Particulars
PAT (Rs '000) Equity shares ('000) P/E ratio EPS (Rs) Net worth (Rs 000) Book value per share (Rs) (1) Exchange ratio: 1 A share: 1 B shares: Number of shares after merger (‘000): 50 + (1 x 5) PAT after merger (Rs ‘000): 100 + 20 EPS (Rs): 120/55 Market value per share (Rs) Market value exchange ratio Book value per share (Rs) (2) Exchange ratio: 3 A shares: 2 B shares: Number of shares after merger ('000): (50 + 5/2 x3) PAT after merger with (Rs '000): (100 + 20) x 1.20 EPS after merger (Rs): 144/57.5 Book value per share (Rs)
Q.7. A.7.
Q.8. A.8.
Before merger A
B
100 50 20 2 750 15
20 5 10 4 60 12
After merger AB
55 120 2.18 40
40 1 14.73 57.5 144 2.50 14.09
When do mergers make economic sense? Explain. A merger results into an economic advantage when the combined firms are worth more together than as separate entities. Merger benefits may result from economies of scale, economies of vertical integration, increased efficiency, tax shields or shared resources. What do you mean by ‘tender offer’? What tactics are used by a target company to defend itself from a hostile takeover? A tender offer is a formal offer to purchase a given number of a company’s shares at a specific price. Tender offer can be used in two situations. First, the acquiring company may directly approach the target company for its takeover. If the target company does not agree, then the acquiring company may directly approach the shareholders by means of a tender offer. Second, the tender offer may be used without any negotiations, and it may be tantamount to a hostile takeover. A target company in practice adopts a number of tactics to defend itself from hostile takeover through a tender offer. These tactics include: Divestiture • Crown jewels • Poison pill • Greenmail • White knight • Golden parachutes •
Q.9. A.9.
What do you understand by leveraged buyout and management buyout? Explain the steps involved in the evaluation of LBO? A leveraged buyout (LBO) is an acquisition of a company in which the acquisition is substantially financed through debt. When the managers buy their company from its owners employing debt, the leveraged buyout is called management buyout (MBO). The evaluation of LBO transactions involves the same analysis as for mergers and acquisitions. The DCF approach is used to value an LBO. As LBO transactions are heavily financed by debt, the risk of lender is very high. Therefore, in most deals, they require a stake in the ownership of the acquired firm.
Q.10. What leads to the failure of a merger or acquisition? How should a company ensure that merger or acquisition is successful? A.10. Reasons responsible for the failure of a merger or acquisition are:1. Excessive premium 2. Faulty Evaluation 3. Lack of research 4. Failure to manage post merger integration A company can ensure that the merger and acquisition is successful by proper planning, search and screening, financial evaluation and most importantly, postmerger integration. Q.11. What are the problems of post-merger integration? How can integration be achieved? A.11. Problems of post-merger integration are:1. Deciding authority and responsibility of employees 2. Cultural integration of the employees 3. Skill and competencies upgradation 4. Structural adjustments 5. Control systems Peter Drucker provides the following five rules for the integration process: Ensure that the acquired firm has a “common core of unity” with the parent. They should have overlapping characteristics like shared technology or markets to exploit synergies. The acquirer should think through what potential skill contribution it can make to the acquiree. The acquirer must respect the products, markets and customers of the acquired firm. The acquirer should provide appropriately skilled top management for the acquiree with in a year. The acquirer should make several cross-company promotion within a year.
Q.12. What is the difference between the pooling of interest and purchase methods of accounting for mergers? Illustrate your answer.
A.12. The merger should be structured as pooling of interest. In the case of acquisition, where the acquiring company purchases the shares of the target company, the acquisition should be structured as a purchase. In the pooling of interests method of accounting, the balance sheet items and the profit and loss items of the merged firms are combined without recording the effects of merger. This implies that assets, liabilities and other items of the acquiring and the acquired firms are simply added at the book values without making any adjustments. Thus, there is no revaluation of assets or creation of goodwill. Under the purchase method , the assets and liabilities of the acquiring firm after the acquisition of the target firm may be stated at their exiting carrying amounts or at the amounts adjusted for the purchase price paid to the target company. The assets and liabilities after merger are generally re-valued under the purchase method. If the acquirer pays a price greater than the fair market value of assets and liabilities, the excess amount is shown as goodwill in the acquiring company’s books. On the contrary, if the fair value of assets and liabilities is less than the purchase price paid, then this difference is recorded as capital reserve.
