Taxation Aspects of International Mergers & Acquisitions.

Syed Naved Andrabi
April 16, 2008

Andrabi & Gabriel
Advocates Solicitors & Tax Attorneys’
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Areas of Interest Visited.
         

Why Merge? Mergers & Acquisition. Strategic Management Process. Global Mergers & Pakistan Mergers. Historical Trends. Mergers & Acquisition Pakistan Legislation. Stakeholders’ Point of view. Tax Consequences.. Acquirer & Acquire. Role of Tax Advisors. Going Forward.
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Merger & Acquisition.
The significant corporate activity has made the market truly global. Once the preserve of local deals, the mid-market is now the source for growth in cross border transactions that are increasingly the norm in both acquisition and disposals activity. Entrepreneurial businesses have ever higher expectations of their advisers, demanding the ability to deliver ideas, expertise, relationships and resources in a seamless manner throughout the world’s major corporate centers.
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Why Merge?
Financial Motives: • to reduce risk (the portfolio effect). • to increase operating efficiency. • to improve access to financial markets. • to obtain a tax carry-forward benefit. • to eliminate competition & enhance profitability. Other Motives: • to expand marketing and management capabilities. • to allow for new product development through R & D. • to provide synergistic benefits (the “2+2=5” effect). • To revive sick industry and render accelerated economic growth.
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Types of Merger
 Horizontal – between business competitors.  Vertical – Moving up or down the value chain.  Conglomerate – Unrelated sectors.  Forward – Merger of target into the acquirer.  Reverse – Merger of acquirer into the target.  Triangular – Use of an SPV for undertaking.  Demerger – Hive-off of an undertaking into a separate company.
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Modes of Mergers & Acquisitions.
M&A

Amalgamations

Acquisitions

Merger

De-merger

Asset Purchase
Slump Sale Itemized Sale

Stock Purchase

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Mergers & Acquisitions Defined.
Mergers
Two firms are combined on a relatively co-equal basis.

Acquisitions
One firm buys another firm. Can be by means of controlling share, a majority, or all of the target firm’s stock. Can be friendly or hostile. Usually done through a tender offer.

Parent stocks are usually retired and new stock issued. Name may be the original or a combination. One of the partners take over the dominant management
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Business Combinations.
According to International Financial Reporting Standard 3 (IAS 22-Withdrawn)
Business Combination. “The bringing together of separate entities or businesses into one reporting entity.” Where the result of business combination is that one entity, the acquirer, obtains control of one or more other businesses , the acquiree. Business Combination Involving entities or businesses under common control. “A business Combination in which all of the combining entities or businesses ultimately are controlled by the same party or parties both before and after the combination, and that control is not transitory.”
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Corporate Mergers & Acquisition.
Direct Stakeholders.
 • Enterprises / Companies. Shareholders.

Other Stakeholders.
   
Customers. Creditors/Suppliers. Employees. Government Authorities, e.g., Tax Authorities.

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The Strategic Management Process.
External Analysis

Mission

Objectives

Strategic Choice Internal Analysis Corporate Level Strategy

Strategy Implementation

Competitive Advantages

Which Business to Enter 1) Vertical Integration 2) Diversification Mode of Entry

Strategic Alliances
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Merger & Acquisitions

Top Ten Mergers-2008
Target Name
Yahoo! Inc (YHOO) Inmobiliaria Colonial SA Rio Tinto PLC Alcon Inc (ACL) Bolsa de Valores de Sao Paulo {Bovespa} Millennium Pharmaceuticals Inc (MLNM) Citigroup Inc (C) Weyerhaeuser Co-Containerboard Packaging & Recycling Business MMX Mineracao e Metalicos SA-Certain Assets Scania AB

Acquirer Name
Microsoft Corp (MSFT) Investment Corp of Dubai {ICD} Shining Prospect Pte Ltd. Novartis AG Bolsa Brasileira de Mercadorias {BM&F} Mahogany Acquisition Corp Government of Singapore Investment Corp Pte Ltd {GIC} International Paper Co (IP)

Deal Date $ Value of Deal (M)
02-01-2008 01-31-2008 02-01-2008 04-07-2008 02-20-2008 04-10-2008 01-15-2008 03-17-2008 43,711.60 15,213.20 14,284.20 10,547.50 10,309.10 8,734.10 6,880.00 6,000.00

Anglo American PLC Volkswagen AG

01-17-2008 03-03-2008

5,500.00 4,377.50

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Deal Wise Mergers.

