Mergers, Acquisitions and Collaboration

Dr. Savitha

I. BASIC DEFINITIONS

A. Merger; combination of two firms into one.B. Acquisition; one business buys another.

1. Cash.2. Securities.3. Combination of cash and securities.

Mergers: Basic Concepts

Merger - combination of two or more enterprises whereby the assets and liabilities of one are vested in the other, with the effect that the former enterprise loses its identity.

Amalgamation – combination of two corporate entities where the assets and liabilities of both are vested in a third entity, with the effect that both former entities lose their identities to form a new entity.

Acquisition: Traditionally, the term described a situation when a larger corporation purchases the assets or stock of a smaller corporation, while control remained exclusively with the larger corporation.Often a tender offer is made to the target firm (friendly)

or directly to the shareholders (often a hostile takeover).

Transactions that bypass the management are considered hostile, as the target firm’s managers are generally opposed to the deal.

C. General Process; Acquisitions1. Initial contacts between management teams

2. Tender offer by acquirer to target company stockholders

3. Stockholders required to vote approval

4. Acquirer purchases majority or complete interest

D. General Process; Merger1. Initial contacts between management teams

2. Negotiations as to new name, management team

3. Stock exchange details negotiated

4. Merger proposal goes to stockholders for vote

5. If stockholders approve, deal consummated when stock changes hands

Mergers and Acquisitions

Target: the corporation being purchased, when there is a clear buyer and seller.

Bidder: The corporation that makes the purchase, when there is a clear buyer and seller. Also known as the acquiring firm.

Friendly: The transaction takes place with the approval of each firm’s management

Hostile: The transaction is not approved by the management of the target firm.

TERMINOLOGY OF M&A

A. "BEAR HUG"Acquirer mails letter to directors of target firm

announcing intentions and requiring a quick decision on bid.

B. "SATURDAY NIGHT SPECIAL"Offer made to stockholders just before the market’s

close on Friday. Takes maximum advantage of stockholder greed

C. “HOSTILE TAKEOVER”1. When the target firm's management fights the tender

offer.

2. Acquiring firm must carry offer to stockholders of target firm.

3. This strategy is generally nasty and expensive - an effort frequently carried out to a questionable conclusion.

Good deal for stockholders of target firm. Bad deal for stockholders of acquiring firm.

D. “WHITE NIGHT” When target firm cannot defend itself against the

hostile acquirer, it will seek another firm to acquire it (one more acceptable to management).

E. “Shark Repellant” Slang term for any one of a number of measures

taken by a company to fend off an unwanted or hostile takeover attempt

Examples: poison pills, scorched earth policies

F. "PAC-MAN";

1. A form of defense in which the target tenders for shares of acquirer:

e.g., Martin-Marietta - Bendix.

2. The standoff is usually resolved when one of the parties finds a "white knight" to help.

In the case of Martin-Marietta, it was Allied Corp

G. "POISON PILL";1. Another anti-takeover defense;

a. target company threatens to load the balance sheet with debt

b. the acquirer effectively gets more debt than the business can handle.

2. Effectiveness is not always guaranteed.

Motivation for Mergers

1. To diversify the areas of activity and thereby to reduce business risks

2. To achieve optimum size so as to reap the benefits of economy of scale; reduction in WC

3. To reduce the duplicate expenses and thereby to improve the profitability

4. To serve the customer better; revenue enhancement

5. To have cohesiveness in control of the organisation

6. To grow without any gestation period

7. Technology transfer

8. Enhances debt capacity

Adverse Effects of Mergers

1. Mergers especially horizontal reduces the number of players and consequently the competition in the market

2. Mergers amongst rivals is invariably unfriendly to consumers

3. Mergers often results in increased market share and thereby leads to dominance which makes the resultant enterprise complacent; brings inefficiency in the organization

4. Mergers between healthy and unhealthy enterprises reduces the tax liability and thereby makes the State’s exchequer poor

5. Mergers often fail to create harmonization in human relation

Horizontal mergers

A horizontal merger results in the consolidation of firms that are direct rivals—that is, sell substitutable products within overlapping geographic markets.Examples: The formation of Brook Bond Lipton India Ltd.

through the merger of Lipton India and Brook Bond

The merger of Bank of Mathura with ICICI (Industrial Credit and Investment Corporation of India) Bank

The merger of BSES (Bombay Suburban Electric Supply) Ltd. with Orissa Power Supply Company

The merger of ACC (erstwhile Associated Cement Companies Ltd.) with Damodar Cement

Vertical Mergers

The merger of firms that have actual or potential buyer-seller relationships

Examples: Time Warner-TBS; Disney-ABC Capitol Cities; Brown Shoe-Kinney, Ford-Bendix.

Conglomerate mergers

Consolidated firms may sell related products, share marketing and distribution channels and perhaps production processes; or they may be wholly unrelated.

• Product extension conglomerate mergers involve firms that sell non-competing products, use related marketing channels or production processes.

