course content-merger and acquisitions-by augustin

1

Course content-Mergers and Acquisitions

Topics

Session

(2 hours)

Text Book

Meaning of merger, acquisition, take over,

restructuring- -why merger- different types

of merger. Case Study-1. Restructuring

strategy pays dividends. Case Study:-2

HP and Compaq merger, Case Study-3

TATA Chemicals and Hindustan Lever

Chemicals.

1 Management Accounting

and Financial Analysis

by M. Y. Khan and P. K.

Jain

Cost of capital- Under standing of Annuity

Tables. Future value-present value, Future

value of Annuity, Present value of Annuity

– weighted cost of Capital.- (Reference:-to

2 Financial management

by Dr. Prasanna Chandra

under the heading Time

value of Money)

Business Valuation:- Conceptual

Framework of valuation-Book value, Market

value, Intrinsic value

3 M.Y Khan Cost and

Management accounting

, Liquidation value, Replacement value,

Salvage value- Valuation of goodwill and

intangible assets, Fair value-Terms EPS, P/E

Ratio, Diluted EPS.-Exchange Ratio using

EPS and P/E Ratio.Case study-2.(

Reference:-)

4 Management Accounting

and Financial Analysis

by M. Y. Khan and P. K.

Jain. And Management

Accounting and financial

Analysis by V. Pattabhi

Ram and S.D. Bala

Approaches/Methods of Valuation- Asset

based approach to valuation, Earning based

approach:- Capitalisation Method, Price

Earning Ratio Method, DCF approach,

Market value approach and the Fair value

method to valuation- Other methods:-

Market value added approach, Economic

value added approach-Case Study-3

5 :-Management

Accounting and

Financial Analysis by M.

Y. Khan and P. K. Jain.)

Capital Budgeting:- Relevant cost and

relevant benefits-Opportunity cost future

cost, Sunk cost, Cash inflows and outflows-

Methods:-NPV, IRR- Effect of inflation on

Capital investment appraisal.Case Study-4.

6 Reference:-Cost and

management

Accounting by Colin

Drury

2

:Business Restructuring:- Amalgamation,

Demerger-Conversion of Sole proprietary

business into a company-conversion of firm

into Company-Transfer of assets between

Holding and Subsidiary company

7 . Reference:-Direct

Taxes by Dr. Singahnia

Direct Tax Implications:-Transferor

company-conditions to be fulfilled- Capital

gain tax:- short term and Long term Capital

gains, Past Losses adjustments, Depreciable

Assets and tax implications, setoff and carry

forward of losses, Unabsorbed Depreciation-

Case study-5

Transferee Company Point of view:-

Conditions to be fulfilled, Tax impacts:-

Expenditure on Scientific Research

Expenditure, Expenditure on Acquisition of

Patent Rights or copy rights, Expenditure on

Know how, Expenditure for obtaining

Licence to operate Telecommunication

services, Preliminary expenses, Expenditure

on Family Planning and Bad debts. Gift tax,

Expenditure related to Merger or Demerger-

Case Study-6.

8 and 9 Reference:-Direct Taxes

by Dr. Singahnia

3

: Sales Tax Impact on Merger and

Acquisition.

:Financial implications with respect to

Merger and Acquisition and Tax Planning.-

Case Study-7

Test

10

11

Reference:-Direct Taxes

by Dr. Singahnia

By Prof. Augustin Amaladas M. Com.,

AICWA.,PGDFM., DIM., B.Ed.

22 years of teaching and Industrial contacts

as a placement officer from St. Joseph‟s

College of Commerce, Bangalore.

Course

duration-

20 session

of 2 hours

each.

4

Why Does The Hutch and

Vodafone merger have problems -

with respect to tax?

Vodafone(Briton)

A Foreign company

HTIL(Whampoa group

of Li-Ka Shing.

Hong Kong

A foreign company

Hutchison Essor

Indian

Company

67%

Takes over

Asim Ghosh-12%

A.Singh and other companies

(Minority)

Essor group

Case Study-1

Tata pleases, Ford 'disappoints' British workers' union

London, March 26 (IANS) The head of Britain's largest workers union

Wednesday reiterated his support for Tata's acquisition of the luxury car

brands Jaguar and Land Rover, but said he was disappointed by seller Ford's

failure to retain a stake.

'If Jaguar and Land Rover had to be sold, then Tata was the best option,' said

Tony Woodley, joint general secretary of Unite, as Ford announced the sale

of the two British iconic cars to Tata Motors Ltd.

The deal, announced Wednesday, already has the union's seal of approval,

after it secured Tata's assurance that it will not shed jobs at the three Jaguar

and Land Rover factories at Solihull, Castle Bromwich and Halewood and

would continue to source Ford-made engine and components from its

factories in Bridgend and Dagenham.

