FM 4 Financial Strategies

Modules
Mergers and Acquisitions Financial Distress and restructuring Private Equity and Venture Capital Dividend Policy and Stock Repurchases Merchant Banking and Credit rating

Reference Books
Corporate Finance Ogden Financial Services M Y Khan Indian Financial System M Y Khan Indian Financial System Dr. S Gurusamy Financial Services and System K Sasidharan and Alex K Mathew Financial Management I M Pandey

Module 1

Mergers and Acquisitions

Questions
What are the basic economic forces that leads to mergers and acquisitions? What are the managers true motive? Why they occur more frequently at some time? How we can evaluate these decisions? What is the managerial process?

Types of combinations
Merger Acquisitions Takeover Amalgamation Consolidation

Mergers and acquisitions

Two separate corporations combine to form a single entity. They are the strategic decisions Leading to the maximization of companys growth Enhancing its marketing and production operations Most of the cases the shares of one firm are extinguished and the shares of the other firms remain outstanding

Contd..
The share holders of the defunct firm receive shares of the surviving firm or cash Surviving firm acquires the assets and Liabilities of the defunct firm.

Surviving firm or acquiring firm Bidder Defunct firm or acquired firm is Target

Types of Mergers

Merger through Absorption: a combination of two or more companies into an existing company

Merger through Consolidation : a combination of two or more companies into a new company. All companies are legally dissolved and a new entity is evolved (New name, management, BOD)

Forms of merger
1.

2.

a. b.

Horizontal merger: a combination of two or more companies in similar type of production, or area of business Vertical Merger: a combination of two or more companies involved in different stages of production or distribution Forward merger Backward merger

Contid.
3. Conglomerate Merger: a combination of two or more companies engaged in unrelated lines of business activities

Motives
Breaking of trade barriers Limiting the competitions Free flow of capital Utilize underutilize market power Overcome the problem of slow growth And profitability Achieve diversification Gain economies of scale

Cond..
Gain access to a foreign market Displace existing management Government regulations Reap speculative gain create an image of aggressiveness Empire building Amass vast economic power of the company

Benefits
Accelerated growth a. Expanding its existing markets b. Entering in new markets
a. b. c.

a. b. c. d.

Enhanced Profitability Economies of scale Operating economies Synergy

Financial benefits Elimination of financial Constraints Deploying surplus cash Enhancing debt capacity Lowering the financing costs Increased Market Power

Diversification of risk

Reduction in Tax Liability

Acquisitions

One firm acquires the assets and liabilities of another firm

Acquiring firm is the bidder

Defunct firm is the acquired or target firm It is formally initiated when the bidding firm board of directors approves an offering of stock, cash or a combination in exchange of the shares of the target The deal will be consummated if and when the target board and share holders vote to accept the offer

Its the purchase of an entire firm by another firm. If it is done in friendly way it is called as acquisition Both the management teams negotiate If it is distinct from the above it is HOSTILE TAKEOVER

Takeovers

Here the bidder intention is to acquire the target company and replace the management where the target resists the attempt.

Buyouts

It occurs when a group of individual uses cash to purchase the shares of a firm and takes ownership and control of the firm

The buyers arrange debt or equity financing to facilitate the purchase

Types
Leverage Buyouts: The purchased firm has the high leverage after the buyout ( LBO). A buyout specialist assists the buyers both financially and strategically Management Buyouts: (MBO) the group of individuals includes the members of the target firms management Reverse Buyouts: firms that go private via a buyout reemerge as a publically traded firm via subsequent IPO of shares

Motives for merger

Operating synergy Financial synergy and diversification Bankruptcy avoidance Financial Slack Hubris Hypothesis Self interest of the bidders management

Synergy

Any source of value creating efficiency that is brought about by combining the assets, operations and financial structures of firms Types
Operating synergy Financial synergy

Operating synergy
Obtained if the merger results in improvement of any business function such as Management Labor cost Production and distribution Resource acquisition and allocation Market power

Financial synergy

Obtained in a merger if some aspect of the financial configuration of the merged firm causes its market value to be greater than the sum of the market values of the separate firms

Focus is on conglomerate merger FS is not possible in Ideal capital market Effects: Reduced Bankruptcy risk Coinsurance associated with the creditors increased debt capacity, increase in tax benefit from interest deductibility Thus increase the overall market value

The Hubris Hypothesis

Offered by Roll Hubris in 1986