CHAPTER - II

MERGERS AND ACQUISITIONS: A THEORETICAL

FRAMEWORK

The objective of this chapter is to present a theoretical framework

of mergers and acquisitions (M&A) covering a conceptual framework,

merger movement and approaches to the study of pre-merger and post­

merger performance evaluation. This chapter is divided into three

sections. The first section discusses the conceptual framework of

M&As. The second section highlights merger movement - Global and

Indian Scenario and Indian Policy on M&As. The last section portrays
different approaches used in this study to analyse the pre-merger and

post merger performance evaluation.

SECTION - I

Mergers and Acquisitions: A Conceptual Framework

Merger is defined as a combination of two or more companies

into a single company where one survives and the others lose their
corporate existence.1 A merger can take place either as an amalgamation
or absorption. Acquisition refers to acquisition of a certain block of

equity capital of a company which enables the acquirer to exercise

control over the affairs of the company.2 In this case there will be

willingness of purchasing company and selling company.

31
 The terms merger and acquisition are often used synonymously,

despite the existence of legal differences. Their impact on the

organizational and economic contexts are quite similar and hence they
can be studied as one phenomenon. This approach is followed in this

study.
Mergers and acquisitions may be classified into three categories

viz. horizontal mergers, vertical mergers and conglomerate mergers.

Horizontal merger takes place when two or more corporate firms

dealing in similar lines of activity combine together.3 The purpose of

such merger is elimination or reduction in competition, empire

building, putting an end to price cutting, economies of scale in
production, research and development, marketing and management

costs. Merger of ShriRam Fibres with CEAT Nylon tyres, Eicher

Tractors Ltd., with Royal Enfield Motors Ltd., British Gas with Gujarath
Gas and Tata Oil Mills Co. with Hindustand Lever Ltd., are the popular
examples of horizontal mergers.

Vertical merger occurs when a firm acquires its 'upstream' and 'down
stream' firms. In case of 'upstream' type of merger it extends to the
suppliers of raw materials and in the case of 'down stream' type of
merger it extends to those firms that sell eventually to the consumers.4
The aim of such merger is to lower buying cost of materials, lower
distribution and selling expenses, assured supplies and market,

increasing or creating barriers to entry for potential competitors.

32
Merger of Arvind Mills with Quest Apparels, Mobil Oil with

Montgomary Ward (US) are popular examples of vertical mergers.

Conglomerate merger refers to the combination of two or more firms

engaged in different or unrelated types of business activities. Such

merger helps in diversification of risk. Merger of ESSAR group with
Sterling Computers is a popular example of conglomerate merger.

The companies are restructuring their operations through M&A

route with number of motives.

Motives of Mergers and Acquisitions:

The M&As activities are primarily the result of the following
factors and strategies.15 * * *

1) Strategic Motives
2) Organizational Motives
3) Financial Motives

1) Strategic Motives:
a) Growth and Diversification: Growth and diversification are

considered important corporate objectives. If a firm has decided to

enter or expand in a particular industry, acquisition of a firm in that

industry, rather than dependence on internal expansion, may offer
several advantages like prevention of competitors, less risk and less
cost, etc. This approach provides a quick and easy way for growth and

diversification.

33
b) Economies of Scale: When two or more companies combine
together, the larger volume of operations of the merged entity results in
various economies of scale. These economies arise because of optimum

utilization of combined production capacities, distribution channels,

research and development facilities, data processing systems etc It is
found that economies of scale are more predominant in horizontal

mergers as the same kind of resources are available in the merging

companies which can be utilized intensively.

c) Synergy: Synergy is one of the prime motives that guides M&A. The

word synergy is defined as "the integration of two or more

organizations or substances, to produce a combined effect greater than

their separate effect'.6 Synergy is simply defined as 2+2=5 phenomenon.
The value of the merged company will be greater than the sum of the
value of the individual companies before merger. Symbolically:

V(AB) > V (A) + V (B)

Where V(AB) = Value of the merged entity

V(A) = Independent value of company A

V(B) = Independent value of company B

The greater value is ultimately expected to result into higher

earnings per share for the merged firm. There are two significant
aspects of synergy: operating synergy and financial synergy. Operating
synergy can result both from functional and transactional inter­
relationship. Functional interrelationship is based on intangible
resources such as reputation, R&D sharing and advertising. In some
cases, benefits accrue due to economies of scope and in others due to

34
economies of scale. Financial synergy can result from proper utilization
of financial resources and effective investment policies. Such synergy

helps to have better credit worthiness, reduces cost of capital, increases

the debt capacity, price-earning ratio and value per share. Further,
flotation costs will be low and capital may be raised easily.

d) Concentrating on Core Competencies: The restrictive licensing

policy and rigorous provisions of MRTP Act followed before 1991 did

not allow the large companies and business houses to grow and
diversify into areas of their core competencies. They were required to

diversify into totally unrelated areas for which licenses were available.

