Corporate restructuring
• Mergers & Amalgamations and Take overs
• Term debt restructuring
• Divestments
• Demerger
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Corporate Reorganisations
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To create long term holding structures
Cohesiveness in group structure and corporate objectives
Faster growth rate then an organic growth rate
To enter into a new market or grow beyond a saturated market
To capture forward and backward linkages in the value chain
To attain control on a larger fund / manufacturing base / Resources /
Intellectual property rights / patents etc.
To attain or better utilise tax covers
To facilitate distribution of assets and family settlements
To exit non-core business
Valuation of business
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Forms of Corporate Restructuring
• Expansions
- Mergers & Acquisitions
- Tender offers / Take over
- JVs / Asset acquisition
• Sell-offs
- Spin offs
- Divestitures / Demergers
• Corporate Control
- Share buybacks
- Defence mechanisms
• Changes in Ownership structure
- Swaps
- Going private
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Restructuring - key issues
COMMERCIAL
LEGAL
Scales of Operation
Identify markets
Prioritise resources allocated
Tax,Regulatory
Direct / Indirect
Cost of restructuring
FINANCIAL
Operational
Exsisting group networth
Promoter funding / resources Managerial bandwidth
Future funding / internal reqt. Stratergic alliances
Exsisting level of expertise
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Dilution Management
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Rights Renounciation
Preferential allotment of shares to Promoters
Private placement to Promoter group
Issue of convertibles
Creeping acquisition
Share Buyback
Shares with differential rights
Delisting of shares
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Merger
• Defined as the fusion or absorbtion of one Co into another.
• It is an arrangement whereby assets of two or more
companies become vested in , or under the control of one
Co.
• One of the two existing Co merges its identity into another
existing Co or one or more existing Co may form another
Co.
• Allotment of shares will be done in accordance with the
share exchange ratio incorporated in the scheme of merger.
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Amalgamation
• Amalgamation is the process by which two or more
companies are joined together to form a new identity
• It is an arrangement to bring assets of two companies
under the control of one which may or may not be one of
the original companies.
• For the purpose s of companies act Mergers &
Amalgamations are synonymous.
• The former loses its entity and is dissolved without
winding up.
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Rationale
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Low promoter holdings
Market capitalisation lower than book value
Low book values vis-a vis high replacement value
Under performing businesses
Sectoral growth potential
Swift addition of facilities , personnel & processes
Tax efficiency / savings
Diversification
Access to inputs
Defensive considerations
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Operating or Financial Synergy
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Greater pricing power
Combination of functional strengths
Higher growth in emerging markets
Debt capacity increase
Tax benefits
Value of control
Reduced risk resulting in improvement of credit
rating
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Mergers
Types of merger :
1. Horizontal merger :
Merger of companies in same business segments.
2. Vertical mergers :
Merger of companies which would result in either
backward/forward integration.
3. Conglomerate merger :
Unrelated business
4. Concentric merger
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Structuring an M & A transaction
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Evaluate options
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Finalise strategy
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Due diligence
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Valuation / Negotiations
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Preparation of a scheme of merger / Amalgamation
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Board meeting / Application to High court
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Notices and General body meeting
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Approval by court
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Steps in a Valuation
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Calculate NOPAT and invested capital
Calculate value drivers
Develop an integrated historical perspective
Analyze financial health
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Understand strategic position
Develop performance scenarios
Forecast individual line items
Check overall forecast for reasonableness
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Develop target market value weights
Estimate cost of non equity financing
Estimate cost of equity financing
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Select appropriate technique
Select forecast horizon
Estimate the parameters
Discount continuing value to present
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Calculate and test results
Interpret results within decision context
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Methods of Valuation
Asset Based
Market Based
Earning based
• Realisable
• Price/Earning • Discounted
Value
Cash Flow
• Price /Book
• Adjusted NAV Value
• Earnings
• Replacement • Current market capitalisation
cost
price
• Comparable
multiples
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Balance sheet approach
• Based on NAV & book value
• Establishes minimum / floor price at which seller may like
to sell
• Method pertinent when value of intangibles is not
significant & business is recently set up
• Takes into account amount historically spent & earned and
does not consider future earnings potential and hence is
seldomly used for a going concern
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Transaction multiples with comparable’s
• Select comparable firms with operational and structural
similarities
• Value paid for similar transactions in the industry with
benchmarks
• EBITDA capitalised to get appropriate value
• Sales / EPS / BV multiples
• EV / EBITDA multiple
• Conversion of Equity to Debt will reduce EV thereby
improving the EV /EBIDTA multiple
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Discounted Free cash flows
• Forecast free cash flows for the future
• Establish discounting factor
• Discount free cash flows
• PV of future free cash flows would be the capitalised value
of equity
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Enterprise valuation
• Using free cash flow discounting approach determine
value of equity
• Determine value of debt outstanding on date
• Enterprise value = Equity valuation + Value of debt
• EV / EBITDA Multiple measures the degree of dispersion
in an inter firm analysis.( Lower the ratio the better )
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Ideal methodology for…
• Businesses which are a going concern
• Businesses which posses intangibles such as brand ,
technology,market leadership,goodwill,marketing &
distribution channels etc.
