Introduction of Mergers, Acquisitions Introduction of Mergers, Acquisitions and Restructuring and Restructuring

The Takeover ProcessThe Takeover Process

11ChapterChapter

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CORPORATE RESTRUCTURINGCORPORATE RESTRUCTURING

Broad array of activities that Broad array of activities that expand or contract a firm’s expand or contract a firm’s

operationsoperations substantially modify its financial substantially modify its financial

structurestructure change its organizational structure change its organizational structure

and internal functioningand internal functioning

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CORPORATE RESTRUCTURINGCORPORATE RESTRUCTURING

Includes different activities such as: Includes different activities such as: MergersMergers Purchases of business unitsPurchases of business units TakeoversTakeovers Slump salesSlump sales DemergersDemergers Leveraged buyoutsLeveraged buyouts Organizational restructuringOrganizational restructuring

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MEANING OF MERGERMEANING OF MERGER

A combination of two or more companies A combination of two or more companies into one companyinto one company

Absorption: one company acquires another Absorption: one company acquires another companycompany

Consolidation: two or more companies Consolidation: two or more companies combine to form a new companycombine to form a new company

Tender offers:Tender offers: Offer made directly to the shareholdersOffer made directly to the shareholders Hostile when offer made without approval of Hostile when offer made without approval of

the boardthe board

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EXAMPLE OF MERGERSEXAMPLE OF MERGERS

With corporate banking becoming an With corporate banking becoming an unprofitable business for banks due to unprofitable business for banks due to high risk of asset quality, banks high risk of asset quality, banks including financial institutions are including financial institutions are tapping the retail finance segment. tapping the retail finance segment. ICICI's acquisition of Anagram Finance ICICI's acquisition of Anagram Finance from Lalbhai group, HDFC Bank's merger from Lalbhai group, HDFC Bank's merger with Times Bank and ICICI Bank's merger with Times Bank and ICICI Bank's merger with Bank of Madura are some of the with Bank of Madura are some of the latest examples of consolidation in the latest examples of consolidation in the banking sector. banking sector.

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Horizontal: merger of firms engaged in same line of Horizontal: merger of firms engaged in same line of businessbusinessExample: Glaxo Wellcome Plc. and Smithkline Example: Glaxo Wellcome Plc. and Smithkline Beecham Plc.Beecham Plc.The two british pharmaceutical heavyweights Glaxo The two british pharmaceutical heavyweights Glaxo Wellcome Plc. and Smithkline Beecham Plc. merged to Wellcome Plc. and Smithkline Beecham Plc. merged to become largest drug manufacturing company become largest drug manufacturing company globally. The merger created a company valued at $ globally. The merger created a company valued at $ 182.4 billion and with a 7.3 per cent share of the 182.4 billion and with a 7.3 per cent share of the global pharmaceutical market. The merger company global pharmaceutical market. The merger company expected $1.6 billion in pretax cost savings after 3 expected $1.6 billion in pretax cost savings after 3 years of merger. The two companies had years of merger. The two companies had complementary drug portfolios, and a merger would complementary drug portfolios, and a merger would let them pool their research and development funds let them pool their research and development funds and would give the merged company a bigger sales and would give the merged company a bigger sales and marketing force.and marketing force.

TYPES OF MERGERTYPES OF MERGER

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TYPES OF MERGERTYPES OF MERGER

Vertical: merger of firms engaged at Vertical: merger of firms engaged at different stages of production in an industrydifferent stages of production in an industry

Vertical mergers take place when both firms Vertical mergers take place when both firms plan to integrate the production process and plan to integrate the production process and capitalize on the demand for the product. capitalize on the demand for the product. Forward integration take place when a raw Forward integration take place when a raw material supplier finds a regular procurer of material supplier finds a regular procurer of its products while backward integration its products while backward integration takes place when a manufacturer finds a takes place when a manufacturer finds a cheap source of raw material supplier.cheap source of raw material supplier.

