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Ans. Basic steps in Strategic planning in Merger : Any merger and acquisition involve the following critical activities in strategic planning processes. Some of the essential elements in strategic planning processes of mergers and acquisitions are as listed here below : 1. Assessment of changes in the organization environment 2. Evaluation of company capacities and limitations 3. Assessment of expectations of stakeholders 4. Analysis of company, competitors, industry, domestic economy and international economies 5. Formulation of the missions, goals and polices 6. Development of sensitivity to critical external environmental changes 7. Formulation of internal organizational performance measurements 8. Formulation of long range strategy programs 9. Formulation of mid-range programmes and short-run plans 10. Organization, funding and other methods to implement all of the proceeding elements 11. Information flow and feedback system for continued repetition of all essential elements and for adjustment and changes at each stage 12. Review and evaluation of all the processes In each of these activities, staff and line personnel have important Responsibilities in the strategic decision making processes. The scope of mergers and acquisition set the tone for the nature of mergers and acquisition activities and in turn affects the factors which have significant influence over these activities. This can be seen by observing the factors considered during the different stages of mergers and acquisition activities. Proper identification of different phases and related activities smoothen the process of involved in merger Q.2 What are the sources of operating synergy?
Ans. Sources of Operating Synergy Operating synergies are those synergies that allow firms to increase their operating income, increase growth or both. We would categorize operating synergies into four types: 1. Economies of scale that may arise from the merger, allowing the combined firm to become more cost-efficient and profitable. Economics of scales can be seen in mergers of firms in the same business For example : two banks combining together to create a larger bank. Merger of HDFC bank with Centurian bank of Punjab can be taken as an example of cost reducing operating synergy. Both the banks after combination can expect to cut costs considerably on account of sharing of their resources and thus avoiding duplication of facilities available. 2. Greater pricing power from reduced competition and higher market share, which should result in higher margins and operating income. This synergy is also more likely
4. The phenomenon can be understood in cases where one company with an established brand name lends its reputation to a company with upcoming product line or a company. Higher growth in new or existing markets. When there are more firms in the industry ability of firms to exercise relatively higher price reduces and in such a situation the synergy does not seem to work as desired. and through these the value of the firms involved in the merger or acquisition. for example here A can invest its resource in the opportunities available to B.to show up in mergers of firms which are in the same line of business and should be more likely to yield benefits when there are relatively few firms in the business. Some times. Generally the tangible assets of the target company are used as the collateral security for the loans borrowed by acquiring firm in order to finance the acquisition. After the acquisition blow past acquired a strong hold on the market and operated under near monopoly situation. a proportionate amount of the long term financing is secured with the fixed assets of the firm and in order to raise the balance . Q. arising from the combination of the two firms. the concept of Leverage Buyout (LBO) has emerged. The two companies were in the same line of business and were in direct competition with each other leading to a severe price war and increased marketing costs.3 Explain the process of a leveraged buyout. mergers and acquisitions have assumed significant importance both with the country as well as across the boarders.Operating synergies can affect margins and growth. with an established distribution network and brand name recognition. note that this can happen only when the two firms are combined with each other or in other words they must act in a way as if they are one. 3. In the realm of increased globalized economy. In search of an ideal mechanism to finance and acquisition. A company with strong distribution network merges with a firm that has products of great potential but is unable to reach the market before its competitors can do so. This can be understood with the following example Example : Consider a situation where there are two firms A and B.Synergy results from complementary activities. The leveraged buyout are cash transactions in nature where cash is borrowed by the acquiring firm and the debt financing represents 50% or more of the purchase price. Firm A is having substantial amount of financial resources (having enough surplus cash that can be invested somewhere) while firm B is having profitable investment opportunities ( but is lacking surplus cash). If A and B combine with each other both can utilize each other strengths. This would be case when a US consumer products firm acquires an emerging market firm. An example of limiting competition to increase pricing power is the acquisition of universal luggage by Blow Plast. and uses these strengths to increase sales of its products. Combination of different functional strengths. Another example is the acquisition of Tomco by Hindustan Lever. Such acquisitions need huge amount of finance to be provided. Ans. combination of different functional strengths may enhance the revenues of each merger partner thereby enabling each company to expand its revenues. LBO is a financing technique of purchasing a private company with the help of borrowed or debt capital. In other words the two companies should get the advantage of the combination of their complimentary functional strengths.
