MF0011 Mergers and acquisition

Q1. Elaborate on the basic steps in organizing a merger and

explain on the five stage model of mergers and acquisitions.
Answer: The evaluation and negotiation of a merger are a major business
decision. Your attorney, auditor, and banker are important sources of
expertise and assistance. Other outside resources include business
consultants, regional cooperatives, and university experts. The purpose of
a merger is of an economic/industrial nature. The merger of two or more
organizations allows for the generation of cost synergies (administration,
production, and listing costs), as well as greater geographical coverage
(with a positive impact on revenues and the possibility of further growth)
Steps in a Merger
There are three major steps in a merger transaction: planning, resolution
and implementation.
1. Planning, which is the most complex part of the merger process, entails
the analysis, the action plan, and the negotiations between the parties
involved. The planning stage may last any length of time, but once it is
complete, the merger process is well on the way.
More in detail, the planning stage also includes:

signing of the letter of intent which starts off the negotiations;

the appointing of advisors who play the role of consultants, examining
the strengths, weaknesses, opportunities, and threats of the merger;
detailing the timetable (deadline), conditions (share exchange ratio),
and type of transaction (merger by integration or through the
formation of a new company);
Expert report on the consistency of the share exchange ratio, for all of
the companies involved.
2. The resolution is simply management's approval first, then by the
shareholders involved in the merger plan.
The resolution stage also includes:

the Board of Directors calling an extraordinary shareholders meeting

whose item on the agenda is the merger proposal;
the extraordinary shareholders meeting being called to pass a
resolution on the item on the agenda;
any opposition to the merger by creditors and bondholders within 60
days of the resolution;

Green light from the Italian Antitrust Authority that evaluates the
impact of the merger and imposes any obligations as a prerequisite for
approving the merger.
3. Implementation is the final stage of the merger process, including
enrolment of the merger deed in the Company Register.
Normally medium-sized/big mergers require one year from the start-up of
negotiations to the closing of the transaction. This is because, in addition
to the time needed technically, there are problems relating to the share
exchange ratio between the merging companies which is rarely accepted
by the parties without drawn-out negotiations.
During the merger process, share prices will adjust to the share exchange
ratio. On the effective date of the merger, financial intermediaries will
enter the new shares with the new quantities in the dossiers. The
shareholders may trade without constraint the new shares and benefit
from all rights (dividends, voting rights).
Five Stage model of merger & Acquisition
Most mergers and acquisitions do not live up to their promised potential.
Consensus is not reached, shareholder value often decreases and
integration becomes difficult. A Watson Wyatt survey of 1,000 companies
found that less than 33 percent of companies attained their profit goals
after a merger, only 46 percent ever met their expense-reduction goals
and 64 percent of the time the mergers failed to produce expected
benefits. There are many reasons for merger failures. Pre- and postmerger activities typically do a good job of having human resources
coordinate employee benefits, lawyers draft the legal documents and
accountants scrutinize costs and return on investment (ROI). But little
thought is ever given to the human factorthe difficult task of marrying
two different corporate cultures.
Step One: A New Entity
This step requires everyone to understand that a merger will transform
two or more organizations into a new, single entity. This new entity will
have an organizational culture that is different from either company
whether it is a joining of equals or an acquiring company and an acquired
company. It will be a unique culture shaped from the previously
independent organizations. Hewlett-Packards (HP) acquisition of Compaq
illustrates this point. The name Hewlett- Packard is still on signage outside
the headquarters, the letterhead still has the familiar logo, and employees
wear polo shirts sporting the recognizable HP brand. But HP has changed
since the Compaq acquisition three years ago into a merger of the two
entirely different entities. Executives from engineering, accounting,
manufacturing, purchasing, human resources, research and development
from each company now work side-by-side. Respective business
approaches, the way they work with people and how they solve problems
are rubbing off on one another, thereby changing each other and creating
a new entity. Most mergers simply do not take advantage of this new