With the recent liberalization policy of the government, these business

groups have started to rationalize their portfolios of industrial units.
Due to the pressure of increased competition, the Indian conglomerates

are realizing the need to focus on their core competencies. They are also
realizing the importance of strategic withdrawal from certain areas.
M&As help corporate sector to concentrate on their core competencies.

e) Avoiding Unhealthy Competition: M&As route may help

companies to avoid unhealthy competition in a situation where there
are too many players aiming at a limited market.

f) Consolidation of Capacities: In the past, the government issued

licenses to units with capacities much below the minimum economic
size. This phenomenon was observed in many industries like steel,
sugar, cement, paper, automobiles, tyres, detergents etc. The banks and
financial institutions financed these small projects, but many of them

35
were incurring losses or earning marginal profits. Small units were not
in a position to face competition and to adopt pollution control norms
prescribed by the government. M&As help to consolidate these
splintered capacities. Consolidation of capacities through M&As will
enable firms to gain competitive strength in domestic as well as global
markets.

g) New Market Entry: Advertisement and market promotion activities

will be more cost effective if the organization has presence in many
places. Taking away a new market from a competitor will be a costly
affair. Therefore it is easy to enter new markets through M&As at
reasonable cost and efforts.

h) New Product Entry: Entering into a new product market is

somewhat difficult and time consuming effort. Companies with
adequate resources can do well in new product market through M&As.

2. Organizational Motives:
a) Empire Building: The money power available with the top
management of big corporate houses encourages the managers to
explore the possibilities of M&As. Such houses would build big
empires by creating large size enterprises through M&A. It will satisfy
the ego of the entrepreneurs and the senior managers.

b) Retention of Managerial Talent: Human resources play an

important role in the success of an enterprise. Managerial talents are
considered essential and important. To assure growth it is essential to
retain managerial talent. M&As help companies in this regard.

36
c) Removal of Inefficient Management: If the management of a firm is

inefficient, the shareholders of such firm can remove the management

by merging with another firm having efficient management. M&A is a

quick remedy to replace inefficient management from an organization

which has high product strength.

3. Financial Motives:
a) Tax planning: If a healthy company acquires a sick unit through

merger, it can avail of income tax benefits under sec. 72A of the Income
Tax Act. The said section stipulates that, subject to the merger fulfilling
certain conditions, the healthy company's profits can be set off against

the accumulated losses of the sick unit. The tax savings thus accruing to
the healthy company must be used for revival of the sick unit.

b) Higher Debt Capacity:

A company could enhance its borrowing capacity significantly
through merger. The merged entity may enjoy a higher debt capacity

because the earnings of the merged firm are more stable than the
independent firm. A high debt capacity helps to avail more tax

advantage and thus higher value of the firm.

c) Reduction in Flotation Cost

When two or more firms merge, they can save flotation costs of
future equity, preference and debenture issues. In general these costs
decrease with the increase in size of the issue.

37
d) Lower Rate of Borrowings:
The M&As lead to creation of large size business houses.' The
consequence of large size, greater earning power and stability lead to

reduction in the cost of borrowing for the merged firm. The reason for
this is that the creditors of the merged firm enjoy better protection than
the creditors of the merging firms independently.

SECTION - II

Merger Movement
Global Scenario
In developed countries corporate mergers and acquisitions are a
regular feature. In USA, Japan, UK and European nations thousands of

mergers and amalgamations are taking place every year as a

combination and reconstruction of the business enterprises. Across the
border, mergers and takeovers of even multinational companies are

common in the developed countries.

