M&As

D S Prasad

Faculty Member,

IBS, Hyderabad

Corporate restructuring process

Expansion

• Mergers and Acquisitions

• Tender Offers

• Asset acquisition (tangible and intangible)

• Joint Ventures and Strategic alliances

Value of the M&A deals

• Global M&A activity is on target for a record year 2007.

• An increase in cross border corporate mergers helped Europe push past US in volume for the first time in four years and lifted the global tally of announced M&A deals in the first half by 51% to $2.8 trillion.

Continued..

Mergers and Acquisitions

• Acquisition: An acquisition occurs when one company takes a controlling ownership interest in another firm, a legal subsidiary of another firm, or selected assets of another firm such as a manufacturing facility.

• An acquisition may involve the purchase of another firm’s assets or stock, with the acquired firm continuing to exist as a legally owned subsidiary of the acquirer.

• It is straight forward purchase of a target company.

Mergers

• In a merger, the acquiring company assumes the assets and liabilities of the merged company.

Mergers

• A merger can take place either as an amalgamation or absorption.

• Absorption• Amalgamation (fusion of two companies)

Generally applied to combinations of firms of equal size.

• Citigroup formation from Citibank and Travelers is an example of merger of equals.

Tender Offer

• Tender Offer involves making a public offer for acquiring the shares of the target company with a view to acquiring management control in that company.

• Flextronics International giving an open market offer at Rs. 548 for 20% paid up capital in Hughes Software Systems.

• Wipro completes cash tender offer for Infocrossing at a price of $18.70 per cash.(17th Sep, 2007)

Asset acquisition

• It involves buying the assets of another company.

• The acquisition of the cement division of Tata Steel by Laffrage of France. (1.7 million tonne cement plant)

• Coca cola paid Rs 170 crore to Parle to acquire its soft drink brands like Thums Up, Limca, Gold Spot etc.

DIVESTITURE

• DEFINITION• Disposition or sale of an asset by a company.

(Company selling off divisions which are a poor strategic fit)

• A company will often divest an asset which is not performing well, which is not vital to the company's core business, or which is worth more to a potential buyer or as a separate entity than as part of the company

• Example: The RBI has recently decided to divest its entire 72.50% stake in NABARD to the Centre to avoid a conflict of interest.

JVs

• In a JV two companies enter into an agreement to provide certain resources towards the achievement of a particular common business goal.

• Ex: Tata Motors entered into a JV with a South African company, Imperial Group to market its pick-up vehicles in the region.

Strategic Alliances

• Motilal Oswal Securities Ltd and IDBI Bank announced that they were entering into a strategic alliance to provide online trading facility to the bank’s customers.

Contraction

• Divestiture

• Spin Off

• Split Off

• Split-up

• Equity carve-out

• Asset Sale (Corporate shell )(tangible or intangible)

Features of divestitures

Selling corporation typically receives consideration for the assets sold cash securities other assets

Divestiture

• Divestiture, also known as divestment, is the release, rather than the acquisition, of assets. It could be considered the reverse of an investment, and may be carried out for financial, state mandated, or ethical reasons.

• Assets can be divested slowly over time, or in a chunk, depending on which strategy works better for the company or institution doing the divesting.

• When a large stock holder engages in divestiture, it can dramatically change the face of the company being divested by breaking up the stock, and it can also send a powerful message.

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• The most common reason for a divestiture is a financial one.

• If a company is breaking itself up through a divestiture, it may be because the divested asset is worth more as a separate entity, or because divesting allows the company to redirect its focus to a primary market.

• This type of divestiture is undertaken with the consent of stock holders, and if a large company is splitting itself, it can have a profound impact on the market.

• A company or institution may also choose to divest assets which are nor performing well before they drag the overall investment portfolio down.

Example

• The state may also mandate divestiture in order to prevent a monopoly. This is most common when a company wishes to acquire another asset.

• In the United States, the Federal Trade Commission (FTC) determines whether a company should be required to divest or not.

• The most famous instance of state mandated divestiture in the United States was the 1984 breakup of the Bell telecommunications group, which formerly controlled the majority of telecommunications in the United States.

• The FTC mandated the breakup into the American Telephone and Telegraph Company, along with seven smaller subsidiaries of the former Bell empire, identified by their regional affiliation, such as Pacific Bell and Atlantic Bell.

SPINOFF

• Definition• An independent company created from an existing

part of another company through a divestiture.• A transaction in which a company distributes on a pro

rata basis all of the shares it owns in a subsidiary to its own shareholders.

• The new entity has its own managementand is run independently from the parent company.