entity with a new culture as an opportunity to move forward and create

a productive, effective organization for long term success.
Step Two: A New Vision
A new entity needs a new vision, or a statement of what the new
organization intends to become. It is a broad, forward-thinking image that
the company must have before it sets out to reach its goals. It is a
concept of what it intends to deliver over time to customers, shareholders
and employees. Within this new vision, each department will not only
have its own role, but also must determine how it fits into this new vision
and how it will work with other departments to fulfil this vision. Sometimes
this results in a war room or us vs. them attitudethe acquiring
company vs. the acquired company or the big company vs. the little
company. Leadership must work hard to ensure this situation does not
materialize.
Step Three: Determine that Vision
The vision of the new entity might be to become the best newspaper in
the United States, the fastest package delivery service or the most
reliable electricity provider. These seem like vague statements, but they
are a good way to start. Now the company must establish a culture that
can deliver that vision. Discovering the optimal culture can be
accomplished by having employees from the acquired company complete
a questionnaire or survey. One such survey, the Organizational Culture
Inventory (OCI) Ideal, creates a vision of the culture that the new
organization should strive toward to maximize long-term effectiveness.
Unfortunately, without this effort, employees in a new organization formed
by a merger can enter into a passive/defensive style, typified by an
avoidance or dependent culture. Workers are afraid of losing their
authority, being moved to a less prestigious position or being fired. In the
avoidance culture, fear and apprehension constrict the ability to make
decisions, take actions or accept risks. In the dependent culture, the
organization suffers from lack of initiative, flexibility and timely decisionmaking. If the new leadership underestimates the new employees
abilities, becomes unclear and micromanages, the outcome will be a
passive/ defensive culture, resulting in decreased motivation, work
avoidance and inferior quality. Alternatively, employees may enter the
new company forcefully, thinking that they have to protect their status
and security. This aggressive/defensive style is typified by a competitive
or perfectionist culture. When workers feel management is putting its own
interests before those of its staff or other key constituents, they see an
every man for himself situation and begin to do whats best for
themselves rather than considering the long-term interests of the
company. In a competitive culture, people feel as if their job is in jeopardy
and the best way to take control is to become tough and prove they are
superior. In a perfectionist culture, people also are afraid they may lose
their jobs, so they feel they must never make a mistake, they must do
things perfectly and appear competenteven when they are not. If the
new leadership believes success is based on finding errors, weeding out
mistakes and promoting internal competition, then the outcome is an

aggressive/defensive culture resulting in increased stress, poor

cooperation and inconsistent quality.
Step Four: Leadership Characteristics
Appropriate leadership that embraces the vision must be in place at all
levels and working toward creating the ideal culture. These leaders need
to communicate ideals to the organization before, during and after the
merger. They must be specific in describing the direction they want to
take the new organization. This must continue into the merger as well, or
the organization will slip into a defensive cultural style. Properly selected
leadership, from line managers to executive management, will set in
motion the structures, systems, technology and training to achieve the
vision and ideal culture. However, with serious personal and team
training, these managers can be revitalized. Indeed, some may choose to
separate from the company because of the changes. But this is part of
leaderships challenge in forming the new entity and leading it toward its
new vision.
Step Five: Measure Success
Measuring success helps employees feel confident that leadership is on
board to make the new company everything it can be. Using a survey to
measure the climate in an organization will reveal if its culture is
producing the desired outcomes for employees, management and the
organization. Surveys can bring to light the organizations strong points,
as well as its developmental needs. These strong points promote a
constructive culture, while the developmental needs hinder a constructive
culture by promoting either a passive/defensive or aggressive/defensive
culture.

