Amity Campus

Uttar Pradesh
India 201303

ASSIGNMENTS
PROGRAM: MFC

SEMESTER-IV

Subject Name :Mergers And Acquisition

Study COUNTRY :
Roll Number (Reg.No.) :
Student Name :

Signature :
Date : 30-04-2016

( √ ) Tick mark in front of the assignments submitted

Assignment ‘A’  Assignment ‘B’  Assignment ‘C’ 

MERGER & ACQUISITION
ASSIGNMENT A
Q.1 Mention the Difference between - Leverage Buy out, Venture capital & growth fund?

Answer (1):

a) A leveraged buy-out (LBO) is a transaction in which capital borrowed from a

commercial lender is used to fund a large portion of the purchase. Generally, the loans
are arranged with the expectation that the earnings of the business will easily repay the
principal and interest. The LBO potentially has great rewards for the buyers who,
although they frequently make little or no investment, own the tar- get company free
and clear after the acquisition loans are repaid by the earnings of the business. LBOs
are often arranged to enable the managers of subsidiaries or divisions of large
corporations to purchase a subsidiary or division which the corporation wants to divest,
known as an ‘‘MBO,’’ or management buy-out.
The LBO transaction will generally take one of two basic forms: the sale of assets or the
cash merger. Under the cash merger format, the acquired company disappears upon
merger into the acquiring company and its shareholders receive cash for their shares.
Under the sale of assets format, on the other hand, the operating assets become part
of the buying company but the selling company will generally be given the option of
either receiving cash or continuing to hold their shares in the selling company.
At the heart of the LBO transaction are the dynamics of financing the acquisition by
employing the assets of the acquired company as a basis for raising capital. Large
unused borrowing capacity is the characteristic which typically enables a purchaser to
use the seller’s assets to borrow the purchase price.

b) Venture Capital:A buyer/offeror whose transaction does not qualify for debt
financing from a commercialbank or where a private placement is not appropriate might
consider an institutionalventure capital or buy- out as a source of acquisition financing.
The term ‘‘venturecapital’’ has been defined in many ways, but refers generally to
relatively high-risk,early-stage financing of young, emerging growth companies. The
professional venturecapitalist is usually a highly trained finance professional who
manages a pool of venturefunds for in- vestment in growing companies on behalf of a
group of passive investors.
Another major source of venture capital available to buyer/offerors who meet
certainminimum size requirements is a Small Business Investment Company (‘‘SBIC’’).
AnSBIC is a privately organized investment firm which is specially licensed under the
SmallBusiness Investment Act of 1958 to borrow funds through the Small
BusinessAdministration for subsequent investment in the small business community.
Finally,some private corporations and state governments also manage venture capital
fundswhich may be available sources of equity capital for acquisition financing.
c) Growth Fund:A mutual fund whose aim is to achieve capital appreciation by
investing in growth stocks. They focus on companies that are experiencing significant
earnings or revenue growth, rather than companies that pay out dividends. The hope is
that these rapidly growing companies will continue to increase in value, thereby
allowing the fund to reap the benefits of large capital gains. In general, growth funds
are more volatile than other types of funds, rising more than other funds in bull markets
and falling more in bear markets.
It is a mutual fund that invests in growth stocks. The ambition is to make available
resources positive reception for the fund's shareholders over the long term. Growth
funds are more unpredictable than more old school wages or capital bazaar funds. They
have a tendency to go up more rapidly than old school funds in bull (going forward)
markets and to go down more harshly in bear (diminishing) markets.Growth funds put
forward superior prospective expansion, save for more often than not at an upper level
of business risk.

Q.2 what do you mean by corporate control? Explain the how shares buy back work out?

Answer (2):

The term "corporate control" refers to the authority to make the decisions of a
corporation regarding operations and strategic planning, including capital allocations,
acquisitions and divestments, top personnel decisions, and major marketing,
production, and financial decisions. This concept is frequently applied to publicly traded
companies, which may be susceptible to changes in corporate control when large
investors or other companies seek to wrest control from managers or other
shareholders.

The notion of corporate control is similar to that of corporate governance; however,

it is usually used in a narrower sense. Corporate control is concerned with who has—
and, moreover, who exercises—the ultimate authority over significant corporate
practices. Governance, by contrast, involves the broader interworkings of the day-to-
day management, the board of directors, the shareholders at large, and other
interested parties to formulate and implement corporate strategy.