'We would have much preferred Ford to keep the companies in the family,

so to speak, especially with Land Rover being so profitable,' Woodley said.

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'But with the commitments Tata have given to the future of Jaguar-Land

Rover and the long-term supply agreements for components, especially

engines from Bridgend and Dagenham, we're obviously pleased they are in

the game.'

However, Woodley added that there was disappointment that Ford had

decided against taking a stake in the new future.

'That is a big disappointment,' he said.

According to sources in Unite, union officials would have liked to see Ford

take a minority stake, as it did while selling off the luxury car Aston Martin

to two Kuwaiti investment companies last year. Ford retained a $77 million

stake in Aston Martin.

This, the union officials feel, would have helped to 'lock in' long-term

commitments made as part of the agreement signed Wednesday between

Tata and Ford.

The nervousness may be explained by the fact up to 40,000 jobs were at

stake at a time of a global economic slowdown.

'On the positive side, Tata has not only given us a long-term commitment,

but they are an industrial company as well,' Unite's Andrew Dodgson told

IANS.

'Tata recognise the iconic brand value of Jaguar-Land Rover - that they are

British-engineered and British-made cars and so it is important to keep them

in Britain,' he added.

Ford acquired Jaguar for $2.5 bn in 1989 and Land Rover for $2.75 bn in

2000 but put them on the market last year after posting losses of $12.6 bn in

2006 - the heaviest in its 103-year history.

Tata was named by Ford as the preferred bidders in January as it beat off

competition from fellow-Indian carmaker Mahindra and Mahindra and

American buy-up specialist One Equity.

While the three Jaguar and Land Rover factories in Britain employ some

16,000 people, the number swells to between 30,000 and 40,000 when

ancillaries are taken into account, according to Dodgson.

Case Study-2

May 2007, India's Ministry of Civil Aviation announced that Air India

Limited (AI), India's national flag carrier and Indian Airlines Limited (IA),

the government owned domestic airline, would merge with effect from July

15, 2007. The new airline formed by the merger was to be called 'Air India,'

and would operate in both the domestic and international sectors. The

proposal to merge AI and IA had been first mooted in the 1990s. In February

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1999, a Parliamentary Standing Committee on Transport and Tourism had

recommended the merger of AI and IA in its report on the 'Functioning of

Air India'.

However, the process had formally been initiated only in September 2006,

when the Indian government assigned the duty of preparing the roadmap for

the merger to Accenture Inc., a management consulting, technology services

and outsourcing company. After being endorsed at various levels of the

administrative hierarchy, the plan for the merger was finally approved by the

Union Cabinet in March 2007.

A new company called the National Aviation Company of India Ltd.

(NACIL) was incorporated on March 30, 2007 under Sections 391 and 394

of the Indian Companies Act, 1956 to facilitate the merger. Under the terms

of the merger, all the undertakings, properties, and liabilities of AI and IA

were to be transferred to NACIL.

The AI-IA merger was expected to create one of the biggest airlines in the

world in terms of the fleet size. As of May 2007, the two airlines had a

combined fleet of 122 aircraft and 34,000 employees including 1,315 pilots.

The combined fleet size placed the merged entity among the top 10 airlines

in Asia, and the top 30 in the world. It would also be India's first airline with

more than 100 aircraft.

The motives for the merger were widely discussed in the media. India was

the fastest growing aviation market in the world, ahead of China, Indonesia

and Thailand, as of early 2007. The number of people traveling by air had

been increasing rapidly in the country. The main reason for this was thought

to be the advent of low cost airlines like Air Deccan and SpiceJet in the

country in 2003-2004, which brought air travel within reach of India's large

middle class. The entry of a number of new airlines had intensified the

competition in the aviation sector by 2004.

Mumbai: Merger of national carriers Air India and Indian Airlines has been

challenged in the Bombay High Court on the ground that it defies

Parliament‟s intent to keep international and domestic carriers separate.

The petition filed by Air India Cabin Crew Association (AICCA) also

questions the Constitutional validity of section 620 of Companies Act,

which empowers government to exempt any government company from

provisions of the Act.

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Air India Limited and Indian Airlines Limited were created by a

Parliamentary statute, and, therefore, without the Parliament‟s nod they

cannot be amalgamated, the petition contended.

AICCA claims to the “sole recognised trade union” in Air India Limited, and

has 1,800 members. The petition is expected to come up for hearing in the

first week of December.

The merger (amalgamation) of AI and IA was sanctioned by the Ministry of

Corporate Affairs on 22 August this year. The move was aimed at bringing

about more efficiency and better utilisation of resources. A new company

called National Aviation Company of India was created to replace them.

However, AICCA contends that in sanctioning the amalgamation,

Parliament was bypassed.

