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Introduction
The Indian economy has been growing with a rapid pace and has been
emerging at the top, be it IT, R&D, pharmaceutical,
infrastructure, energy, consumer retail, telecom, financial
services, media, and hospitality etc. It is second fastest growing
economy in the world with GDP touching 9.3 % last year. This
growth momentum was supported by the double digit growth of the
services sector at 10.6% and industry at 9.7% in the first quarter
of 2006-07. Investors, big companies, industrial houses view
Indian market in a growing and proliferating phase, whereby
returns on capital and the shareholder returns are high. Both the
inbound and outbound mergers and acquisitions have increased
dramatically. According to Investment bankers, Merger &
Acquisition (M&A) deals in India will cross $100 billion this
year, which is double last year’s level and quadruple of 2005.
In the first two months of 2007, corporate India witnessed deals
worth close to $40 billion. One of the first overseas acquisitions
by an Indian company in 2007 was Mahindra & Mahindra’s takeover of
90 percent stake in Schoneweiss, a family-owned German company
with over 140 years of experience in forging business. What hit
the headlines early this year was Tata’s takeover of Corus for
slightly over $10 billion. On the heels of that deal, Hutchison
Whampoa of Hong Kong sold their controlling stake in Hutchison-Essar
to Vodafone for a whopping $11.1 billion. Bangalore-based MTR’s
packaged food division found a buyer in Orkala, a Norwegian
company for $100 million. Service companies have also joined the
M&A game.
The taxation practice of Mumbai-based RSM Ambit was acquired by
PricewaterhouseCoopers. There are many other bids in the pipeline.
On an average, in the last four years corporate earnings of
companies in India have been increasing by 20-25 percent,
contributing to enhanced profitability and healthy balance sheets.
For such companies, M&As are an effective strategy to expand their
businesses and acquire global footprint.
Mergers or amalgamation, result in the combination of two or more
companies into one, wherein the merging entities lose their
identities. No fresh investment is made through this process.
However, an exchange of shares takes place between the entities
involved in such a process. Generally, the company that survives
is the buyer which retains its identity and the seller company is
extinguished.
Definitions:
Mergers, acquisitions and takeovers have been a part of the
business world for centuries. In today's dynamic economic
environment, companies are often faced with decisions concerning
these actions - after all, the job of management is to maximize
shareholder value. Through mergers and acquisitions, a company can
(at least in theory) develop a competitive advantage and
ultimately increase shareholder value. The said terms to a layman
may seem alike but in legal/ corporate terminology, they can be
distinguished from each other:
#
Merger:
A full joining together of two previously separate corporations. A
true merger in the legal sense occurs when both businesses
dissolve and fold their assets and liabilities into a newly
created third entity. This entails the creation of a new
corporation.
#
Acquisition:
Taking possession of another business. Also called a takeover or
buyout. It may be share purchase (the buyer buys the shares of the
target company from the shareholders of the target company. The
buyer will take on the company with all its assets and
liabilities. ) or asset purchase (buyer buys the assets of the
target company from the target company)
In simple terms, A merger involves the mutual decision of two
companies to combine and become one entity; it can be seen as a
decision made by two "equals", whereas an acquisition or takeover
on the other hand, is characterized the purchase of a smaller
company by a much larger one. This combination of "unequals" can
produce the same benefits as a merger, but it does not necessarily
have to be a mutual decision. A typical merger, in other words,
involves two relatively equal companies, which combine to become
one legal entity with the goal of producing a company that is
worth more than the sum of its parts. In a merger of two
corporations, the shareholders usually have their shares in the
old company exchanged for an equal number of shares in the merged
entity. In an acquisition, the acquiring firm usually offers a
cash price per share to the target firm’s shareholders or the
acquiring firm's share's to the shareholders of the target firm
according to a specified conversion ratio. Either way, the
purchasing company essentially finances the purchase of the target
company, buying it outright for its shareholders
#
Joint Venture:
Two or more businesses joining together under a contractual
agreement to conduct a specific business enterprise with both
parties sharing profits and losses. The venture is for one
specific project only, rather than for a continuing business
relationship as in a strategic alliance.
#
Strategic Alliance:
A partnership with another business in which you combine efforts
in a business effort involving anything from getting a better
price for goods by buying in bulk together to seeking business
together with each of you providing part of the product. The basic
idea behind alliances is to minimize risk while maximizing your
leverage.