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TYPES OF MERGERTYPES OF MERGER

Conglomerate: merger of firms Conglomerate: merger of firms engaged in unrelated lines of engaged in unrelated lines of businessbusiness

Congeneric: merger of firms engaged Congeneric: merger of firms engaged in related lines of businessin related lines of business

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REASONS FOR MERGERSREASONS FOR MERGERSPlausible ReasonsPlausible Reasons

Strategic benefitStrategic benefit Economies of ScaleEconomies of Scale Economies of ScopeEconomies of Scope Economies of Vertical IntegrationEconomies of Vertical Integration Complementary ResourcesComplementary Resources Tax ShieldsTax Shields Utilization of Surplus FundsUtilization of Surplus Funds Managerial EffectivenessManagerial Effectiveness

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REASONS FOR MERGERSREASONS FOR MERGERSDubious ReasonsDubious Reasons

DiversificationDiversification Lower financing costsLower financing costs Earnings growthEarnings growth

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Issues Regarding M&A ActivityIssues Regarding M&A Activity

In FavorIn Favor Critical to healthy Critical to healthy

expansion of expansion of business firmsbusiness firms

Increase value and Increase value and efficiencyefficiency

Move resources to Move resources to optimal usesoptimal uses

OpposedOpposed No improvements No improvements

subsequent to the subsequent to the acquisitionacquisition

Redistribution of Redistribution of wealth from labor wealth from labor and other and other stakeholders to stakeholders to shareholdersshareholders

Speculative activitySpeculative activity

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MECHANICS OF A MERGERMECHANICS OF A MERGER

According to Sec 391 to 394 of Indian Companies Act 1956, According to Sec 391 to 394 of Indian Companies Act 1956, the procedure for amalgamation involves:the procedure for amalgamation involves:

Examining the object clauses of both companiesExamining the object clauses of both companies Intimating stock exchanges where the amalgamated and Intimating stock exchanges where the amalgamated and

amalgamating companies are listedamalgamating companies are listed Getting draft amalgamation proposal approved by respective Getting draft amalgamation proposal approved by respective

boards of directorsboards of directors Applying to National Company Law TribunalApplying to National Company Law Tribunal Dispatching notice to shareholders and creditorsDispatching notice to shareholders and creditors Holding meetings of shareholders and creditorsHolding meetings of shareholders and creditors Presenting petition to NCLT for confirming and passing order Presenting petition to NCLT for confirming and passing order

of amalgamationof amalgamation Filing NCLT order with ROCFiling NCLT order with ROC Transferring assets and liabilities of amalgamating company Transferring assets and liabilities of amalgamating company

to amalgamated companyto amalgamated company Issuing shares and/or debentures of the amalgamated Issuing shares and/or debentures of the amalgamated

company company

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TAXATION ASPECTSTAXATION ASPECTS

For obtaining tax concessions, the For obtaining tax concessions, the amalgamated company should satisfy amalgamated company should satisfy the following conditions:the following conditions:

all the properties and liabilities of the all the properties and liabilities of the amalgamating company should become the amalgamating company should become the properties and liabilities of the amalgamated properties and liabilities of the amalgamated company by virtue of the amalgamationcompany by virtue of the amalgamation

at least 90% of the shareholders of the at least 90% of the shareholders of the amalgamating company (by value of shares) amalgamating company (by value of shares) should become the shareholders of the should become the shareholders of the

amalgamated companyamalgamated company

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TAXATION ASPECTSTAXATION ASPECTS

If the amalgamating company is an Indian If the amalgamating company is an Indian company, certain tax concessions are availablecompany, certain tax concessions are available

