1

Merger, Acquisition &

Corporate Restructuring

What is a Corporation?

An artificial legal entity being

created by government
charter

Advantages of Organizing as a
Corporation
Greater amounts of capital can be raised by the
corporation (stocks and bonds).
Corporate owners liability is limited to the amount of
investment.
Corporation ownership shares are easily transferred.
Corporations usually have longer lives than other
forms of business ownership.
Professional management talent usually runs
corporations.
Corporations lack mutual agency. (Only authorized
individuals may bind the corporation to contracts.

Disadvantages of Being Organized

as a Corporation
Double taxation
- Corporate earnings are taxed twice
(earnings before taxes and
stockholders dividends).
Subject to extensive government
regulation (SECP etc.)
Corporate ownership is separated from
control of operations.

Board of Directors and

Management Team
Board of Directors

Management Team

Elected by
stockholders.
Responsible for
management of the
corporation,
establishing policy,
specific decision
making.

Hired by board of
directors.
Responsible for dayto-day operations of
the corporation.

What is Corporate
Restructuring?
Any change in a companys:
1. Capital structure,
2. Operations, or
3. Ownership
that is outside its ordinary course of
business.
So where is the value coming
from (why restructure)?

Sample Corporation
Organization Chart
The president is the
chief executive officer
(CEO) with direct
responsibility for
managing the business.
The chief accounting
officer is the controller.

The controllers
responsibilities include
1 maintaining the
accounting records
2 maintaining adequate
internal control system
3 preparing financial
statements, tax returns
and internal reports.

Stockholders

Board of
Directors

President

Corporate
Secretary

Vice-President
Marketing

Vice-President
Finance

Treasurer

Vice-President
Production

Controller

Vice-President
Personnel

Stockholders Equity
Common Stock
- Represents the primary ownership of
stock in a corporation.
- Is the only issue form if only one class
of stock is issued.
Preferred Stock
- Gives stockholders certain privileges
not given to common stockholders
(i.e. rights to dividends)

Rights of Common Stockholders

Receive a certificate of ownership.
Transfer shares through sale or gift.
Vote at stockholder meeting (one vote per share
owned).
Right to purchase a portion of any new shares
issued to maintain their percentage ownership
(preemptive rights).
To receive dividends declared by the board of
directors
To receive a portion of assets remaining when
the corporation liquidates.

CORPORATE CAPITAL

Owners equity in a corporation is identified as

stockholders equity, shareholders equity, or
corporate capital
Two main sections of stockholders equity:
1.

2.

Paid-in (contributed) capital

- Investments contributed by
stockholders (common stock, preferred
stock).
Retained Earnings
- Earned capital retained by the
corporation.

Characteristics of Stock
Stock Outstanding (issued)
- Stock shares currently in the hands of
stockholders.
Par Value
- Arbitrary monetary figure assigned by
the corporation to a share of capital
stock.

PREFERRED STOCK
Preferred stock has contractual
provisions that give a preference over
common stockholders as follows:
1. Dividends
2. Assets in the event of liquidation
Transactions are the same as for common
stock transactions.

CASH DIVIDENDS
A dividend is distribution by a corporation
to its stockholders on a pro rata (equal)
basis.
A cash dividend is a pro rata distribution of
cash to stockholders.
For a cash dividend to occur, a corporation
must have:
1 retained earnings,
2 adequate cash, and
3 declared dividends.

STOCK DIVIDENDS
A stock dividend is a pro rata distribution of the
corporations own stock to stockholders.
A stock dividend results in a decrease in retained
earnings and an increase in paid-in capital.
Corporations usually issue stock dividends for one or
more of the following reasons:
1 To satisfy stockholders dividend expectations
without spending cash.
2 To increase the marketability of its stock by
increasing the number of shares outstanding and
thereby decreasing the market price per share.
3 To emphasize that a portion of stockholders equity
has been permanently reinvested in the business and
therefore is unavailable for cash dividends.

Merger and Acquisition

Legal combination of two
or more corporations (A &
B) after which only A
corporation remains. As
articles of incorporation are
amended to include articles
of merger.
After merger, A continues
as the surviving corporation
with all of Bs rights and
obligations.
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Consolidation
Occurs when two or more
corporations (A & B)
combine such that both cease
to exist and a new
corporation emerges which
has all the rights and
obligations previously held
by A and B.
Cs articles of consolidation
take the place of the original
articles of A and B.
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Takeovers
Alternative to merger or consolidation is
the purchase of a controlling interest
(e.g., 51%) of a target corporations
stock giving the purchaser corporation
controlling interest in the target.
The aggressor deals entirely with the
targets shareholders.

