) Fixed Assets 600,000 2,10,000 Current Assets 3,70,000 2,00, 000 -9,70,000 410,000 Less: Preference Share Capital 2,00,000 a 10% Debentures 1,00,000 670,000 Book Value per Share = Net Assets Val] No. of Equity Shi Share Exchange Ratio SER = B00K Value Per Share of Acquired Company (Sudha) Book Value Per Share of Acquiring Company (Madhu) 4 107 134 It means Madhu Company issues 1.07 shares for every one share of Sudha Company. Thus number of shares to be issued by Madhu Company is: = 2,500 shares x 1.07 = 2,675 shares oo Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalure Page +4@ ‘STRUCTURING- I8MBAFM401 ey MERGERS,ACQUISITION & CORPORA 2) Earnings per share method: calculation of share exchange ratio: Particulars Madhu (Rs) Sudha (Rs) ‘Annual Profit tor Equity Shareholders (After tax 1,80,000 70,000 and preference dividend) Number of Equity Shares 5,000 2,500 Eps _ PFofit for Equity Shareholder s 7,80, 000 70,000 >, as No. of Equity Shares = 2,500 Share Exchange Ratio Earnings Per Share of Acquired Company (Sudha) ~ Earnings Per Shareof AcquiringCompany (Madhu) 28 36 SER 778 It means Madhu Company issues 0.778 shares for every one share of Sudha Company. Thus, number of shares to be issued by Madhu company is: = 2,500 x 0.778 = 1,945 shares. 3) Calculation of Share Exchange Ratio Based on Market Value Share Exchange Ratio ser = Market Price of Acquired Company (Sudha) ~ Market Price of Acquiringcompany (Madhu) 270 Fao 71-29 It means Madhu Company issue 1.29 shares for every one share of Sudha Company = 2,500 shares x 1.29 = 3,225 shares Se Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 45@ @ MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM40L EAST WEST SS i Unitd: Accounting aspects of Amalgamation: Types of amalgamations (Amalgamation in the nature of merger and amalgamation in the nature of purchase)-Methods of Accounting- Pooling of interest method and Purchase method)-Calculation of purchase consideration- Journal entries in the books of transferor é& transferee company-Ledger accounts in the we books of transferor and transferee companies. (Theory and Problems). Meaning of Amalgamation Amalgamation means an amalgamation pursuant to the provisions of the Companies Act. 1956, or any other statute, which may be applicable to Companies. Accounting Standard 14 “accounting for amalgamations” issued by ICAL, is applicable for Transferee Company (Buying Company). Let us understand some basic terms. ‘Transferor Company: A company which is amalgamated into another company. The company selling its business is known as “Transferor Company” Transferee Company: A company into which a transferor company is amalgamated. The company buying other company is known as “Transferee Company” Purchase Consideration: The consideration paid by the transferee company for the purpose of amalgamation. Purchase consideration may be in the form of Equity shares, preference shares, Debentures, Cash etc. There is no limit for fixing the price of Transferor Company it can be at discount, it can be at Par or premium, Usually intrinsic value of shares is taken into consideration for computing the purchase consideration. According to Accounting Standard 14 issued by the Institute of Chartered Accountants of India, there are two types of amalgamation (A) Amalgamation in the nature of merger; and (B) Amalgamation in the nature of purchase. —_— Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page46— MERGERS, ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 Amalgamation in the Nature of Merger Amalgamation in the nature of merger is an amalgamation which satisfies all the following conditions: 1 All the assets and liabilities of the transferor company, after amalgamation becomes, the assets and liabilities of the transferee company. Shareholders holding not less than 90% of the face value of the equity shares of the transferor company (Other than the equity shares already held therein, immediately before the amalgamation, by the transferee company or its subsidiaries or (lieu nominees become equity shareholders of lire Transferee Company by virtue of the amalgamation. ‘The consideration for the amalgamation receivable by those equity shareholders of the transferor company who agree to become equity shareholder of the transferee company is discharged by the transferee company wholly by the issue of equity shares m the transferee company, except that cash may be paid in respect of any fractional