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MERGERS, ACQUISITIONS, AND
RESTRUCTURING
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OUTLINE
What is corporate restructuring
Types of transactions
Reasons for mergers
Mechanics of a merger
Costs and benefits of a merger
Terms of a merger
Purchase of a division or plant
Takeovers
Strategic alliance
Managing an acquisitions programme
Divestitures
Ownership restructuring
Privatizations
Organizational restructuring
Dynamics of restructuring
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WHAT IS CORPORATE RESTRUCTURING
Corporate restructuring refers to a broad array of activities that expand or
contract a firms operations or substantially modify its financial structure
or bring about a significant change in its organizational structure and
internal functioning. Inter alia, it includes activities such as mergers,
purchases of business units, takeovers, slump sales, demergers, leveraged
buyouts, organizational restructuring, and performance improvement
initiatives.
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RESEARCH PAPER
M&A\IBR_2010_mergers_and_aquisitions.pdf
M&A\ibr_m_and_a_v2_report_final.pdf
M&A\M&A_Report_Final.pdf
M&A\MAI0110.pdf
M&A\PwC_Asia_MA_2010.pdf
M&A\PwC_Asia_MandA_2009.pdf
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Takeover
The transfer of control from one ownership group toanother.Acquisition
The purchase of one firm by anotherMerger
The combination of two firms into a new legal entityA new company is createdBoth sets of shareholders have to approve the transaction.
AmalgamationA genuine merger in which both sets of shareholders must
approve the transactionRequires a fairness opinion by an independent expert on
the true value of the firms shares when a publicminority exists
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CLASSIFICATIONS MERGERS
AND ACQUISIT
IONS1. Horizontal A merger in which two firms in the same industry combine.
Often in an attempt to achieve economies of scale and/or scope.
2. Vertical
A merger in which one firm acquires a supplier or another firm that iscloser to its existing customers.
Often in an attempt to control supply or distribution channels.
3. Conglomerate
A merger in which two firms in unrelated businesses combine.
Purpose is often to diversify the company by combining
uncorrelated assets and income streams4. Cross-border (International) M&As
A merger or acquisition involving an Indian and a foreign firm.
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REASONS FOR MERGERS
Plausible Reasons
Strategic benefit
Economies of scale
Economies of scope
Economies of vertical integration
Complementary resources
Tax shields
Utilizations of surplus funds
Managerial effectiveness
Dubious Reasons
Diversification
Lower financing costs
Earnings growth
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COST AND BENEFITS OF A MERGER
Benefit = PVAB
(PVA
+ PVB
)
Cost = Cash PVB
NPV toA
= Benefit Cost
= [(PVAB
(PVA
+ PVB
)] [Cash PVB
]
= PVAB PVA Cash
NPV to B = Cash - PVB
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STOCK VS. CASH
FIXED
SHARES
STOCK
FIXED
VALUE
CASH
QUESTIONS
ARE THE ACQUIRING COMPANYS SHARES UNDERVALUED, FAIRLY VALUED,
OR OVER VALUED ?
WHAT IS THE RISK THAT THE EXPECTED SYNERGIES NEEDED TO PAY FOR
THE ACQUISN PREMIUM WILL NOT MATERIALISE ?
HOW LIKELY THE VALUE OF THE ACQUIRING COs SHARES WILL DROP
BEFORE CLOSING ?
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COMMONLY USED BASES FOR
DETERMINING THE EXCHANGE RATIO
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
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The merger constitutes the second step of the
combination of Mittal Steel and Arcelor into a single
legal entity governed by Luxembourg law. In the first
step, Mittal Steel merged into ArcelorMittal, by way
of absorption by ArcelorMittal of Mittal Steel andwithout liquidation of Mittal Steel. After a vote of the
shareholders of Mittal Steel at an extraordinary
general meeting held on August 28, 2007 and a
resolution of the sole shareholder of ArcelorMittal onAugust 28, 2007, this merger became effective on
September 3, 2007 and the combined company was
named ArcelorMittal.