United States
United States has witnessed five periods of merger activities
referred to as "Merger Waves".7 Each wave has been dominated by a
particular type of merger. All the merger movements occurred when
the economy experienced sustained high growth rates and coincided

with particular developments in the business environment,

a) The First Wave (1897-1904): The merger of the first wave consisted
mainly of horizontal mergers which resulted in a near monopolistic

38
market structure. During this period large monopolies like General

Electric, Eastman, Kodak etc, were created. More than 3000 companies
disappeared as a result of merger and 2943 mergers were reported

during the above period.8

b) The Second Wave (1916-1929): During this period there were many
vertical integrations through mergers. The motives behind such

mergers were to achieve technical gains, and production extension. In

this period a total of 4600 mergers took place and 12000 firms from
different industries disappeared.9 This period transformed monopoly

market into oligopoly market.

c) The Third Wave (1960-1969): This period is known as a
conglomerate merger period because most of the small and medium
sized firms adopted a diversification strategy into business activities

outside their traditional areas of interest. Defensive diversification was

a strong motivation behind mergers. As many as 26514 mergers took

place in the US economy during this period.10

d) The Fourth Wave (1981-1989): The unique characteristic of the

fourth wave is the significant role of hostile mergers. The fourth wave
was a period of mega mergers. Some of the largest firms in the world

including the Fortune 500 Firms became the target of acquirers.

Around 22808 mergers and acquisitions took place in this period.11 The

motive behind such mergers was expansion and growth.

e) The Fifth Wave (1992 - till date): There was once again increased
activity of mergers in 1992. Mega mergers continued and the
companies sought to expand and mergers were seen as a quick and

39
efficient way to do so. The main objectives of M&As were economies of

scale, entry into new markets and reduction in competition. There was

a movement towards the oligopolistic market structure. Deregulation

and technology changes led to high level of merger activity due to

which 53322 M&As took place during this period from 1992 to 2001.12

The merger movement in USA from 1897-2001 has been presented in

table 2.1.

Table - 2.1

Merger Movement in USA

Merger No.of M&As Type of Market

Objectives
waves transactions M&A structure
First wave 2943 Horizontal Growth, expansion, Monopolistic
1897-1904 empire building, market
economies of scale
Second wave 4600 Vertical Technical gains, Oligopolistic
1916-1929 production

extension
Third wave 26514 Conglomerate Diversification of Oligopolistic

1960-1969 activities
Fourth wave 22808 Hostile Growth & expansion, Oligopolistic
1981-1989 merger empire building

Fifth wave 53322 Horizontal Economies of scale, Oligopolistic

1992-2001 entry into new

markets reduction in
y
competition

Source: Seethapathi & Murthi" Mergers and Acquisitions", Vol. 1, The 1CFAI,
University Press, Hydrabad, 2003.

40
United Kingdom (UK)

In UK mergers and takeovers are common activities of the

enterprises. For this purpose a "City Code", containing rules of games

for mergers and takeover was adopted in the year 1968. Its primary

objective was to develop healthy and fair practices and protect the
interests of the investors and shareholders. Prior to introduction of

'City Code', a person had full freedom to acquire voting rights in a

company in any proportion either through private deal or through

purchase at stock market without any restrictions or regulation.13 The

United Kingdom experienced thousands of M&As. During the period

1964 to 1975, 10273 M&As transactions were recorded (with nominal

value 11093 £m). In the next stage during 1976 to 1985, 4808 M&As

were reported (with nominal value of 23800 £m) and from 1986 to 1992
as many as 6924 M&As took place (with nominal value of 106700 £m).14

Europe
One of the main elements of contemporary corporate

restructuring in Europe was the boom in mergers and acquisitions. The

run-up to the completion of the single European market in 1992
witnessed a wave of mergers within the European Union (EU), while
this was followed by a dip in merger activities in the early to mid 1990s.
In the past few years, the value of M&As have reached unprecedented
levels, influenced in part by the process of European Economic and

Monetary Union (EEMU). After the turn of the century European

companies were engaged in takeover wars, pitting cross-border raiders

41
against national champions. During 1991 and 1999 the cross border

mergers increased to ten times. European governments have been

especially proactive of their national banks. So there have been few
major cross-border mergers of financial institutions. Of late a host of

factors are stimulating M&A activity: interest rates are low, equity

prices are rebounding and the stronger euro makes non-euro-zone

investments more attractive. After three years of pruning costs,

reducing debt, and cleaning up their balance sheets, the firms across

Europe are ready to start cutting deals again, through targeted

acquisition strategies in other countries. Low rates have allowed

companies to refinance debt and free up capital to fund expansion.
Restructuring through M&As across Europe is gaining an increasingly

high profile, as new laws and regulation came into place to achieve

harmonization. Some major M&As in Europe are as follows:15

• Royal Dutch Petroleum buys Shell Transport and Trading for

US$ 75 billion in October 2004.

