1 workshop on mergers & acquisitions february 17, 2005 presented by jairam chandnani partner...
TRANSCRIPT
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Workshop on Mergers & Acquisitions
February 17, 2005
presented
by
Jairam ChandnaniPartner
Lexim Associates
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Why M&A?
Underlying Principle for
M&A Transactions
2 + 2 ≠ 4
Additional Value of “Synergy”
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Why M&A? Market Intensification:
• Horizontal Integration – Buying a competitorAcquisition of equity stake in IBP by IOCAT&T merger into SBC enables the latter to
access the corporate customer base and exploit the predictable cash flows typical of this telephony section
• Market Extensions – New markets for Present products
Maersk – Pipavav : strategic objective of investing in a container terminal in the west coast
Bharat Forge’s acquisition of CDP (Germany)S&P’s proposed acquisition of CRISIL
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Why M&A?
Vertical Integration : Internalization of crucial forward or backward activities• Vertical Forward Integration – Buying a
customerIndian Rayon’s acquisition of Madura
Garments along with brand rights
• Vertical Backward Integration – Buying a supplier
IBM’s acquisition of Daksh
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Why M&A?
Diversification: Overcome Barriers to Entry• Product Extension: New product in Present
territoryP&G acquires Gillette to expand its product
offering in the household sector and smooth out fluctuations in earning
• Free-form Diversification: New product & New territories
Flight Centre’s proposed acquisition of Friends Globe
Indian Rayon’s acquisition of PSI Data Systems
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Why M&A? Advantages:
• Greater Economic Clout: Proposed merger of Petroleum PSUs P&G merger with Gillette expected to
correct balance of power between suppliers and retailers.
• Economies of scale and Sharing Overheads: Size really does matter
IOC & IBP
• Synthesized capabilitiesProposed merger of nationalized banks
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M&A Different Perspectives
Acquirer– Majority/ Strategic Partner– Minority/ Private Equity Investor
Target Company
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M&ATRANSACTION ISSUES: TARGET
Due Diligence – Full Disclosures– Linked with Reps & Warranties– Reps should be negative– DD in case of Listed Company– Post Closing Adjustment
Condition Precedents – Definitive – Include as Exhibits
Survival of Reps for limited period
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M&ATRANSACTION ISSUES: ACQUIRER
Due Diligence – Risk Matrix and Value Depletor– Material Contracts
• Any subsisting contracts granting similar or superior rights to other investors
• Termination rights of major customers• Approval rights of financiers
– Title to Properties & Assets: esp. where main business is situated
– Statutory Dues– Litigation : Contingent Liabilities– IPR protection– Tax Compliance (Settlement Commission)
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M&ATRANSACTION ISSUES: ACQUIRER
Mode of Acquisition– Pure Equity (Existing or New); Equity &
Preference; Special Class (Differential voting rights, dividends or otherwise)
– Leveraged Acquisitions
Corporate Governance– Related Party Transactions (past & going forward)
Board Representation - Quorum (Inclusive)- Fiduciary Responsibility of Board v. Shareholders
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M&ATRANSACTION ISSUES: ACQUIRER
Deadlock Resolution– Majority/ Strategic Partner– Lenders
Return on Investment– Cap on dividends to preference shares– Liquidation Preference
Lock - in of Promoters– Enforceability of transferability restrictions
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M&ATRANSACTION ISSUES: ACQUIRER
Non - Compete/ Non - Solicitation – Payment for Goodwill to exiting partner
Exclusivity
Enforceability against Company– Company as party to SHA
Exit Options– Listing (Private Equity)– Call/ Put Option
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M&ATRANSACTION ISSUES: GENERAL
Effectiveness of SHA and SPA
Indemnity– Aggregate Liability Cap– De Minimis– Threshold
Participative Rights v. Protective Rights– Strategic Partner : Participative Rights
• Control on Board• Sharing Control
– Private Equity : Protective Rights
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M&ATRANSACTION ISSUES: GENERAL
Special Rights– Tag – Along Rights: minority partner/ private equity– Drag - Along Rights: majority partner– Right to share the upside on revised valuation of Target