Unabsorbed or unfulfilled deductions of the Unabsorbed or unfulfilled deductions of the amalgamating company that are available to amalgamating company that are available to the amalgamated company after the the amalgamated company after the amalgamation:amalgamation:

capital expenditure on scientific researchcapital expenditure on scientific research expenditure on patents, copyrights, know-howexpenditure on patents, copyrights, know-how expenditure on license for operating expenditure on license for operating

telecommunication servicestelecommunication services amortization of preliminary expensesamortization of preliminary expenses carry forward of lossescarry forward of losses unabsorbed depreciationunabsorbed depreciation

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TAKEOVERSTAKEOVERS

Acquisition of a certain block of equity Acquisition of a certain block of equity capital of a company enabling the capital of a company enabling the acquirer to exercise control over the acquirer to exercise control over the affairs of the companyaffairs of the company

Theoretically, more than 50% of equity Theoretically, more than 50% of equity needed for complete controlneeded for complete control

Practically, 20-40% sufficient for Practically, 20-40% sufficient for exercising controlexercising control

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TAKEOVERSTAKEOVERS

Various methods for takeovers:Various methods for takeovers: Open market purchase: buying shares of the Open market purchase: buying shares of the

listed company in the stock market; usually listed company in the stock market; usually hostile takeovershostile takeovers

Negotiated acquisition: buying shares of Negotiated acquisition: buying shares of target company from one/more existing target company from one/more existing shareholders (mostly promoters) in a shareholders (mostly promoters) in a negotiated transactionnegotiated transaction

Preferential allotment: buying shares of target Preferential allotment: buying shares of target company through preferential allotment of company through preferential allotment of

equity; friendly acquisitionequity; friendly acquisition

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NEED FOR REGULATION OF NEED FOR REGULATION OF TAKEOVERSTAKEOVERS

Necessary to regulate takeovers in Necessary to regulate takeovers in the following areas:the following areas:

Transparency Transparency

Transparent process will increase Transparent process will increase acceptance as legitimate device among all acceptance as legitimate device among all parties involvedparties involved

Interest of small shareholdersInterest of small shareholders

Regulation should ensure that Regulation should ensure that shareholders holding small numbers shareholders holding small numbers of shares should not sufferof shares should not suffer

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NEED FOR REGULATION OF NEED FOR REGULATION OF TAKEOVERSTAKEOVERS

Realization of economic gainsRealization of economic gains Ensure that primary rationale for takeover Ensure that primary rationale for takeover

is efficiency of operations and better is efficiency of operations and better utilization of resourcesutilization of resources

Provision of suitable fiscal incentives for Provision of suitable fiscal incentives for takeovers of ailing unitstakeovers of ailing units

No undue concentration of No undue concentration of market powermarket power

Acquirer should not enjoy undue Acquirer should not enjoy undue concentration of market power which may concentration of market power which may be used to detriment of customers or be used to detriment of customers or othersothers

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SEBI TAKEOVER CODESEBI TAKEOVER CODE

Salient points of SEBI’s takeover code:Salient points of SEBI’s takeover code:DisclosureDisclosure

Any acquirer who acquires holdings Any acquirer who acquires holdings (shares/voting rights) which alongwith (shares/voting rights) which alongwith existing holdings add up to 5%, 10% and existing holdings add up to 5%, 10% and 14% of the total, should announce at each 14% of the total, should announce at each stage to the company and concerned stage to the company and concerned stock exchange about such holdingsstock exchange about such holdings

Stock exchanges shall put up such Stock exchanges shall put up such information on public displayinformation on public display

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SEBI TAKEOVER CODESEBI TAKEOVER CODE

Trigger PointTrigger Point No acquirer can acquire holdings No acquirer can acquire holdings

which alongwith his existing holdings which alongwith his existing holdings become equal to or more than 15% become equal to or more than 15% of the total holdingof the total holding

An acquirer can do so only if he An acquirer can do so only if he makes a public announcement to makes a public announcement to acquire shares through a public offer acquire shares through a public offer to the extent of 20%to the extent of 20%

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SEBI TAKEOVER CODESEBI TAKEOVER CODE

