Executive summery With the globalization of the world economy, companies are growing by merger and acquisition in a bid

to expand operations and remain competitive. But blindly entering into an M & A deal can prove to be very costly for any company. Therefore it is necessary to first understand the basics of M & A, including the advantages, disadvantages, pitfalls etc.

The project report starts with the introduction to Mergers & Acquisition, wherein the types of mergers and acquisitions are briefly explained. This helps in understanding the distinction between mergers & acquisition because although both these terms are used synonymously they mean different things. Further the motives of M & A are explained in order to understand why M & A have become important in this competitive world. Once the importance of M & A is established the next part is explanation of the valuation of the companies in order to find if it is worth entering into a deal. For the valuation part it is necessary to go through the various financial ratios of the company to determine the cost of the Merger or Acquisition. The next part is the explanation of the M & A process wherein the accounting methods under the AS-14 is explained. Under AS-14 the treatment of goodwill, reserves and the balance of profit & loss are given. The Tax concessions available under the IT act are also mentioned. The next part includes the legal procedure under the Companies act 1956, along with the SEBI guidelines and the takeover code. A detailed timetable for acquisition is also given for easy understanding.

Introduction - The main idea

Mergers and acquisitions and corporate restructuring--or M&A for short--are a big part of the corporate finance world. Every day M&A transactions bring together separate companies to make larger ones. When they're not creating big companies from smaller ones, corporate finance deals do the reverse and break up companies through demerger etc. Not surprisingly, these types of actions often make the news. Deals can be worth hundreds of millions or even billions of dollars, and they can dictate the fortunes of the companies involved for years to come. For CEOs, leading M&A can represent the pinnacle of their careers. One plus one makes three: this equation is the special alchemy of a merger or acquisition. The key principle behind buying a company is to create shareholder value over and above

that of the sum of the two companies. Two companies together are more valuable than two separate companies--at least, that's the reasoning behind M&A. This rationale is particularly alluring to companies when times are tough. Strong companies will act to buy other companies to create a more competitive, cost-efficient company. The companies will come together hoping to gain a greater market share or achieve greater efficiency. Because of these potential benefits, target companies will often agree to be purchased when they know they cannot survive alone.

Distinction between Mergers and Acquisitions

Although they are often uttered in the same breath and used as though they were synonymous, the terms "merger" and "acquisition" mean slightly different things. In the pure sense of the term, a merger happens when two firms, often about the same size, agree to go forward as a new single company rather than remain separately owned and operated. This kind of action is more precisely referred to as a "merger of equals." both companies' stocks are surrendered, and new company stock is issued in its place. For example, both Daimler Benz and Chrysler ceased to exist when the two firms merged, and a new company, Daimler Chrysler, was created. In practice, however, actual mergers of equals don't happen very often. Often, one company will buy another and, as part of the deal's terms, simply allow the acquired firm

to proclaim that the action is a merger of equals, even if it's technically an acquisition. Being bought out often carries negative connotations. By using the term "merger," dealmakers and top managers try to make the takeover more palatable. A purchase deal will also be called a merger when both CEOs agree that joining together in business is in the best interests of both their companies. But when the deal is unfriendly--that is, when the target company does not want to be purchased--it is always regarded as an acquisition. So, whether a purchase is considered a merger or an acquisition really depends on whether the purchase is friendly or hostile and how it is announced. In other words, the real difference lies in how the purchase is communicated to and received by the target company's board of directors, employees and shareholders. Merger Merger is defined as a combination of two or more companies into a single company. It can be in the form of amalgamation or absorption. Amalgamation This type of merger involves combination of two or more companies, but after merger companies lose their individual identity & a new company comes into existence. Example Hindustan Computers Ltd., Hindustan Instruments Ltd., Indian Software company Ltd., and Indian reprographics Ltd. combined to form HCL Ltd.

Brooke Bond India Ltd. With Lipton India Ltd. resulted in the formation of a new company Brooke bond Lipton India Ltd.