• Substantial undisclosed assets
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It takes into account….
• All available free cash flows to stake holders and it takes
into consideration the wacoc and associated risk factors.
• Value of core assets gets captured while non-core assets
need to be added separately
• Captures incremental capital cost for balancing /
modernisation / expansion with associated benefits.
• Intangibles like market share, technological superiority etc
gets factored in while in the other methods of valuation
they are ignored.
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Shortcomings
• The estimation of risk adjusted discount rate for base projects are
difficult to estimate.
• The cost of equity is a difficult proposition even with the use of CAPM
as the Beta used to value is an approximation at best.
• The WACC for the company changes with time. Estimation of WACC,
which remains valid in the future, is difficult.
• Many projects under taken by the company may have embedded real
options.
• The value of equity arrived at after the DCF process does not take into
consideration the default option exercisable by the shareholders
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Asset based Valuation
• Fair market value
• Realiseable value
• Adjusted book value
• Replacement cost
• Depreciated replacement cost (New price-WDV )
• Ideal methodology in the event of liquidation / closure
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Impact of key variables on value creation
Example: Acquistion of two Thai telecommunications companies
Worst case
Expected Case
Best case
Net value to buyer
100
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-50
Economic outlook GDP grows more slowly
than expected in the next
5 years(0-1% in reals terms)
Demand is at low end of
forecast
Regulation
Operational consolidation
prohibited
Many new licences issued
Royalties to regulatory
bodies remain
Level of
Many new entrants to the
Competion
market
market shares fall after
2-3 years
Revenues per subscriber
fall faster than expected
GDP grows as expected
in the next 5 years(3-4%
in real terms)
Demand meets base case
forecast
Operational consolidation
allowed
New licences limited
Royalties to rgulatory
bodies remain
Few new entrants to the
market
Market shares rise
gradually, then stabilize
Revenues per subscriber
falls slowly
GDP grows faster than
expected in the next 5
years (5-7% in real terms.
Demand is at hig end
of forecast
Operational consolidation
allowed
No new licences issued
Royalties to regulatory
bodies diminish
No new entrants to the
market
Market shares rise steadily
over the next few years
Revenues per subscriber
fall after 2-3 years
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Exchange Ratios
• EPS based
firms could follow different accounting policies
• Book value based
historical value of assets may not account for current market
realizations
• NAV based
will have to necessitate revaluation of assets
• Market price based
average price over a period of time.
only applicable if both the firms are listed
It is based on the discounted value of future earnings incorporating
risk
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Exchange ratios
• Capitalisation rate based
used when firms are not listed or frequently traded
uses EPS as a base with an appropriate PE multiple
has element of judgment attached to it.
• Composite based
frequently used methodology
combination of above methods with weights for each
multiple regression model
weights can be highly subjective
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Bid Range
Valuation range
- Return criteria
- Other bidders
- Vision of future value
- Other acquisition opportunities
- Defensive considerations
- Financing constrainst
- Buyer’s long-term objectives
- Dilution
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Transaction structure
• Upfront 100% Exit
• Phased exit
• Continual holding with minority rights
• Continual holding with majority rights
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Shareholders agreement
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Earn out mechanism for loss of value
ROFR with tag / drag along
Asset stripping
White knight structuring of powers / rights / obligations
Board representation
Voting arrangements / management control
Estoppel powers
Affirmative rights for specific items
Put / call options between inter-se holders
Post closing adjustments
Raising of Capital
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Value drivers
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Effects of regulatory framework
Market leadership
Synergies in capacity imbalances
Business fit
Brand acquisition / withdrawal
Backward / forward integration resulting in integration of
operations
• Prevent shake out effect
• Barrier to entry
• High replacement cost
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Value Discharge
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Earn out mechanism
Profit from current year other revenues
Cash
Debt discharge
Liability guarantee take over
Issuance of shares of new company
Asset sale
Sale of Brands
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Valuation of intangibles
• Brands – including brands of goods and corporate names
• Publishing rights
• Intellectual property – patents, copyrights, trademarks
• Licenses – distribution rights, franchises
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Special valuation situations
• Valuation of cyclical firms
• Valuation of firms in financial distress
• Valuation of thinly traded/illiquid shares
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Legal & Regulatory framework for Mergers,
Acquisitions and Takeovers
- Companies act 1956 & 2000
- FEMA
- Income tax act, 1961
- SEBI guidelines
- FIPB guidelines
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M&A under Companies act
Provisions contained under sections 390 to 396A contain the following :
1. There should be a scheme of arrangement
2. Holding a meeting of shareholders in terms of
direction of the high court.