Offer PriceOffer Price The offer price to the public should The offer price to the public should

be atleast the be atleast the highest highest of the of the following:following:

negotiated pricenegotiated price average price paid by acquireraverage price paid by acquirer preferential offer price (if made in last preferential offer price (if made in last

12 months)12 months) average of weekly high and low for last average of weekly high and low for last

26 months26 months

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SEBI TAKEOVER CODESEBI TAKEOVER CODE

Contents of Public Contents of Public Announcement Announcement

The public announcement should provide the The public announcement should provide the following information:following information:

number of shared proposed to be acquirednumber of shared proposed to be acquired minimum offer priceminimum offer price object of acquisitionobject of acquisition date by which offer letter will be posteddate by which offer letter will be posted dates of opening and closing of offerdates of opening and closing of offer An acquirer can do so only if he makes a An acquirer can do so only if he makes a

public announcement to acquire shares public announcement to acquire shares through a public offer to the extent of 20%through a public offer to the extent of 20%

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SEBI TAKEOVER CODESEBI TAKEOVER CODE

Creeping AcquisitionCreeping Acquisition No acquirer can acquire more than 5% of No acquirer can acquire more than 5% of

holdings in any financial year without holdings in any financial year without complying with open offer requirements complying with open offer requirements if his existing holdings are between 15% if his existing holdings are between 15% and 75% of the totaland 75% of the total

An acquirer can do creeping acquisition An acquirer can do creeping acquisition of up to 5% per year without triggering of up to 5% per year without triggering off the open offer requirementsoff the open offer requirements

Any purchase/sale of holding amounting Any purchase/sale of holding amounting to 2% of the total should be reported to 2% of the total should be reported within two days of the transactionwithin two days of the transaction

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ANTI-TAKEOVER DEFENCES IN ANTI-TAKEOVER DEFENCES IN THE USTHE US

Pre-offer DefensesPre-offer Defenses Staggered Board: electing one group of directors Staggered Board: electing one group of directors

out of three every yearout of three every year Super majority clause: high percentage of votes Super majority clause: high percentage of votes

(around 80%) required to approve a merger(around 80%) required to approve a merger Poison pills: granting existing shareholders the Poison pills: granting existing shareholders the

right to purchase convertible bonds or preference right to purchase convertible bonds or preference stock of the acquiring firm on favorable terms in stock of the acquiring firm on favorable terms in the event of a merger the event of a merger

Dual class: creating new class of shareholders Dual class: creating new class of shareholders with superior voting rightswith superior voting rights

Golden parachute: high compensation to Golden parachute: high compensation to incumbent management in the event of takeoverincumbent management in the event of takeover

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ANTI-TAKEOVER DEFENCES IN ANTI-TAKEOVER DEFENCES IN THE USTHE US

Post-offer DefensesPost-offer Defenses Greenmail: buying acquired shares from bidder at Greenmail: buying acquired shares from bidder at

a premium in exchange for his promise of a premium in exchange for his promise of refraining from hostile takeoverrefraining from hostile takeover

Pacman defence: making counter bid for the Pacman defence: making counter bid for the stock of the bidderstock of the bidder

Litigation: filing a suit against the bidder for Litigation: filing a suit against the bidder for violating anti-trust or security lawsviolating anti-trust or security laws

Asset restructuring: selling the most attractive Asset restructuring: selling the most attractive assets and/or buying assets that are unwanted or assets and/or buying assets that are unwanted or problematic for the bidderproblematic for the bidder

Liability restructuring: repurchasing own shares Liability restructuring: repurchasing own shares at premium or issuing shares to friendly third at premium or issuing shares to friendly third partyparty

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ANTI-TAKEOVER DEFENCES IN ANTI-TAKEOVER DEFENCES IN INDIAINDIA

Preferential allotment: allotting equity shares Preferential allotment: allotting equity shares or convertible securities preferentially to or convertible securities preferentially to promoters to enhance their equity stakepromoters to enhance their equity stake