#
Partnership:
A business in which two or more individuals who carry on a
continuing business for profit as co-owners. Legally, a
partnership is regarded as a group of individuals rather than as a
single entity, although each of the partners file their share of
the profits on their individual tax returns.
Many mergers are in truth acquisitions. One business actually buys
another and incorporates it into its own business model. Because
of this misuse of the term merger, many statistics on mergers are
presented for the combined mergers and acquisitions (M&A) that are
occurring. This gives a broader and more accurate view of the
merger market .
Types of Mergers:
From the perception of business organizations, there is a whole
host of different mergers. However, from an economist point of
view i.e. based on the relationship between the two merging
companies, mergers are classified into following:
#
Horizontal merger-
Two companies that are in direct competition and share the same
product lines and markets i.e. it results in the consolidation of
firms that are direct rivals. E.g. Exxon and Mobil, Ford and
Volvo, Volkswagen and Rolls Royce and Lamborghini
#
Vertical merger-
A customer and company or a supplier and company i.e. merger of
firms that have actual or potential buyer-seller relationship eg.
Ford- Bendix, Time Warner-TBS.
#
Conglomerate merger-
generally a merger between companies which do not have any common
business areas or no common relationship of any kind. Consolidated
firma may sell related products or share marketing and
distribution channels or production processes. Such kind of merger
may be broadly classified into following:
#
Product-extension merger
- Conglomerate mergers which involves companies selling different
but related products in the same market or sell non-competing
products and use same marketing channels of production process.
E.g. Phillip Morris-Kraft, Pepsico- Pizza Hut, Proctor and Gamble
and Clorox
#
Market-extension merger
- Conglomerate mergers wherein companies that sell the same
products in different markets/ geographic markets. E.g. Morrison
supermarkets and Safeway, Time Warner-TCI.
#
Pure Conglomerate merger-
two companies which merge have no obvious relationship of any
kind. E.g. BankCorp of America- Hughes Electronics.
On a general analysis, it can be concluded that Horizontal mergers
eliminate sellers and hence reshape the market structure i.e. they
have direct impact on seller concentration whereas vertical and
conglomerate mergers do not affect market structures e.g. the
seller concentration directly. They do not have anticompetitive
consequences.
The circumstances and reasons for every merger are different and
these circumstances impact the way the deal is dealt, approached,
managed and executed. .However, the success of mergers depends on
how well the deal makers can integrate two companies while
maintaining day-to-day operations. Each deal has its own flips
which are influenced by various extraneous factors such as human
capital component and the leadership. Much of it depends on the
company’s leadership and the ability to retain people who are key
to company’s on going success. It is important, that both the
parties should be clear in their mind as to the motive of such
acquisition i.e. there should be census- ad- idiom. Profits,
intellectual property, costumer base are peripheral or central to
the acquiring company, the motive will determine the risk profile
of such M&A. Generally before the onset of any deal, due diligence
is conducted so as to gauze the risks involved, the quantum of
assets and liabilities that are acquired etc.
Legal Procedures for Merger, Amalgamations and Take-overs
The basis law related to mergers is codified in the Indian
Companies Act, 1956 which works in tandem with various regulatory
policies. The general law relating to mergers, amalgamations and
reconstruction is embodied in sections 391 to 396 of the Companies
Act, 1956 which jointly deal with the compromise and arrangement
with creditors and members of a company needed for a merger.
Section 391 gives the Tribunal the power to sanction a compromise
or arrangement between a company and its creditors/ members
subject to certain conditions. Section 392 gives the power to the
Tribunal to enforce and/ or supervise such compromises or
arrangements with creditors and members. Section 393 provides for
the availability of the information required by the creditors and
members of the concerned company when acceding to such an
arrangement. Section 394 makes provisions for facilitating
reconstruction and amalgamation of companies, by making an
appropriate application to the Tribunal. Section 395 gives power
and duty to acquire the shares of shareholders dissenting from the
scheme or contract approved by the majority.
And Section 396 deals with the power of the central government to
provide for an amalgamation of companies in the national interest.
In any scheme of amalgamation, both the amalgamating company or
companies and the amalgamated company should comply with the
requirements specified in sections 391 to 394 and submit details
of all the formalities for consideration of the Tribunal. It is
not enough if one of the companies alone fulfils the necessary
formalities. Sections 394, 394A of the Companies Act deal with the
procedures and the requirements to be followed in order to effect
amalgamations of companies coupled with the provisions relating to
the powers of the Tribunal and the central government in the
matter of bringing about amalgamations of companies.