• Airfranee and KLM Royal Dutch Airlines (2004).

• Adidas acquired Reebok (2005).

• Lufthansa and Swiss International Air Lines (2005).

• Arcelor is acquired by Mittal Steel (2006).

• Corus acquired by Tata Steel (2007).

Japan
Historically, Japanese acquisitions were done very privately and
very quietly by one company taking over a financially distressed
smaller company for the benefit of its employees. Japan's internal

42
business culture is changing, not by leaps and bounds but slowly and
steadily as Japanese companies began to see mergers and acquisitions
within the country and cross border transactions as offering viable

economic benefits. There are three basic factors which are responsible
for M&As in Japan16 viz. (a) consolidation of corporate entities for

survival and to minimize operating costs, (b) secondly large groups

absorb the small and medium enterprises, (c) thirdly, to co-operate with

international companies which can provide money and back-up. Most

of the major banks and securities houses have developed mergers and

amalgamation divisions to explore opportunities and work in intense

competition. Japanese companies have been active both at overseas as
well as domestic fronts. Most of the companies were active in M&As at
domestic front viz., Sanyo Electric merged with its sales arm Tokyo

Sanyo Electric, Mitsushita Electric Industrial Company merged with

Mitsushita Electric Trading Company and Toyota Motor Corporation
with Toyota Sales during 1987. Dai-lehi Bank and Kangyo Bank

merged and formed a new bank DKB which is today world's largest

commercial bank in Japan.17 This trend continued dining 1988 and

onwards. The firms were also active in cross broder M&As. During

1985 and 1986 various mergers were effected by Morgan Stanley.

Merchant bankers for Japanese enterprise Fuji Bank acquired Walter E.
Heler., Sanwa Bank acquired Continental Illinois Leasing, etc., Table 2.2
highlights major M&As deals world wide by value (in Million US$)

during the period 2000 - 2007.

43
 Table - 2.2

Major Mergers and Acquisitions World Wide During 2000-2007

Transaction
Rank Year Purchaser Purchased value (in mil.
USD)
1 2000 Fusion: America Online Time Warner 164.747
Inc. (AOL)
2 2007 Schwebend: Barclays Pic ABN-AMRO 90,839
Holding NV
3 2000 Glaxo Wellcome Pic SmithKline 75,961
Beecham Pic.
4 2004 Royal Dutch Petroleum Shell Transport & 74,559
Co. Trading Co
5 2006 AT & T Inc. Bell South 72,041
Corporation
6 2001 Comcast Corporation AT & T Broadband 72,041
& Internet Svcs
7 2004 Sanofi-Synthelabo SA Aventis SA 60,243
8 2000 Spin-off: Nortel Networks 59,974
Corporation
9 2002 Pfizer Inc. Pharmacia 59,515
Corporation
10 2007 JP Morgan Chase & Co Bank One Corp 58,761
Source: ittp//en.wikipeida.org./wiki/mergers#major-mergers-26,
Acquisitions-2000-2007

Indian Scenario:

Pre-liberalization Era (1947-1990)

The year 1947 is the landmark in the history of India because the

country got independence on the 15th August 1947. At that time the

economic and social conditions were not good. The Government made

44
planned efforts to improve the situation and to achieve higher rate of

economic growth. To achieve these objectives the government

introduced various measures to ensure corporate activities result into
achievement of the planned goal of higher rate of economic growth,

maximum welfare of the society, prosperity and happiness of the Indian

public. It is from this angle, the government prescribed various

regulatory measures. Numerous restrictions were placed on corporate

sector under various enactments viz, Monopolies and Restrictive Trade

Practices Act (MRTP),1969 the Indian Companies Act 1956 and Foreign
Exchange Regulation Act (FERA) 1973 and Industrial Licensing Policy

to have control over the concentration of economic power, expansion,

mergers, acquisitions etc., and to prevent unhealthy practices and

economic evils entering into the system. All these measures were
aimed at protecting the common interest and public welfare. During

the licencing era, several companies had indulged in unrelated

diversifications depending on the availability of the licences. The

companies thrived in spite of their inefficiencies because of the total

capacity in the industry was restricted due to licencing. The restrictions

placed on corporate sector under various Acts remained in vague for

over two decades proved incompatible and became hurdles in the

economic development of the country.