• EX: Air-India has formed a separate company named Air-India Engineering Services Ltd, by spinning-off its engineering division.

Split-offs

• A split-off is an exchange by a parent of shares it owns in a subsidiary for shares of the parent or parent debt.

• A split-off is a way to create value for the parent’s shareholders by reducing the parent’s outstanding shares or debt.

• The purpose of reducing parent’s share outstanding is to increase the earnings and cash flow per share and thereby the value of remaining shares or to meet the needs of particular shareholders.

• The purpose of reducing the parent’s debt is to reduce parent’s debt, principal repayment obligations and financial risk.

• In contrast, a typical spin-off distributes the subsidiary’s shares to the parent’s shareholders.

Split-up

• Exchanging the stock of two or more subsidiary companies for all of the parent company's stock, followed by the liquidation of the parent company.

• A split-up is an effective way to break a company into two or more independent companies.

• EX: The APSEB was split-up in 1999 as a part of the Power Sector reforms.

Equity Carve Outs

• An equity carve out describes a transaction in which a parent firm issues a portion of its stock or that of a subsidiary to the public.

• It involves the sale of a portion of the firm through an equity offering to outsiders.

• A new legal entity is created.• The equity holders in the new entity need not be the

same as the equity holders in the original seller.• Ex: Reliance Industries has transferred/off loaded its

stake in Reliance capital, Reliance Energy and Reliance infocomm as a part of its restructuring

Corporate Control

• Takeover defenses (Hostile takeover)

• Share repurchases

• Exchange Offers

• Proxy contests

Proxy fight

• A strategy that a firm may take in the case of a hostile takeover.

• A proxy contest occurs when the acquiring firm attempts to convince shareholders to use their proxy votes to install new management that is open to the takeover.

Changes in ownership structure

• Principal – agent conflicts

• LBOs

• Going Private

• ESOPs

• MLPs

Purchase of assets compared with purchase of stock

• The most common form of merger or acquisition involves purchasing the stock of the merged or acquired concern.

• An alternative to stock acquisition is to purchase the target company’s assets.

• Some times it may be partial acquisition of the target.• When all the target’s assets are purchased, the target

becomes a corporate shell with only the cash or securities that it received from the acquisition as assets.

• If the acquirer buys all the target’s stock, it assumes the seller’s liabilities as well.

Merger Financing

• Cash or stock of the acquirer or other securities as debentures.

• Stock transactions may offer the seller certain tax benefits that cash transactions do not provide. (may be treated as a atx free reorganization)

Economic rationale of Mergers

An Economic Perspective

Value of the M&A deals

• Global M&A activity is on target for a record year 2007despite signs of strain.

• An increase in cross border corporate mergers helped Europe push past US in volume for the first time in four years and lifted the global tally of announced M&A deals in the first half by 51% to $2.8 trillion.

• Global M&A was $1.9 trillion in the first half of 2006.

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• LBO s represented 13% of the European deal volume and 35% in the Europe.

• Financial services, real estate and utilities were the busiest sectors globally with $539b, $301b and $255 b of activity respectively.

M&A deals dip 70% on slowdown

• Asia bucks trend, sees 28% rise in deals led by China.• After a phenomenal year of M&A transactions, the

appetite for deals is slowing down amid concerns of a cooling off effect on the Indian economy.

• The deal value has plumetted by 70% to $4.72 b in the first one and half month of the calendar year as compared to $16.2 for the corresponding year. (12.9 b came from vodaphone – Essar alone)

• Notable feature is that the number of deals has increased from 133 to 211, even while their value has gone down.

• There was a total of 661 M&A deals with announced value of $51.17 billion in calendar year 2007.

Most notable deal so far

• In this calendar year is LNM India internet venture’s 28.6% stake in Sophia power Company for $ 397 million.

• If concluded the acquisition of Jaguar and Land Rover by the Tatas could possibly become one of the largest deals this year.

Classification of Mergers

• Business combinations also may be classified as horizontal, vertical and conglomerate mergers.

• They are

• Horizontal mergers

• Vertical mergers

• Conglomerate mergers

Horizontal Mergers - Examples

• Oracle and PeopleSoft in business application software (2004)

• Oil giants Exxon and Mobil (1999)

• NationsBank and BankAmerica(1998) in commercial banking.

Imperial to buy Altadis for $17b, becomes No 2 coy in Europe

• Britain’s Imperial Tobacco agreed to buy Franco-Spanish rival Altadis for $17.4b in a deal that will propel it to No 2 from 4 in Europe’s cigarette industry.