Creeping enhancement: raising equity Creeping enhancement: raising equity holding by creeping enhancementholding by creeping enhancement

Amalgamate group companies: Amalgamate group companies: amalgamating two or more group companies amalgamating two or more group companies to form a larger company less vulnerable to to form a larger company less vulnerable to takeovertakeover

Selling crown jewels: selling the assets which Selling crown jewels: selling the assets which are attractive to bidderare attractive to bidder

Searching for white knight: soliciting support Searching for white knight: soliciting support from a friendly third partyfrom a friendly third party

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BUSINESS ALLIANCESBUSINESS ALLIANCES

Viable alternatives to mergers and acquisitionsViable alternatives to mergers and acquisitions Most commonly used forms:Most commonly used forms:

Joint ventures: independent legal entity in which two or more Joint ventures: independent legal entity in which two or more separate legal organizations participate preserving their own separate legal organizations participate preserving their own corporate identity and autonomycorporate identity and autonomy

Strategic alliances: co-operative relationship without creation Strategic alliances: co-operative relationship without creation of separate legal entityof separate legal entity

Equity partnership: co-operative relationship in which one Equity partnership: co-operative relationship in which one party takes a minority equity stake in the other party takes a minority equity stake in the other

Licensing: licensing of technology/product/process or Licensing: licensing of technology/product/process or trademark/copyrighttrademark/copyright

Franchising alliance: right to sell goods and services to Franchising alliance: right to sell goods and services to multiple licensees in different geographical locationsmultiple licensees in different geographical locations

Network alliance: web of inter-connecting alliances for Network alliance: web of inter-connecting alliances for collaborations between companiescollaborations between companies

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RATIONALE FOR BUSINESS RATIONALE FOR BUSINESS ALLIANCESALLIANCES

Sharing risks and resourcesSharing risks and resources Access to new marketsAccess to new markets Cost reduction through sharing or Cost reduction through sharing or

combining of facilitiescombining of facilities Favorable regulatory treatmentFavorable regulatory treatment Preclude to acquisition or exit Preclude to acquisition or exit

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SUCCESS FACTORS FOR SUCCESS FACTORS FOR BUSINESS ALLIANCESBUSINESS ALLIANCES

Complementary strengths of partnersComplementary strengths of partners Sharing of exorbitant cost of developing new Sharing of exorbitant cost of developing new

productproduct Ability of partners to cooperate with each Ability of partners to cooperate with each

otherother Clarity of purpose, roles and responsibilitiesClarity of purpose, roles and responsibilities Perception of equitable division of risks and Perception of equitable division of risks and

rewards among partnersrewards among partners Similar time horizons and financial Similar time horizons and financial

expectations of partnersexpectations of partners

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MANAGING AN ACQUISITIONMANAGING AN ACQUISITION

DISCIPLINED ACQUISITION PROGRAMMEDISCIPLINED ACQUISITION PROGRAMME Manage the Pre-acquisition PhaseManage the Pre-acquisition Phase Thorough evaluation of itselfThorough evaluation of itself Brainstorming for acquisition ideasBrainstorming for acquisition ideas Screen CandidatesScreen Candidates Evaluate Remaining CandidatesEvaluate Remaining Candidates Determine the Mode of AcquisitionDetermine the Mode of Acquisition Negotiate and Consummate the DealNegotiate and Consummate the Deal Manage the Post-acquisition IntegrationManage the Post-acquisition Integration

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PITFALLS/SINS OF ACQUISITION PITFALLS/SINS OF ACQUISITION

Straying into very unrelated areasStraying into very unrelated areas Striving for large sizeStriving for large size Failure to investigate thoroughly Failure to investigate thoroughly

before acquisitionbefore acquisition Overpaying Overpaying Failing in post-acquisition integrationFailing in post-acquisition integration