shares The business of the transferor company is intended to he carried on alter the amalgamation, by the transferee company. No adjustment is intended to be made to the book values of the assets and liabilities of the transferor company when they are incorporated in the financial statements of the transferee company except to ensure uniformity of accounting policies, Amalgamation in the Nature of Purchase Amalgamation m the nature of purchase is an amalgamation which does not satisfy one or more of the above conditions. That is an amalgamation can be considered as amalgamation in the nature of purchase when 1 Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengali Alll the assets and liabilities other transferee company does not become the assets and liabilities of the transferee company after amalgamation; or Shareholders holding not less than 90% of the face value of the equity shares of the transferor company do not become equity shareholders of the transferee company by virtue of the amalgamation; or ‘The consideration for amalgamation is given by transferee company in the form of cash, debentures etc., with or without equity shares of the transferee company; or The transferee company is not intending to carry on the business of the transferor company, after amalgamation; or Page 47 weACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 5 The assets and liabilities of the transferor company is incorporated in the books of transferee company al adjusted values. Method of Accounting Nature of Amalgamation | Method of Accounting, Merger Pooling of Interest Method Purchase Purchase Method JOURNAL ENTRIES IN BOOKS OF TRANSFEROR COMPANY AND TRANSFEREE COMPANY IN THE BOOKS OF TRANSFEROR COMPANY (SELLING COMPANY) Accounting standard 14 is not applicable for selling company. Accounting is done with the objective of closing books of accounts and simultaneous determination of profit or loss on closing books of accounts. Transfer to realization account ‘SL.NO | PARTICULAR DEBIT | CREDIT Transfer all Assets at book value to realization a/c ( except Miscellaneous) Realisation A/C Dr XXX To Assets A/c XXX Transfer all liabilities taken over purchasing company(Except equity, preference and reserves) Liabilities A/c Dr XXX To Realisation A/c XXX PURCHASE CONSIDERATION Purchase consideration represents consideration paid in cash, shares, debentures etc. SL.NO | PARTICULAR DEBIT | CREDIT Due entry for consideration 1 | Transfereecompany A/C Dr_| XXX To Realisation A/c XXX Receipt of consideration 2 | Shares/CashA/e Dr XXX To Transferee company A/c XXX ———— a ____— Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 48 @wTION & CORPORATE RES1 UCTURING- ISMBAFM401 SALE OF ASSETS NOT TAKEN OVER BY PURCHASING COMPANY SLNO PARTICULAR DEBIT | CREDIT Sale with assuming profit Bank A/C Dr XXX To Assets A/C(book value) XXX To Realisation A/c(Profits) XXX Sale with assuming loss Bank A/c Dr 7 | Realisation A/ctloss) Dr XXX To Assets A/c(Book Value) XXX SETTLEMENT OF LIABILITIES NOT TAKEN OVER BY PURCHASING COMPANY SL.NO PARTICULAR DEBIT | CREDIT Settlement with assuming at discount) To Bank A/C(book value) To Realisation A/c(Profits) Liabilities A/C Dr XXX Settlement with assuming at loss ‘To Bank A/c(Book Value) Liabilities A/c Dr XXX Realisation A/c(loss) Dr XXX Realisation Expense SL.NO ] PARTICULAR DEBIT | CREDIT Incurred by transferorGelling Co.) company Realisation A/c To Bank A/c Incurred by transferee(purchasing Co.) company NOENRTY NIL NIL Incurred by transferor(Selling Co.) company. Reimbursed by transferee company Transferee company A/c Dr To Bank A/c On Reimbursement XXX ——_——_—lWqc_ i Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 49 ww— MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 Bank A/c Dr XXX To Transferee company A/c XXX AMOUNT DUE TO EQUITY SHAREHOLDERS SLNO | PARTICULAR DEBIT | CREDIT ‘Transfer of share capital and reverse to shareholders account 1 | Equity Sharecapital A/e Dr XXX Reserves A/c Dr XXX ‘To Shareholders A/c XXX Transfer of balances in realization account Realisation A/c (Profit) Dr XXX To shareholders A/c XXX 7 |ftm\Case of loss Shareholders Ae Dr XXX To Realisation A/c (Loss) XXX SETTLEMENT TO SHAREHOLDERS BY TRANSFER OF CONSIDERATION RECCEIVED SLNO PARTICULAR DEBIT | CREDIT Shareholders A7c_ Dr XXX 1 To shares of transferee company A/c XXX To Bank A/c Xxx IN THE BOOKS OF TRANSFEREE COMPANY (PURCHASING COMPANY) Accounting should be done as per