Tracing the history of the national carriers, it points out that in 1953, eight

private airlines were nationalised under Air Corporations Act, which created

AI and IA. Further, in 1994, Air Corporations (Transfer of Undertakings and

Repeal Act) Act was passed, which converted AI and IA into Air India

Limited and Indian Airlines Limited, respectively.

Case Study-3

Second largest Bank in India is now formally in place . RBI has given

approval for the reverse merger of ICICI Ltd with its banking arm ICICI

Bank. ICICI Bank with Rs 1 lakh crore asset base bank is second only to

State Bank of India, which is well over Rs 3 lakh crore in size. RBI also

cleared the merger of two ICICI subsidiaries, ICICI Personal Financial

Services and ICICI Capital Services with ICICI Bank.

The merger is effective from the appointed dated of March 30, 02, and the

swap ratio has been fixed at two ICICI shares for one ICICI Bank share.

Reserve Bank, approval is subject to the following conditions:

(i) Compliance with Reserve Requirements

The ICICI Bank Ltd. would comply with the Cash Reserve Requirements

(under Section 42 of the Reserve Bank of India Act, 1934) and Statutory

Liquidity Reserve Requirements (under Section 24 of the Banking

Regulation Act, 1949) as applicable to banks on the net demand and time

liabilities of the bank, inclusive of the liabilities pertaining to ICICI Ltd.

from the date of merger. Consequently, ICICI Bank Ltd. would have to

comply with the CRR/SLR computed accordingly and with reference to the

position of Net Demand and Time Liabilities as required under existing

8

instructions.

(ii) Other Prudential Norms

ICICI Bank Ltd. will continue to comply with all prudential requirements,

guidelines and other instructions as applicable to banks concerning capital

adequacy, asset classification, income recognition and provisioning, issued

by the Reserve Bank from time to time on the entire portfolio of assets and

liabilities of the bank after the merger.

(iii) Conditions relating to Swap Ratio

As the proposed merger is between a banking company and a financial

institution, all matters connected with shareholding including the swap ratio,

will be governed by the provisions of Companies Act, 1956, as provided. In

case of any disputes, the legal provisions in the Companies Act and the

decision of the Courts would apply.

(iv) Appointment of Directors

The bank should ensure compliance with Section 20 of the Banking

Regulation Act, 1949, concerning granting of loans to the companies in

which directors of such companies are also directors. In respect of loans

granted by ICICI Ltd. to companies having common directors, while it will

not be legally necessary for ICICI Bank Ltd. to recall the loans already

granted to such companies after the merger, it will not be open to the bank to

grant any fresh loans and advances to such companies after merger. The

prohibition will include any renewal or enhancement of existing loan

facilities. The restriction contained in Section 20 of the Act ibid, does not

make any distinction between professional directors and other directors and

would apply to all directors.

(v) Priority Sector Lending

Considering that the advances of ICICI Ltd. were not subject to the

requirement applicable to banks in respect of priority sector lending, the

bank would, after merger, maintain an additional 10 per cent over and above

the requirement of 40 per cent, i.e., a total of 50 per cent of the net bank

credit on the residual portion of the bank's advances. This additional 10 per

cent by way of priority sector advances will apply until such time as the

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aggregate priority sector advances reaches a level of 40 per cent of the total

net bank credit of the bank. The Reserve Bank‟s existing instructions on sub-

targets under priority sector lending and eligibility of certain types of

investments/funds for reckoning as priority sector advances would apply to

the bank.

(vi) Equity Exposure Ceiling of 5%

The investments of ICICI Ltd. acquired by way of project finance as on the

date of merger would be kept outside the exposure ceiling of 5 per cent of

advances towards exposure to equity and equity linked instruments for a

period of five years since these investments need to be continued to avoid

any adverse effect on the viability or expansion of the project. The bank

should, however, mark to market the above instruments and provide for any

loss in their value in the manner prescribed for the investments of the bank.

Any incremental accretion to the above project-finance category of equity

investment will be reckoned within the 5 per cent ceiling for equity exposure

for the bank.

(vii) Investments in Other Companies

The bank should ensure that its investments in any of the companies in

which ICICI Ltd. had investments prior to the merger are in compliance with

Section 19 (2) of Banking Regulation Act, 1949, prohibiting holding of

equity in excess of 30 per cent of the paid-up share capital of the company

concerned or 30 per cent of its own paid-up share capital and reserves,

whichever is less.

(viii) Subsidiaries

(a) While taking over the subsidiaries of ICICI Ltd. after merger, the bank

should ensure that the activities of the subsidiaries comply with the

requirements of permissible activities to be undertaken by a bank under

Section 6 of the Banking Regulation Act, 1949 and Section 19 (1) of the Act

ibid.

(b) The take over of certain subsidiaries presently owned by ICICI Ltd. by

ICICI Bank Ltd. will be subject to approval, if necessary, by other regulatory

agencies, viz., IRDA, SEBI, NHB, etc.

