Procedural Difficulties in Merger and Acquisition

 

Viplav Baranwal, Rachi Singh

Hidayatullah National Law University, Raipur

 

INTRODUCTION:

A business may grow over time as the utility of its products and services is recognized. It may also grow through an inorganic process, symbolized by an instantaneous expansion in work force, customers, infrastructure resources and thereby an overall increase in the revenues and profits of the entity. Mergers and acquisitions are manifestations of an inorganic growth process. While mergers can be defined to mean unification of two players into a single entity, acquisitions are situations where one player buys out the other to combine the bought entity with itself. It may be in form of a purchase, where one business buys another or a management buyout, where the management buys the business from its owners. Further, de-mergers, i.e., division of a single entity into two or more entities also require being recognized and treated on par with mergers and acquisitions regime as recommended below, and accordingly references below to mergers and acquisitions also is intended to cover de-mergers (with the law & Rules as framed duly catering to the same).

 

Distinction between mergers and acquisitions

The terms merger and acquisition mean slightly different things. The legal concept of a merger (with the resulting corporate mechanics, statutory merger or statutory consolidation, which have nothing to do with the resulting power grab as between the management of the target and the acquirer^[) is different from the business point of view of a "merger", which can be achieved independently of the corporate mechanics through various means such as "triangular merger", statutory merger, acquisition, etc.

 

From a legal point of view, in an acquisition, the target company still exists as an independent legal entity, which is controlled by the acquirer.

 

In the pure sense of the term, a merger happens when two firms agree to go forward as a single new company rather than remain separately owned and operated. This kind of action is more precisely referred to as a "merger of equals". The firms are often of about the same size. Both companies' stocks are surrendered and new company stock is issued in its place. For example, in the 1999 merger of Glaxo Wellcome and SmithKline Beecham, both firms ceased to exist when they merged, and a new company, GlaxoSmithKline, was created.¹

 

In practice, however, actual mergers of equals don't happen very often. Usually, 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 is technically an acquisition. A purchase deal will also be called a "merger" when both CEOs agree that joining together is in the best interest of both of 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".

Motive

Specific motives for mergers for strategic and financial reasons include the following:

1.      Tax advantages – Tax advantages in mergers will differ from one location to another. In US it can be utilized if the acquiring firm or target company has a tax loss carry-forward.Tax loss carry-forward refers to the ability to deduct past losses from the taxable income. This advantage is available in mergers but not for holding companies. For example, assume the acquiring company is a profitable company and the target company is a loss maker which incurred losses in the past two years. When the merger is completed, the operating results of a merged company, which probably will have the identity of the acquiring company, will be reported on a consolidated basis. This means the acquiring company will be able to deduct past losses of the target company from the consolidated taxable income, within limits

2.      Increases liquidity for owners – If the acquiring firm is a large company and target company is a small organization then the target company’s shareholders may find it very appealing that after merger their shares’ liquidity and marketability will likely be considerably better.

3.      Gaining access to funds – the acquiring company may have high financial leverage (a lot of debt) thereby making access to additional external debt financing very limited. Therefore, one of the motives of the acquiring company to undertake the merger is to merge with a company which has a healthy liquidity position with low or non-existent financial leverage (very little or no debt).

4.      Growth – This is one of the most common motives for mergers. It may be cheaper and less risky for the acquiring company to merge with another provider in a similar line of business than to expand operations internally. It is also much faster to grow by acquisition than internally. Sometimes an organization may have a window of opportunity that will be closing fast and the only way the organization can take advantage of the window of opportunity is by acquiring a company with competencies and resources necessary and, most likely, complementarities to the acquiring company to take advantage of the opportunity. Additional benefits of growth motivated mergers are that a competitor or potentially future competitor is eliminated.

5.      Diversification – Diversification is an external growth strategy and sometimes serves as a motive for a merger. It refers to expanding in the current market or entering new markets and adding related new products and services to the product or service line of the acquiring company.

6.      Synergistic benefits – Synergy occurs when the whole is greater than sum of its parts. For example, in terms of math it could be represented as “1+1=3” or as “2+2=5”. Within the context of mergers, synergy means the performance of firms after a merger (in certain areas and overall) will be better than the sum of their performances before the merger.

7.      Protection against a hostile takeover – Defensive acquisition is one of the hostile takeover defense strategies that may be undertaken by target of the hostile takeover to make itself less attractive to the acquiring company. In such a situation, the target company will acquire another company as a defensive acquisition and finance such an acquisition through adding substantial debt. Due to the increased debt of the target company, the acquiring company, which planned the hostile takeover, will likely lose interest in acquiring the now highly leveraged target company. Before a defensive acquisition is undertaken, it is important to make sure that such action is better for shareholders’ wealth than a merger with the acquiring company which started off the whole process by proposing an hostile takeover.