accounting standard 14, Due entry for business purchase SL.NO | PARTICULAR DEBIT | CREDIT Business Purchase A/c Dr XXX 1 To Liquidator transferor company A/c XXX Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 50 S&S@ MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 A —————— Incorporation of assets and liabilities taken over (Pooling interest method) SLNO_ | PARTICULAR DEBIT | CREDIT Sale consideration more than net assets of selling company. Assets A/c Dr XXX + General Reserve A/c Dr(Bal.Fig) (Capital loss) | XXX To Liabilities A/c XXX To Business Purchase A/c XXX Sale consideration less than net assets of selling company. Assets A/e Dr XXX 2 To Liabilities A/c XXX To Business Purchase A/c XXX To General Reserve A/c (Bal. Fig) (Capital XXX gain) Incorporation of assets and liabilities taken over (Purchase method) SL.NO PARTICULAR DEBIT | CREDIT Sale consideration more than net assets of selling, company. Assets A/c Dr XXX * | Goodwill A/e Dr (Ba Fig) XXX To Liabilities A/c XXX To Business Purchase A/c XXX Sale consideration less than net assets of selling, company. Assets A/e Dr XXX ' To Liabilities A/c XXX To Business Purchase A/e XXX To Capital Reserve A/c (Bal. Fig) XXX Sale consideration - net assets of selling company purchasing Company) Sale consideration - net assets of selling company = Negative amount = Capital Reserve (profit to Purchasing company) Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru positive amount = Goodwill (loss to Page 51 oSd S&S TON & CORPORATE RESTRUCTURING- I8MBAFM401 EAST WEST DISCHARGE OF PURCHASE CONSIDERATION SL.NO | PARTICULAR DEBIT | CREDIT 1 Liquidator of transferor company A7e Dr XXX To Share capital A/c XXX To Securities premium A/c XXX To Bank A/c XXX OTHERS SL.NO] PARTICULAR DEBIT | CREDIT Cancellation of intercompany owings 1 Creditors A/c Dr XXX To Debtors XXX Elimination of unrealised profits on goods sold by one company to the other and remaining unsold on 2 the date of amalgamation Goodwill/Capital reserve A/e Dr XXX To Stock reserve/Stock A/c XXX Realisation expense Incurred by purchasing company Goodwill/ Capital reserve A/c Dr XXX To Bank A/c XXX Realisation incurred by selling company 3 NOENTRY NIL NIL Realisation expense by selling and the same was reimbursed by purchasing company Goodwill/Capital reserve Afe Dr To Bank A/c XXX XXX Contra entry for statutory reserve appearing in selling company and the same to be maintained by purchasing company. SL.NO PARTICULAR DEBIT | CREDIT | Amalgamation Adjustment A7e Dr XXX To Statutory reserve A/c XXX SS Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 52"QUISITION & CORP PORA Let us take small illustration in various scenarios: Balance sheet of selling company ‘STRUCTURING- 18MBAFM401 @ Liabilities Amount Assets Amount Share capital 500000 Fixed assets 1250000 Reserves, 500000 | Current assets 250000 Current Liabilities 500000 Total 1500000 Total 1500000 Note: Nature of amalgamation is merger Consideration paid by selling company CaseT Case! | Casellt | Case IV 5,00,000 900,000 |11,00,000 | 4,00,000 ‘Treatment of Reserves as per pooling of interest method SLno Particular T I il Iv d Purchase Consideration 5,00,000 9,00,000 | 11,00,000 | 4,00,000 >| Paid up share capital of selling | 500,000 | 5,00,000, | 5,00,000 ]5,00,000 company 3 | Peossof Lover? NIL. 400,000 | 600,000 | - 1,00,000 ‘Adjustment of the above (3) excess against [Fee reservest of selling | NIL -4,00,000 | -5,00,000 | NIL. company Free reserves* of purchasing company NIL -1,00,000 NIL Balance of selling company 5 | serves to be incorporated. Free reserves Capital reserves 5,00,000 1,00,000 NIL 5,00,000 1,00,000 Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 53a wo MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 ESSISWESn “Free reserves = General reserve and Profit and loss A/C credit balance. (Excluding Statutory Reserves) Journal entry in the books of purchasing company for above cases Particular Debit Credit Case 1 Fixed Assets A/C Dr. 1,25,0000, Current Assets A/C Dr. 2,50,000 To Current Liabilities A/C 5,00,000 ‘To General Reserve A/C 5,00,000 ‘To Business Purchase A/C 5,00,000 Case IL Fixed Assets A/C Dr. 1,25,0000 Current Assets A/C Dr 2,50,000 To Current Liabilities A/C 5,00,000 ‘To General Reserve A/C 1,00,000 To Business Purchase A/C 9,00,000 Case III Fixed Assets A/C Dr 1,25,0000 Current Assets A/C Dr 2,50,000 Profit & Loss A/C Dr 1,00,000 To Current Liabilities A/C 5,00,000 To