eg: on Merger; Listing at higher valuation– Right of First Refusal
Earn-out Structure– Favorable Business Projections
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M&ATRANSACTION ISSUES: GENERAL
FCPA
Arbitration v. Litigation: Effective Remedy– Proper Law of Arbitration– ICC v. UNICITRAL– Group Companies Doctrine– Place of Arbitration– Cost Effective
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M&AREGULATORY FRAMEWORK
TRANSACTION STRUCTURE• Companies Act• Income Tax Act• Stamp Acts• Competition Act
TRANS-BORDER TRANSACTIONS• Foreign Exchange Management Act
LISTED COMPANIES• SEBI Regulations• Stock Exchange – Listing Agreement
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M&A OVERVIEW
Mergers Spin Offs Acquisitions
DEMERGER OTHERS
ASSETS
SHARES
CONTROL
SLUMP SALE
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ACQUISITIONS
Acquisition• Shares • Control
Acquisition of Assets• Slump Sale
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AcquisitionsISSUES: COMPANIES ACT
Sections 108A to G: Central Government approval if in excess of threshold prescribed• ambiguity as to ‘classification of goods’
Section 372A: Compliance by transferee company in acquisition of shares
Section 77A: Buy Back may be used as a defense to a hostile takeover Used in U.S.: PeopleSoft’s attempt to thwart
Oracle
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AcquisitionsISSUES: FEMA
Acquirer - Non-Resident: No approval required for purchase of shares (including
existing shares)• From R• From NR
Valuation prescribed in case of R-NR not less than• Ruling Market Price - Listed Target Company• Fair valuation by a CA as per CCI guidelines -
Unlisted Target Company
Press Note 18 replaced by Press Note 1 of 2005
Investment has to comply with FDI policy
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AcquisitionsISSUES: FEMA
Target Company is a Non-Resident Direct investment in JV/ WOS outside India (other
than financial services) requires no approval subject to conditions including inter alia• Financial commitment < or = 100% networth
• Investment by way of remittance only if valuation– If > 5 million USD: by Merchant Banker/
Investment Banker registered with SEBI/ appropriate authorities
– Other cases: by CA/ CPA
• Investment by share swap: valuation by Merchant Banker/ Investment Banker registered with SEBI/ appropriate authorities
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AcquisitionsISSUES: TAKEOVER CODE
Definition of “Control” - Inclusive • Ambiguous:
- TATA Sellout in ACC. • Negative control?
S. 25(2) prohibits public offers after 21 days of the public announcement of first public offer
In case of indirect acquisition, foreign acquirer has three months from completion of transaction to make open offer. Therefore, foreign transactions can be concluded prior to open offer in India.
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Acquisitions RECENT CHANGES : TAKEOVER CODE
New thresholds of 54% and 74% in Regulation 7 55% shares cannot be allotted by preferential
allotment or market purchase – consolidation by public offer only
Acquisition by public offer under 11(2) can be for only so many shares as will keep float above listing requirements.
Where any acquisition reduces public float below Listing Agreement requirements, acquisition to comply with delisting guidelines
Where Code is triggered by a global deal, if the public offer will lower float to below the listing requirement, then acquirer has 12 months to raise float either by fresh issue or by disinvestment.
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AcquisitionsISSUES: MISC
Stamp Duty• No stamp duty if transferred shares are
dematerialized
Industrial Disputes Act (s. 25FF)• Workmen employed by transferor company
entitled to retrenchment benefits unless retained in employment on same terms.
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Mergers
Mergers Spin-offs
• Demergers
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MergersSTRUCTURE 1
A = Amalgamating Company: Ceases to Exist B = Amalgamated Company B receives all of A’s assets and liabilities Shareholders of A receive shares in B and maybe other
benefits like debentures, cash
Transfer assets and liabilitiesA B
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MergersSTRUCTURE 2
A, B and C = Amalgamating Companies: Cease to exist D = Amalgamated Company: may or may not have
existed before Merger All assets and liabilities of A, B and C transferred to D Shareholders in A,B and C get shares in D.