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Prominent Mergers in Pakistan.
2006
S r.N 1o
2 3 4 5 6 7 8 9 10 11 12

Name of Company
Second Tri Star Modaraba ABAMCO Growth Fund ABAMCO Stock Market Fund ABAMCO Capital Fund WORLDCALL Multimedia Ltd WORLDCALL Broadband Ltd WORLDCALL Communication Ltd Modaraba A1-Tijarah Atlas Investment Bank Limited Pakistan Papersack Corporation Ltd First Allied Bank Modaraba Colony Textile Mills Limited

New name of the company/merged with
First Tri Star Modaraba UTP Growth Fund UTP Growth Fund UTP Growth Fund WORLDCALL Telecom Ltd WORLDCALL Telecom Ltd WORLDCALL Telecom Ltd Modaraba A1-Mali Atlas Bank Limited Thal Limited Allied Bank Limited Colony Mills Limited

Date of Merger
10/04/2006 06/06/2006 06/06/2006 06/06/2006 09/06/2006 09/06/2006 09/06/2006 11/07/2006 26/07/2006 04/08/2006 25/08/2006 28/08/2006

Paidup Capital
128.700 275.625 875.000 2,029.420 530.000 1,500.000 1,831.702 75.778 506.024 68.993 350.000 250.000

Ratio
[ 1.817:1 ] [ 1.845001:1 ] [ 0.970229:1 ] [ 0.898072:1 ] [ 1 : 1.27 ] [ 1 : 1.09 ] [ 1 : 1.42 ] Certificate [ 91 : 2 ] [ 1 : 3.14 ] [ 3.07 : 1 ] [ 1 : 024 ] [ 1 : 9.50 ]

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Union Bank Limited Jahangir Siddiqui Inv.Bank Ltd

Standard Chartered Bank Ltd JS Bank Limited 13

29/12/2006 30/12/2006

3,387.505 853.125

[ 1 : 2.50 ] [ 1 : 3.24 ]

Prominent Mergers in Pakistan.
2008
S r.N 1o
2

Name of Company
PICIC Commercial Bank Limited Pakistan Industrial Credit & Investment Corp. Ltd (PICIC)

New name of the company/merged with
NIB Bank Limited NIB Bank Limited

Date of Merger
01/01/2008 01/01/2008

Paidup Capital
2,734.875 4,152.720

Ratio
[ 1 : 2.27 ] [ 1 : 3.18 ]

2007
S r.N o 1
2 3 4 5

Name of Company
Guardian Modaraba Crescent Standard Investment Bank Ltd Dewan Hatter Cement Limited Suzuki Motorcycles Pakistan Ltd International Housing Finance Ltd

New name of the company/merged with
B.R.R. International Modaraba Innovative Housing Finance Limited Dewan Cement Limited Pak Suzuki Motor Company Ltd KASB Bank Limited

Date of Merger
25/05/2007 20/07/2007 22/10/2007 29/10/2007 22/11/2007

Paidup Capital
244.695 1,257.610 2,565.000 438.989 450.000

Ratio
[ 1 : 1.22 ] [ 0.005 : 1 ] [ 1 : 0.75 ] [ 21 : 1 ] [ 1 : 1.30 ]

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India

France

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United Kingdom.

United States of America.

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Historical Trends.
FIRST WAVE (1893-1904).
 

Time of the major horizontal mergers. Major mergers were in Steel, Telephone, Oil, Mining, Railroad etc. The First World War caused end of the first wave.

SECOND WAVE (1919-1929).
 

The period in which vertical integration started. The major automobile manufacturers emerged in this period. For example, FORD. The 1929 Crash and the Great Depression ended this wave.

THIRD WAVE (1955-1973).
In this period the conglomerate concept took hold.  Major conglomerates were IT&T (Harold Geneen) LTV (Jimmy Ling) Teledyne (Henry Singleton) Litton (Tex Thornton).  The conglomerate stocks crashed in 1969-70. 17

Historical Trends.
FOURTH WAVE (1974-1989).  Generally referred to as the merger wave, or takeover wave.  It ended in 1989-90 with the collapse of the junk bond market, along with the collapse of the savings and loan banks and the serious loan portfolio and capital problems of the commercial banks. FIFTH WAVE (1993-2000). This was the era of the mega-deal.  Mergers of Citibank and Travelers.  Chrysler and Daimler Benz.  AOL and Time Warner.  Vodafone and Mannesmann. It ended with the bursting of the Millennium Bubble and the great scandals, like Enron, which gave rise to the revolution in corporate governance.
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Historical Trends.
SIXTH WAVE (2002 Onwards). Principle factors are:
 

   

Globalization. Encouragement by the governments of some countries (e.g., France, Italy and Russia) to create strong national or global champions. The rise in commodity prices. The availability of low-interest financing. Hedge fund and other shareholder activism. Tremendous growth of private equity funds.

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Controlling Authorities.
NBFI’s SECP Banks SBP Other High Court The Competition Commission of Pakistan (CCP-Monopoly Control Authorities) has oversight in respect of all mergers.
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Legislation Dealing Mergers in a Particular Sector.
For Banking Companies. Section 48 of the Banking Companies Ordinance, 1962

For N.B.F.Cs

282L of Companies Ordinance, 1984

For Insurance Companies.