Absorption This type of merger involves combination of a small company with a large company. After the merger, the smaller company ceases to exist. Example Merger of HDFC Bank & Times Bank. After merger, Times Bank ceased to exist while the HDFC Bank continued.

Types of merger

Mergers are of five types: -

MERGERS

VERTICAL RPG Harrison Malayalam

CIRCULAR HLL - BBILIL

COGLOMERATE Mc Leod -Eveready

REVERSE ICICI & ICICI BANK

Vertical Vertical mergers involve combination of two companies, which are operating in the same industry but at a different stage of production or distribution system, such as:

Backward integration: company takes over its supplier producers of raw material. Forward integration: company decides to takeover the retailer or customer company. Objective of this type of merger may be to ensure a source of supply or an outlet for products and the effect may improve efficiency

Horizontal This type of mergers involve joining together of two or more companies which are producing essentially the same products or rendering the same services, products or services which compete directly with each other. It leads to a reduction in the number of competing firms in an industry or growth of monopoly power.

Circular Circular mergers are where companies producing distinct products in the same industry, seek amalgamation to share common distribution and research facilities. It is done in order to obtain economies by eliminating costs of duplication and promoting market enlargement. The acquiring company obtains benefits in the form of economies of resource sharing and diversification.

Conglomerate This is a type where there is combination of two establishments, which are not related to similar industry. It involves a predominant element of diversification of activities.

Reverse This type is a merger of a healthy company into a sick/ loss making company as compared to normal merger under which loss-making company merges into profit making company (tax friendly merger). It is done to save on direct taxes, to save on stamp duty, to save on public issue expenses

Acquisition

Acquisition would mean acquiring a running business as a going concern from a company or any other entity. I.e. one company purchases the assets or shares, wholly or partially, of another company. The payment is in cash or in shares or other securities and the acquired company is not dissolved and it continues to exist as a separate entity. When a company takes over another one and clearly becomes the new owner, the purchase is called an acquisition. From a legal point of view, the target company ceases to exist and the buyer "swallows" the business, and stock of the buyer continues to be traded.

An acquisition can be a strategic acquisition or financial acquisition. In strategic acquisition one company acquires another as a part of its overall business strategy. The objective can be to achieve a cost advantage. In financial acquisition, acquirers

motivation is to sell off assets, cut costs, and operate whatever remains, more efficiently than before. The objective is to create value in excess of the purchase price. A financial

acquisition involves a cash exchange, and payment to the selling shareholders is financed largely with debt, which is known as leveraged buyout (lbo)

Takeover

A takeover generally involves acquisition of a certain block of equity capital of a company, which enables the acquirer to exercise control over the affair of the company.

Motives & reasons for M & A

By merging, the companies hope to benefit from the following:

Staff reductions - as every employee knows, mergers tend to mean job losses. Consider all the money saved from reducing the number of staff members from accounting, marketing and other departments.

Economies of scale - yes, size matters. Whether it's purchasing stationery or a new corporate it system, a bigger company placing the orders can save more on costs. Mergers also translate into improved purchasing power to buy equipment or office supplies--when placing larger orders, companies have a greater ability to negotiate price with their suppliers. With the acquisition of Bank of Madura, ICICI Bank became richer by almost 260 branches, 2500 personnel and deposit base of around Rs37bn. Since in most of the southern states, ICICI Bank has a low presence, it was able to use its technology in the existing network of BOM. The merged entity forms the largest private sector bank.

Acquiring new technology - To stay competitive, companies need to stay on top of technological developments and their business applications. By buying a smaller company with unique technologies, a large company can keep or develop a competitive edge.

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. Another major reason behind mergers is that mergers provide faster way to expand the geographical presence and branch network. In case of the acquisition of GTB that has good presence in south India by OBC operating mainly in north India, the merged entity benefited greatly by geographical spread.