The debt is usually secured on specific assets of the company. The terms of the subordinated debt are usually less stringent than senior debt. or rolled up into the principal. Ordinary shares : This is the riskiest part of a LBOs capital structure. An enhanced return is made available to lenders by the grant of an ¶equity kicker· which crystallizes upon an exit. They are fixed rate. long term securities with a looser covenant package than senior debt though they are subject to stringent reporting requirements. The bank loans are usually held by a syndicate of banks and specialized funds. These include : Senior debt : this is the debt which ranks ahead of all other debt and equity capital in the business. The integration of social interaction . Repayment is usually required in one ¶bullet· payment at the end of the term. However. Bank loans are typically structured in up to three trenches : A. which reflects interest ¶paid in kind·.amount of the total purchase price. ordinary shareholders will enjoy majority of the upside if the company is successful. lending costs are typically higher. Ans. Preference share : This forms part of a company·s share capital and usually gives preference shareholders a fixed dividend and fixed share of the company·s equity.4 What are the cultural aspects involved in a merger. the terms of senior debt in an LBO will require repayment of the debt in equal annual installments over a period of approximately 7 years. therefore it has the lowest cost of debt. unrated or low rated debt known as junk bond financing is utilized. need to be integrated in order to achieve the value creation objectives of the acquirer. B and C. High yield bonds can either be senior or subordinated securities that are publicly placed with institutional investors. Typically. often listed on Indian markets. Modes of purchase There are a number of types of financing which can be used in an LBO. political and cultural. Subordinated debt : This debt ranks behind senior debt in order of priority on any liquidation. These obligations are usually quite stringent. The question of whether loan stock is tax deductible should be investigated thoroughly with the company·s advisers. This integration process has three dimensions: the technical. Loan stock : This can be a form of equity financing if it is convertible into equity capital. The value chains of the acquirer and the acquired. publicly traded. Mezzanine finance : This is usually high risk subordinated debt and is regarded as a type of intermediate financing between debt and equity and an alternative of high yield bonds. An increasingly important form of subordinated debt is the high yield bond. Since subordinated debt gives the lender less security than senior debt. and generally includes an attached equity warrant. The technical integration is similar to the capability transfer discussed above. Give sufficient examples. which means the lender can automatically acquire these assets if the company breaches its obligations under the relevant loan agreement. A form of this is called a PIK. Q.
At the time of integration. ideologies myths and rituals.and political relationships represents the informal processes and systems which influence people·s ability and motivation to perform. The following are the illustrative organizational diverse cultures which may have to be integrated during post-merger period: Strong top leadership versus Team approach · Management by formal paper work versus management by wandering around · Individual decision versus group consensus decision · Rapid evaluation based on performance versus Long term relationship based on loyalty · Rapid feedback for changes versus formal bureaucratic rules and procedures · Narrow career path versus movement through many areas · Risk taking encouraged versus ¶one mistake you are out· · Risky activities versus low risk activities · Narrow responsibility arrangement versus ¶Everyone in this company is salesman (or cost controller. if acquired employees are not to feel unfairly treated. norms. The culture of an organization is embodied in its collective value systems.The important features are: bureaucratic and hierarchical.The main characteristics are: essentially autocratic and suppressive of challenge. There are four different types of organizational culture as mentioned below: · Power . An important aspect of integration is the cultural integration of the acquiring and acquired firms. emphasis on individual rather than group decision making · Role. efficient and standardized culture service · Task/achievement. emphasis on formal rules and procedures. needs creative environment . or product quality improver etc. the acquirer should have regard to these political relationships. They can motivate people and can become valuable sources of efficiency and effectiveness.)· · Learn from customer versus ¶We know what is best for the customer· The above illustrative culture may provide basis for the classification of organizational culture. values fast. flexibility and worker autonomy.The main characteristics are: emphasis on team commitment. task determines organization of work. beliefs.