General Reserve A/C NIL To Business Purchase A/C 11,00,000 Case IV Fixed Assets A/C Dr 1,25,0000 Current Assets A/C Dr 2,50,000 To Current Liabilities A/C 5,00,000 To General Reserve A/C 5,00,000 To Business Purchase A/C 4,00,000 To Capital Reserve A/C 1,00,000 Purchase Method — SS Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 54& ACQUISITION & CORPORAT TRUCTURING- I8MBAFM401 EAST WEST Under this method the assets and liabilities of the selling company are recorded by purchasing company in either two ways At their existing book value; The purchase consideration should be allocated to individual identifiable assets and liabilities on the basis of their Fair value (agreed value) at the date of amalgamation 1. Non- statutory reserves of selling company are not be taken by purchasing company, 2. Only statutory reserves have to be maintained by purchasing company as prescribed by the required statute, the same is not considered for purchase consideration computation. Journal entry will be: Amalgamation adjustment A/C Dr XXX To Statutory Reserve A/C XXX The difference between purchase consideration and net assets of selling company is to be shown as follow: 1. Where the consideration paid is less than net assets, the difference is to be credited to capital reserves of purchasing company after amalgamation, 2. Where the consideration paid is more than net assets, the difference is to be debited to goodwill of purchasing company after amalgamation, Note: Net Assets = Sum of assets taken over at fair values - Liabilities taken over at agreed amounts Let us take small illustration in various scenarios: i Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 55A "QUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 EAST WEST ee Balance sheet of selling company Liabilities Amount Assets Amount Share capital 500000 | Fixed assets 1250000 Reserves 500000 | Current assets 250000 Current Liabilities 500000 Total 1500000 Total 1500000 ‘Note: Nature of amalgamation is merger Consideration paid by selling company Casel | Casell | Case lll | Case IV 15,00,000 | 11,00,000 | 10,00,000 | 4,00,000 Computation of Goodwill/Capital reserve as per purchase method Sino Particular T 1 mm Vv 1 _ | Purchase Consideration 15,00,000 | 11,00,000 | 10,00,000 | 4,00,000 2 _ | Netassets of selling company 10,00,000 | 10,00,000 | 10,00,000 | 10,00,000 3 | Excess of I over 2 5,00,000 | 1,00,000 | NIL ~6,00,000 4 _| Capital Reserve in NIL NIL NIL 6,00,000 5 | Goodwill 5,00,000 | 1,00,000 | NIL. NIL *Free reserves = General reserve and Profit and loss A/C credit balance. Journal entry in the books of purchasing company for above cases ———— Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 56MERGERS, ACQUISITION & CORPORA STRUCTURING ISMBAFM401 Particular Debit | Credit Case I Fixed Assets A/C Dr 12,50,000 Current Assets A/C Dr 2,50,000 Goodwill A/C Dr 5,00,000 To Current Liabilities A/C 5,00,000 To Business Purchase A/C 15,00,000 Case Tl Fixed Assets A/C Dr 12,50,000 Current Assets A/C Dr 2,50,000 Goodwill A/C Dr 1,00,000 To Current Liabilities A/C 5,00,000 To Business Purchase A/C 11,00,000 Case Il Fixed Assets A/C Dr 1,25,0000 Current Assets A/C Dr 2,50,000 ‘To Current Liabilities A/C 5,00,000 To Business Purchase A/C 10,00,000 Case IV. Fixed Assets A/C Dr 1,25,0000 Current Assets A/C Dr 2,50,000 To Current Liabilities A/C 5,00,000 To Capital Reserve A/C 6,00,000 To Business Purchase A/C 4,00,000 LEDGER ACCOUNTS Following are the necessary ledger accounts to be prepared in the books of both the transferor and transferee companies, In the Books of Transferor Company: 1. Realization A/c 2. Transferee Company A/c 3, Equity Shareholders A/c 4, Debenture holders A/c (If any) 5, Preference Shareholders A/c (If any) 6. Liability (not taken over by transferee Co.) A/c 7. Equity/ Preference Shares/ Debentures in Transferee Co, 8, Cash or Bank A/c In the Books of Transferee Company: 1. Business Purchase A/c 2. Liquidator of Transferor Company A/c 3, Capital Reserve or Goodwill A/< (in case of Purchase Method) 4, General Reserve or P & L A/c (in case of Pooling of Interest Method) nee Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 57 S&SS MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 (i Unit 5: = Acquisitions/Takeovers: Meaning and types of acquisition/ takeovers (Friendly and Hostile takeovers)-Anti-takeover strategies- Anti-takeover amendments-Legal aspects of M & A-Combination and Competition Act- 2002Competition