Section 67 to 71 of the Insurance Ordinance, 2000 and application to High Court

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Specific Laws Dealing Mergers.
Section 287 to 289 read with Section 282L & 284 of the Companies Ordinance, 1984 applies to mergers involving companies incorporated under the laws of Pakistan. Section 2 (1A); 20 (3); 57A, 97; 97A & Clause 62 of Part IV of Second Schedule to the Income Tax Ordinance, 2001. Section 11 of Competition Ordinance, 2007.
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Legislation on Foreign Investment.
Board of Investment and Foreign Exchange Regulation contain certain exceptions and restrictions for non-residents for which general or special permission is required.

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Section 2 (1A) of the Income Tax Ordinance, 2001
Amalgamation
3. 4. 5. 6. 7. means the merger of one or more banking companies or non-banking financial institutions, or insurance companies, or companies owning and managing industrial undertakings or companies engaged in providing services and not being a trading company or companies.

In such manner that –
The assets of the amalgamating company or companies immediately before the amalgamation become the assets of the amalgamated company by virtue of the amalgamation, otherwise than by purchase of such assets by the amalgamated company or as a result of distribution of such assets to the amalgamated company after the winding up of the amalgamating company or companies; and
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Section 2 (1A) of the Income Tax Ordinance, 2001
The liabilities of the amalgamating company or companies immediately before the amalgamation become the liabilities of the amalgamated company by virtue of the amalgamation

Requisite criterion
One company must be a public company or A company incorporated under Companies Ordinance,1984 or under any other law for the time being in force,

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Merger/Amalgamation.
From Members/Shareholders Point of View

From the Point of View of Company to be Merged/Amalgamating.

From the Point of View of Amalgamated Company.

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From Members/Shareholders Point of View
Is exchange of shares treated as Dividend? • [S. 2(19)(a)] - “Dividend” includes distribution of accumulated profit entailing release of assets of the company possessing profit. [S. 2(19)(c)&(d)] - Distribution on liquidation or reduction of capital In merger / amalgamation, no distribution of accumulated profit takes place thus no release of asset. Section 37 (5) - Shares are Capital Asset No “Disposal” i.e. sale / transfer / exchange / relinquishment etc. involved. If exchange / relinquishment is treated as “Disposal” even then no gain / loss arises

• •

Taxability regarding exchange of shares?

• • •

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From the Point of View of Company to be Merged/Amalgamated.
Taxability of gain on transfer of assets and liabilities? • • • S 97 & 97A - No gain or loss is taxable subject to certain conditions. Amalgamating companies are resident and belong to wholly owned group. In case of Section 97 the condition of both companies to be resident shall not apply in light of clause 62 of Part IV of 2nd Schedule. Gain of amalgamating companies are taxable if the above criteria is not fulfilled under the Income Tax Ordinance, 2001

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From Amalgamated Company Point of View.
Tax value of assets / liabilities acquired? • • • S 76 - Relating to cost of purchase. S 98C, concerning succession. The tax value of assets in the hands of amalgamating company (immediately before amalgamation) shall be taken as the tax value for amalgamated company

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From Amalgamated Company’s Point of View.
What about goodwill taxation?  • • • Goodwill an intangible or capital asset – a dilemma? Treatment of goodwill? Difference between ‘Tax-value’ and ‘Accounting value’ of assets?

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From the Amalgamated Company’s Point of View.
What is the treatment of merger related expenses? S 20(3) - Only expenditures incurred under following heads are tax deductible – •Legal Advisory Services •Financial Advisory Services •Administrative expenses – Planning and Implementation of amalgamation S. 57A - In the year of amalgamation only assessed loss of the amalgamating companies for the tax year is available for the set off. The facility to set off accumulated losses of amalgamating companies has been taken away from July 01, 2007.

What about carry forward and set-off of losses sustained by the amalgamating company ?

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Tax Consequence in Case of Acquisitions. Acquirer point of view Acquiree point of view

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Acquirer Point of View.
• In case of non-arm’s length transaction the fair market value may be treated as consideration as cost of acquisition [S. 76 & 78] Tax treatment for payment of goodwill. Tax deductibility of consideration paid under restrictive covenants ?

• •

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Acquiree Point of View.
• • Transfer of assets and liabilities have tax implications depending on the basis of nature of asset. Consideration may be taken at higher of the actual selling price or Fair Market Value [S. 77] Slump sale principle – Applicability ? [S. 77] Consideration under restrictive covenant – whether capital or revenue?

• •

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Role of tax Advisor in Mergers & Acquisitions.
 

International mergers and acquisitions require appropriate planning. Planning will end after consideration of domestic laws effect on home country & other country laws. Effective consideration will be whether to merge or acquire. If to acquire consideration to be given to manner of acquisition. To acquire the business as a whole, slump transaction or through shares or as an asset purchase.
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Going Forward.
   

 

Consistency in Policies. Facilitate & Encourage Regional Mergers. Level Playing Field. Conducive Industrial Environment for Intra Regional Investment. Common Legislation. Removal of Trade Barriers.
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Thank You

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