• The deal, the biggest ever in tobacco sector will be partly funded by one of the largest rights issues in Britain and follows Japan Tobacco’s takeover of British Benson & Hedges Cigarette maker Gallaher

Oracle acquires BEA for $8.5bn(17-1-2008 FT)

• Charles Philips, president of Oracle Corporation

• The acquisition will put Oracle almost neck-to-neck with IBM in terms of middleware, a layer of software in complex corporate IT systems that has become increasingly important amid the rise of internet.

• Payment $ 19.375 a share.

Vertical Mergers- Examples

• Nirma’s bid for Gujarat Heavy Chemical (backward integration)

• Hindalco’s bid for Pennar Aluminiumn ( Forward integration)

Corporate Value Chain

Conglomerate Mergers

• A conglomerate merger occurs when the companies are not competitors and do not have a buyer-seller relationship.

• Philip Morris, a tobacco company, which acquired General Foods in 1985 for $5.6 billion.

Market and Product Extension mergers

• Market Extension Merger is between the companies selling same product but in different markets. This merger enhances the market for the two companies since they now act as one sole company.

• Product Extension Merger is like the one between an eminent company making motor parts and another that makes their own cars. So, the companies involved here sell different but more or less the same product in the same market. This merger promotes the sale of both the companies significantly.

Within the broader category, two types of conglomerates can be distinguished

• Financial conglomerates

• Managerial conglomerates

Financial conglomerates

• Financial conglomerates : Provide a flow of funds to each segment of their operations, exercise control and are the financial ultimate risk takers.

• They undertake strategic planning but do not participate in operating decisions

• RBI criteria for identifying a financial conglomerate • Managerial Conglomerates : Additionally, by providing

managerial counseling and interactions on decisions, managerial conglomerates increase the potential for improving operating performance.

RBI Criteria for identifying a Financial Conglomerate:

• A group would be designated as a 'Financial Conglomerate' if :• (i) any group entity coming under the jurisdiction of specified

regulators and having a significant presence in the respective financial market segment; and

• (ii) the group is having operations in at least one more financial market segment.

• Group : An arrangement involving two or more entities related to each other through any of the following relationships : Subsidiary – parent (defined in terms of AS 21), Joint venture (defined in terms of AS 23), Associate ( defined in terms of AS 27),Promoter-promotee, a related party (defined in terms in AS 18) Common brand name, and investment in equity shares 20% and above.

• Group entity : any entity involved in the above arrangement.Specified Regulator : RBI, SEBI, IRDA and NHB for the present.

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• A group would be designated as a 'Financial Conglomerate' if it has significant operations in at least two financial market segments; for example, banking and insurance or insurance and asset management.

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• Some of the groups that may be asked to step up reporting and find themselves under increased scrutiny are top public sector banks such as State Bank of India, Bank of Baroda and Punjab National Bank and private sector giants such as ICICI Bank and HDFC Bank. Foreign banks such as Citibank and Standard Chartered Bank would also be classified as FCs.

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• As per the criteria suggested , even large corporate clusters such as Reliance, Tata, Birla, Bajaj, Kotak, Sundaram and Sahara groups, which have significant presence in the business of finance, would be seen as FCs.

• NBFCs and merchant bankers such as Merrill Lynch and GE Capital could also be defined as conglomerates.

Significant presence in the respective financial market segment :

• Financial market segment Significant presence• Bank Included in the top 70% of the segment in terms of

asset base• Insurance Company Turnover more than Rs.100 crore;• Mutual Fund Included in the top 70% of the segment in

terms of asset under management (AUM);• NBFC (deposit taking) Included in the top 70% of the

segment in terms of deposit base; • NBFC (non-deposit taking) Asset base more than

Rs.2000 crore;• Primary Dealer Included in the top 70% of the segment

in terms of total turnover

INDIA INC:OUTWARD BOUNDRecent overseas M&As by Indian companies

INDIA INC: OUTWARD BOUND

(Recent overseas M&As by Indian companies)

Acquirer Target Size Year

Tata Steel Corus $12.2 bn 2007

Hindalco Novelis $10.8 bn 2007

Suzlon Energy RE Power $1.7 bn 2007

Essar Steel Holdings Algoma Steel $1.6 bn 2007

United Spirits Whyte & Mackay $112 mn 2007

Tata Power

PT Kaltim

$1.1 bn 2007Prima Coal

Wipro Technologies Infocrossing $600 mn 2007

Godrej Consumer

Kinky $13.75 mn 2008Products Ltd

Bilcare Singular ID $13.25 mn 2008

Rolta India TUSC $45 mn 2008

Great Offshore Sea Dragon $1.4 bn 2008

Tata Chemicals General Chemicals $1 bn 2008