8.      Acquisition of required managerial skills, assets or technology – The target company may have managerial skills, assets or technology that the acquiring company needs to improve its performance, profits, revenue, cut costs, reduce productivity etc. This can become a motive for merger.²

 

Procedural and other Problems in Merger and Acquisition

Despite the goal of performance improvement, results from mergers and acquisitions (M&A) are often disappointing compared with results predicted or expected. Numerous empirical studies show high failure rates of M&A deals. Studies are mostly focused on individual determinants. A book by Thomas Straub (2007) "Reasons for frequent failure in Mergers and Acquisitions" develops a comprehensive research framework that bridges different perspectives and promotes an understanding of factors underlying M&A performance in business research and scholarshipFor the dimension strategic management, the six strategic variables: market similarity, market complementarities, production operation similarity, production operation complementarities, market power, and purchasing power were identified having an important impact on M&A performance. For the dimension organizational behavior, the variables acquisition experience, relative size, and cultural differences were found to be important. Finally, relevant determinants of M&A performance from the financial field were acquisition premium, bidding process, and due diligence. Three different ways in order to best measure post M&A performance are recognized: Synergy realization, absolute performance and finally relative performance. Employee turnover contributes to M&A failures. The turnover in target companies is double the turnover experienced in non-merged firms for the ten years following the merger.

 

The Obstacles to Making it Work

Coping with a merger can make top managers spread their time too thinly and neglect their core business, spelling doom. Too often, potential difficulties seem trivial to managers caught up in the thrill of the big deal.³

 

The chances for success are further hampered if the corporate cultures of the companies are very different. When a company is acquired, the decision is typically based on product or market synergies, but cultural differences are often ignored. It's a mistake to assume that personnel issues are easily overcome. For example, employees at a target company might be accustomed to easy access to top management, flexible work schedules or even a relaxed dress code. These aspects of a working environment may not seem significant, but if new management removes them, the result can be resentment and shrinking productivity. 

 

Delay in the process

The process of mergers and acquisitions in India is court driven, long drawn and hence problematic. The Companies Act, 1956 consolidates provisions relating to mergers and acquisitions and other related issues of compromises, arrangements and reconstructions, however other provisions of the Companies Act get attracted at different times and in each case of merger and acquisition and the procedure remains far from simple.

 

Cultural difference is also a big problem in case of a merger. When two companies from different corporate cultures come together it becomes a really challenging task to integrate the cultures of both the companies. It is certainly difficult to maintain the difference and move ahead for success without any kind of integration.⁴

 

Unforeseen Costs after A Merger or Acquisition

Other downfalls of an acquisition or a merger may include the business not performing as well as you thought it might.

 

CONCLUSION:

Jim Collins said that great companies A used acquisitions as an accelerator of flywheel momentum, not a creator of it.  For Lean Production and Build-to-Order, appropriate acquisitions, mergers, and alliances would be up and down the supply chain.

 

The success of mergers depends on how realistic the deal makers are and how well they can integrate two companies while maintaining day-to-day operations. 

 

The potential profit of merger or acquisition to create value for shareholders from both sides could easily be overestimated. The positive impact of merger or acquisition can be very short-termed, and then the problems of integration and further business operation. Mergers and acquisitions obviously have the advantages, but investors have to scrutinize the promises of deal-makers carefully. Mergers and acquisitions are used as instruments of momentous growth and are increasingly getting accepted by Indian businesses as critical tool of business strategy. They are widely used in a wide array of fields such as information technology, telecommunications, and business process outsourcing as well as in traditional business to gain strength, expand the customer base, cut competition or enter into a new market or product segment. Mergers and acquisitions may be undertaken to access the market through an established brand, to get a market share, to eliminate competition, to reduce tax liabilities or to acquire competence or to set off accumulated losses of one entity against the profits of other entity. 

 

REFERENCES:

1.       Ben McClure, Mergers and Acquisitions: Definition (August 17, 2013) http://www.investopedia.com/university/mergers/mergers1.asp

2.       Blog-B School,  8 Specific motives for mergers and acquisitions (August 14, 2013) http://blogbschool.com/2010/10/27/8-specific-motives-for-mergers-and-acquisitions/

3.       Report Of The Expert Committee On Company Law, Mergers And Acquisitions (August 16, 2013) http://www.mca.gov.in/MinistryV2/chapter10.html.

4.       Vedant Shukla* & Kriti Sharma, MECHANICS OF MERGERS & ACQUISITIONS (August 13, 2013) http://www.findindianlawyer.co.in/articles/MECHANICS%20OF%20MERGERS%20&%20ACQUISITIONS.htm