Despite the above unfavourable economic condition, the
corporate sector witnessed 121 takeovers and mergers during the
period 1988-1990.18 There were many instances of corporate raids by

Non Resident Indians (NRIs) as well as Indian industrial entrepreneurs

45
on domestic corporate undertakings. For example, NRI raids were

made by Swaraj Paul, Sethi Groups, Hindujas, Chhabria Groups etc., on

Indian corporates. On the other hand, the Indian Industrial groups viz.
The Goenkas, Oberoi Group, Mahindra and Mahindra (M&M) etc.,

were active in takeover bids.

Post-liberalization Era

Keeping in mind the global economic developments, global

competition, regulatory and technological changes, the Indian

government took a timely and bold decision to liberalize the Indian

economy and passed the Industrial Policy Resolution in 1991 and also

removed restrictions by amending various sections and provisions of

MRTP, Act 1969, Companies Act 1956, FERA 1973, Sick Industrial
Companies Act (SICA) 1985 and Income Tax Act 1961. Delicencing
Policy and Foreign Direct Investment (FDI) policy were also liberalized.
This historical decision of liberalization of Indian economy, virtually

allowed the Indian corporate sector to restructure the activities through

various means like mergers and acquisitions, takeovers, strategic

alliances, spin-offs, divestiture, privatization of public sector
undertakings etc. Among them, M&As have been the principal tools of

corporate restructuring and means of growth and expansion which also

help to achieve strategic, organization and financial motives. Thus

winds of M&As are blowing with a stronger force in Indian corporate

sector during the post liberalization era. As a result, hundreds of M&As

have taken place.

46
Trends in Mergers and Acquisitions in India
The Indian companies are becoming increasingly aggressive in
M&A as they take advantage of the restructuring, changing the face of

the formerly protected domestic industry. The era of liberalization and

globalization have a desirable impact on the domestic companies,

which are gearing up to take the challenge from multinational

companies (MNCs) in high spirit. The number of M&As across

different years is shown in table 2.3 and 2.4.

Table - 2.3
Mergers and Acquisitions During 1992 -1995
Year No.of mergers & acquisitions

1992 Over 100

1993 Over 200

1994 Over 300

1995 Over 400

Source: Subramanian S. (1996)19

Table 2.3 shows that the number of M&A in the year 1992 was

over 100 and in the subsequent years the number showed increasing
trend. The number of M&As which have taken place in India during
1999-2000 to 2004-05 are given in table 2.4.

47
 Table - 2.4
Trends in M&As During 1999 - 2000 to 2004 - 05

Acquisitions
No.of No.of Total
Year value
mergers acquisitions M&As
(Rs. In crores)

1999 - 2000 197 1202 1399 51013

2000 - 01 297 1108 1405 31162

2001-02 304 953 1257 30398

2002-03 381 842 1223 23553

2003 - 04 289 838 1127 35541

2004 - 05 242 785 1027 61106

1710 5228 7438 232773

Source: Compiled from various journals of M&As published by Centre for
Monitoring Indian Economy (CMIE), Mumbai.

Fig-2.1 :Trends in M&As during 1999 - 2000 to 2004 - 05

□ No. of mergers
S No.of acquisitions

1999-00 2000 - 01 2001-02 2002 - 03 2003 - 04 2004 - 05

Year
Source: Table No. 2.4

48
 Table 2.4 indicates that during 1999-2000, 197 mergers and 1202

acquisitions transactions took place. The acquisition value amounted to

Rs. 51013 crores. In the year 2000-01 as many as 297 mergers and 1108

acquisitions aggregating 1405 transactions were reported. In the

subsequent years the number of mergers showed increasing trend

whereas the number of acquisitions indicated downward trend.

Mega Mergers in India

In the protected environment of the 1970s and 1980s many Indian

business houses diversified their activities too much. After

liberalization of the economy, the domestic and international
competition has forced them to re-focus on core business. So the Indian

corporate sector has changed due to restructuring and consolidation.

The companies are building global capacities, modernizing plants, and

improving efficiencies, cutting costs through mergers and acquisitions

route. Some largest and multi-pronged mergers reported in Indian

context are as follows:
a) Merger of Piramal Health Care Ltd (PHL) with Nicholas

Piramal India Ltd (NPIL) (1996)20

This merger has two sides viz, the Boehringer - Mannhiem India
Ltd., Germany drug company, merged with NPIL effective from March
1, 1996 and PHL merged with NPIL effective from June 1, 1996. The
aim of this merger was to achieve improvements in marketing, greater
viability and product complementarily etc. The Piramal Health Care
Companies have moved to the top 20 in 1994, top 10 in 1995 and now

into top five in 1997.