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M&A Terminology
Merger & Acquisition
Horizontal merger
Vertical merger
Vertical Integration
Congeneric mergers
Conglomerate mergers
Strategic Alliance
Joint venture
Outsourcing through Virtual companies

M&A Terminology
Divestitures
Voluntary Corporate liquidation
Partial Sell offs
Corporate Spin off
Equity Carve outs
Ownership Structure
Going private
Leverage buyout
Restructuring changes to improve
operations, policies, and strategies

M&A Terminology
Merger
Negotiated deals
Mutuality of negotiations
Mostly friendly
Tender offers
Offer made directly to the shareholders
Hostile when offer made without
approval of the board

Types of Mergers
Horizontal mergers
Between firms in same business activity
Rationale
Economies of scale and scope
Synergies (ex. combining of best practices)
Government regulation due to potential
anticompetitive effects

Vertical mergers
Combinations between firms at different stages
Goal is information and transaction efficiency

Vertical Integration
Vertical Integration
Refers to the merger of two companies in
the same industry that make products
required at different stages of the
production cycle

Vertical Integration (cont'd)

A major benefit of vertical integration
is coordination.

For example, Apple Computers makes

both the operating system and the
hardware.
However, not all not all successful
corporations are vertically integrated.
For example, Microsoft makes the
operating system but not the computers.

Types of Mergers
Congeneric mergers
merger where two companies are in the
same or related industries but do not offer
the same products. In a congeneric
merger, the companies may share similar
distribution channels, providing synergies
for the merger

Types of Mergers
Conglomerate mergers
Firms in unrelated business activities
Distinctions between conglomerate and
nonconglomerate firms

Investment companies diversify to reduce

portfolio risk
Financial diversified provide funds and
expertise on generic management functions of
planning and control
Concentric diversified combine with firms in
less related activities to broaden potential
markets

Types of Mergers
Stock Swap
Target shareholders are swapping old
stock for new stock in either the acquirer
or a newly created merged firm
Term sheet
Summary of price and method of
payment
Consideration paid to target shareholders
can be very complex

Joint Ventures
JV characteristics
Combination of assets from 2 or more parent
firms place into a separate business entity
Limited scope and duration
May not affect competitive relationships
Examples: R&D, joint production of single
product
JV timing similar to M&As (correlation over
0.95) driven by same factors affecting total
investment activity

Joint Ventures
JVs and business strategy:
JVs a part of multiple paths to value growth
(Geis & Geis, 2001)
Used over 782 JVs and alliances to:
Develop new product markets
Cable TV NBC alliance
Online gaming JV with Dreamworks to
produce games
Expand into new geographic areas (ex. deals
to expand in Japan)
Participate in new technologies (ex. wireless
deals with Qualcomm, Ericsson)

Joint Ventures
JVs and restructuring JVs can be used as
transitional mechanism in broad restructuring
(Nanda & Williamson, 1995)
Buyer can better determine value of seller's
brands, personnel, etc.
Risk of making mistakes is reduced through
direct involvement with business
Customers moved to buyer over a period of
time in which both firms are involved in JV
Buyer builds up expertise in JV
Seller is able to realize higher value from sale
following JV due to increased buyer knowledge
of assets

Joint Ventures
Other benefits
Knowledge acquisition is goal of at least 50%
of JVs best for learning by doing with
complex processes
Risk reduction expansion of activities with
smaller required investment
Tax aspects contribution of patent or
technology may be more tax effective than
licensing (depreciation may offset revenues)
International aspects reduces risk of foreign
expansion (some nations require firms to take a
local partner)

Joint Ventures
Reasons for failure (70% disbanded early)
Technology never developed
Inadequate preplanning
Disagreement over basic objectives
Managers refuse to share expertise with
counterparts from other firm
Requirements for success
Participants have something of value to JV
JV should be carefully preplanned
Agreement should provide flexibility
Should include provisions for termination
Key executives involved in implementation

Joint Ventures
Empirical tests
Business and economic patterns (Berg et al,
1982)
Industry JV participation increases with:
firm size, capex, profitability
Technologically oriented JVs: substitute for
long-term R&D more often than short-term
JVs and R&D are complements at industry
level
Event returns (McConnell & Nantell, 1985)
Value of gains evenly divided between firms
No change of mgmt. gains must be from
synergy