Thus the benefits can be summarized as follows:

Increased revenues 1. Gains from better marketing efforts - Effective media programming/advertising - Distribution network enhancements - Product mix 2. Strategic benefits Venture into new markets

Market power Reduced investment needs

Decreased costs 1. 2. 3. 4. Taxes 1. 2. Transfer of net operating losses Unused debt capacity 3. Free cash flowreinvestment of surplus funds as an alternative to paying dividends or repurchasing stock Economies of scale Economies of vertical integration Complementary resources Elimination of inefficiencies

That said, achieving synergy is easier said than done--it is not automatically realized once two companies merge. Sure, there ought to be economies of scale when two businesses are combined, but sometimes it works in reverse. In many cases, one and one add up to less than two.

Valuation Matters

Investors in a company that is aiming to take over another one must determine whether the purchase will be beneficial to them. In order to do so, they must ask themselves how much the company being acquired is really worth. Naturally, both sides of an M&A deal will have different ideas about the worth of a target company: its seller will tend to value the company as high as possible, while the buyer will try to get the lowest price possible. There are, however, many legitimate ways to value companies. The most common method is to look at comparable companies in an industry, but dealmakers employ a variety of other methods and tools when assessing a target company. A few of them are: 1. Comparative Ratios The following are two examples of the many comparative methods on which acquirers may base their offers:
o

P/E (price-to-earnings) ratio With the use of this ratio, an acquirer makes an offer as a multiple of the earnings the target company is producing. Looking at the P/E for all the stocks within the same industry group will give the acquirer good guidance for what the target's P/E multiple should be.

EV/Sales (price-to-sales) ratio With this ratio, the acquiring company makes an offer as a multiple of the revenues, again, while being aware of the P/S ratio of other companies in the industry.

2. Replacement Cost:

In a few cases, acquisitions are based on the cost of replacing the target company. For simplicity's sake, suppose the value of a company is simply the sum of all its equipment and staffing costs. The acquiring company can literally order the target to sell at that price, or it will create a competitor for the same cost. Naturally, it takes a long time to assemble good management, acquire property and get the right equipment. This method of establishing a price certainly wouldn't make much sense in a service industry where the key assets--people and ideas--are hard to value and develop. 3. Discounted Cash Flow (DCF): A key valuation tool in M&A, discounted cash flow analysis determines a companys current value according to its estimated future cash flows. Forecasted free cash flows (operating profit + depreciation + amortization of goodwill capital expenditures cash taxes - change in working capital) are discounted to a present value using the company's weighted average costs of capital (WACC). Admittedly, DCF is tricky to get right, but few tools can rival this valuation method.

Process of M & A
Typically mergers & acquisitions have the following steps such as developing a business plan. Decide about the type of merger or acquisition. Make a search process and screen potential companies. Have proper discussions, meetings etc. Draw out a financial plan and if everything works out as planned then close the deal. The companies act 1956 gives a more broad procedure for a merger or amalgamation to take place. The Accounting standard 14 also gives the accounting aspect for an M & A.

Accounting standard 14 AS 14 gives the method for accounting M & A It defines Amalgamation as follows: Amalgamation in the nature of merger is an amalgamation, which satisfies all the following conditions: 1. All the assets and liabilities of the transferor company become, after amalgamation, the assets and liabilities of the transferee company. 2. Shareholders holding not less than 90% of the face value of the equity shares of the transferor company (other than the equity shares already held therein, immediately before the amalgamation, by the transferee company or its subsidiaries or their nominees) become equity shareholders of the transferee company by virtue of the amalgamation. 3. The consideration for the amalgamation receivable by those equity shareholders of the transferor company who agree to become equity shareholders of the transferee company is discharged by the transferee

company wholly by the issue of equity shares in the transferee company, except that cash may be paid in respect of any fractional shares. 4. The business of the transferor company is intended to be carried on, after the amalgamation, by the transferee company. 5. No adjustment is intended to be made to the book values of the assets and liabilities of the Transferor Company when they are incorporated in the financial statements of the Transferee Company except to ensure uniformity of accounting policies.