Examples: Cardinal Healthcare-Allegiance; AOL-Time Warner; Phillip Morris-Kraft; Citicorp-Travelers Insurance; Procter & Gamble-Clorox.

• Market extension conglomerate mergers join together firms that sell competing products in separate geographic markets.

Examples: Time Warner-TCI; Morrison Supermarkets-Safeway

• A pure conglomerate merger unites firms that have no obvious relationship of any kind.

Examples: AT&T-Hartford Insurance

Mergers & Acquisitions Defined

Types of M&A Activity

Vertical

Horizontal

Product Extension

Market Extension

Conglomerate

» suppliers or customers

» competitors

» complementary products

» complementary markets

» everything else

Related

Unrelated

20

Reasons for Acquisitions Increased market power- Exists when a firm is able to sell its goods or

services above competitive levels or when the costs of its primary or support activities are lower than those of its competitors;

Entails buying a competitor, a supplier, a distributor, or a business in a highly related industry

Lower risk compared to developing new products Increased diversification Learning and developing new capabilities

Research suggests 20% of all mergers and acquisitions are successful 60% produce disappointing results 20% are clear failures

Do Mergers and Acquisitions Create Value?

The Empirical Evidence

AcquiringFirms

TargetFirms

M&A Activity creates value, on average, as follows:

• no value created • value increases byabout 25%

• related M&A activity creates more value thanunrelated M&A activity

M&A activity creates value, but target firms capture it

Facts & Figures on Mergers - India Late 1980’s – 35 mergers 1997 – 552 mergers 2002 - $ 6.5 billion 2003 - $ 3.7 billion (Business & Economy Magazine) The value of mergers in India more than doubled to $9.32 billion in

2004, from $4.4 billion in 2003. (Bloomberg Feb 2005)

The first quarter of 2005 itself has seen M&As to the tune of over $3 billion. (Thomson Financial)

Cross Border Mergers in India

The motivating factors for cross border M&As are: Quickest way to grow Acquire tangible and intangible assets Restructure existing operations Exploit synergies Obtain strategic advantages

However, the overwhelming majority of the cross border M&As involve foreign firms acquiring Indian companies.

In cases where such acquisitions involve no increase in economic efficiencies or production capacities, it raises the concern that such M&As simply shift ownership from domestic to foreign hands.

Mergers in India From 1991 to date, mergers are not regulated from a competition

perspective. The Asian Development Outlook 2005 mentions the impact of

M&As in India; Coca Cola re-entered the Indian market in 1993 by acquiring Parle. Today it has 50% market share of the soda industry.

Pepsi gained a major market presence by acquiring Duke in 1988, and now has 48% market share of the soda industry.

Mergers in India HLL has succeed in enhancing its market share through

a process of Mergers /Acquisitions Product 1992-93 1997-98 Ice Cream 0.00 74.06 Sauces,ketchups,jams 0.00 63.54 Dental hygiene products 11.20 41.56 Soaps 19.66 26.01 Synthetic detergents 33.12 46.72

India goes global

TATA Chemical acquires US based Soda Ash Maker General Industrial Products for $ 1 billion

Indian shipping company Great Offshore acquires UK based Sea Dragon for US$ 1.4 billion

Essar Energy acquires 50% stake in Kenya Petroleum refineries ltd.

Inbound Transactions1. Sistema, Russian Joint Stock Company’s acquisition of

74% stake in Shyam Telelink – Telecommunications 2. French banking major BNP Paribas’s acquisition of 45%

stake in financial services firm Sundaram Home Finance for $45.81 million

3. Standard Chartered Bank bought 49% stake for $34.19 million in UTI Securities and Interpublic Group hiked its stake in Lintas India to 100% for $100 million

4. UBS Global Management’s Acquisition of Standard Chartered Asset Management Company for $ 117.78 Million

5. EMC Corporations Acquisition of Valyd Software Pvt. Ltd.6. Orkla’s Acquisition of MTR foods for $ 100 Million

Mergers and Acquisitions

In efficient markets, the stock market reaction on the day of the merger announcement represents the NPV of the transaction.

Generally, bidder stock prices remain unchanged or even drop when an acquisition is announced. Historically bidding firm stock prices fall more often than increase.

Target stock prices, however, increase by 20% to 40% on the announcement day.

The Legal Framework

1. The Companies Act, 1956Sections 390 - 396A, 108A, 17, 319 and 42

2. SEBI (Substantial Acquisition of Shares and Takeovers) Regulation, 1997

3. The Competition Act, 2002Sections 5 and 6 deal with “Combination” and “Regulation of Combination” respectively

Collaborative Arrangements: Basic Motives

Collaborative arrangement: a formal, long-term contractual agreement between or amongst firms

Scale alliances: provide efficiency through the pooling of similar assets so that partners can carry out business activities in which they already have experience

Link alliances: use complementary resources to expand into new business areas