Owner vs. Management control

Evolution of Control
Partnerships involving an owner responsible merely for providing capital and a manager
responsible for running the business have been traced back to the 12th century. During
the Industrial Revolution, however, a class of managers who held ultimate decision-
making power in their companies—even though they owned a relatively negligible
amount of stock—evolved. This concept of managerial control, made possible through a
scattered and diverse ownership, had been established by the end of the 19th century,
and was epitomized by railroad promoters who managed to control enterprises while
putting up very little, if any, capital of their own. The ordinary stockholder is relatively
powerless in this situation; thus, corporate control is quite distinct from corporate
ownership.

Corporations can pass from owner control to management control in various ways. The
early growth of large corporations is typically a period in which they are dominated by
an entrepreneur who owns a controlling interest in the company's stock. This was
typical of large firms in the United States in the beginning of the 20th century. In order
to raise capital for expansion, the entrepreneur can sell off most of his holdings and use
the authority of his position in the company to maintain control, as happened in many
U.S. firms in the postwar years.

Exercising Control
The power to make decisions regarding a firm's operations and policies can be based on
legal authority—i.e., ownership—or the power of one's position in the company. The
government, competition, banks, and societal forces limit this power but do not make
the decisions, except in industries that are regulated by the government or that are
under the control of a financial institution.

Whether managers in a position of control act to further their interests or those of the
owners is a point of potential conflict. The management entrenchment theory states
that managers tend to run a company in ways that distance the board of directors, and
thereby the shareholders, from many aspects of control. This may be done subtlety, as
when managers accumulate large stock holdings—a practice that is often assumed to
better align management with shareholder interests.

The interests of owners are usually simply defined in terms of profit maximization.
Those of management have been variously categorized on one hand as altruism, i.e.,
desiring the freedom to carry out policies that better serve the good of society than
purely profit-seeking activities would, and on the other, as pure self-interest in lavish
pensions, compensation, perquisites, and other "expense preferences" that are not
related to firm performance. A bias towards growth over profits has also been
speculated, based on the argument that with a larger organization, executives can
justify larger salaries. Also, larger corporations have been perceived as being less
vulnerable to takeover, although the leveraged buyouts and takeovers of the 1980s
have proven that the Goliaths among corporations are not invincible.

Studies have found managers whose compensation is not as incentive based are more
cautious in borrowing money for development, perhaps because they do not want to
place their firms under greater control by financial institutions, or jeopardize their
stability and reputation. Also, the larger the managers' own corporate holdings, the
more aggressively they tend to borrow.
Shareholders have the legal right to remove managers who do not serve their interests.
A number of factors, however (e.g., management control of proxy machinery), can
make this difficult in large corporations. Often share ownership is so diffuse that it is
hard to mobilize the shareholders, most of whom never exercise their right to vote,
around any particular issue. Nonetheless, a "market for corporate control" has arisen
when individuals or institutions buy up significant blocks of a single company's stock
and then place demands on the management. Scholarly research suggests that such
contests for control have indeed resulted in changing corporate policies and improving
stock performance over time. When shareholder interests are compromised, inefficient
managers may be susceptible to takeover bids caused by reduction in stock value.

One way management control is maintained is by controlling the composition of the

board of directors, mostly composed of company officers, officers of important suppliers
or financial institutions, or personal friends of management. The few outside directors,
or directors who do not themselves hold offices in the corporation, are often unable to
make informed decisions or suggest alternative courses of action due to their
unfamiliarity with the company, or, in many cases, other responsibilities, such as
serving on other boards, for example. Representatives of banks are often limited by
legislation as to their involvement as directors.

How shares buyback work out

The board of directors for a company will announce that they have decided to buy back
their own shares from the current outstanding shares and then retiring those shares. A
Company may do this for several reasons but the main reason is to increase the value
of the stock price for the shareholders.

Suppose a company has 10 million outstanding shares and a current stock price of
$5/share (keep in mind the market cap would be $50 million). The company announces
that the board has authorized the repurchase of 5 million shares. Then the company
will typically buy those shares back throughout the year (or whatever time frame)
reducing the outstanding shares to 5 million from the initial 10 million. Let's say that
miraculously the company was able to purchase all 5 million shares at $5/share. So they
spend $50 million buying back the stock. If I was wealthy shareholder and own 1
million shares of the company then before the buyback I owned 10% (my shares / total
outstanding shares....1 million/10million) of the company. After the buyback there are
now 5 million shares so I own 20% (1 million / 5 million) of the company.
If the stock remains at $10/share after the buyback then the market cap is now 25
million, but if shareholders thought the value of company was worth 50 million before
the only thing that has changed after the buyback is the number of outstanding shares.
So that means the price should increase to make the market cap go back up.

So the idea is when a company buys back stock they increase the value of each share
to the shareholder by increasing their ownership in the company. In our case the price
of the stock should now be $10/share making the market cap 50 million again
($10/share x 5 million shares = $50 million). So buybacks are an alternative to
dividends as a method for a company to return value to the shareholders.