Q2. Synergy is the additional value that is generated by the

combination of two or more than two firms creating
opportunities. Explain the role of industry life cycle and pre
requisites for creation of synergy.
Answer: Life cycle models are not just a phenomenon of the life sciences.
Industries experience a similar cycle of life. Just as a person is born,
grows, matures, and eventually experiences decline and ultimately death,
so too do industries and product lines. The stages are the same for all
industries, yet every industry will experience these stages differently, they
will last longer for some and pass quickly for others. Even within the same
industry, various firms may be at different life cycle stages. A firms
strategic plan is likely to be greatly influenced by the stage in the life
cycle at which the firm finds it. Some companies or even industries find
new uses for declining products, thus extending their life cycle.
The growth of an industry's sales over time is used to chart the life cycle.
The distinct stages of an industry life cycle are: introduction, growth,
maturity, and decline. Sales typically begin slowly at the introduction
phase, then take off rapidly during the growth phase. After levelling out at
maturity, sales then begin a gradual decline. In contrast, profits generally
continue to increase throughout the life cycle, as companies in an industry

take advantage of expertise and economies of scale and scope to reduce

unit costs over time.
Role of industry life Cycle
In the introduction stage of the life cycle, an industry is in its infancy.
Perhaps a new, unique product offering has been developed and patented,
thus beginning a new industry. Some analysts even add an embryonic
stage before introduction. At the introduction stage, the firm may be alone
in the industry. It may be a small entrepreneurial company or a proven
company which used research and development funds and expertise to
develop something new. Marketing refers to new product offerings in a
new industry as "question marks" because the success of the product and
the life of the industry are unproven and unknown.
Growth
Like the introduction stage, the growth stage also requires a significant
amount of capital. The goal of marketing efforts at this stage is to
differentiate a firm's offerings from other competitors within the industry.
Thus the growth stage requires funds to launch a newly focused marketing
campaign as well as funds for continued investment in property, plant,
and equipment to facilitate the growth required by the market demands.
However, the industry is experiencing more product standardization at
this stage, which may encourage economies of scale and facilitate
development of a line-flow layout for production efficiency.
Maturity
As the industry approaches maturity, the industry life cycle curve
becomes noticeably flatter, indicating slowing growth. Some experts have
labelled an additional stage, called expansion, between growth and
maturity. While sales are expanding and earnings are growing from these
"cash cow" products, the rate has slowed from the growth stage. In fact,
the rate of sales expansion is typically equal to the growth rate of the
economy.
Decline
Declines are almost inevitable in an industry. If product innovation has not
kept pace with other competing products and/or service, or if new
innovations or technological changes have caused the industry to become
obsolete, sales suffer and the life cycle experiences a decline. In this
phase, sales are decreasing at an accelerating rate. This is often
accompanied by another, larger shake-out in the industry as competitors
who did not leave during the maturity stage now exit the industry. Yet
some firms will remain to compete in the smaller market. Mergers and
consolidations will also be the norm as firms try other strategies to
continue to be competitive or grow through acquisition and/or
diversification.
Synergy pre-requisite:
Synergy is a buzzword that managers and HR pros like to bandy around;
sometimes they get it and sometimes they really dont have a clue. In
short, synergy happens in the workplace when two or more people
working together produce a better outcome than if they did it alone. It is

not a touchy-feely concept, but instead is a practical approach to getting

results and its not all that difficult to create. Mergers and acquisitions
are made with the goal of improving the companys financial performance
for the shareholders. Two businesses can merge to form one company that
is capable of producing more revenue than either could have been able to
independently. Synergy creation means that there should be good
synchronization between sales, marketing and customer services of a
company. Or in other words, it means the three units i.e. sales, marketing
and customer service should work together.
General Issues in any company which hampers profit making:

When marketing strategy is not aligned with the sales cycle

When sales, customer service and marketing are not on the basis
of customer needs
Due to these issues there is a need for creating synergy between the
three. But most often sales, marketing and customer service fails to work
together because sales people think that marketing people doesnt
understand their needs and marketing people think that sales people
focus on selling the product and dont see the bigger picture. Customer
service people just-do their job.