After the acquisition blow past acquired a strong hold on .· Person/support. Such stressful experience may lead to their loss of morale. Q. allowing the combined firm to become more cost-efficient and profitable. This synergy is also more likely to show up in mergers of firms which are in the same line of business and should be more likely to yield benefits when there are relatively few firms in the business. The two companies were in the same line of business and were in direct competition with each other leading to a severe price war and increased marketing costs. merging firms must consciously and proactively seek to transform the cultures of their organizations. Thus. Mergers between certain types can be disastrous. When there are more firms in the industry ability of firms to exercise relatively higher price reduces and in such a situation the synergy does not seem to work as desired. which may be experienced as stressful by organizational members. Ans. Financial synergy Operating Synergy Operating synergies are those synergies that allow firms to increase their operating income. We would categorize operating synergies into four types: 1. the acquirer must consider cultural risk in addition to strategic issues.5 Study a recent merger that you have read about and discuss the synergies that resulted from the merger. confusion and hopelessness and may have a dysfunctional impact on organizational performance. In assessing the advisability of an acquisition. Both the banks after combination can expect to cut costs considerably on account of sharing of their resources and thus avoiding duplication of facilities available. The differences between the national and the organizational culture influence the cross-border acquisition integration. increase growth or both. negative evaluation of counterparts. Operating synergy 2. uncertainty and cultural ambiguity. seeks to nurture personal development of individual members Poor cultural fit or incompatibility is likely to result in considerable fragmentation. Merger of HDFC bank with Centurian bank of Punjab can be taken as an example of cost reducing operating synergy. Greater pricing power from reduced competition and higher market share. 2. Economies of scale that may arise from the merger. An example of limiting competition to increase pricing power is the acquisition of universal luggage by Blow Plast. There are two main types of synergy : 1. which should result in higher margins and operating income.The important features are: emphasis on equality. Differences in culture may lead to polarization. Synergy is the additional value that is generated by the combination of two or more than two firms creating opportunities that would not be available to the firms independently. Economics of scales can be seen in mergers of firms in the same business For example : two banks combining together to create a larger bank. loss of commitment. anxiety and ethnocentrism between top management teams of the acquired and acquiring firms.
acquisition of Tomco by Hindustan Lever. Tax benefits can arise either from the acquisition taking advantage of tax laws or from the use of net operating losses to shelter income. Included are the following: y A combination of a firm with excess cash. Alternatively. or when publicly traded firms acquire private businesses. This tax benefit can either be shown as higher cash flows. combination of different functional strengths may enhance the revenues of each merger partner thereby enabling each company to expand its revenues. The increase in value comes from the projects that were taken with the excess cash that otherwise would not have been taken. note that this can happen only when the two firms are combined with each other or in other words they must act in a way as if they are one. Debt capacity can increase. a profitable firm that acquires a money-losing firm may be able to use the net operating losses of the latter to reduce its tax burden. (and limited project opportunities) and a firm with high-return projects (and limited cash) can yield a payoff in terms of higher value for the combined firm. because when two firms combine. the payoff can take the form of either higher cash flows or a lower cost of capital (discount rate). and uses these strengths to increase sales of its products. This. Another example is the 3. If A and B combine with each other both can utilize each other strengths. allows them to borrow more than they could have as individual entities. Thus. Combination of different functional strengths. with an established distribution network and brand name recognition. This synergy is likely to show up most often when large firms acquire smaller firms. arising from the combination of the two firms. This would be case when a US consumer products firm acquires an emerging market firm. for example here A can invest its resource in the opportunities available to B. This can be understood with the following example Example : Consider a situation where there are two firms A and B. which creates a tax benefit for the combined firm. A company with strong distribution network merges with a firm that has products of great potential but is unable to reach the market before its competitors can do so. Operating synergies can affect margins and growth. In other words the two companies should get the advantage of the combination of their complimentary functional strengths. Firm A is having substantial amount of financial resources (having enough surplus cash that can be invested somewhere) while firm B is having profitable investment opportunities ( but is lacking surplus cash). or cash slack. their earnings and cash flows may become more stable and predictable. a firm that is able to increase y y . Higher growth in new or existing markets. and through these the value of the firms involved in the merger or acquisition. Financial Synergy With financial synergies.the market and operated under near monopoly situation. in turn. 4. Synergy results from complementary activities. or take the form of a lower cost of capital for the combined firm. The phenomenon can be understood in cases where one company with an established brand name lends its reputation to a company with upcoming product line or a company.
