Effect of Merger and Acquisition Of Company’s performance and Shareholder’s wealth

Case: Bank of Rajasthan to Merge with ICICI Bank

A wave of mergers and acquisitions is taking over the entire world. Companies have always used this strategy to grow and consolidate, and to eliminate competitors.

In Indian industry, the pace for mergers and acquisitions activity picked up in response to various economic reforms introduced by the Government of India since 1991, in its move towards liberalization and globalization. The Indian economy has undergone a major transformation and structural change following the economic reforms, and “size and competence" have become the focus of business enterprises in India. Indian companies realized the need to grow and expand in businesses that they understood well, to face growing competition.

Several leading corporate have undertaken restructuring exercises to sell off non-core businesses, and to create stronger presence in their core areas of business interest. Mergers and acquisitions emerged as one of the most effective methods ofsuch corporate restructuring, and became an integral part of the long-term business strategy of corporate in India.

Bank of Rajasthan to merge with ICICI Bank

ICICI bank sets swap ratio 25:118

Shareholders of the troubled Bank of Rajasthan Ltd (BoR) are set to get 25 shares of ICICI Bank Ltd for 118 shares of BoR in the ratio of 4.72:1

This is based on an internal analysis of the strategic value of the proposed amalgamation, average market capitalization per branch of old private sector banks and relevant precedent transactions,” an ICICI Bank release said

BoR promoter Pravin Kumar Tayal termed the proposed merger as a “win-win” situation for all—the banks, their employees and investors.

BoR stock rose 19.95% on the Bombay Stock Exchange to close at Rs99.50, its year high. ICICI Bank stock was down 1.45% to Rs889.35.

Biggest Mergers and Acquisitions deals in India

Tata Steel acquired 100% stake in Corus Group on January 30, 2007. It was an all cash deal which cumulatively amounted to $12.2 billion.

Vodafone purchased administering interest of 67% owned by Hutch-Essar for a total worth of $11.1 billion on February 11, 2007.

India Aluminium and copper giant Hindalco Industries purchased Canada-based firm Novelis Inc in February 2007. The total worth of the deal was $6-billion.

Indian pharma industry registered its first biggest in 2008 M&A deal through the acquisition of Japanese pharmaceutical company Daiichi Sankyo by Indian major Ranbaxy for $4.5 billion. 

The Oil and Natural Gas Corp purchased Imperial Energy Plc in January 2009. The deal amounted to $2.8 billion and was considered as one of the biggest takeovers after 96.8% of London based companies' shareholders acknowledged the buyout proposal.

In November 2008 NTT DoCoMo, the Japan based telecom firm acquired 26% stake in Tata Teleservices for USD 2.7 billion. 

India's financial industry saw the merging of two prominent banks - HDFC Bank and Centurion Bank of Punjab. The deal took place in February 2008 for $2.4 billion.

Tata Motors acquired Jaguar and Land Rover brands from Ford Motor in March 2008. The deal amounted to $2.3 billion.

2009 saw the acquisition Asarco LLC by Sterlite Industries Ltd's for $1.8 billion making it ninth biggest-ever M&A agreement involving an Indian company.In May 2007, Suzlon Energy obtained the Germany-based wind turbine producer Repower. The 10th largest in India, the M&A deal amounted to $1.7 billion. 

Motives behind M & A

1. Economies of Scale: This generally refers to a method in which the average cost per unit is decreased through increased production, since fixed costs are shared over an increased number of goods. In a layman’s language, more the products, more is the bargaining power. This is possible only when the companies merge/ combine/ acquired, as the same can often obliterate duplicate departments or operation, thereby lowering the cost of the company relative to theoretically the same revenue stream, thus increasing profit. It also provides varied pool of resources of both the combining companies along with a larger share in the market, wherein the resources can be exercised.

2.  Increased revenue /Increased Market Share: This motive assumes that the company will be absorbing the major competitor and thus increase its power (by capturing increased market share) to set prices. 

3.  Cross selling: For example, a bank buying a stock broker could then sell its banking products to the stock brokers customers, while the broker can sign up the bank’ customers for brokerage account. Or, a manufacturer can acquire and sell complimentary products. 

4.  Corporate Synergy: Better use of complimentary resources. It may take the form of revenue enhancement (to generate more revenue than its two predecessor standalone companies would be able to generate) and cost savings (to reduce or eliminate expenses associated with running a business). 

5.  Taxes : A profitable can buy a loss maker to use the target’s tax right off i.e. wherein a sick company is bought by giants.

 6. Geographical or other diversification: this is designed to smooth the

earning results of a company, which over the long term smoothens the stock price of the company giving conservative investors more

confidence in investing in the company. However, this does not always deliver value to shareholders.

7.  Resource transfer: Resources are unevenly distributed across firms and interaction of target and acquiring firm resources can create value through either overcoming information asymmetry or by combining scarce resources. Eg: Laying of employees, reducing taxes etc.