Joint Ventures
Authors
McConnell,
Nantell
Koh,
Venkatraman
Crutchley et al

Year
JV Type
1985 All

Return
0.73%

1991 IT sector

0.87%

1991 Japan-US

1.05%

Chen et al

1991 China-US

0.71%

Johnson,
Houston

2000 WSJ
announced

1.67%

Strategic Alliances
SA characteristics
Informal or formal agreement between two or
more firms to cooperate in some way
Created due to industry uncertainty and
ambiguity value chains, new technology, etc.
Need not create new entity
Relative size of firms may be highly unequal
Difficult to anticipate consequences
relationships evolve, firm boundaries blur
Firms pool resources and expertise hoping for
synergy from learning capabilities, etc.
Allow firms much flexibility

Strategic Alliances
Examples

Cooperation on system for voice commands for

the internet (VXML)
Joint offering of international 2-day delivery
Sumitomo Rubber

Combined research and purchasing in 6 JVs

AOL followed strategy of providing subscribers
with many benefits through alliance
Partnerships with brick & mortar retailers
Deals with software developers

Strategic Alliances
2.6% of SAs result in M&As more likely in
mature industries (Hagedorn, Sadowski, 1999)
Types of alliances (Bleeke & Ernst, 1995)
Collisions between competitors tensions
cause failure
Alliances of the weak weak grow weaker
Disguised sales strong competitor buys weak
Bootstrap alliances weak firm improved by
strong until alliance becomes on equal footing
Evolution to a sale successful SA becomes
sale when tension emerges
Alliances of complementary equals SA
succeeds due to compatibility

Strategic Alliances
Authors
Chan et al

Das et al
Kale et al
Chen et al

Year
SA Type
1997 All
High tech
Low tech
1998 Technology
Marketing
2002 SA function
No SA func.
1991 China-US

Return
0.64%
1.12%
0.10%
Over 1%
Negative
1.35%
0.18%
0.71%

Strategic Alliances
Requirements for success
Well defined strategic themes
Organization relationships should facilitate
communication to share decision making
SAs viewed in real options framework allows
portfolio of potential growth opportunities
High level management should be involved
Must be positive incentive to overcome tension
SA governance must adapt to different types of
alliances
SAs must seek out growth opportunities to
augment core capabilities

Tender Offers
Bidder seeks target's shareholders
approval
Minority shareholders
Terms may be "crammed down"
May be subject to "freeze-in"
Minority may bring legal actions
2001-2002, many minority squeeze-outs
Usually reversing equity carve-out
Parents often make high bid to avoid
shareholder lawsuits

Tender Offers
Kinds of tender offers and provisions
Conditional vs. unconditional
Restricted vs. unrestricted
"Any-or-all" tender offer
Contested offers
Two-tier offers
Three-piece suitor

Relative Roles
Acquisitions
Rapid augmentation of firm capabilities
Consequences are long lasting
Often costly due to takeover premium
Challenges of combining organizations
Joint ventures
Reduce relative size of investments and risks
Create new entities and relationships
Can develop learning and new opportunities
Strategic alliances
Broaden range of potential opportunities
Relationships are more ambiguous greater
need for communication

Numerical

ABC company wants to buy certain assets of XYZ company. However, XYZ
Company wants to sell out its entire business. The balance Sheet of XYZ follows:Cash 3000
A/R 7000
Inventories 12000 Plants 15000
Refinery 25000
Equipment's 40000 Buildings 100000
T.A. 202000
Total liabilities 90000
shareholders equity 112000
ABC needs only Refinery and equipment and the buildings. The other assets
excluding cash can be sold for 30,000. The total cash received is therefore 33,000
(30000+3000 initial cash balance. XYZ want 45000 for the entire business. XYZ will
thus have to pay a total of 135000 which is 90000in total liabilities and 45000 for its
owner. The actual net cash outlay is therefore 102000 (135000-33000). It is expected
that the after tax cash inflows from the new arrange will be 25000 per year for the
next 6 years. The cost of capital is 10 percent.
Year 102000x1
(102000)
Year 1-6 25000x4.355)
108875
6875
NPV is positive then acquisition recommended
XYZ has equipment that ABC desired so the ABC is thinking of acquiring the XYZ for
50000. XYZ has liabilities 75000. The remaining assets would be sold for 58000. By
acquiring the equipment ABC will have an increase in cash flow 17000 each year for
the next 12 yerars. The WACC 10%.
The nets cost of the equipment 50000+75000-58000 =67000
ABC should make the acquisition on the basis of following NPV
67000 x 1
Year 1-12 17000x6.814
NPV

67000
115838
48838