Method of accounting
1. Pooling of Interest method: It is a method of accounting for amalgamations the object of which is to account for the amalgamation as if the separate businesses of the amalgamating companies were intended to be continued by the Transferee Company. Accordingly, only minimal changes are made in aggregating the individual financial statements of the amalgamating companies. The assets, liabilities and reserves of the Transferor Company are recorded by the Transferee Company at their existing carrying amounts. If, at the time of the amalgamation, the transferor and the transferee companies have conflicting accounting policies, a uniform set of accounting policies is adopted following the amalgamation.

2.Purchase method The object of the purchase method is to account for the amalgamation by applying the same principles as are applied in the normal purchase of assets. This method is used in accounting for amalgamations in the nature of purchase. The transferee company accounts for the amalgamation either by incorporating the assets and liabilities at their existing carrying amounts or by allocating the consideration to individual identifiable assets and liabilities of the transferor company on the basis of their fair values at the date of amalgamation. The identifiable assets and liabilities may include assets and liabilities not recorded in the financial statements of the transferor company.

Treatment of Reserves

If the amalgamation is in the nature of Merger the identity of Reserves is preserved. Reserves, which are available for distribution as dividend before the amalgamation, would also be available for distribution. The difference between the amount recorded as share capital issued (plus any additional consideration in the form of cash or other assets) and the amount of share capital of the Transferor Company is adjusted in reserves in the financial statements of the Transferee Company.

But if the amalgamation is in the nature of Purchase the identity of the reserves, other than the statutory reserves mentioned below, is not preserved. For ex: Value of net assets amt of consideration = X If X is -ve But if X is +ve then Reserves created to avail of the benefits under I-T Act E.g. Development Allowance Reserve, Investment Allowance Reserve do not retain their identity. The statutory reserves are recorded in the financial statements of the transferee company by a corresponding debit to a suitable account head (e.g., 'Amalgamation Adjustment Dr Goodwill Cr Capital Reserve

Account'), which is disclosed as a part of 'miscellaneous expenditure' or other similar category in the balance sheet. When the identity of the statutory reserves is no longer required to be maintained, both the reserves and the aforesaid account are reversed.

Treatment of Goodwill

The Goodwill is treated as an asset to be amortized to income on a systematic basis over its useful life. It is considered appropriate to amortize goodwill over a period not exceeding five years unless a somewhat longer period can be justified. Factors, which may be considered in estimating the useful life of goodwill arising on amalgamation, include: The foreseeable life of the business or industry; The effects of product obsolescence, changes in demand and other economic factors; The service life expectancies of key individuals or groups of employees; Expected actions by competitors or potential competitors; and Legal, regulatory or contractual provisions affecting the useful life.

Balance of P&L Account

If amalgamation is in nature of Merger then P & L is aggregated with the corresponding balance appearing in the financial statements of the transferee company. Or alternatively, it is transferred to the General Reserve, if any

But is amalgamation is in the nature of Purchase whether debit or credit, loses its identity

Disclosures

1. Names and general nature of business of the amalgamating companies; 2. Effective date of amalgamation for accounting purposes; 3. The method of accounting used to reflect the amalgamation; and 4. Particulars of the scheme sanctioned under a statute.

Additional Disclosures

Under Pooling of Interest Method Description and number of shares issued, together with the percentage of each company's equity shares exchanged to effect the amalgamation The amount of any difference between the consideration and the value of net identifiable assets acquired, and the treatment thereof. Under Purchase Method

Consideration for the amalgamation and a description of the consideration paid or contingently payable

The amount of any difference between the consideration and the value of net identifiable assets acquired, and the treatment thereof including the period of amortization of any goodwill arising on amalgamation.

Tax Issues
Under the Income Tax Act there are various concessions given in case of amalgamation they are as follows Capital Gains The Income-tax Act provides for capital gains tax exemption to a company being amalgamated into another company, and also to the shareholders of the amalgamating company on the fulfillment of specified conditions. Income tax depreciation The Act provides that where any assets are transferred by an amalgamating company to an amalgamated company, in a scheme of merger, and the merged company is an Indian company, the actual cost of the transferred capital asset to the amalgamated company

would be the same as it would have been if the amalgamating company has continued to hold the capital asset for the purposes of its own business. Further, where any block of assets is transferred by the amalgamating company to the amalgamated company in a scheme of amalgamation, the actual cost of the block of assets in the hands of the amalgamated company would be the written down value of the block of assets in the hands of the amalgamating company for the immediately preceding previous year as reduced by the amount of depreciation actually allowed during the year of transfer.