Advantages of M&A’s:

The general advantage behind mergers and acquisition is that it provides a productive platform for the companies to grow, though much of it depends on the way the deal is implemented. It is a way to increase market penetration in a particular area with the help of an established base.

# Accessing new markets # maintaining growth momentum# acquiring visibility and international brands # buying cutting edge technology rather than importing it # taking on global competition# improving operating margins and efficiencies# developing new product mixes

Objectives of the study

Financial condition of each company

If both companies are in good shape, then joining them together will likely make each entity stronger; if one company is in trouble, then the other will be saddled with the problems of the other. It will also have an

impact on assets and liabilities of the 2 companies.

Effect of swap ratio

if one company is eliminated after the alliance takes place, the shareholders of the eliminated company will not receive shares equal to what they currently have you might only receive 1 share in the new company for every 4 shares you had in the old company, and depending upon the current market price, this could actually decrease the overall value of your investment, so you might want to sell before the merger takes place.

How much is the acquiring company paying for the acquired company?

If the acquirer is paying less than or equal to what the smaller business is worth, this might not be a good sign, but if they are paying a premium for the other company, this is a sign that the acquisition is remunerative and will increase their overall worth.

Change in the stock price before and after the M&A

There is significant change that goes around when the actual announcement comes and when it happens. This leads to a change in price of both of acquired and acquirer firm.

Research Objective

1. To evaluate the financial performance of ICICI bank before and after its merger with Bank Of Rajasthan(BoR).

2. To summarize the findings and find a conclusion.

Literature ReviewIntroduction

Researchers have studied the effects of M&A on the value of both theAcquiring firm and the bidder firm. The evidence on mergers indicates that the stockholders of target firms have earned significant abnormal/excess return not only around the announcement period, but also in the weeks after the announcement. Jensen & Ruback (1983) review 13 studies that examine returns around takeover announcements and report an average abnormal return of 30% to target stockholders in successful tender offers and 20% to target stockholders in successful mergers. Jarrell, Brickley, and Netter (1988) review the results of 663 tender offers made between 1962 to 1985, and note that premiums averaged 19% in the 1960s, 35% in the 1970s, and 30% between 1980 and 1985. Other studies report an increase in the stock price of the target firms prior to the M&A announcement, suggesting either a very perceptive financial market or leaked information about prospective deals.

Nevertheless, evidence on the effect of M&A announcements on bidder firm stock prices is not clearcut and, in fact, is contradictory, as empirical studies have shown mixed results. Desai and Stover (1985), James and Weir (1987), and Cornett and De (1991), among others, report positive abnormal returns to bidding firms in banking acquisitions. However, Neely (1987) and Cornett and Tehranian (1992) report negative returns to the bidder. Houston and Ryngaert (1994) suggest that samples that emphasize larger acquisitions are more apt to find negative bidderreturns.

Research Methodoly:

Fauzias (1992) in testing the efficiency of the Malaysian stock market’s reaction to acquisition announcements uses the daily common stock returns of KualaLumpur Stock Exchange (KLSE) for a period ranging 200 days before and 200 days after the acquisition announcement date.

Fauzias suggests that the bidder may have overestimated the value of the shares, which results in paying too much for the assets. The increase in share prices prior to the announcement may be due to information leakage, which causes prices to move up before the announcement is made. Fauzias (1993) examines the effects of acquisition announcement on the price behavior of

Malaysian bidders and target firms by using three alternative models: (1) a one factor market model; (2) the Capital Asset Pricing Model (CAPM);(3) the regression estimation of α = 0 and β = 1 in the model.

Findings:

The results show that the target’s returns are negative but not statistically significant and the bidder’s returns are negative and statistically significant after the announcement date.

Fauzias and Ruzita (2003) show that the market reaction to threeannouncements of corporate restructurings by the Malaysian Resources Corporation were statistically significant in terms of market reaction to each announcement. Fauzias and Ruzita’s test results indicate that the market reacted to the initial restructuring announcement, increased in reaction to the second restructuring announcement, and produced mixed results to the third restructuring announcement. Houston, James, and Ryngaert (2001) examine the factors that explain merger gains in 64 large banks and find that the bulk of the gains are from cost reductions particularly through reduction in geographical overlap. Rhoades (1998) investigates the efficiency effect of bank mergers by using case studies of nine mergers in America. He employs the same basic analytical framework in all of the case studies, such as financial ratios, econometric cost measures, and the effect of the merger announcement on the stock of the acquiring and acquired firms. All nine of the mergers resulted in significant cost cutting in line with pre-mergers projections. Four of the nine mergers were clearly successful in improving cost efficiency but five were not. The most frequent and serious synergies experienced in bank mergers that increase bidder returns relative to non-financial mergers was unexpected difficulty in integrating data processing systems and operations.