Q.3 Write notes on the following:-

A) Split off.

B) Amalgamation.

C) Hostile Takeover Bid

Answer (3):

a) Split off
Split ups are type of demerger which involves the division of parent company into two
or more separate companies where parent company ceases to exist after the demerger.
This involves breaking up of the entire firm into a series of spin off (by creating
separate legal entities). The parent firm no longer legally exists and only the newly
created entities survive. For instance a corporate firm has 4 divisions namely A, B, C, D.
All these 4 division shall be split-up to create 4 new corporate firms with full autonomy
and legal status. The original corporate firm is to be wound up. Since de-merged units
are relatively smaller in size, they are logistically more convenient and manageable.
Therefore, it is understood that spin-off and split-up are likely to enhance shareholders
value and bring efficiency and effectiveness.

b) Amalgamation
Amalgamation is an arrangement or reconstruction. It is a legal process by which two
or more companies are to be absorbed or blended with another. As a result, the
amalgamating company loses its existence and its shareholders become shareholders of
new company or the amalgamated company. In case of amalgamation a new company
may came into existence or an old company may survive while amalgamating company
may lose its existence.
According to Halsbury‘s law of England amalgamation is the blending of two or more
existing companies into one undertaking, the shareholder of each blending companies
becoming substantially the shareholders of company which will carry on blended
undertaking. There may be amalgamation by transfer of one or more undertaking to a
new company or transfer of one or more undertaking to an existing company.
Amalgamation signifies the transfers of all are some part of assets and liabilities of one
or more than one existing company or two or more companies to a new company.

c)Hostile takeover bid

Hostile Takeover Bid takes place whenthe acquiring firm, without the knowledge and
consent of the management of the target firm, may unilaterally pursue the efforts to
gain a controlling interest in the target firm, by purchasing shares of the later firm at
the stock exchanges. Such case of merger/acquisition is popularity known as ‘raid’. The
Caparogroup of the U.K. made a hostile takeover bid to takeover DCM Ltd. and Escorts
Ltd. Similarly, some other NRI‘s have also made hostile bid to takeover some other
Indian companies. The new takeover code, as announced by SEBI deals with the hostile
bids.

Q.4 Explain the Net Asset Value method of valuation of firm?

Answer (4):

Net Value Asset (NAV) is the sum total of value of asserts (fixed assets, current assets,
investment on the date of Balance sheet less all debts, borrowing and liabilities
including both current and likely contingent liability and preference share capital).
Deductions will have to be made for arrears of preference dividend, arrears of
depreciation etc. However, there may be same modifications in this method and fixed
assets may be taken at current realizable value (especially investments, real estate etc.)
replacement cost (plant and machinery) or scrap value (obsolete machinery). The NAV,
so arrived at, is divided by fully diluted equity (after considering equity increases on
account of warrantconversion etc.) to get NAV per share.

The three steps necessary for valuing share are:

1. Valuation of assets
2. Ascertainment of liabilities
3. Fixation of the value of different types of equity shares.

All assets (value by appropriation method -all liabilities - preference shares)

NAV =
Fully diluted equity shares

Net asset value," or "NAV," of an investment company is the company’s total assets
minus its total liabilities. For example, if an investment company has securities and
other assets worth $100 million and has liabilities of $10 million, the investment
company’s NAV will be $90 million. Because an investment company’s assets and
liabilities change daily, NAV will also change daily. NAV might be $90 million one day,
$100 million the next, and $80 million the day after.

Mutual funds and Unit Investment Trusts (UITs) generally must calculate their NAV at
least once every business day, typically after the major U.S. exchanges close. A closed-
end fund whose shares generally are not "redeemable" —that is not required to be
repurchased by the fund—is not subject to this requirement.

An investment company calculates the NAV of a single share (or the "per share NAV")
by dividing its NAV by the number of shares that are outstanding. For example, if a
mutual fund has an NAV of $100 million, and investors own 10,000,000 of the fund’s
shares, the fund’s per share NAV will be $10. Because per share NAV is based on NAV,
which changes daily, and on the number of shares held by investors, which also
changes daily, per share NAV also will change daily. Most mutual funds publish their per
share NAVs in the daily newspapers.

The share price of mutual funds and traditional UITs is based on their NAV. That is, the
price that investors pay to purchase mutual fund and most UIT shares is the
approximate per share NAV, plus any fees that the fund imposes at purchase (such as
sales loads or purchase fees). The price that investors receive on redemptions is the
approximate per share NAV at redemption, minus any fees that the fund deducts at that
time (such as deferred sales loads or redemption fees).

Q.5 Mention the types of merge & acquisition?