Availability of tax losses of the amalgamating company to the amalgamated company The following conditions need to be complied with. The amalgamating company must have:

Been engaged in the business in which the accumulated loss occurred or depreciation remains unabsorbed, for three or more years.

Held continuously on the date of the amalgamation at least three-fourths of the book value of fixed assets held by it two years prior to the date of amalgamation.

The amalgamated company must:

Hold continuously for a minimum period of five years from the date of the amalgamation at least three-fourths of the book value of fixed assets of the amalgamating company acquired in a scheme of amalgamation.

Continue the business of the amalgamating company for a minimum period of five years from the date of amalgamation.

Fulfill such other conditions as may be prescribed to ensure the revival of the business of the amalgamating company or to ensure that the amalgamation is for genuine business purpose.

Procedure under the companies act, 1956

1. Developing the scheme of amalgamation 2. Approval of board of directors for the scheme 3. Approval of the scheme by financial institutions banks/trustees for debenture holders 4. Intimation to stock exchange about proposed merger. 5. Application to court for directions. 6. High court directions for members' meeting 7. Approval of registrar of high court to notice for calling the meeting of members 8. Dispatch of notices to members/shareholders 9. Advertisement of the notice of member meeting 10. Confirmation about service of the notice

11. Holding the shareholders general meeting and passing the resolutions 12. Filing of resolutions of general meetings with registrar of companies 13. Submission of report of the chairman of the general meeting to court.

14. Submission of joint petition to court for sanctioning the scheme 15. Issue of notice to regional director's company law board under section 394a 16. Hearing of petition and confirmation of scheme 17. Filing of courts order with roc by both the companies 18. Dissolution of transferor company 19. Transfer of assets and liabilities 20. Allotment of shares to shareholders of transferor company 21. Listing of shares at stock exchange 22. Court order to be annexed to memorandum of transferee company

23. Preservation of books and papers of amalgamated company 24. Post merger secretarial obligation

The legal procedure further should also involve, review of the MOA & AOA of the merging companies. In particular, it should be checked whether power to merge exists. If such power is not there, there has to be made a amendment of the memorandum to include such powers. It should also be checked whether objects of the transferee company includes power to carry on the businesses of the transferor company. If not, the objects of

the transferee company should be amended. Further it has to be checked if the AOA has any other restrictions, which require any special procedure to be followed or approvals to be obtained.

Takeover
Take-over of a company would mean acquisition of controlling interest in it in the form of voting shares and usually replacing the top management in the process.

SEBI prescribes certain takeover guidelines, which are as follows: Definitions SEBI also defines certain terms in a takeover such as: Acquirer: An acquirer means any individual/company/any other legal entity which intends to acquire or acquires substantial quantity of shares or voting rights of target company or

acquires or agrees to acquire control over the target company. It includes persons acting in concert (PAC) with the acquirer.

Target company: A target company is a company whose shares are listed on any stock exchange and whose shares or voting rights are acquired/being acquired or whose control is taken over/being taken over by an acquirer.

Public announcement: A public announcement is an announcement made in the newspapers by the acquirer primarily disclosing his intention to acquire shares of the target company from existing shareholders by means of an open offer.

Persons acting in concert: Persons who directly or indirectly co-operate by acquiring or agreeing to acquire shares or voting rights for the common objective or purpose of substantial acquisition of shares or voting rights or gaining control. Examples: Mutual funds with sponsors, and/or trustee, and/or investment management companies. Foreign institutional investors (FIIs). Portfolio managers with their client(s) as acquirer. Merchant bankers with their clients as acquirer.