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DIVESTITURESDIVESTITURES

Partial Sell-offPartial Sell-off DemergerDemerger Equity CarveoutEquity Carveout

A) PARTIAL SELL-OFFA) PARTIAL SELL-OFF Sale of business unit/plant of one company to Sale of business unit/plant of one company to

anotheranother Also called slump saleAlso called slump saleMotives for Sell-offMotives for Sell-off Raising capitalRaising capital Curtailing lossesCurtailing losses Strategic realignmentStrategic realignment Efficiency gainEfficiency gain

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DIVESTITURESDIVESTITURES

Financial Evaluation of Sell-offFinancial Evaluation of Sell-off Estimating divisional post-tax cash flowsEstimating divisional post-tax cash flows Establishing discount rate for the division taking as Establishing discount rate for the division taking as

base cost of capital of some firm of almost the same base cost of capital of some firm of almost the same size engaged solely in the same line of business size engaged solely in the same line of business

Calculating PV of division by using discount rate Calculating PV of division by using discount rate Finding market value of division specific liabilities i.e. Finding market value of division specific liabilities i.e.

PV of obligations arising from the division’s liabilitiesPV of obligations arising from the division’s liabilities Deducing parent firm’s value of ownership position Deducing parent firm’s value of ownership position

(VOP)(VOP) VOP = PV of division’s CF – MV of division-specific VOP = PV of division’s CF – MV of division-specific

liabilitiesliabilities Comparing VOP with divestiture proceeds (DP)Comparing VOP with divestiture proceeds (DP) Taking decision about sell-offTaking decision about sell-off

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DEMERGERDEMERGER

Transfer of one or more undertaking by a company to Transfer of one or more undertaking by a company to another companyanother company

Demerged company: whose undertaking is transferredDemerged company: whose undertaking is transferred Resulting company: to which undertaking is Resulting company: to which undertaking is

transferredtransferred May take form of spin-off or split-upMay take form of spin-off or split-up Spin-off: undertaking/division of company is spun off Spin-off: undertaking/division of company is spun off

into an independent company; parent and spun off into an independent company; parent and spun off company are separate corporate entitiescompany are separate corporate entities

Split-up: company is split up into two or more Split-up: company is split up into two or more independent companies; parent company disappears independent companies; parent company disappears and new corporate entities emergeand new corporate entities emerge

Spin-offs and split-ups enable sharper business focusSpin-offs and split-ups enable sharper business focus Strengthens managerial incentives and increases Strengthens managerial incentives and increases

accountabilityaccountability

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EQUITY CARVEOUTEQUITY CARVEOUT

Parent company sells a portion of its Parent company sells a portion of its equity in a wholly owned subsidiaryequity in a wholly owned subsidiary

Sale may be made to general public Sale may be made to general public or a strategic investoror a strategic investor

Brings cash infusion to the companyBrings cash infusion to the company Helps induct strategic investor in a Helps induct strategic investor in a

subsidiarysubsidiary

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OWNERSHIP RESTRUCTURINGOWNERSHIP RESTRUCTURING

Going PrivateGoing Private Leveraged BuyoutLeveraged Buyout Holding CompanyHolding Company

A) GOING PRIVATE A) GOING PRIVATE Converting publicly held company into private Converting publicly held company into private

companycompany Stock of private company usually held by small group Stock of private company usually held by small group

of investors with incumbent management having of investors with incumbent management having substantial stakesubstantial stake

Typically done by buying out shares held by publicTypically done by buying out shares held by public Factors prompting management:Factors prompting management:

Cost savings Cost savings Focus on long-term value creationFocus on long-term value creation