ADVANTAGES of Synergy creations:

Increases the efficiency and decreases the cost of sales
Maximizes chances of converting a potential customer into a customer
Builds morale of salespersons
Increases customer loyalty and retention
Improves customer experience
Increases profit for the organization
Q3. Corporate restructuring is a broad based business initiative
that results in major change of size, ownership, control and/or
management. Write down the characteristics of corporate
restructuring and explain the types of corporate restructuring.
Answer: Corporate restructuring is one of the most complex and
fundamental phenomena that management confronts. Each company has

two opposite strategies from which to choose: to diversify or to refocus on

its core business. While diversifying represents the expansion of corporate
activities, refocus characterizes a concentration on its core business. From
this perspective, corporate restructuring is reduction in diversification.
Corporate restructuring is an episodic exercise, not related to investments
in new plant and machinery which involve a significant change in one or
more of the following
Pattern of ownership and control
Composition of liability
Asset mix of the firm.
It is a comprehensive process by which a co. can consolidate its business
operations and strengthen its position for achieving the desired
objectives:
(a)Synergetic
(b)Competitive
(c)Successful
It involves significant re-orientation, re-organization or realignment of
assets and liabilities of the organization through conscious management
action to improve future cash flow stream and to make more profitable
and efficient.
MEANING & NEED FOR CORPORATE RESTRUCTURING
Corporate restructuring is the process of redesigning one or more aspects
of a company. The process of reorganizing a company may be
implemented due to a number of different factors, such as positioning the
company to be more competitive, survive a currently adverse economic
climate, or poise the corporation to move in an entirely new direction.
Here are some examples of why corporate restructuring may take place
and what it can mean for the company. Restructuring a corporate entity is
often a necessity when the company has grown to the point that the
original structure can no longer efficiently manage the output and general
interests of the company. For example, a corporate restructuring may call
for spinning off some departments into subsidiaries as a means of creating
a more effective management model as well as taking advantage of tax
breaks that would allow the corporation to divert more revenue to the
production process. In this scenario, there structuring is seen as a positive
sign of growth of the company and is often welcome by those who wish to
see the corporation gain a larger market share. Corporate restructuring
may also take place as a result of the acquisition of the company by new
owners.

1.
2.
3.
4.

Purpose of Corporate Restructuring To enhance the shareholder value, the company should continuously
evaluate its:
Portfolio of businesses,
2.Capital mix,
Ownership &
Asset arrangements to find opportunities to increase the shareholders
value.
To focus on asset utilization and profitable investment opportunities.

To reorganize or divest less profitable or loss making

businesses/products.
The company can also enhance value through capital Restructuring, it
can innovate securities that help to reduce cost of capital.

Characteristics of Corporate Restructuring 1. To improve the companys Balance sheet, (by selling unprofitable
division from its core business).
2. To accomplish staff reduction (by selling/closing of unprofitable portion)
3. Changes in corporate mgmt.
4. Sale of underutilized assets, such as patents/brands.
5. Outsourcing of operations such as payroll and technical support to a
more efficient 3rd party.
6. Moving of operations such as manufacturing to lower-cost locations.
7. Reorganization of functions such as sales, marketing, & distribution
8. Renegotiation of labour contracts to reduce overhead
9. Refinancing of corporate debt to reduce interest payments.
10. A major public relations campaign to reposition the co., with
consumers.
Q4. Leveraged Buyouts (LBO) is a financing technique of
purchasing a private company with the help of borrowed or debt
capital.
Explain the modes of LBO financing and governance aspects of
LBOs.
Answer:
The acquisition of another company using a significant amount of
borrowed money (bonds or loans) to meet the cost of acquisition. Often,
the assets of the company being acquired are used as collateral for the
loans in addition to the assets of the acquiring company. The purpose of
leveraged buyouts is to allow companies to make large acquisitions
without having to commit a lot of capital.
LBOs are a very common occurrence in a "Mergers and Acquisitions"
(M&A) environment. The term LBO is usually employed when a financial
sponsor acquires a company. However, many corporate transactions are
partially funded by bank debt, thus effectively also representing an LBO.
LBOs can have many different forms such as Management Buyout (MBO),
Management Buy-in (MBI), secondary buyout and tertiary buyout, among
others, and can occur in growth situations, restructuring situations and
insolvencies. LBOs mostly occur in private companies, but can also be
employed with public companies (in a so-called PtP transaction Public to
Private).
Characteristics of LBOs
LBOs have become very attractive as they usually represent a win-win
situation for the financial sponsor and the banks: The financial sponsor
can increase the returns on their equity by employing the leverage; banks
can make substantially higher margins when supporting the financing of