49
b) Four Nirma Arms Merger (1996 - 97)21
During 1996-97 Four Nirma group companies, viz. Nirma
Detergent Ltd., (NDL), Nirma Soaps and Detergents Ltd., (NSDL),
Shiva Soaps and Detergents Ltd., (SSDL) and Nirma Chemicals Ltd.,

(NCL) merged each other and created Nirma Ltd., The objective of this

merger was to have strong and resilient corporate entity to beat

domestic and global competition.

c) Indian Cement Industries (1997 -1999)22
The cement industry has become less fragmented due to the

consolidation of capacity that began in 1996. Five major players are

leading the consolidation drive. Larsen and Tubro (L&T) is the largest
with a total capacity of 12 million tonnes per annum (mtpa), while

Associated Cement Companies (ACC) is in second position with 10.5

mtpa. The others, Grasim (9.7 mtpa), the top five cement companies
today account for 42% of total capacity of 109 million tons p.a and 46%
of an estimated Rs. 250 bm in turnover. All the five major players

acquired a number of cement companies in India during 1997 - 1999 for

building global capacity and to face global competition through M&A

route.
d) Merger of Three G.P. Goenka Firms
Merger of GP Goenka Groups Consolidated Fibres Company
Ltd., and Star Paper Ltd., with another group firm National Rayon

Corporation took place.

50
e) Merger of Reliance Industries and Reliance Petroleum Ltd.,
(2002)23

The merger between Reliance Industries Ltd., (RIL) and Reliance

Petroleum Ltd., (RPL) in the year 2002 is the biggest ever merger in the

Indian corporate world. This was the biggest merger in terms of sales
Rs. 58516 crores, profit Rs. 4548 crores, networth Rs. 23492 crores, total

assets Rs. 54279 crores, equity capital Rs. 5802 crores and reserves Rs.
14919 crores. The objective of this merger was to create an enterprise of

truly global size to face domestic and international competition.

f) Merger of Finance Companies - SCICI - ICICI Merger (1995 - 96)

The case of SCICI and ICICI merger is a pace setting

development. It was intended to strengthen network and create a

"giant" in financial sector to meet the challenges of international
competition as well as to follow international standards to meet huge

demand for financial services. The merger has to enhance networth

fund raising capacity and credibility. Another important motive behind

merger was to reduce the volume of non-performing assets (NPA).

During the post merger period 1996-97 the performance of the company
improved. There was increase in the net profit, dividend per share,

capital base, and return on assets.

Indian Policy on Mergers and Acquisitions

Mergers and acquisitions in India have not been uncommon

despite an unfavourable economic environment that existed before
liberalization in 1991. Mergers have been mostly in the spirit of law.
The Companies Act of 1956 provides the procedure for friendly

51
amalgamations. Similarly, the Income Tax Act of 1961 provides

incentive of carry forwarding losses to the merged company. However,

the major hurdles for large companies were the Monopolies and
Restrictive Trade Practices Act (MRTP) of 1969 and for foreign
companies the Foreign Exchange and Regulation Act (FERA) of 1974.

Hence, mergers and acquisitions were low in India.

The Government of India had made it mandatory by the MRTP

Act for business groups (interconnected undertakings) commanding

assets of Rs. 100 crore or more (Rs 20 crore or more from 1969 to 1985)

to obtain prior approval of the central government for expansion,

establishment of new undertakings, merger, amalgamation, takeover,

and appointment of directors. The MRTP Act was restructured in 1991

and the requirement of prior approval has been eliminated. FERA

restricted equity holding of a foreign company in Indian companies to

40 percent. This too has been relaxed by increasing the limit to 51

percent in most cases. In special cases it can be even more than 51

percent subject to the permission of the Foreign Investment Promotion
Board (FIPB). These provisions have made it easy for companies, both
Indian and foreign, to go in for mergers and acquisitions. Till February
20, 1997, two sets of regulations governed takeovers: Clause 40 (A and
B) of the listing agreement and the Securities Exchange Board of India
(SEBI) Takeover Code of 1994. Clause 40 provided for making a public
offer to the shareholders of a company by any person who sought to
acquire 10 percent (25 percent till it was revised in 1990) or more of the

voting rights of the company.