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OWNERSHIP RESTRUCTURINGOWNERSHIP RESTRUCTURING

LEVERAGED BUYOUT LEVERAGED BUYOUT Transfer of ownership consummated Transfer of ownership consummated

mainly with debtmainly with debt Mostly involve a business unit of a Mostly involve a business unit of a

companycompany Often buyout is by management (MBO)Often buyout is by management (MBO) After LBO/MBO, unit becomes private After LBO/MBO, unit becomes private

companycompany

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OWNERSHIP RESTRUCTURINGOWNERSHIP RESTRUCTURING

HOLDING COMPANYHOLDING COMPANY Company holding stocks of other Company holding stocks of other

companies to exercise control over themcompanies to exercise control over them Advantages:Advantages: Control with fractional ownershipControl with fractional ownership Isolation of riskIsolation of risk Enormous financial leverageEnormous financial leverage Disadvantages:Disadvantages: Partial multiple taxationPartial multiple taxation Parental responsibilityParental responsibility

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PRIVATIZATIONPRIVATIZATION

Transfer of partial or total ownership Transfer of partial or total ownership (represented by equity shares) of (represented by equity shares) of public enterprise from the public enterprise from the government to individuals and non-government to individuals and non-government institutionsgovernment institutions

Rationale behind privatization:Rationale behind privatization: Improving efficiencyImproving efficiency Generating resourcesGenerating resources Promoting popular capitalismPromoting popular capitalism

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ORGANISATIONAL ORGANISATIONAL RESTRUCTURINGRESTRUCTURING

Elements in organizational restructuring Elements in organizational restructuring programmes:programmes:

Regrouping of businessesRegrouping of businesses DecentralizationDecentralization DownsizingDownsizing OutsourcingOutsourcing Business process re-engineering (BPR) Business process re-engineering (BPR) Enterprise resource planning (ERP)Enterprise resource planning (ERP) Total quality management (TQM)Total quality management (TQM)

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Tender OffersTender Offers

Bidder seeks target's shareholders Bidder seeks target's shareholders approvalapproval

Minority shareholdersMinority shareholders Terms may be "crammed down"Terms may be "crammed down" May be subject to "freeze-in"May be subject to "freeze-in" Minority may bring legal actionsMinority may bring legal actions 2001-2002, many minority squeeze-outs2001-2002, many minority squeeze-outs

Usually reversing equity carve-outUsually reversing equity carve-out Parents often make high bid to avoid Parents often make high bid to avoid

shareholder lawsuitsshareholder lawsuits

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Tender OffersTender Offers

Kinds of tender offers and provisionsKinds of tender offers and provisions Conditional vs. unconditionalConditional vs. unconditional Restricted vs. unrestricted Restricted vs. unrestricted "Any-or-all" tender offer"Any-or-all" tender offer Contested offersContested offers Two-tier offersTwo-tier offers Three-piece suitorThree-piece suitor

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Risk Arbitrage in M&A ActivityRisk Arbitrage in M&A Activity

In M&A, risk arbitragers take a position in a In M&A, risk arbitragers take a position in a merger for short-term profitable resalemerger for short-term profitable resale

Arbitragers bet that a deal will be completed: Arbitragers bet that a deal will be completed: bear “deal risk” & try to minimize market riskbear “deal risk” & try to minimize market risk

Provide liquidity for target shareholders Provide liquidity for target shareholders seeking to sell to realize gains from premiumseeking to sell to realize gains from premium

Arbitrage fundsArbitrage funds Spread deal risk over portfolio of dealsSpread deal risk over portfolio of deals Performance of these funds is often highPerformance of these funds is often high But, funds are highly exposed to market crashesBut, funds are highly exposed to market crashes

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Risk Arbitrage in M&A ActivityRisk Arbitrage in M&A Activity

Illustrative ExampleIllustrative Example Sears announced a cash tender offer for Land’s Sears announced a cash tender offer for Land’s

EndEnd Tender offer was for $62; at close on Tender offer was for $62; at close on

announcement date, LE was at $61.72announcement date, LE was at $61.72 Investing at $61.72 would yield 3.7% annual Investing at $61.72 would yield 3.7% annual

return if deal closed in the forecasted 45 daysreturn if deal closed in the forecasted 45 days

1

72.61

72.61621%7.3return Annual

45365

172.61

72.61621%7.3return Annual

45365