Commission of India (CCI)-The SEBI Substantial Acquisition of Shares and ‘Takeover (Takeover code-2011), (Theory) Takeover means the purchase of one company by another without the formation of a new company. The acquisition of a controlling interest in a company by another company through the purchase of it shares. Tin acquired company’s identity is often absorbed into that of the company taking it over. A takeover is defined as, “A business transaction whereby a person acquires control over the assets of the company, either directly by becoming the owner of those assets or indirectly by obtaining control of the management of the company. Where the number of shareholders is less, the agreement of the takeover may take place between the acquirer and the shareholders at large, and where the shareholders are large in number, the agreement may take place between the acquiring party and the controlling party of equity capital by purchases of shares in the stock market or from institutional owners”. TYPES OF TAKEOVER 1 Hostile Takeover 2. Friendly Takeovers 1. Hostile Takeover A hostile takeover of a company will very likely be extremely (notional. A hostile takeover means that the acquired company (ie, the Board of Directors, senior management, and/or employees) does not Want to be acquired, for business reasons (valuations are opportunistic for the acquirer, due to market factors), personal reasons (management believes that it is doing an excellent job and does not believe the acquirer will do as well), or perhaps job security reasons. It is a hostile takeover if the management of the company being taken over is opposed to the deal. A hostile takeover is sometimes organized by a corporate raider. A hostile takeover generates considerable negative energy and a serious dilution of productivity. During a hostile eT Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalure Page 58MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 takeover, the target company management may develop negative public relations campaigns against the acquiring company. 2. Friendly Takeovers Friendly takeovers often develop a different tone and are easier to manage since they generally have the endorsement of the boards, essential management, and possibly the entire workforce. Although the combined operations may still have lay-offs, the tone of friendly takeovers is generally for the common good of all constituents. A friendly takeover causes much less concern than a hostile takeover. A friendly takeover may be the result of negotiations by senior management to assure that all constituents of the acquired company have been fairly treated. This does not necessarily mean that management desires the acquisition, but rather that they are meeting their fiduciary responsibility to sell or maximize the company’s value. A very healthy, positive merger may have dissatisfied groups. TAKEOVER DEFENSES Takeover defenses include all actions by managers to resist having their firms acquired. Attempts by target managers to defeat outstanding takeover proposals are overt forms of takeover defenses. Resistance also includes actions that occur before a takeover offer is made which make the firm more difficult to acquire. The intensity of the defenses can range from mild to severe. Mild resistance forces bidders to re-structure their offers, but does not prevent an acquisition or raise the takeover price substantially. Severe resistance can block takeover bids, thereby giving the incumbent managers of the target firm veto power over acquisition proposals. Takeover defenses are also termed as anti-takeover tactics. There are a number of takeover defenses that are applied by the target companies for averting the acquirers or bidders. This is specifically seen in the United States that carries an extensive and diverse history of takeovers. Principles of Takeover Defense ‘Takeover defense measures should conform to the following principles in order to protect and enhance corporate value and shareholders’ common interests: 1) Principle of Protecting and Enhancing Corporate Value and Shareholders’ Common, Interests: The adoption, implementation, and termination of takeover defense measures Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 59 ww& ACQUISITION & CORPORATE RESTRUCTURING- I8MBAFM401 EAST WEST A should be undertaken with the goal of protecting and enhancing corporate values and, by extension, shareholders’ common interests. 