Answer (5):

There are four types of merger are as follows:

1. Horizontal merger:
It is a merger of two or more companies that compete in the same industry. It is a
merger with a direct competitor and hence expands as the firm‘s operations in the same
industry. Horizontal mergers are designed to produce substantial economies of scale
and result in decrease in the number of competitors in the industry. The merger of Tata
Oil Mills Ltd. with the Hindustan lever Ltd. was a horizontal merger.In case of horizontal
merger, the top management of the company being meted is generally replaced by the
management of the transferee company. One potential repercussion of the horizontal
merger is that it may result in monopolies and restrict the trade.
Weinberg and Blank7 define horizontal merger as follows:

“A takeover or merger is horizontal if it involves the joining together of two companies

which are producing essentially the same products or services or products or services
which compete directly with each other (for example sugar and artificial sweetness)”.

In recent years, the great majority of takeover and mergers have been horizontal. As
horizontal takeovers and mergers involve a reduction in the number of competing firms
in an industry, they tend to create the greatest concern from an anti-monopoly point of
view, on the other hand horizontal mergers and takeovers are likely to give the greatest
scope for economies of scale and elimination of duplicate facilities.

2. Vertical merger:
It is a merger which takes place upon the combination of two companies which are
operating in the same industry but at different stages of production or distribution
system. If a company takes over its supplier/producers of raw material, then it may
result in backward integration of its activities. On the other hand, Forward integration
may result if a company decides to take over the retailer or Customer Company.
Vertical merger may result in many operating and financial economies. The transferee
firm will get a stronger position in the market as its production/distribution chain will be
more integrated than that of the competitors. Vertical merger provides a way for total
integration to those firms which are striving for owning of all phases of the production
schedule together with the marketing network (i.e., from the acquisition of raw material
to the relating of final products).

A takeover of merger is vertical where one of two companies is an actual or

potentialsupplier of goods or services to the other, so that the two companies are both
engagedin the manufacture or provision of the same goods or services but at the
different stagesin the supply route (for example where a motor car manufacturer takes
over amanufacturer of sheet metal or a car distributing firm). Here the object is usually
toensure a source of supply or an outlet for products or services, but the effect of
themerger may be to improve efficiency through improving the flow of production
andReducing stock holding and handling costs, where, however there is a degree
ofconcentration in the markets of either of the companies, anti-monopoly problems
mayarise.

3. Congeneric Merger:
In these, mergers the acquirer and target companies are related through
basictechnologies, production processes or markets. The acquired company represents
anextension of product line, market participants or technologies of the
acquiringcompanies. These mergers represent an outward movement by the acquiring
companyfrom its current set of business to adjoining business. The acquiring company
derivesbenefits by exploitation of strategic resources and from entry into a related
markethaving higher return than it enjoyed earlier. The potential benefit from these
mergers ishigh because these transactions offer opportunities to diversify around a
common caseof strategic resources.

Western and Mansinghka classified congeneric mergers into product extension

andmarket extension types. When a new product line allied to or complimentary to
anexisting product line is added to existing product line through merger, it defined
asproduct extension merger, Similarly market extension merger help to add a new
marketeither through same line of business or adding an allied field . Both these types
bearsome common elements of horizontal, vertical and conglomerate merger. For
example,merger between Hindustan Sanitary ware industries Ltd. and associated Glass
Ltd. is aProduct extension merger and merger between GMM Company Ltd. and Xpro
Ltd.contains elements of both product extension and market extension merger.

4. Conglomerate merger:
These mergers involve firms engaged in unrelated type of business activities i.e.
thebusiness of two companies are not related to each other horizontally (in the sense
ofproducing the same or competing products), nor vertically (in the sense of
standingtowards each other n the relationship of buyer and supplier or potential buyer
andsupplier). In a pure conglomerate, there are no important common factors between
thecompanies in production, marketing, research and development and technology.
Inpractice, however, there is some degree of overlap in one or more of these common
factors.

Conglomerate mergers are unification of different kinds of businesses under oneflagship

company. The purpose of merger remains utilization of financial resources,enlarged
debt capacity and also synergy of managerial functions. However, thesetransactions are
not explicitly aimed at sharing these resources, technologies,synergies or product
market strategies. Rather, the focus of such conglomeratemergers is on how the
acquiring firm can improve its overall stability and useresources in a better way to
generate additional revenue. It does not have directimpact on acquisition of monopoly
power and is thus favored throughout the worldas a means of diversification.

Q.6 what are the advantage of disinvestment in the Public Sector Units?