After the application is filed, the Tribunal would pass orders
with regard to the fixation of the dates of the hearing, and the
provision of a copy of the application to the Registrar of
Companies and the Regional Director of the Company Law Board in
accordance with section 394A and to the Official Liquidator for
the report confirming that the affairs of the company have not
been conducted in a manner prejudicial to the interest of the
shareholders or the public. Before sanctioning the scheme of
amalgamation, the Tribunal has also to give notice of every
application made to it under section 391 to 394 to the central
government and the Tribunal should take into consideration the
representations, if any, made to it by the government before
passing any order granting or rejecting the scheme of
amalgamation. Thus the central government is provided with an
opportunity to have a say in the matter of amalgamations of
companies before the scheme of amalgamation is approved or
rejected by the Tribunal.
The powers and functions of the central government in this regard
are exercised by the Company Law Board through its Regional
Directors. While hearing the petitions of the companies in
connection with the scheme of amalgamation, the Tribunal would
give the petitioner company an opportunity to meet all the
objections which may be raised by shareholders, creditors, the
government and others. It is, therefore, necessary for the company
to keep itself ready to face the various arguments and challenges.
Thus by the order of the Tribunal, the properties or liabilities
of the amalgamating company get transferred to the amalgamated
company. Under section 394, the Tribunal has been specifically
empowered to make specific provisions in its order sanctioning an
amalgamation for the transfer to the amalgamated company of the
whole or any parts of the properties, liabilities, etc. of the
amalgamated company. The rights and liabilities of the employees
of the amalgamating company would stand transferred to the
amalgamated company only in those cases where the Tribunal
specifically directs so in its order.
The assets and liabilities of the amalgamating company
automatically gets vested in the amalgamated company by virtue of
the order of the Tribunal granting a scheme of amalgamation. The
Tribunal also make provisions for the means of payment to the
shareholders of the transferor companies, continuation by or
against the transferee company of any legal proceedings pending by
or against any transferor company, the dissolution (without
winding up) of any transferor company, the provision to be made
for any person who dissents from the compromise or arrangement,
and any other incidental consequential and supplementary matters
to secure the amalgamation process if it is necessary. The order
of the Tribunal granting sanction to the scheme of amalgamation
must be submitted by every company to which the order applies
(i.e., the amalgamating company and the amalgamated company) to
the Registrar of Companies for registration within thirty days.
Motives behind M & A
These motives are considered to add shareholder value:
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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.
#
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.
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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.
#
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).
#
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.
#
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.
#
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.
#
Improved market reach and industry visibility -
Companies buy companies to reach new markets and grow revenues and
earnings. A merge may expand two companies' marketing and
distribution, giving them new sales opportunities. A merger can
also improve a company's standing in the investment community:
bigger firms often have an easier time raising capital than
smaller ones.
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. As per Mr D.S Brar (former C.E.O of
Ranbaxy pharmaceuticals), few reasons for M&A’s are:
# 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
Conclusion
In real terms, the rationale behind mergers and acquisitions is
that the two companies are more valuable, profitable than
individual companies and that the shareholder value is also over
and above that of the sum of the two companies. Despite negative
studies and resistance from the economists, M&A’s continue to be
an important tool behind growth of a company. Reason being, the
expansion is not limited by internal resources, no drain on
working capital - can use exchange of stocks, is attractive as tax
benefit and above all can consolidate industry - increase firm's
market power.
With the FDI policies becoming more liberalized, Mergers,
Acquisitions and alliance talks are heating up in India and are
growing with an ever increasing cadence. They are no more limited
to one particular type of business. The list of past and
anticipated mergers covers every size and variety of business --
mergers are on the increase over the whole marketplace, providing
platforms for the small companies being acquired by bigger ones.
The basic reason behind mergers and acquisitions is that
organizations merge and form a single entity to achieve economies
of scale, widen their reach, acquire strategic skills, and gain
competitive advantage. In simple terminology, mergers are
considered as an important tool by companies for purpose of
expanding their operation and increasing their profits, which in
façade depends on the kind of companies being merged. Indian
markets have witnessed burgeoning trend in mergers which may be
due to business consolidation by large industrial houses,
consolidation of business by multinationals operating in India,
increasing competition against imports and acquisition activities.
Therefore, it is ripe time for business houses and corporates to
watch the Indian market, and grab the opportunity.
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The
author can be reached at: navpreet@legalserviceindia.com/