2) Principle of Prior Disclosure and Shareholders’ Will: When takeover defense ‘measures are adopted, their purpose and terms should be specifically disclosed and such measures should reflect the reasonable will of the shareholders. 3) Principle of Ensuring the Necessity and Reasonableness: Takeover defense measures that are adopted in response to a possible takeover threat must be necessary and reasonable in relation to the threat posed. TAKEOVER STRATEGIES/ TAKEOVER DEFENSES The takeover defenses can be broadly categorized into following two types: 1) Pre-Bid/Preventive Takeover Defenses: These are put in place in advance of any specific takeover bid. They are installed so that a bidder will not attempt a takeover. Pre- bid/ Preventive takeover defenses can be classified into following ways: 1. Shark-Repellent, 2 Golden parachute, 3. White mail, 4 Staggered board, 5 Super majority, 6 Poison pills, and 7 Crown jewel. 2) Post Bid/Active Takeover Defenses: These are deployed in the midst of a takeover battle where a bidder has made an offer for the company. Post bid/ Active takeover defenses can be classified into following ways: 1 Pac man defense, Greenmail, Standstill agreements, Litigation, Self tender, White knight and Naaroen People pill ——S ss —_ Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 60= MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMB: Pre Bid/Preventive Takeover Defenses It is well known that prevention is better than cure. Thus, Pre bid defense include the measures which is adopted by the company before the takeover bid. To prevent the takeovers there are some measures which are discussed below: 1) Shark-Repellent: Some companies use formal methods that are put into place prior to an actual takeover attempt, known as shark- repellent devices; they are designed to make a takeover more difficult. 2) Golden Parachute: Golden Parachutes are employee severance arrangements that are triggered whenever a change in control takes place. Such a plan usually covers only a few dozen employees and obligates the company to make a lumpsum payment to employees covered under the plan whose jobs are terminated following a change in control. A change in control usually is defined to occur whenever an investor accumulates more than a fixed percentage of the corporation's voting stock. Such severance packages may serve the interests of shareholders by making senior management more willing to accept an acquisition. 3) White Mail: White mail, coined as an opposite to blackmail is an anti-takeover arrangement in which the target company will sell significantly discounted stock to a friendly third party in return, the target company helps to thwart takeover attempts, by: i) Raising the acquisition price of the raider, ii) Diluting the hostile bidder’s number of shares, and iii) Increasing the aggregate stock holdings of the company. 4) Staggered Board of Directors: A staggered Board of Directors (B of D), in which groups of directors are elected at different times for multiyear terms, can challenge the prospective raider. The raider now has to win multiple proxy fights over time and deal with successive shareholder meetings in order to successfully take over the company. It is important to note, however, that such a plan holds no direct shareholder benefit, 5) Super Majority: Super majority provisions typically increase the shareholder approval requirement for a merger to the range, thus superseding the approval requirement of the charter of the state in which the firm is incorporated. Super majority requirements may Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalune Page 61 SoSS MERGERS, ACQUISITION & CORPORATE RESTRUCTURING- 18MBAFM401 ee block a bidder from implementing a merger even when the bidder controls the target's Board of Directors, if the bidder's ownership remains below the specified percentage requirement. 6) Poison Pills: Under this method, the target company gives existing shareholders the right to buy stock at a price lower than the prevailing market price if a hostile acquirer purchases more than a predetermined amount of the target company’s stock. 