Answer (6):

Disinvestment refers to sale of Government equity, either wholly or partially to

private sector.. Disinvestment is the process in which certain percentage of shares of
public sector units is disinvested to private sector. It is also known as privatization.
Through disinvestment government can withdraw its resources invested in public sector
undertaking (PSUs) and can use such resources for development of the economy. When
a PSU is disinvested government usually keeps strategic control in to strategic and
nonstrategic areas.

Some of the advantages of disinvestment in Public Sector Units are:

1. Releasing large amount of public resources: the primary objective of disinvestment is

to release public resources for deployment in areas that are much higher on the social
priority, such as, basic health, family welfare, primary education and social and
essential infrastructure.

2. Get rid off bureaucratic set up: Management of public sector does not have the
independence to take decision. Most of decision of PSE is taken by the ministers. Their
decisions are politically motivated and are delayed. As a result, production capacity is
not fully utilized and there is fall in productivity.

3. Get rid off uneconomic price policy: price of public utility services like electricity,
irrigation, transport, water, etc. are determined on the basis of political, social, and
other non-economic consideration rather than on the basis commercial principles. In
some cases, prices are deliberately kept less than the cost of production. Privatization is
advocated to avoid such losses.

4. Reduce burden on the government: at least 53 public sector units are running at
loss. This creates unnecessary economic burden on the government. The management
and any other person are indifferent to profit earned or losses incurred. So government
has promoted privatization for reducing its economic burden.

5. Avail benefit of capitalism: capitalism is very successful countries like Japan, USA,
Hong Kong , Singapore, Korea etc. considering the benefits of capitalism like increase in
competition, increase in technology advancement, increase deficiency the government
has decided to adopt privatization.

6. To Solve financial crisis of government: Government is falling shorts of funds to

develop infrastructure. This finance crisis could be solved by selling part of government
equity at remunerative prices and thereby getting funds from their sale.

7. For Promoting Industrial Growth: Government thought that public sector will not be
able to bear the burden of developing basic and heavy industries alone, because of
shortage of funds. So privatization was promoted to increase industrial growth

8. For promoting Globalization: Globalization can only be promoted through

privatization, because foreign entrepreneurs prefer to join hands with private sector. By
globalization benefits of foreign investment and foreign technology can be availed.

ASSIGNMENT B
Q.7 Explain the Discounted Cash Flow method in details, with the help of suitab

Answer (7):

Discounted Cash Flow Valuation Method

Perhaps the most commonly used method for determining the price of a company is the
discounted cash flow (DCF) valuation method. In a DCF valuation, projections of the
target company’s future free cash flow are discounted to the present and summed to
determine the current value. The implication of a DCF valuation is that when ownership
of the target company changes hands, the buyer will own the cash flows created by
continued operations of the target. Key elements of the DCF model are financial
projections, the concepts of free cash flow, and the cost of capital used to calculate an
appropriate discount rate.
The first step in a DCF valuation is developing projections of the target company’s
financial statements. Intimate knowledge of the target company’s operations, historical
financial results, and numerous assumptions as to the implied future growth rate of the
company and its industry are key elements of grounded financial projections. In
addition, it is necessary to determine a reasonable forecast horizon, which depending
on industry and company stage, can range between five and ten years.

The next step in a DCF valuation is determining the target company’s future free cash
flows. The most basic definition of free cash flows is cash that is left over after all
expenses (including cost of goods sold, operating and overhead expenses, interest and
tax expenses, and capital expenditures) have been accounted for; it is capital generated
by the business that is not needed for continued operations and accordingly, it is the
capital available to return to shareholders without impairing the future performance of
the business.

Determining the free cash flows of a business is a function of understanding and

utilizing the basic financial data provided in the target’s projected financial statements.
That being said it is extremely important in determining a company’s free cash flows to
have both general knowledge of financial statements and a thoroughunderstanding of
the target company’s accounting practices as projections are oftenheavily influenced by
historical financial statement data.

After determining the free cash flows for the target over the designated forecast
period(typically five years), a terminal value is as- signed to all future cash flows
(everythingpost five years), which should be consistent with both industry growth rates
and inflationpredications. (Note: During the Internet bubble, optimistic entrepreneurs
often made themistake of assuming their company’s growth rate would forever exceed
that of the U.S.economy, yielding sizeable yet unrealistic valuations).

In conclusion, there are six steps involved in the valuation

Step 1: Determine Free Cash Flow

Free cash flow is the cash flow available to all investors in the company — both
shareholders and bondholders after consideration for taxes, capital expenditure and
working capital investment.
Free cash flow = NOPAT + Depreciation – (Capital expenditure + Working capital
investment).
Estimate the most likely incremental cash flows to be generated by the target company
with the acquirer as owner (and not on a as-is basis). Note that financing is not
incorporated in the cash flows. Suitable adjustments for the specific financing of the
acquisition will be made in the discount rate.