A
DB
C
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Spin-OffsSTRUCTURE
YX YTransfer of undertaking Y
Company BCompany A
Consideration is usually shares of Company B but maybe cash. Process may or may not be Court sanctioned.
Salora spinning off Panasonic to Matsushita under s. 391 Scheme. Consideration in cash.
Consideration in cash or issue of shares
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DemergersSTRUCTURE
Demergers are one type of spin-offs: under s. 391 A = Demerging Company B = Resulting Company: may or may not have existed
earlier A transfers undertaking to B B issues shares to shareholders of A
X Y Y
Company BCompany A
Transfers undertaking Y
Shareholders of A
Issues shares
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Merger & DemergerPROCESS
Phase- I Draft Scheme Notice to members of Board of both companies Determine swap ratio based on valuation report Board approval of both companies Prior NoCs from secured creditors and shareholders for
exemption from meeting: Reduce Time and Costs In ICICI Ltd. merger with ICICI Bank, meeting of
preference shareholders of ICICI Ltd. was dispensed with since sole preference shareholder furnished an NOC
Phase- II Draft Application under s. 391(1) Application to HCs in respective jurisdictions of both
companies for sanction / direction to conduct meetings– Moving registered office to one jurisdiction: Reduce
Time and Costs
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Merger & Demerger PROCESS
Phase- III Notice of EGM to members with statement of terms of
merger, interests of directors and proxy forms: 21 days Advertisement Notice in 2 newspapers: 21 days Affidavit certifying compliance with HC’s directions in
respect of notice/ advertisement Meetings of creditors and/ or shareholders: agreed to by
majority in number representing ¾ of value present and voting
Chairman of meetings to file report within 7 days of meeting Resolutions and Explanatory Statements to be filed with
RoC
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Merger & Demerger PROCESS
Phase- IV (Approval of the Scheme) HC to be moved within 7 days of Chairman’s Report for
second motion petition 10 days notice of hearing of petition in same newspapers Notice to Central Govt. (Regional Director), and OL (if
applicable): Submit reports Objections raised in 391 proceedings HC Sanction Certified copy of HC Order to be filed with RoC within 30
days of order.
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Merger & DemergerISSUES: COMPANIES ACT
s 391 - 394: “Complete Code”, “Single Window Clearance”• Reduction of capital- Position unclear, Predominance
of judicial view: substantial compliance with s. 100- 102 required.
Transnational Mergers: 391 - 394 mechanism operates only where amalgamated company is Indian. E.g. of transnational merger concluded under 391 route - Bank of Muscat merging into Centurion Bank by order of Karnataka HC
Alternative Mechanism: S. 494 • Through Liquidation Process• Liquidator transfers assets to foreign company for
shares• Process has to be “altogether voluntary” • Tax benefits are unavailable under this route
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Other Spin-OffsISSUES: COMPANIES ACT
Where spin-offs are outside the 391 mechanism, the following compliances need to be ensured• 293(1)(a) resolution • Voting has to be by postal ballot in a public listed
company
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Mergers and Demergers ISSUES: INCOME TAX
Transfer of capital assets by amalgamating company to amalgamated company is exempt from Capital Gains Tax provided amalgamated company is an Indian company
Capital Gains Exemption in respect of shares issued to members of amalgamating/ demerging company- s. 47
Exemption may not be available if members of amalgamating company receive anything besides shares in the amalgamated company like debentures or cash- Gujarat HC in Gautam Sarabhai v. CIT, 173 ITR 216.
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Mergers and Demergers ISSUES: INCOME TAX
In case of fraction shares, issue to trustee who liquidates these and distributes money to shareholders of amalgamating company.
Carry forward of losses and unabsorbed depreciation provided the amalgamated company carry on the business of the amalgamating company for at least 5 years – s. 72A
• Use of Reverse merger to meet above condition
Spin-off receives tax benefits under Income Tax Act only if it is a demerger
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Slump Sale ISSUES: TAXATION
Slump Sale = Transfer of undertaking without itemizing individual assets and liabilities- s.2(42C) Income Tax Act
Treated as capital gains
If undertaking is older than 3 years, long term capital gains rates apply even if individual assets are new
Carry forward of losses and unabsorbed depreciation unavailable
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Merger & DemergersISSUES: SALES TAX
No Sales tax on Amalgamation or demerger.