if so.As there are good business and accounting reasons to create a joint venture with a company that has complementary capabilities and resources. many mergers fail. risks and rewards in a formation of a new entity under shared control. It is thus a weak test of the synergy hypothesis. human resources. as we show later in this chapter. product development. Opening Access to Financial Resources: Together you and a JV partner might have better credit or more assets to access bigger resources for loans and grants than you could obtain on your own. In a joint venture. The more important issues are whether that synergy can be valued and. Clearly. Connection to Technological Resources: You might want access to technological resources you couldn't afford on your own. technology. Ans:. Improving Access to New Markets: You and a JV partner can combine customer contacts and together even form a joint product that accesses new markets. On this test. Broadly.its depreciation charges after an acquisition will save in taxes. Q. joint ventures are becoming an increasingly common way for companies to form strategic alliances. there is potential for synergy in many mergers. the important reasons for forming a joint venture can be presented below: Internal Reasons to Form a JV y Spreading Costs: You and a JV partner can share costs associated with marketing. and other expenses. including under valuation and a change in corporate control. Help Economies of Scale: Together you and a JV partner can develop products or services that reduce total overall production expenses. technology. A stronger test of synergy is to evaluate whether merged firms improve their performance (profitability and growth) relative to their competitors. or vice versa. such as distribution channels. however. how to value it. reducing your financial burden. This result has to be interpreted with caution. as well as your own understanding of technological processes. and increase its value. since the increase in the value of the combined firm after a merger is also consistent with a number of other hypotheses explaining acquisitions. The existence of synergy generally implies that the combined firm will become more profitable or grow at a faster rate after the merger than will the firms operating separately. two or more ´parentµ companies agree to share capital. y y y y External Reasons to Form a JV . after takeovers. explain with an example of a joint venture. Sharing innovative and proprietary technology can improve products. or finance. Bring your product to market cheaper where the customer can enjoy the cost savings.6 What are the motives for a joint venture.
Improve Speed to Market: With shared access to financial. diversify the innovative working force. Diversification . Strategic Reasons y Synergistic Reasons: You may find a JV partner with whom you can create synergy. Don't let a JV opportunity pass you by because you don't think it will fit in with your own small business. you and a JV partner can get your joint product to market faster and more efficiently. etc. Small and big companies alike can benefit from the reasons listed above. Share and Improve Technology and Skills: Two innovative companies can share technology to improve upon each other's ideas and skills. y . which produces a greater result together than doing it on your own. and innovation. development of diverse products.y Develop Stronger Innovative Product: Together you and a JV partner may be able to share ideas to develop a product that is more competitive in your industry. Analyze how your company can benefit internally. and then find a joint venture partner that will fit with your needs. and distribution resources. technology. and strategically. technological. externally. y Strategic Move Against Competition: A JV may be able to better compete against another industry leader through the combination of markets.There could be many diversification reasons: access to diverse markets.