3. Scheme to be approved by 75% in value of creditors
and shareholders.
4. Application to Court for scantion of scheme.Court’s order
binding on all but appeal able in a superior court.
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Scheme of Amalgamation
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Effective date.
2.
Capital structure of the transferor & transferee co.
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Share exchange ratio
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Transfer of undertaking and liabilities and continuance of legal
proceedings by the transferee co.
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Transfer of contracts , services of employees
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Allotment date of transferee co shares
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Dissolution of transferor co.
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Conditions subject to which the scheme is to take effect.
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Statutory Approvals
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Approval of board of directors
Approval of shareholders and creditors
Approval of Financial institutions
Approval of Land owners
Approval of the High court
Approval of RBI
Notice to Central Government
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SEBI Take over code
• Acquirer must disclose to Company / stock exchange upon acquisition of
5% of shares.
• Public offer mandatory once acquirer acquires more than 15% of the
company’s shares
• Public offer at 6 months average or 2 weeks which ever is higher.
• Minimum 20% of the voting capital must be acquired from the public
• Upward revisions in price /quantity can be made upto 7 days prior to the
closure of the offer.
• In a PSU disinvestments a subsequent Put / call option will not trigger a
public offer if it is a part of SHA.
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SEBI Take over code
• The date of opening of the offer shall be within 16 days of the public
announcement and shall remain open for a period of 30 days.
• In a PSU disinvestments public offer will have to be at the offer price by
SP to Govt. or last 6 months weekly average which ever is higher.
• Counter offer within 21 days
• Persons acting in Concert – broad definition
• Maintaining of Escrow cover and security deposits with the Merchant
bankers
• Creeping acquisition upto 5% per annum will not trigger take over code
from 15% to 75%.
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Taxation Aspects
• Benefit u/s 72 A of carry forward & set off of accumulated
loss and unabsorbed depreciation allowed in the event the
transferee co holds for a minimum period of 5 years 75% of
the value of the assets and continues the business of the
amalgamated co also for a period of 5 years.
• Capital gains tax not applicable since it does not involve sale
, relinquishment or exchange.
• Amortisation of preliminary expenses allowed
• Tax aspects on slump sale
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Asset purchase: Pros
- Enables acquisition of identified assets only
- Enables purchase of depreciable assets at high value, therby
getting future tax shields
- Enables keeping off undesirable liabilities
- Need not absorb all employees
- Less due diligence
- Buyer can create a suitable SPV, does not have to put up with
shareholders of the selling company.
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Asset purchase: cons
- Tax inefficient for the seller
- Capital gains – long term on non depreciable assets, could be
short
term on depreciable assets
-Further taxation, when the proceeds are distributed to
shareholders as dividends (10% distribution tax)
- High transaction costs
- Stamp duty (conveyance)
- Sales tax, in certain cases
- Shareholder and lender consent required
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Share purchase: pros
- Immediate acquisition of an operating business
- Tax efficient for the seller (long term capital gains with
“indexation”)
- Lowest transaction costs (0.5% stamp duty, no sales tax)
- Quicker – in terms of third party approvals
- Consideration flows to shareholders directly
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Share Purchase: cons
- Buyer inherits all liabilities (disclosed and contingent)
- Buyer inherits all manpower
- A stricter and detailed due diligence
- In case of purchase of shares in a listed entity, takeover code
will get triggered in case of acquisition.
- Buyer has to put up with other shareholders of the company
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Funding corporate acquisitions
• Direct balance sheet financing by acquirer
• Thru a SPV with cross holdings
• Consortium of firms acting in concert as acquirers
• Combination of all cash / all stock / hybrid
• Objectives of share holders of acquiring firm differ from
those of acquired firm
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Funding corporate acquisitions equity
stock financing route
• Acquirer issues stock of his firm
• Cash outflows are prevented
• Ideal for companies in the sunrise industry or for firms with high
growth prospects who have yet to generate cash
• Dilution of EPS and shareholding of the existing shareholders will take
place
• As compared to debt tangible, cost being dividend does not increase
the fixed cost
• Synergetic benefits must pay for enhanced equity servicing as well as
the PE multiple of the merged entities must not fall which could
signify value destruction
• Risks as well as value from synergies will be shared by the share
holders of both the firms
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Equity stock financing
• In the event acquiring firms shares are perceivably under valued then it
may be in efficient to the acquirer firm as it’s cost of acquisition will
increase
• Will have an impact on the market perception of the acquirer firm and
could result in destruction of value as compared to a all cash
transaction
• Provisions of NBFC not applicable for SPV’s created for acquiring
PSU shares under the Disinvestment policy of GOI.