52
Outlines ofSEBI Takeover Code
According to the SEBI Takeover Code, as soon as the equity
holding of the acquirer was about to cross the 5 per cent limit, there was

a provision for mandatory disclosure to the target company and the

stock exchanges. That duty continued till the holding was less than 10

percent. The moment the 10 percent threshold was likely to be crossed,

the acquirer had to make a public offer through a merchant banker to

purchase at least 20 percent of the capital of the target company at the

market rate. This is to ensure the protection of the interest of every

shareholder. As against this, management of the target company was

restrained from asset stripping or issuing further securities. The role of

shareholders is significantly important in takeover. It may happen that
shareholders of the target company take the lead and mute witness to
the takeover process. The acquirer's disclosure and other duties cease

with the crossing of the 75 percent threshold. The SEBI Takeover Code

was criticized by various quarters for its insufficient

comprehensiveness. Also this code coupled with Clause 40 (A and B) of
the listing agreement had caused much confusion as there existed some
inconsistency between the two legislations; there were, in addition,
unaddressed gaps concerning takeovers.

The New Takeover Code

SEBI constituted a committee under the chairmanship of P.N.
Bhagwati, former Chief Justice of the Supreme Court of India, to
examine the areas of deficiencies in the existing regulations and to
suggest amendments to make takeovers more fair, transparent, and

53
unambiguous. The Committee released the draft code on takeovers on
August 28, 1996. The SEBI board finalized the new takeover code,

based on the draft code on takeovers, with a few changes on January 30,
1997. This was notified on February 20, 1997 as Securities and

Exchanges Board of India (Substantial Acquisition of Shares and

Takeovers) Regulations, 1997.

The new regulations differ from the old one on certain important
aspects. Preferential allotments to promoters have been specifically

exempted from the requirement of public offer. "Change in control"

has been made a ground for public offer. Open market acquisitions by
the acquirer will be permitted during the offer period, subject to highest
acquisition price being paid to shareholders under public offer. The
minimum offer price shall be the highest of either the negotiated price,

the six month average of highs and lows, or the price paid by the
acquirer for buying shares in target company in the last 26 weeks. The

acquirer will have to deposit or provide bank guarantees or securities

with appropriate margins of 10 percent of total offer amount in an

escrow account, which could be forfeited in the event of default.

Directors of the target company will be allowed to make

recommendations on the offer to shareholders, public offer could be
revised to include upward revision of price and quantity of shares.
Offer letters will not be required to be vetted by SEBI. The competitive
bid can be announced within 21 days of the public announcement of the
first offer. The original acquirer can withdraw or revise his offer within
14 days of the announcement of the competitive bid. If offer is

54
withdrawn, no fresh open offer will be allowed by the same acquirer for

the next six months. The acquirer of a holding company will be

required to make a public offer to shareholders of each of the companies

acquired through such an acquisition. The regulations permit creeping

acquisition up to 2 percent every year by acquirers holding not less than

10 percent but not more than 51 percent. Any purchase by a person

holding more than 51 percent would have to be in a transparent manner

through a public tender offer24.

Exit policy in India is yet to be relaxed. Eventually it will be

relaxed as it is the logical conclusion of the liberalization process. When
this is done, asset stripping would become easy. This coupled with the
latest regulations is likely to substantially increase the number of

mergers and acquisitions.

SECTION - III

Approaches to the Study of Pre-merger and Post-merger

Performance Evaluation

Corporate sector in India is restructuring its operations through

M&As, which is considered as a vehicle for achieving growth and

expansion. Through M&As process it is expected that the performance

of firms will improve after merger.
The approaches to the study of pre-merger and post-merger
performance evaluation of M&As designed for the study are portrayed

in chart No. 2.1.

