Corporate

Restructuring:
M&A
INTRODUCTION
 Corporate restructuring includes mergers and
acquisitions (M&As), amalgamation, takeovers,
spin-offs, leveraged buy-outs, buyback of shares,
capital reorganisation etc.
 M&As are the most popular means of corporate
restructuring or business combinations.
 TYPES OF CORPORATE
RESTRUCTURING ACTIVITIES
Corporate
Restructuring

Acquisitions Divestitures Other forms of

• Mergers Restructuring
• Sell offs
• Purchase of a unit • Going private
• Demergers
or plant • Leveraged
• Takeovers buyouts
• Privatisation
CORPORATE
RESTRUCTURING AND
BUSINESS COMBINATION
 Corporate restructuring refers to the changes in
ownership, business mix, assets mix and alliances
with a view to enhance the shareholder value.

 Hence, corporate restructuring may involve

ownership restructuring, business restructuring and
assets restructuring.
TYPES OF BUSINESS
COMBINATIONS
 Merger or Amalgamation
 Merger or amalgamation may take two forms:
• Absorption (Tata Fertiliser by Tata Chemicals,
• Tata oil by HLL)
• Consolidation (Hindustan Computers, H. Instruments,
Indian Software, and Indian Reprographics into HCL in
1986)
 In merger, there is complete amalgamation of the
assets and liabilities as well as shareholders’
interests and businesses of the merging companies.
TYPES OF BUSINESS
COMBINATION
Forms of Merger:
Horizontal merger is a merger when two or more firms
dealing in similar lines of activity combine together.
Vertical merger is a merger that involves two or more
stages of production/distribution that are usually
separate.
Conglomerate merger is a merger in which firms
engaged in different unrelated activities combine
together.
TYPES OF BUSINESS
COMBINATION
 Acquisition may be defined as an act of acquiring
effective control over assets or management of a
company by another company without any
combination of businesses or companies.
 A substantial acquisition occurs when an
acquiring firm acquires substantial quantity of
shares or voting rights of the target company.
TYPES OF BUSINESS
COMBINATION
 Takeover – The term takeover is understood to connote hostility.
When an acquisition is a ‘forced’ or ‘unwilling’ acquisition, it is
called a takeover.

 A holding company is a company that holds more than half of the

nominal value of the equity capital of another company, called a
subsidiary company, or controls the composition of its Board of
Directors. Both holding and subsidiary companies retain their
separate legal entities and maintain their separate books of
accounts.
 M&A Deals in India
 Total value of mergers and acquisitions (M&A)
involving Indian companies slumped to $26.3 billion
in 2015 amid a sharp slowdown in domestic deal-
making activities,
 "The Indian M&A activity softened in 2015 with a
total of 930 deals that were announced with a
cumulative disclosed deal value of $26.3 billion...
While the deal volume remained at levels similar to
the previous year (870 deals in 2014), the disclosed
deal value declined by 11 per cent from $29.4 billion
in 2014," EY said in a report on Sunday.
M&A Deals in India
1. Tata Steel-Corus, $12.2 billion
2. Vodafone-Hutchison Essar, $11.1 billion
3. Hindalco-Novelis, $6 billion
4. Ranbaxy-Daiichi Sankyo, $4.5 billion
5. ONGC-Imperial Energy, $2.8 billion
MOTIVES AND BENEFITS OF
MERGERS AND
ACQUISITIONS
 Mergers and Acquisition are intended to:
 Limit competition.
 Utilise under-utilised market power.
 Overcome the problem of slow growth and profitability in
one’s own industry.
 Achieve diversification.
 Gain economies of scale and increase income with
proportionately less investment.
 Establish a transnational bridgehead without excessive
start-up costs to gain access to a foreign market.
Cont…
 Utilise under-utilised resources–human and physical and
managerial skills.
 Displace existing management.
 Circumvent government regulations.
 Reap speculative gains attendant upon new security issue
or change in P/E ratio.
 Create an image of aggressiveness and strategic
opportunism, empire building and to amass vast economic
powers of the company.
Benefits of Mergers and
Acquisitions
 The most common advantages of M&A are:
 Accelerated Growth
 Enhanced Profitability
• Economies of scale 
• Operating economies  
• Synergy
 Diversification of Risk
Benefits of Mergers and
Acquisitions
 Reduction in Tax Liability
 Financial Benefits
• Financing constraint 
• Surplus cash 
• Debt capacity 
• Financing cost 
 Increased Market Power
Value Creation Through Mergers and
Acquisitions

 Merger will create an economic advantage (EA)

when the combined present value of the merged
firms is greater than the sum of their individual
present values as separate entities.
Net economic advantage = Economic advantage – Cost of merger/acquisition
NEA  [VPQ  (VP  VQ )] – (cash paid  VQ )
 COST AND BENEFITS OF A
MERGER
Benefit = PVAB – (PVA + PVB)

Cost = Cash – PVB

NPV to A = Benefit – Cost

= [(PVAB – (PVA + PVB)] – [Cash – PVB]

= PVAB – PVA – Cash

Firm A has a value of Rs.20 million and firm B has a value of
Rs.5 million. If the two firms merge, cost savings with a
present value of Rs.5 million would occur. Firm A proposes
to offer Rs.6 million cash compensation to acquire firm B.
Calculate the net present value of the merger to the two
firms.