Step 2: Estimate a suitable Discount Rate for the Acquisition

The acquiring company can use its weighted average cost of capital based on its target
capital structure only if the acquisition will not affect the riskiness of the acquirer. If the
acquirer intends to change the capital structure of the target company, suitable
adjustments for the discount rate should be made. The discount rate should reflect the
capital structure of the company after the acquisition.

Step 3: Calculate the Present Value of Cash Flows

Since the life of a going concern, by definition, is infinite, the value of the company is,
= PV of cash flows during the forecast period + Terminal value.
We can set the forecast period in such a way that the company reaches a stable phase
after that. In other words, we are assuming that the company will grow at a constant
rate after the forecast period.

Step 4: Estimate the Terminal Value.

The terminal value is the present value of cash flows occurring after the forecast period.
If we assume that cash flows grow at a constant rate after the forecast period, the
terminal value:

CFt (1 + g)
TV= 𝑘−𝑔
Where,
CFt = Cash Flow in the last year
g = Constant growth
k = Discount rate

Step 5: Add present value of terminal value

Step 6: Deduct the value of debt and other obligations assumed by the
acquirer.

Illustration:DCF method for company valuation

XYZ Ltd. is about to be acquired by another company. It is expected the company to

grow @15% p.a. The forecast of Free Cash Flow is shown below:

FREE CASH FLOW FORECAST FOR XYZ Ltd

(Rs in crores)
2012 2013 2014 2015 2016 2017 2018 2019

Sales 178.13 204.85 235.58 270.91 311.55 358.28 412.03 473.83

EBIT 16.33 17.25 17.19 19.58 22.17 24.95 27.89 30.95

NOPAT 10.61 11.21 11.17 12.73 14.41 16.22 18.13 20.12

(+) Depreciation 3.14 2.13 2.68 2.82 2.96 3.11 3.26 3.42
 Less:

Capital Exp. - 0.63 2.36 1.79 1.88 1.97 2.07 2.17

Increase in Working
Capital - 6.44 4.12 6.10 9.45 11.67 12.97 14.32

Free Cash Flow 13.75 6.27 7.37 7.66 6.04 5.69 6.35 7.05

NPV of FCF (@15%) 11.96 4.74 4.85 4.38 3.00 2.46 2.39 2.30
Total= 36.08

The cost of capital of the company is 15 per cent. The present value of cash flows
discounted at 15% cost of capital works out to Rs. 36.09 crores. We are assuming that
the company acquiring XYZ Ltd. will not make any operating improvements or change
the capital structure.
It is expected that the cash flows will grow at 10 per cent forever after 2019.

FCFt (1 + g)
Terminal Value = 𝑘−𝑔

7.05(1.10) 7.755
= =
0.15 − 0.10 .05

= Rs. 155.10 crores

Present Value of terminal value = 155.1 x PVIF (15,7)

= 155.1 x 0.3759
= 58.31 crores
Total Value = Rs. (36.08 + 58.31)
= Rs. 94.39 crores

Since we are interested in buying the shares of the firm, the value of outstanding debt
should be deducted from the firm’s value to arrive at the value of the equity. XYZ Ltd.
has debt amounting to Rs. 8.59 crores, therefore,

Value of equity= 94.39 – 8.59 = Rs. 85.80crores

As evident, much of the target company’s value comes from the terminal value, which
is sensitive to the assumption made about the growth rate of cash flows in perpetuity.
However, there are three other ways in which terminal value can be estimated, such as
terminal value in a stable perpetuity, TV as a multiple of book value and TV as a
multiple of earnings.

Q.8 what do you mean by Leverage Buy out (LBO)? How Leverage Buy Out deals take
Answer (8):

A leveraged buy-out (LBO) is a transaction in which capital borrowed from a

commercial lender is used to fund a large portion of the purchase. Generally, the loans
are arranged with the expectation that the earnings of the business will easily repay the
principal and interest. The LBO potentially has great rewards for the buyers who,
although they frequently make little or no investment, own the tar- get company free
and clear after the acquisition loans are repaid by the earnings of the business. LBOs
are often arranged to enable the managers of subsidiaries or divisions of large
corporations to purchase a subsidiary or division which the corporation wants to divest,
known as an ‘‘MBO,’’ or management buy-out.

How Deals Take Place

The LBO transaction will generally take one of two basic forms: the sale of assets or the
cash merger. Under the cash merger format, the acquired company disappears upon
merger into the acquiring company and its shareholders receive cash for their shares.
Under the sale of assets format, on the other hand, the operating assets become part
of the buying company but the selling company will generally be given the option of
either receiving cash or continuing to hold their shares in the selling company.
At the heart of the LBO transaction are the dynamics of financing the acquisition by
employing the assets of the acquired company as a basis for raising capital. Large
unused borrowing capacity is the characteristic which typically enables a purchaser to
use the seller’s assets to borrow the purchase price.