Disclosure of shareholding & control in a listed company

In case of person holding more than 5% shares shall disclose within 2 month to the company. The company also shall within 2 month disclose to stock exchanges the share holding pattern. The Promoter having control over company shall disclose within 2 months, the no. & % of shares held by him to the company. Further for acquisition of 5% & more on voting rights the acquirer shall disclose to company within 4 days of receipt of intimation of allotment, acquisition of shares and the company within 7 days disclose to stock exchanges the list of no. of shares held by each such persons.

There are also continual disclosures requirements such as: Every person, who holds more than 15% shares, shall 21 days from FY March 31 st disclose to the company his holdings. The promoters within 21 days from FY March 31st

disclose the no. & % of shares to the co. And every co. within 30 days makes yearly disclosure to the stock exchange the changes in respect of the holdings. In case of acquisition of 15% & more, it is necessary to make public announcement, not later than 4 days of entering into the agreement. The announcement has to be made by merchant banker in editions of English, Hindi & regional daily. In case of indirect acquisition the announcement should be made within 3 months. The copy should also be submitted to SEBI stock exchanges, and registered office of Target Company. The offer shall be deemed to have been made on the date on which the public announcement has appeared in any newspaper.

Events requiring making of an open offer

Acquisition of or intention to acquire 15% or more shares. Acquisition of or intention to acquire more than 5% shares in any period of 1 year by an acquirer holding between 15% and 75% shares.

Acquisition of or intention to acquire even a single share when the acquirer holds more than 75% shares.

Acquisitions exempt from the requirement of making an Open Offer

Shares acquired through an amalgamation. acquisition of assets of a company Inter se transfer amongst relatives and group companies. Inter se transfer amongst promoters subject to certain conditions. Acquisition of shares through a preferential allotment. Acquisition of shares of an unlisted company unless this does not result in a change in control of a listed company.

Offer price
The offer price should be payable in cash or by issue, exchange, transfer of shares or by issue, exchange, transfer of secured instruments. The shareholders should approve it within 21 days.

The minimum offer price is highest of (i) Negotiated price (ii) Price paid by acquirer/ pac / allotment in rights/ public/ preferential if any (iii) The average of quoted weekly high and low.

If shares not frequently traded (i) and (ii) as above (iii) other parameters.

For the offer price under creeping acquisition minimum number of shares for public offer shall be for minimum 20%. But if that results in shareholding being reduced to 10%, then either to make an offer to buy outstanding shares or undertake to divest. But if number of shares offered for sale is more then it is divided on proportional basis.

Upward revision of the offer Upward revisions in the offer i.e. for price & no. of shares to be acquired can be made at any time but 7 days prior to the closure of offer. A public announcement has to be made in the newspaper. SEBI, target company and stock exchanges need to be informed. Also the value of escrow account provided has to be increased.

Withdrawal of offer
No public offer, once made, can be withdrawn except for the following circumstances The statutory approval(s) required are refused The sole acquirer, being a natural person, has died Such circumstances as in the opinion of SEBI merits withdrawal In the event of withdrawal the acquirer or the merchant banker have to make a public announcement of the same in newspapers in which the offer announcement was

published with the reasons for withdrawal. Also SEBI, Target Company and stock exchanges need to be informed. .

Requirement of Escrow Account

Escrow account is in the interest of shareholders and serves as a good check on the acquirers it needs careful consideration since creation of an escrow account discourages frivolous bids. However, since the escrow account has to be created even before making of the announcement and has to be retained at least till the closure of the offer, it means blocking of funds entailing additional cost.

The amount to be maintained in escrow account is as follows For consideration payable under public offer, -Up to and including Rs.100 crores - 25%; -Exceeding Rs.100 crores - 25% up to Rs.100 crores and 10% thereafter. For offers which are subject to a minimum level of acceptance, and the acquirer does not want to acquire a minimum of 20%, then 50% of the consideration payable under the public offer in cash shall be deposited in the escrow amount. The escrow account shall consist of, cash deposited with a scheduled commercial bank; or bank guarantee in favour of the merchant banker; or deposit of acceptable securities with appropriate margin, with the merchant banker; or

cash, deposited with a scheduled commercial bank where drawal power is with merchant banker