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Cash financing
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Entail heavy out flow of cash upfront ( PSU divestment )
Synergetic benefit must pay for interest cost.
Long term / medium term instruments
Impact of dilution of earnings due to interest burden
Impact on credit rating / debt appetite of acquirer
Use of warrants / debentures / convertible bonds
Sale of assets of not related business segment
In event of excessive liquidity short term sources could be deployed
Leveraging group companies through a SPV
May be in efficient to the share holders of the acquired firm due to tax
liabilities
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Transaction Strategy
Identify and review
stakeholder objectives
• Timing and Confidentiality
• Value expectations
• Management control and
other strategic
considerations
• Structuring considerations
in terms of tax, legal and
regulatory issues
• Strategic fit with Company
• Employee concerns
Structure a controlled
and competitive
process
• Review list of potential
partners
• Maintain information
control, process and timing
• Create and maintain
competitive tension
• Minimise disruption of
business operations
Devise and implement
the sale strategy
• Release of Advertisement
• Approach potential
partners with limited
information and solicit
preliminary interest
• Identify further shortlist
required, to proceed with
comprehensive due
diligence, solicit binding
bids, negotiate and select
successful bidder
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Transaction Methodology
PHASE 1
Define Objectives
Transaction
Structuring
Valuation
Documentation
Others
Release of
Advertisement
4 weeks
PHASE 2
Preliminary
interest by
potential partners
Review list of
potential partners
Circulate
Confidentiality
Undertaking and
Information
Memorandum
4 weeks
PHASE 3
Circulate due
diligence visit
rules
Data room and
site visits
Circulate Draft
Share
Purchase
Agreement
Pre-bid
conference
6 weeks
PHASE 4
PHASE 5
Receipt and
evaluation of
binding bids
Agreement
Signing
Recommendation
Statutory
Approvals
Winning bidder
selection
Closure
4 weeks
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3 weeks
Transaction Methodology
Phase 1
Definition
Restructuring, if
required
Objectives
• Maximise
proceeds
• Attract
funds/technology
• Mktg./Ops
expertise
• Transparency
• Employee Welfare
Transaction
structuring
• Size of stake to
be offered
• Fund
requirements
• Management
control / other
strategic issues
• Employee
issues
• Regulatory
issues
Valuation
• Discussions with
management and
info collection
• Business
valuation of
companies
• Sensitivity
analysis for
transaction
structuring
• Assess optimal
capital structure
Documentation
Finalise
• Investment
Profile
• Confidentiality
Undertaking
• Information
Memorandum
• Draft Share
Purchase Agr.
Assist in
• Agreements
• Regulatory
Others
• Prepare Data
Room
• Finalise
technical and
financial bid
evaluation
criteria
• Draft rules
for site visits
and due
diligence
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Transaction Methodology
Phase 3
Shortlisting
Marketing
• Release
advertisement
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• Follow up with
calls/mailers and
one-to-one
meetings
• Receive
preliminary bids
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Shortlist, if
required
Circulate
Confidentiality
Undertaking
Circulate IMs
and due
diligence rules
on receipt of
Confidentiality
Undertaking
Phase 4
Selection
Due-diligence
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Co-ordinate due
diligence
Manage data
room, site visits
Circulate draft
Share Purchase
Agreement
Pre-bid
conference &
supply of addl.
information
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Finalise Share
Purchase
Agreement
Co-ordinate and
receive final
bids
Evaluate bids
Assist in
negotiations
Choose the
partner(s)
Phase 5
Signing
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Complete legal
formalities such
as obtain
approvals and
sign
Agreements
Transfer of
funds
Issue and / or
transfer shares
to partner(s)
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Price Earning Ratio
Valuation Comparison with Management control
Sale of Shares
1.
2.
3.
4.
5.
1991-99
IOC
=
BPCL
=
HPCL
=
GAIL
=
VSNL
=
(in monopoly days)
4.9
5.7
5.9
4.4
6.0
Strategic Disinvestment
2000 onwards
1. BALCO
=
19
2. CMC
=
12
3. HTL
=
37
4. MFIL
=
very high *
5. LJMC
= - do 6. PPL
= - do 7. JESSOP
= - do 8. IBP
=
63
9. VSNL
=
11 **
10. HZL
=
26
11. MARUTI
=
89
12. IPCL
=
58
* As earning per share was negative.
** inclusive of income from dividend etc. (after the end of monopoly)
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