In this example PVA = Rs.20 million, PVB = Rs.5 million, PVAB =

Rs.30 million, Cash = Rs.6 million. Therefore,

Benefit = PVAB - (PVA + PVB) = Rs.5 million

Cost = Cash - PVB = Rs.1 million

NPV to A = Benefit - Cost = Rs.4 million

NPV to B = Cash - PVB = Rs.1 million
 COMPENSATION IN STOCK

Benefit = PVAB – (PVA + PVB)

Cost =  PVAB – PVB

NPV to A = Benefit – Cost

NPV to B = Cost
Valuation under Mergers and
Acquisitions: DCF Approach

 In order to apply DCF technique, the following

information is required:
• Estimating Free Cash Flows
 Revenues and expenses
 Capex and depreciation:
 Working capital changes
• Estimating the Cost of Capital
• Terminal Value
FINANCING A MERGER
 Cash Offer:
 A cash offer is a straightforward means of financing a merger. It does
not cause any dilution in the earnings per share and the ownership of
the existing shareholders of the acquiring company.
 Share Exchange:
 A share exchange offer will result into the sharing of ownership of the
acquiring company between its existing shareholders and new
shareholders (that is, shareholders of the acquired company). The
earnings and benefits would also be shared between these two groups
of shareholders. The precise extent of net benefits that accrue to each
group depends on the exchange ratio in terms of the market prices of
the shares of the acquiring and the acquired companies.
TERMINING THE EXCHANGE RATI
• Earnings per share
• Prima facie reflects earning power
• Fails to consider differences in growth, risk, and quality of earnings
• Market price per share
• In an efficient market, prices reflect earnings, growth, and risk
• The market may be illiquid or manipulated
• Book value per share
• Proponents argue that book values are objective
• Book values reflect subjective judgments and often deviate
significantly from economic values.
• DCF value per share
• Ideally suited when fairly credible business plans and cash flow
projections are available
• It overlooks options embedded in the business
 TERMS OF MERGER
If firm 1 acquires firm 2, shares of firm 1 are given in exchange for shares of
firm 2.
• Firm 1 would try to keep the exchange ratio as low as possible, whereas firm
2 would seek to keep it as high as possible
• Larson and Gonedes developed a model for exchange rate determination.
Their model holds that each firm will ensure that its equivalent price per
share will at least be maintained as a sequel to the merger
• In somewhat simpler terms, the following symbols may be used to explain
their model.
ER = exchange ratio
P = price per share
EPS = earnings per share
PE = price-earnings multiple
E = earnings
S = number of outstanding equity shares
• In the discussion that follows, the acquiring, acquired, and combined firms
will be referred to by subscripts 1, 2, and 12 respectively.
The maximum exchange ratio acceptable to the
shareholders of firm 1 is:

- S1 (E1 + E2) PE12

ER1= +
S2 P1S2
• The minimum exchange ratio acceptable to the
shareholders of firm 2 is:

P2 S1
ER2 =
PE12 (E1 + E2) – P2S2
 Firm 1 Firm 2
Total earnings, E Rs.18 mln Rs.6 mln
Number of outstanding shares, S 9 mln 6 mln
Earnings per share, EPS Rs.2 Re.1
Price/earnings ratio, PE 12 8
Market price per share, P Rs.24 Rs.8

-9 (18 + 6)
ER1 = + PE12
6               24(6)
= -1.5 + 1/6 PE12

The maximum change ratio acceptable to the shareholders of firm 1 for some
illustrative values of PE12 is shown below :

PE12 3 9 10 11 12 15 20

Max ER1 1 0 0.17 .33 0.50 1.0 1.83

 (8) 9
ER2 =
24 PE12 - 8 (6)
72
=
24 PE12 - 48
3
=
PE12 - 2
The minimum exchange ratio acceptable to the shareholders of firm 2
for some illustrative values of PE12 is given below:

PE12 3 9 10 11 12 15 20

Min ER2 3 0.43 0.38 0.33 0.30 0.23 0.17

 Influence of PE12 on Merger Gain and Losses

ER
Maximum exchange
ratio acceptable to
ER1 shareholders of firm 1
II

III
X
I

IV Minimum exchange
ER2
ratio required by
shareholders of firm 2
PE12
Merger Negotiations:
Significance of P/E Ratio and
EPS Analysis
 The mergers and acquisitions decisions are also evaluated in
terms of EPS, P/E ratio, book value etc.
 Share Exchange Ratio
 The share exchange ratio (SER) would be as follows:
Share price of the acquired firm Pb
Share exchange ratio  
Share price of the acquiring firm Pa
 The exchange ratio in terms of the market value of shares
will keep the position of the shareholders in value terms
unchanged after the merger since their proportionate wealth
would remain at the pre-merger level.
Merger Negotiations:
Significance of P/E Ratio and
EPS Analysis
No. of shares exchanged  SER  Pre-merger number of shares of the acquired firm
 ( Pb / Pa ) Nb  0.25  4,000  1,000
Post-merger combined PAT PATa  PATb
Post-merger combined EPS = 
Post-merger combined shares N a  (SER) N b
 Post-merger weighted P/E ratio:
 (Pre-merger P/E ratio of the acquiring firm)  (Acquiring
firm’s pre-merger earnings  Post-merger combined earnings)
+ (Pre-merger P/E ratio of the acquired firm)  (Acquired
firm’s pre-merger earnings  Post-merger combined earnings)