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In this second and final step, ArcelorMittal (the
surviving entity in the Mittal Steel and ArcelorMittal
merger) will merge into Arcelor and shareholders of
ArcelorMittal will become shareholders of Arcelor,which will be renamed ArcelorMittal.
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MERGER CONSIDERATION
In the merger, a holder of ArcelorMittal shareswill receive one newly-issued Arcelor share forevery one ArcelorMittal share, which is
referred to as the Exchange Ratio. ThisExchange Ratio assumes the prior completionof a share capital restructuring of Arcelorpursuant to which each 7 pre-capital
restructuring shares of Arcelor would beexchanged for 8 post-capital restructuringshares of Arcelor.
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FINANCIAL CALCULATION
M&A\Arcelor Mittal\Excel\Arcelor mittal.xls
M&A\Arcelor Mittal\Excel\CopyOf09-07-
29ArcelormittalModelQ209Final.xls
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TAKEOVERS
A takeover generally involves the acquisition of a certain
block of equity capital of a company which enables the
acquirer to exercise control over the affairs of the
company
A takeover may be done through the following ways
Open market purchase
Negotiated acquisition
Preferential allotment
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VALUAT
ION OF FIRMS INMERGERS AND ACQUISITIONS
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Acquisition valuations are complex, because the valuation often
involved issues like synergy and control, which go beyond just
valuing a target firm. It is important on the right sequence,
including
When should you consider synergy? Where does the method of payment enter the process.
Can synergy be valued, and if so, how?
What is the value of control? How can you estimate the value?
ISSUES IN ACQUISITION VALUATION
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(1) Simplest rationale is undervaluation, i.e., that firms that are undervalued
by
financial markets, relative to true value, will be targeted for acquisition bythose who recognize this anomaly.
(2) A more controversial reason is diversification, with the intent of stabilizing
earnings and reducing risk.
(3) Synergy refers to the potential additional value from combining two firms,
either from operational or financial sources. Operating Synergy can come from higher growth or lower costs
Financial Synergy can come from tax savings, increased debt capacity or cash
slack.
(4) Poorly managed firms are taken over and restructured by the new owners,
who lay claim to the additional value.
(5) Managerial self-interest and hubris are the primary, though unstated,reasons
for many takeovers.
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Equity Valuation Models
- Balance Sheet Valuation Models
Book Value: the net worth of a company as
shown on the balance sheet.
Liquidation Value: the value that would bederived if the firms assets were liquidated.
Replacement Cost: the replacement cost of its
assets less its liabilities.
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Dividend Discount Models
31 20 2 3 .......1 (1 ) (1 )
DD D
V k k k!
Where Vo = value of the firm
Di = dividend in year I
k = discount rate
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The Constant GrowthDDM
2
0 0
0 2
(1 ) (1 )......
1 (1 )
D g D g V
k k
!
And t i equati n can be si lified t :
0 10
(1 ) D g DV
k g k g
! !
where g = gr wth rate ofdi idends.
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Price-Earnings Ratio
0
1
11
/
P PVGO
E k E k
!
-
here = resent alue o ro th pportunity
0 1
1
(1 )P E b
E k ROExb
!
Implying / ratio
0
1
1P b
E k ROExb
!
here = eturn n quity
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Forecast Performance- Evaluate the companys strategic position, companys
competitive advantages and disadvantages in the industry.This will help to understand the growth potential and abilityto earn returns over WACC.
- Develop performance scenarios for the company and theindustry and critical events that are likely to impact theperformance.
- Forecast income statement and balance sheet line itemsbased on the scenarios.
- Check the forecast for reasonableness.