7) Crown Jewels: The most valuable unit(s) of a corporation, as defined by characteristics such as profitability, asset value and future prospects. The origins of this term are derived from the most valuable and important treasures that sovereigns possessed. Post Bid/Active Takeover Defenses It is essential that the company starts to react immediately after the takeover attempt is launched. Otherwise the company may find itself at a strategic and tactical disadvantage that may prove fatal, Once an Unwanted suitor has approached a firm, a variety of additional defenses can be introduced. These include defenses designed to make the target less attractive and efforts to place an increasing share of the company’s ownership in friendly hands. To react to the takeovers there are some measures which are discussed below: 1) Pac man Defense: This defense, named after the videogame, consists of a counter- purchase by the target of the shares against its attacker. In some cases, it will suffice to buy even a small fraction of shares of the attacker to be able to initiate legal claims against the attacking company in the capacity of minority shareholder. 2) Greenmail: It is a situation in which a large block of stock is held by an unfriendly company. This forces the target company to repurchase the stock at a substantial premium to prevent a takeover. It is also known as a "Bon Voyage Bonus” or a "Goodbye Kiss”. Not unlike blackmail, this is a dirty tactic, but it's very effective, 3) Standstill Agreements: A standstill agreement refers to the agreement between a target firm and a potential acquirer wherein i the potential acquirer agrees not to increase his/her stake in the company, for a fee. Normally standstill agreements are executed when the potential acquirer has bought a significant stakes in the company. Most standstill agreements also include a clause wherein the target firm and its management eee Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengalure Page 62= MERGERS,ACQUISITION & CORPORATE RESTRUCTURING- ISMBAFM401 are given the first right of ! refusal, in the event of the potential acquirer intending to liquidate his holdings. This is to prevent the block of shares from falling into the hands of another potential raider. 4) Litigation: Bringing administrative claims or court proceedings against the raider is regarded as one of the most common antitakeover measures. A target of a hostile offer should search for any regulatory, securities law, or other skeletons in the closet of the attacker. Court action can considerably lengthen the period of time needed to complete the takeover and reduce its chances of success by increasing the cost and by allowing time for the target to solicit competing bids or put-up defenses, 5) Self-Tender. Under the Business Associations Act of Ukraine, a joint stock company has the right to acquire the paid-up shares from the other shareholders only by sums that exceed the share capital. A corporate buy-back of its own shares increases the relative voting power of those shareholders friendly to management who do not tender their shares. 6) White Knight: A White Knight is a company (the good guy) that gallops to rescue the company that is facing a hostile takeover from another company (a Black Knight) by making a friendly offer to purchase the shares of the target company. The target may seek-out a white knight by itself or with the help of investment bankers. A white knight is a potential acquirer who is sought-out by a target company’s management to takeover the company to avoid a hostile takeover by an undesirable black knight. 7) People Pill: Here, management threatens that in the event of a hostile takeover, the management team and the core specialists will resign at the same time en masse. This is especially useful if they are highly qualified employees who are crucial in identifying and developing business opportunities of the company. Methods of Resistance The methods of resistance are as follows: 1) Pac-Man Defense: A defensive tactic used by a targeted firm in a hostile takeover situation. In a Pac-Man defense, the target firm turns around and tries to acquire the other company that has made the hostile takeover attempt. This term has been accredited to Bruce Wasserstein, chairman of Wasserstein & Co.” Ne a nnn TEED EENNENS-—=arsnTPETEEE EEE —seet Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 63 @ EAST WEST. ACQUISITION & CORPORATE RESTRUCTURING- I8SMBAFM401 In simpler word, Pac-Man Defense is a business strategy where a firm avoids a hostile takeover by purchasing the acquiring company/competition. This mechanism has been named after the game Pac-Man. According to expert, applying the Pac-Man defense might not yield fruitful results every time, but this mechanism is of practical importance. Some companies often use Pac-Man Defense as a tool for vengeance. Pac-Man Defense is an excellent strategy against hostile mergers and acquisitions. 