P/E w  (P/E a ) (PATa / PATc )  (P/E b )  (PATb / PATc )

Merger Negotiations:
Significance of P/E Ratio and
EPS Analysis
Earnings Growth
 The formula for weighted growth in EPS can be
expressed as follows:
 Weighted Growth in EPS = Acquiring firm’s
growth × (Acquiring firm’s pre-merger
PAT/combined firm’s PAT) + Acquired firm’s
growth × (Acquired firm’s pre-merger
PAT/combined firm’s PAT).
PATa PATb
gw  ga   gb 
PATc PATc
Factors Influencing the Earnings
Growth
 Theimportant factors influencing the earnings
growth of the acquiring firm in future are:
 The price–earnings ratios of the acquiring and the acquired
companies.
 The ratio of share exchanged by the acquiring company for one
share of the acquired company.
 The pre-merger earnings growth rates of acquiring and the acquired
companies.
 The level of profit after tax of the merging companies.
 The weighted average of the earnings growth rates of the merging
companies.
TENDER OFFER AND
HOSTILE TAKEOVER
A tender offer is a formal offer to purchase a
given number of a company’s shares at a specific
price.
 Tender offer can be used in two situations.
 First, the acquiring company may directly approach the
target company for its takeover. If the target company
does not agree, then the acquiring company may directly
approach the shareholders by means of a tender offer.
 Second, the tender offer may be used without any
negotiations, and it may be tantamount to a hostile
takeover.
 Defensive Tactics
 Poison pill 
 This strategy involves issue of low price preferential shares to existing
shareholders to enlarge the capital base. This would make hostile takeover
too expensive.
 Greenmail
 In this strategy, the target company should repurchase the shares
cornered by the raider. The profits made by the raider are after all akin to
blackmail and this would keep the raider at a distance from the target.
 White knight 
 In order to repel the move of the raider, the target company can make an
appeal to a friendly company to buy the whole, or part, of the company.
The understanding is that the friendly buyer promises not to dislodge the
management of the target company.
CORPORATE STRATEGY AND
ACQUISITIONS
 Planning
 Acquisition strategy
 Assessment approaches and criteria
 Search and Screening
 Financial Evaluation
 Integration
ACCOUNTING FOR MERGERS AND
ACQUISITIONS
Pooling of Interests Method
 In the pooling of interests method of accounting, the
balance sheet items and the profit and loss items of the
merged firms are combined without recording the effects
of merger. This implies that asset, liabilities and other
items of the acquiring and the acquired firms are simply
added at the book values without making any adjustments.

Purchase Method
 Under the purchase method, the assets and liabilities of
the acquiring firm after the acquisition of the target firm
may be stated at their exiting carrying amounts or at the
amounts adjusted for the purchase price paid to the target
company.
 LEVERAGED BUYOUTS
A leveraged buy-out (LBO) is an acquisition of a company
in which the acquisition is substantially financed through
debt. When the managers buy their company from its
owners employing debt, the leveraged buy-out is called
management buy-out (MBO).
 The following firms are generally the targets for LBOs:
 High growth, high market share firms
 High profit potential firms
 High liquidity and high debt capacity firms
 Low operating risk firms
 The evaluation of LBO transactions involves the same
analysis as for mergers and acquisitions. The DCF approach
is used to value an LBO.
Divestment
A divestment involves the sale of a company’s assets, or
product lines, or divisions or brand to the outsiders.
 It is reverse of acquisition.

Motives:
 Strategic change
 Selling cash cows
 Disposal of unprofitable businesses
 Consolidation
 Unlocking value
Sell-off
 When a company sells a part of its business to a third
party, it is called sell-off.
 It is a usual practice of a large number of companies
to sell-off to divest unprofitable or less profitable
businesses to avoid further drain on its resources.
 Sometimes the company might sell its profitable but
non-core businesses to ease its liquidity problems.
Spin-offs
 When a company creates a new company from the
existing single entity, it is called a spin-off.
 The spin-off company would usually be created as
a subsidiary.
 Hence, there is no change in ownership.
 After the spin-off, shareholders hold shares in two
different companies.
SEBI GUIDELINES FOR
TAKEOVERS
 Disclosure of share acquisition/holding
 Public announcement and open offer
 Offer price
 Disclosure
 Offer document
Legal Procedures