LBOs as compared to usual corporate lending, because the interest

chargeable is that much higher.
The amount of debt banks are willing to provide to support an LBO varies
greatly and depends, among other things, on:

The quality of the asset to be acquired (stability of cash flows, history,

growth prospects, hard assets, )
The amount of equity supplied by the financial sponsor
The history and experience of the financial sponsor
The economic environment

For companies with very stable and secured cash flows (e.g., real estate
portfolios with rental income secured with long term rental agreements),
debt volumes of up to 100% of the purchase price have been provided. In
situations of "normal" companies with normal business risks, debt of 40
60% of the purchase price are normal figures. The debt ratios that are
possible vary also significantly between the regions and between the
industries of the target.
Governance aspects of LBOs
Corporate Governance of LBOs: The Role of Boards, which was recently
made publicly available on SSRN, we study whether the success of private
equity-backed firms is due to their superior corporate governance or
instead due to financial engineering. We focus in particular on the role of
boards in LBOs and look at changes in the board when a public company
is taken private by a private equity group.
We construct a new data set, which follows the board composition and
financial figures of all public to private transactions that took place in the
UK between 1998 and 2003. Out of these 142 transactions, 88 have
private equity sponsors and are thus identified as LBOs. The remaining
transactions are either pure MBOs or other types, and are used as
benchmarks. We track each company two or three years before the
announcement of the buyout until the exit of private equity investors or
until 2010, whichever is earlier.
We find that when a company goes private, fundamental shifts in board
size and composition take place. The board size decreases on average by
15% and the presence of outside directors is drastically reduced, as they
are replaced by individuals employed by the private equity sponsors. We
also find evidence that the board size and presence of LBO sponsors on
the board depend on the style or preferences of the private equity firm.
Overall, the boards become more in line with the type of boards that the
corporate governance literature would identify as exhibiting better
corporate governance. We then set to find out what role these boards play.
Central to our analysis is the examination of the private equity
representatives presence on the board. We find that private equity
sponsors are more present on the boards of the more difficult deals,
presumably because these deals need more expertise, monitoring and

advice. One way in which we identify more difficult cases is by looking at

LBOs where the CEO is changed when the company is taken private.
These may be the forced CEO change cases where a large overhaul of the
company has been necessary due to unsatisfactory performance of the
management, or the voluntary CEO change cases where losing the CEO
who is very familiar with the business constitutes a significant challenge
to a successful restructuring of the company.
We then turn to study the effects of the private equity firms involvement
in the boards. We focus on CEO turnover after the company is taken
private, as CEO turnover is an indication of how active and attentive a
board is in the corporate governance literature. We find that CEO turnover
is significantly lower when the company becomes private, and
significantly lower than turnover in similar (matched) public companies. In
particular, turnover is lower in LBOs where the CEO of the public company
remains in charge after the LBO. We show that more difficult deals have
higher CEO turnover, however greater involvement of private equity
sponsors reduces, rather than increases, the CEO turnover. This is
consistent with the claim often made by private equity groups that their
involvement lengthens the temporal horizon of the CEO, since they are
not concerned with short term figures. This finding also raises questions
about whether it is appropriate to look at the CEO turnover in general as a
sign of good corporate governance.
Finally, we look at the operating performance of these LBOs. Despite the
difficulty in obtaining reliable information, we find some evidence that
deals where the CEO is changed during the transition to private have a
higher operating performance and that more significant private equity
presence on the board leads to higher operating performance. This
evidence is consistent with the idea that greater private equity sponsor
involvement ultimately leads to better performance. It is also somewhat
consistent with the idea that the cases where the CEO is not changed
during transition are not the easiest restructuring deals, but rather the
ones where private equity backer intends to rely mainly on financial
engineering.