Where effective date is retrospective, any transfers between amalgamating company and amalgamated company retrospectively cease to be liable to sales tax- Mad HC Castrol Oil v. State of TN, 114 STC 468
Some Sales Tax enactments contain specific provisions to tax such transactions eg. S.33C, Bombay Sales Tax Act. No such provision in Central Sales Tax Act.
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MergerISSUES: STAMP DUTY
Divergences between states: Shopping for beneficial rates usually pointless
Duty to be imposed on value of shares transferred not on individual assets transferred: Bom HC in Li Taka AIR 1997 Bom 7
States with Specific entries: Maharashtra, Karnataka, Rajasthan and Gujarat
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MergerISSUES: STAMP DUTY
States without specific entries: Unclear if duty leviable. • Cal HC in Madhu Intra Ltd. v. ROC, 2004 (3) CHN 607 -
394 Order is not an instrument chargeable to duty• Supreme Court in Ruby Sales v. State of Maharashtra
(1994) 1 SCC 531 - specific inclusion of civil court decrees in Bombay Stamp Act only abundant caution
1937 Notification under Indian Stamp Act, 1899 remits duty when merger is of a 90% subsidiary: Remission not available in states with own legislations eg. Kerala, Karnataka, Maharashtra, Gujarat and Rajasthan
Gujarat and Maharashtra have limits on stamp duty for mergers and demergers at Rs.10 crore and Rs. 25 crore.
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MergerISSUES: SEBI
Acquisition of shares pursuant to a scheme of arrangement or reconstruction under any law, Indian or foreign – exempt from SEBI Takeover Code. Exemption claimed unsuccessfully by Luxottica in the
acquisition of Ray Ban Sun Optics India
Listing Agreement: • Scheme before the Court/ Tribunal must not violate,
override or circumscribe the securities laws or stock exchange requirements
• Disclosure required
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MergerISSUES: SEBI
Shares allotted by unlisted transferee company to shareholders of listed transferor company under a HC sanctioned scheme – can be listed without an IPO subject to conditions (DIP). - Eg. Dabur Pharmaceuticals
Constitutes ‘Price Sensitive Information’ in terms of Insider Trading Regulations.
Compliance with Delisting Guidelines if public shareholding below prescribed limit.
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MergersMISCELLANEOUS ISSUES
Foreign Exchange Management Act, 1999 • Where the amalgamated company is Indian, non
resident shareholders of the foreign amalgamating company require RBI approval to receive shares.
• Where the amalgamated company is foreign, the issue of its shares to Indian shareholders requires RBI approval.
• Automatic route available where non residents have to be issued shares in a merger of Indian companies.
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MergersMISCELLANEOUS ISSUES
Human Resources• Workmen entitled to retrenchment benefits
unless retained in employment on same terms.• Adjustments of pay scale needs to be resolved.
Global Trust employees were retained on same terms in OBC. Pay packages of former GTB staff could be altered only after 3 years. OBC management had to contend with GTB’s complex salary structure.
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Mergers & Acquisitions COMPETITION LAW
Monopolistic and Restrictive Trade Practices Act, 1969• Status: Repealing provision in Competition Act,
2002 not notified.
• No Central Government approval required for a merger or acquisition under the MRTPA
• Act attracted only if amalgamated company discovered to be monopolistic in its working not at stage of amalgamation- Hindustan Lever, 1995 Supp (1) SCC 499
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Mergers & Acquisitions COMPETITION LAW
Competition Act, 2002 (Partially notified)• Merger or Acquisition = “Combination” if stipulated
thresholds respecting aggregate asset or turnover are exceeded
• Prior approval of combination is not mandatory
• Test – “Cause or likely to cause an appreciable adverse effect on competition within the relevant market”