Q.9 what are the reason of Merger & Acquisition?

Answer (9):

Reason for Mergers and Acquisitions

These hypothesized causes (motives) as defined in the mergers schemes and

explanatory statement framed by the companies at the time of mergers can be
conveniently categorized based on the type of merger. The possible causes of different
type of merger schemes are as follows:

1. Horizontal merger: These involve mergers of two business companies operating and
competing in the same kind of activity. They seek to consolidate operations of both
companies. These are generally undertaken to:
 Achieve optimum size
 Improve profitability
 Carve out greater market share
 Reduce its administrative and overhead costs.

2. Vertical merger: These are mergers between firms in different stages of industrial
production in which a buyer and seller relationship exists. Vertical merger are an
integration undertaken either forward to come close to customers or backwards to
come close to raw materials suppliers. These mergers are generally endeavored to:
  Increased profitability
 Economic cost (by eliminating avoidable sales tax and excise duty payments)
 Increased market power
 Increased size

3. Conglomerate merger: These are mergers between two or more companies having
unrelated business. These transactions are not aimed at explicitly sharing resources,
technologies, synergies or product .They do not have an impact on the acquisition of
monopoly power and hence are favored throughout the world. They are undertaken for
diversification of business in other products, trade and for advantages in bringing
separate enterprise under single control namely:
 Synergy arising in the form of economies of scale.
 Cost reduction as a result of integrated operation.
 Risk reduction by avoiding sales and profit instability.
 Achieve optimum size and carve out optimum share in the market.

4. Reverse mergers
Reverse mergers involve mergers of profit making companies with companies having
accumulated losses in order to:
 Claim tax savings on account of accumulated losses that increase profits.
 Set up merged asset base and shift to accelerate depreciation.

5. Group company mergers

These mergers are aimed at restructuring the diverse units of group companies to
create a viable unit. Such mergers are initiated with a view to affect consolidation in
order to:
 Cut costs and achieve focus.
 Eliminate intra-group competition
 Correct leverage imbalances and improve borrowing capacity.

CASE STUDY

Answer (10)
a) Advantages and Disadvantages for Tata:

Advantages:

 Global Footprint Acquiring jaguar and Landrover would give TATA an

enormous opportunity to penetrate global market, which in the long run would
act as a catalyst to boost revenues and create brand value. TATA motors
 generated 90% of its revenue from the Indian market accruing JLR would help in
diversifying its revenue generating sources.
 Long Term Economies Of Scale Acquiring JLR would help TATA for
component sourcing, design services and low cost engineering which would in
the long run reduce the cost of production and facilitate in increasing the bottom
line.
 Broaden The Brand Portfolio Jaguar and Landrover would broaden the
brand portfolio of TATA motors with a variety of performance and luxury
vehicles, Landrover being a natural fit for TML’S Suv segment. Exploring
intangible opportunities Jaguar and Landrover are distinguished brands with
good research and development behind them, acquiring JLR would give TATA an
opportunity to explore and utilize the R&D to generate greater revenues in the
long run. Moreover TATA got two advance design studios and technology which
would help them to improve their core products in India like Indica and Safari
had problems of internal noise and vibration.
 Long Term Commitment To Automobile Sector TATA motors is
engaged in production of various range of vehicles for different customers,
acquiring JLR would give a chance to further explore the automobile industry and
hence would be a step further towards its long term commitment to automobile
sector.

 Recognition To Own The Cheapest Car As Well As MostLuxurious Cars

Acquiring JLR would give TATA a recognition in the market of being the owner of
the cheapest car Nano as well as premium cars like Jaguar svx.

 Cost Competitive Advantage Corus being the major supplier of automotive

high grade steel to JLR and other automobile industries in USA and Europe,
acquiring JLR would result in a cost synergy for TATA motors.

Disadvantages:

 Debt Burden To finance the acquisition TATA motors raised a

bridge loan of 3 billion through consortium of banks by the end of 2009. TATA
motors had yet to pay2 billion towards the bridge loan, moreover it required
additional funds and that too quickly to keep the operations running.
 Fall In Share Price TATA motor’s share prices dropped in the
market after acquisition of JLR because of the investor perception that it was not
the right time to invest in that acquisition, when TATA had recently undergone
huge capital expenditure for the Nano project, especially in Singur and the
results were still unrevealed, moreover the investor thought that it was the time
 to be conservative and stabilize reserves rather than insourcing more debt
burden.
 Inexperience In Handling Luxury Brands TATA motors had never
ventured into luxury car segment before acquiring JLR; hence the inefficiency in
handling such segment hampered TATA motor’s operational efficiency for quite
some time.
 Strong Competition TATA motor’s strategy to penetrate global
market through acquisition of JLR faced hurdles in the form of strong
competition from global automobile giants like Mercedes, BMW, Lexus and
infinity.

b) Why Ford Motors sold out the two iconic brands:

 Ford lost billions over the last several years.