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Estimating The Cost Of Capital
- Develop Target Market Value Weights
- Estimate The Cost of Non-equity Financing
- Estimate The Cost Of Equity Financing
(1- )b c p s
B P SWACC k T k k
V V V!
where
kb the pretax market expected yield to maturity on non-callable, non convertible debt
Tc the marginal taxe rate for the entity being valued
B the market value of interest-bearing debt
kp the after-tax cost of capital for preferred stock
P market value of the preferred stock
ks the market determined opportunity cost of equity capital
S the market value of equity
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The Arbitrage Pricing Model (APM)
1 1 2 2( ) ( ) ....
s f f f k r E F r E F r F F !
- -
here ( k) = the expected rate o return on a port olio that mimics the kth actor and is
independent o all others.
eta k = the sentivity o the stock return to the kth actor.
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Synergy a Quest for Holy Grail
October 24 2002 Synergy in Mergers & Acquisitions 40
Lessons from history:Lessons from history:
Quaker Oats boughtQuaker Oats bought in 1994in 1994 Snapple for $ 1,7 bn.Snapple for $ 1,7 bn.
$ 500 mil. lost on announcement, $ 100 mil. a year later$ 500 mil. lost on announcement, $ 100 mil. a year later
Snapple was spun off 2 years later at 20% of priceSnapple was spun off 2 years later at 20% of price
AnheuserAnheuser--BuschBusch bought in 1982bought in 1982 CampbellCampbell--TaggartTaggartat $ 560 milat $ 560 mil
closed down after 13y of struggling for survivalclosed down after 13y of struggling for survival
IBMIBM boughtbought LotusLotus for $ 3,2 bn. (more than 100% premium)for $ 3,2 bn. (more than 100% premium)
probably never to be recoupedprobably never to be recouped
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Drivers of Synergy
October 24 2002 Synergy in Mergers & Acquisitions 41
INITIAL FACTORS INTERNAL FACTORS
SYNERGY
Strategy
Operations
Contested
vs.
Uncontested
Acquisition
Premium
System
Integration
Strategic
Relatedness
Managerial
Risk Taking
Relative
Size
Method of
Payment
Control and
Culture
Time
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SEBI TAKEOVER CODE
Disclosure
Trigger point
Merchant banker
Public announcement
Offer price
Obligations of the acquirer
Obligations of the board of the target company
Competitive bids
Provision of escrow
Creeping acquisition
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TAKEOVER DEFENCES
MAKE PREFERENTIAL ALLOTMENTS
EFFECT CREEPING ENHANCEMENTS
SEARCH FOR A WHITE KNIGHT
GESCO MAHINDRA . . DALMIAS
SELL THE CROWN JEWELS
AMALGAMATE GROUP COMPANIES
RESORT TO BUYBACK OF SHARES LOBBY WITH GOVT AND SEBI
BOMBAY DYEING . . BARJORIA
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BUSINESS ALLIANCES
Business alliances such as joint ventures, strategic alliances,
equity partnerships, licensing, franchising alliances, and
network alliances have grown significantly. In many situations,
well-designed business alliances are viable alternatives to
mergers and acquisitions
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COMMON FORMS OF BUSINESS ALLIANCES
Joint ventures
Strategic alliances
Equity partnership
Licensing
Franchising alliance
Network alliance
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RATIONALE FOR BUSINESS ALLIANCES
Sharing risks and resources
Access to new markets
Cost reduction
Favourable regulatory treatment
Prelude to acquisition or exit
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COLLECTIVE WISDOM ON MERGERS AND
ACQUISITONS
The extensive research on mergers and acquisitions suggests the
following:
Mergers and acquisitions thrive during periods of stock market buoyancy.
Acquirers usually pay too much. This benefits the shareholders of the target
company but hurts the shareholders of the acquiting company.
CEOs fall in love with deals and dont walk away when they should.
Serial acquirers are likely to succeed more than infrequent buyers.
Compared to purchase of public companies, acquisition of private companies is a
more reliable way of adding value and generating superior returns for buyers.