55
 Chart - 2.1
Approaches to the Study of Pre-merger and Post-merger
Performance Evaluation

I. Analysis of pre II. Analysis of pre III. Analysis of pre

and post merger and post merger and post merger
profitability operating financial
performance performance
1) Gross Profit 1) Ratio of Cost of 1) Debt to Equity
ratio. Goods Sold to Ratio
2) Operating Profit Net Sales 2) Proprietary Ratio
Ratio 2) Ratio of Material 3) Times Interest
3) Earnings Before Cost to Net Sales Coverage Ratio
Interest and 3) Ratio of Labour 4) Cash Coverage
Taxes to Net Cost to Net Sales Ratio
Sales Ratio 4) Ratio of 5) Fixed Assets
4) Net Profit to Net Manufacturing Ratio
Sales Ratio Expenses to Net
5) Return on Total Sales
Assets 5) Ratio of
6) Return on Administration
Capital and Selling and ♦
Employed Distribution
7) Return on Cost to Net Sales
Equity 6) Inventory
8) Earning Per Turnover Ratio
Share 7) Average
9) Dividend Per Holding Period
Share 8) Debtors'
Turnover Ratio
9) Average
Collection
Period
10) Capital
Employed
Turnover Ratio
11) Fixed Assets
Turnover Ratio
12) Current Asset
Turnover Ratio

56
 It is clear from chart 2.1 that suitable approaches have been
employed to evaluate the pre-merger and post-merger performance of
sample units. These include (a) Analysis of pre-merger and post­

merger profitability (b) Analysis of pre-merger and post merger

operating performance and (c) Analysis of pre-merger and post-merger
financial performance. Various ratios have been computed and applied

to analyze the pre and post merger performance.

The discussion on pre-merger and post-merger performance

evaluation in respect of profitability, operating and financial

performance has been made in chapters 4,5 and 6.

References:

1. Seethapathi, Murthy (Ed) (2003) 'Mergers and Acquisitions'. Vol. I

pp.5. The ICFAI University Press, Hyderabad.

2. Shinde S.R. (1995), "Takeovers and Mergers: As Means of Industrial

Restructuring", The Management Accountant, Vol. 30, No. 7.

3. Khan & Jain (2000),'Financial Management', 3rd Edition, pp. 8.2. Tata
McGraw-Hill Publishing Company Ltd., New Delhi.

4. Khan & Jain (2000),'Financial Management', 3rd Edition, pp. 8.2. Tata
McGraw-Hill Publishing Company Ltd., New Delhi.

5. Subramanian (1996) "Evaluation of Strategies for Mergers

Amalgamations and Acquisitions". The Management Accountant.
Vol. 31. No. 11, pp. 829-831.

6. The Oxford English Dictionary.

57
7. Seethapathi & Murthy (Ed) (2004) 'Mergers and Acquisitions'. Vol. I
pp. 11. The ICFAI Press Hyderabad.

8. Merrill Lynch, 'Business Brokerage and Valuation Merger' Stat

Reviews 1989, and 1994.

9. Merrill Lynch Business Brakerage and Valuation Merger Stat

Reviews 1989, and 1994.

10. Merrill Lynch, 'Business Brakerage and Valuation Merger1 Stat

Reviews 1989, and 1994.

11. Merrill Lynch, 'Business Brakerage and Valuation Merger’ Stat

Reviews 1989, and 1994.

12. Gaughan Patrick 'Mergers acquisitions and Corporate Restructuring'.

13. Verma J.C. (2002), 'Corporate Mergers Amalgamations and Takeovers',

Bharat Publishing House, New Delhi, pp. 5.

14. Sudarsanam P. S. (1997), The Essence of Mergers and Acquisitions,

Prentice Hall of India Pvt. Ltd., New Delhi, pp.3.

15. http:/en.wikipedia.org/wiki/mergers#major_mergers_26_acquisit
ins2000-2007.

16. Verma J.C. (2002), Corporate, Mergers, Amalgamations and Takeovers,

pp. 5, Bharat Publishing House, New Delhi.

17. Verma J.C. (2002) Corporate Mergers Amalgamation and Takeovers,

Bharat Publishing House New Delhi, pp. 6.

18. Verma J.C. (2002) Corporate Mergers Amalgamator) and Takeover,

Bharat Publishing House New Delhi, pp. 5.

58
19. Subramanian S. (1996), "Evaluation of Strategies for Mergers
Amalgamations and Acquisitions". The management Accountant.
Vol. 31. No. 11, pp. 829-831.

20. Economic Times dated 4.12.1996.

21. Economic Times dated 27.3.1997.

22. Business India Intelligence p. 6.3 charts, dated 5.01.2000.

23. Deccan Herald dated 2.3.2002.

24. Dhawala Mehta and Sunil Samanta (1997) "Mergers and

Acquisitions: Nature and Significance", Vikalpa, Vol. 22, No.4.

59