 They need the money to continue to rebuild the rest of the company.
 Ford has really improved their quality but it costs money to make those changes.
 Both of those brands lost money even when Ford was profitable.
 Ford did everything but make Jaguar profitable. They made them into reliable
cars which is a huge deal considering they were about the worst things on the
road before Ford bought them.
 Ford sold the cars in an effort to turn around the company and start making
money again.
 By selling these companies Ford has gained some much needed cash that can be
invested into their other car brands.
 They can also focus more of their management's attention to the other car
brands.
 By consolidating it allows them to focus on the US Ford market which was also
losing money.

c)Financing the Deal

Just before acquiring JLR, TATA had acquired Corus and moreover TATA motors had
undergone huge capital expenditure to bring Nano into the market and hence financing
the acquisition was a major concern for TATA motors.

Investors were not in favor of the decision of acquiring JLR at that time , both Jaguar
and Landrover were loss making units and automobile industry at that point of time was
under pressure of downturn, in fact TATA motors itself had gone in for rationalization
and retrenchment strategies. Investors believed that the balance sheet of TATA motors
was not strong enough to absorb more loans.
The biggest buyout in automobile space by an automobile company, TATA motors was
completed on June 3, 2008 as it bought the ownership of luxury brands, JAGUAR and
LANDROVER for $2.3 billion on a cash free debt free basis. TATA motors raised $3
billion, about Rs. 12000 crore through bridge loans of fifteen months from a clutch of
banks including JP MORGAN, CITIGROUP, and STATE BANK OF INDIA Company
charted out plans to raise Rs. 7200 crore via rights issue, proceeds of which were to be
used to part finance the JLR deal of rs.9228.75 crore The rights issue raised the equity
capital of TATA MOTORS by 30-35% by March 2009.

It also issued ordinary equity shares with full voting right (Rs. 2200 crore) a class equity
share with 1 vote for every 10 shares worth Rs. 2000 crore 5 year. 5% convertible
preference shares (optionally convertible into a class equity shares after 3 years but
before 5 years from the date of allotment.)

Market Position

Two months before it acquired Jaguar-Landrover (JLR) in March 2008, TATA Motors
had a market capitalization of Rs 24,000 crore. Five months after the deal, it had
plunged to Rs 6,500 crore. At that time, the markets didn’t see much value in the two
marquee labels – both of which had been loss making for many years under the
management of the former owner Ford Motor Company.

But group chairman Ratan TATA saw an opportunity in JLR’s intangible assets.

“The two are terrific brands. There is terrific R&D behind them. It is for us to put
them into products” he had remarked in August 2008.

As it turns out now, he was right and the markets were wrong. TATA Motors’ market
cap has now moved up to Rs 71,500 crore, more than a ten-fold rise from the post-
acquisition low. (There have been equity infusions worth Rs 15,000 crore over the past
two years.) And the company drove past Reliance Industries to top the 2010 edition of
India’s Most Valuable Brands survey with evaluation of $8.45 billion.
 ASSIGNMENT C (MCQ)

Q01 D Q11 C Q21 C Q31 B

Q02 A Q12 C Q22 B Q32 A
Q03 B Q13 B Q23 A Q33 A
Q04 B Q14 D Q24 D Q34 C
Q05 C Q15 B Q25 A Q35 D
Q06 B Q16 D Q26 C Q36 C
Q07 C Q17 C Q27 C Q37 B
Q08 C Q18 A Q28 A Q38 A
Q09 E Q19 B Q29 C Q39 C
Q10 D Q20 D Q30 C Q40 B

Main References:
1. http://www.investorwords.com/2260/growth_fund.html#ixzz1tmSFwMGq
2. http://www.scribd.com/doc/52699053/disinvestment-in-public-sector
3. http://en.wikipedia.org/wiki/Leveraged_buyout
4. http://www.vacapital.com/res_glossary
5. http://www.referenceforbusiness.com/encyclopedia/Con-Cos/Corporate-Control.html#b
6. http://www.mbaknol.com/management-concepts/amalgamation-definition/
7. http://www.mbaknol.com/strategic-management/important-elements-of-merger-procedure/
8. http://www.teachmefinance.com/mergers.html