Related acquisitions are likely to generate higher returns than unrelated purchases.
Integration is hard to pull off.
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DIVESTITURES
Mergers, asset purchases, and takeovers lead to
expansion in some way or the other. They are based
on the principle of synergy which says 2 + 2 = 5!
Divestitures, on the other hand, involve some kind ofcontraction. It is based on the principle of anergy
which says 5 3 = 3!
PARTIAL SELL OFF
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PARTIAL SELL-OFF
A partial selloff, also called slump sale, involves the sale of a business
unit or plant of one firm to another. It is the mirror image of a
purchase of a business unit or plant. From the sellers perspective, itis a form of contraction; from the buyers point of view it is a form
of expansion..
Motives for Sell off
Raising capital
Curtailment of losses
Strategic realignment
Efficiency gain
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DEMERGERS
A demerger results in the transfer by a company of one or more of its
undertakings to another company. The company whose undertaking is
transferred is called the demerged company and the company (or the
companies) to which the undertaking is transferred is referred to as the
resultingcompany.
A demerger may take the form of a spinoff or a split-up. In a
spinoff an undertaking or division of a company is spun off into anindependent company. After the spinoff, the parent company and the spun
off company are separate corporate entities. In a split-up, a company is
split up into two or more independent companies. As a sequel, the parent
company disappears as a corporate entity and in its place two or more
separate companies emerge.
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EQUITY CARVEOUT
In an equity carveout, a parent company sells a portion of its
equity in a wholly owned subsidiary. The sale may be to thegeneral investing public or to a strategic investor.
An equity carveout differs from a spin off in the
following ways: (a) In a spinoff the shares of the spun off company are distributed to the existing shareholders of the
parent company, whereas in an equity carveout the shares
are sold to new investors. (b) An equity carveout brings cash
infusion to the parent company, whereas a spin off does not.
Equity carveouts are undertaken to bring cash to the
parent and to induct a strategic investor in a subsidiary.
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LEVERAGED BUYOUT
A leveraged buyout involves transfer of ownership consummated
mainly with debt. While some leveraged buyouts involve a company
in its entirety, most involve a business unit of a company. Often the
business unit is bought out by its management and such a transaction is
called management buyout (MBO). After the buyout, the company (or
the business unit) invariably becomes a private company.
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SUMMING UP
Mergers, takeovers, divestitures, spinoffs, and so on, referred to
collectively as corporate restructuring have become a major forcein the financial and economic environment all over the world
Corporate restructuring can occur in myriad ways. Business firms
resort to a variety of activities that lead to expansion, selloffs, and
changes in ownership and control.
Mergers represent a very important form of corporate
restructuring. Mergers, as used in financial literature, subsume
both absorption and consolidation.
A takeover generally involves the acquisition of a certain block of
equity capital of a company which enables the acquirer to exercise
control over the affairs of the company.
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ETHICAL ISSUE IN MEREGER AND ACQUISISTION
What Does Poison PillMean?
A strategy used by corporations to discourage hostile
takeovers. With a poison pill, the target company attempts to
make its stock less attractive to the acquirer. There are two
types of poison pills:
1. A "flip-in" allows existing shareholders (except the acquirer)
to buy more shares at a discount.
2. A "flip-over" allows stockholders to buy the acquirer's
shares at a discounted price after the merger.
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What Does ScorchedEarth PolicyMean?
An anti-takeover strategy that a firm undertakes by
liquidating its valuable and desired assets and assuming
liabilities in an effort to make the proposed takeover
unattractive to the acquiring firm
What Does Suicide PillMean?
A defensive strategy by which a target company engages in an
activity that might actually ruin the company rather thanprevent the hostile takeover. Also known as the "Jonestown
Defense."
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What Does Share Purchase Rights Mean?