2) White Knight: If the target company wants to avoid a hostile merger, one option is to seek out another company for a more suitable merger. Usually, the Target Company will enlist the services of an investment banker to locate a "white knight.” The White Knight Company comes in and rescues the Target Company from the hostile takeover attempt. In order to stop the hostile merger, the White Knight will pay a price ‘more favorable than the price offered by the hostile bidder. 3) White Squire: A white squire is an investor who buys stakes in a company in the best interest of that company, usually with the intent to prevent a hostile takeover of that company. White squires only acquire a partial share of the company which does not give them complete controlling power. However, this partial interest is enough for said company to avoid a hostile takeover. In some cases, it may also give the company some time to rethink its strategy. White squires give confidence to the company to face any unfavorable takeovers and, in this sense, act as a savior. ANTI-TAKEOVER AMENDMENTS It is often proposed that the best defense mechanism is anti-takeover amendments to the company’s article of association, popularly called ‘shark repellants’. It is one of the swift modes which have been increasingly utilized by the BOD or directors, by exercising their statutory power as protective strategies in the company from take- overbids which will consequently facilitate to check them and thwart away the bids. It will also implement new conditions on the transfer of managerial controls over the firm through a merger, tender offer, or by replacement of Board of Directors. It is one, the most utilized strategies adopted in U.S.A. and raising one in India by the companies by changing and amending their byelaws and regulations to be less attractive for the corporate raider company. Overall approach is to highlight the critical issues of this defensive mechanism used by companies, the impact of anti-takeover amendment on the financial performance and long-term managerial decision-making. = Prof. Sharma KRS Associate Professor Department of MBA, EWIT, Bengaluru Page 64 SwS, ACQUISITION & CORPORATE RESTRUCTURING- [8MBAFM401 Thus, by the amendments of the AOA of a company, the anti-takeover mechanisms is used as quality means of technique as of the sophisticated means of takeover defense in cultivating the sound environment by amending AOA have to be voted on and approved by shareholders. This practice consists of the companies changing theirs regulations, rules, byelaws, etc,, to be less attractive corporate bidder. Generally, it can be said one of the safest techniques of protecting managerial control of the firm through merger, tender offer, or by replacement of the Board of Directors. In a hostile tender, offers made directly to a target company’s shareholder, with or without previous overtures to the management, have been considerable interest in devising defense strategies by actual and potential targets. Defense can take the form of fortify oneself, ie, to make the company less attractive to takeover bids or more difficult to takeover and thus discourage any offer being made. By and large, defensive mechanisms are restored to perceived threat against the company, ranging from early intelligence that a ‘rider’ or any acquirer has been accumulating to the company’s stock to an open tender offer. Adjustments in asset’s and ownership structure may also be made even after a hostile takeover bid has been announced. In India, the companies are able to access lesser anti-takeover defenses in comparison to the American companies. For the purpose of preventing a takeover effort, the Indian companies currently adopt the following anti- takeover defenses: 1) Effecting creeping enhancement, 2) Making preferential allotment, 3) Selling the crown jewels, 4) Amalgamating group companies, and 5) Searching for a white knight. Mergers and acquisitions are regulated under various laws in India. The objective of the laws is to make these deals transparent and protect the interest of all shareholders. But the major laws involved in the subject are: Prof. Sharma KRS Associate Pro ‘or Department of MBA, EWIT, Bengaluru Page 65 S&S