A type of security that gives the holder the option, but not the
obligation, to purchase a predetermined number of shares at
a predetermined price. This is similar to a stock option or
warrant. These rights are typically distributed to existingshareholders, who have the ability to trade these rights on an
exchange
What Does People PillMean?
A defensive strategy to ward off a hostile takeover.Management threatens that, in the event of a takeover, the
entire management team will resign
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What Does Shark RepellentMean?
Slang term for any one of a number of measures taken by a company to
fend off an unwanted or hostile takeover attempt. In many cases, a
company will make special amendments to its charter or bylaws that
become active only when a takeover attempt is announced or presented
to shareholders with the goal of making the takeover less attractive or
profitable to the acquisitive firm.
Also known as a "porcupine provision
What Does Macaroni Defense Mean?
An approach taken by a company that does not want to be taken over. Thecompany issues a large number of bonds with the condition they must be
redeemed at a high price if the company is taken over
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What Does Lobster Trap Mean?
A strategy used by a target firm to prevent a hostile takeover.
In a lobster trap, the company passes a provision preventing
anyone with more than 10% ownership from converting
convertible securities into voting stock.
What Does WhitemailMean?
A strategy that a takeover target uses to try and thwart an
undesired takeover attempt. The target firm issues a large
amount of shares at below-market prices, which the acquiringcompany will then have to purchase if it wishes to complete
the takeover
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What Does Sleeping BeautyMean?
A company that is prime for takeover but has not been
approached by an acquiring company.
A company may be considered a sleeping beauty because it
has large cash reserves, undervalued real estate, or huge
potential.
What Does Sandbag Mean?
A stalling tactic used by management to deter a company that
is showing interest in taking them over.
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What Does LadyMacbethStrategyMean?
A corporate-takeover strategy with which a third party poses as a white
knight to gain trust, but then turns around and joins with unfriendly
bidders.
What Does White KnightMean?
A company that makes a friendly takeover offer to a target company that
is being faced with a hostile takeover from a separate party.
What Does Black KnightMean?
A company that makes a hostile takeover offer on a target company.
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What Does GrayKnightMean?
A second, unsolicited bidder in a corporate takeover. A gray knight enters
the scene in order to take advantage of any problems between the first
bidder and the target company.
What Does Yellow KnightMean?
A company that was once making a takeover attempt but ends up
discussing a merger with the target company.
What Does Crown Jewels Mean?
The most valuable unit(s) of a corporation, as defined by characteristics
such as profitability, asset value and future prospects. The origins of this
term are derived from the most valuable and important treasures
that sovereigns possessed.
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What Does BankmailMean?
An agreement made between a company planning a
takeover and a bank, which prevents the bank from
financing any other potential acquirer's bid. What Does PacMan Mean?
A form of defence used in a hostile takeover
situation. The target firm turns around and tries to
take over the company that has made the hostile bid.
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What Does Safe HarborMean?
1. A legal provision to reduce or eliminate liability as long as
good faith is demonstrated.
2. A form of shark repellent implemented by a target companyacquiring a business that is so poorly regulated that the target
itself is less attractive. In effect, this gives the target company
a "safe harbor."
3. An accounting method that avoids legal or tax regulations
and allows for a simpler method (usually) of determining a tax
consequence than those methods described by the precise
language of the tax code.
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In the United States, the anti hostile takeover defences can be categorized into the following
types:Bankmail
Back-end
Flip-in
Crown Jewel Defense
Golden Parachute Flip-over
Greenmail
Gray Knight
Killer bees
Jonestown Defense
Lobster trap Leveraged recapitalization
MacaroniDefense
Lock-up provision
Non-voting stock
Nancy Reagan Defense
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Pension parachute
PacmanDefense
Poison pill
People Pill
Safe Harbor
Poison Put Shark Repellent
Scorched earth defense
Standstill agreement
Staggered board of directors
Targeted repurchase
Suicide pill
Treasury stock
Top-ups
Voting plans
Trigger
White Squire