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(ix) Preference Share Capital

Section 12 of the Banking Regulation Act, 1949 requires that capital of a

banking company shall consist of ordinary shares only (except preference

share issued before 1944). The inclusion of preference share capital of Rs.

350 crore (350 shares of Rs.1 crore each issued by ICICI Ltd. prior to

merger), in the capital structure of the bank after merger is, therefore, subject

to the exemption from the application of the above provision of Banking

Regulation Act, 1949, granted by the Central Government in terms of

Section 53 of the Act ibid for a period of five years.

x) Valuation and Certification of the Assets of ICICI Ltd

ICICI Bank Ltd. should ensure that fair valuation of the assets of the ICICI

Ltd. is carried out by the statutory auditors to its satisfaction and that

required provisioning requirements are duly carried out in the books of

ICICI Ltd. before the accounts are merged. Certificates from statutory

auditors should be obtained in this regard and kept on record.

National Aviation Company of India Ltd, the new entity formed after the

merger of Indian and Air India, today moved the Supreme Court seeking

consolidation of the cases challenging the merger of the two state carriers.

Case Study-4

Merger of Lord Krishna Bank with Centurion Bank legal'

K. C. Gopakumar

Counter affidavit filed against challenging the merger

All shareholders who wanted to exercise their vote were able to vote

without obstruction at the AGM'

Sec. 237 of Companies Act applicable only to companies other than

banking companies'

Kochi: There is absolutely no basis or ground to appoint any inspector to

investigate the affairs relating to the scheme of amalgamation of Lord

Krishna Bank with the Centurion Bank of Punjab, according to

B.Swaminathan, managing director and chief executive officer of the bank.

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In a counter-affidavit filed in the High Court, he said section 237 of the

Companies Act was applicable only to companies other than banking

companies. Banking companies were controlled, supervised and inspected

by experts of the Reserve Bank of India (RBI), which could not be done by

inspectors to be appointed by the Central Government under section 237 of

the Companies Act.

The affidavit was filed in response to a writ petition filed before the Kerala

High Court by Umesh Kumar Pai, a minority shareholder, challenging the

merger and seeking to appoint inspectors to investigate the amalgamation

scheme.

The affidavit said no provision of the Companies Act could be invoked to

challenge the amalgamation proceedings initiated under section 44A of the

Banking Regulation Act. In fact, section 44A had overriding effect over

section 237 or any other provisions of the Companies Act.

The affidavit further said resolutions were moved one by one and

arrangements were made for members/proxies to exercise their votes. The

allegations that there was obstruction at the venue of the AGM were

baseless.

All the shareholders or proxies who wanted to exercise their votes were able

to vote without any obstruction. The allegation that there was no discussion

was false. The chairman of the meeting had invited shareholders for

discussion.

A resolution for the approval of the scheme of amalgamation was passed

with the requisite majority in accordance with the provisions of section 44A

of the Banking Regulation Act.

While 5,63,65,282 votes of the same value were cast for the resolution only

6,046 votes of the same value were cast against the resolution. Of the 1,784

members present in person or by proxy at the meeting, 1,740 shareholders

voted in favour of the resolution while only 24 voted against the resolution

and 20 votes were invalid.

Thus, the resolution approving the scheme of amalgamation was passed by a

majority in number representing two thirds in value of the shareholders

present either in person or by proxy at the meeting as required under section

44A(1) of the Banking Regulation Act, the affidavit added.

The allegation that 65 per cent of the shares were held by a single entity was

totally false. No person holding share in excess of ten per cent of the bank

exercised voting rights in excess of 10 per cent.

With the permission of the RBI, a person could hold more than 10 per cent

of the share of a banking company but the right to exercise vote was

restricted to 10 per cent of the total voting rights.

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Case Study-5

In a dramatic climax to a bitter takeover battle that laid bare the large role still played by

economic nationalism in Europe, France's largest drug maker, Aventis SA, Sunday

agreed to be swallowed by its smaller rival, Sanofi-Synthelabo SA, for about €55.2

billion, or $65 billion in cash and stock.

Resorting to behind-the-scenes arm-twisting of Sanofi, along with public and private

warnings to back off directed at rival suitor Novartis AG of Switzerland, the French

government succeeded last night in producing what it had long desired: a French national

champion in a strategically important industry, the fast-growing and highly competitive

drug business.

With Aventis succumbing to Sanofi's

sweetened offer, the combination of the two

will form the world's third-largest

pharmaceuticals company, behind Pfizer Inc.

and GlaxoSmithKline PLC, with a market

capitalization of around €90 billion and a

stable of leading drugs such as Sanofi's stroke-

prevention treatment Plavix, sleeping pill

Ambien and cancer therapy Eloxatin. The new

company would also boast Aventis's allergy

pill Allegra, anti-blood-clotting drug Lovenox

and cancer medicine Taxotaere.

Important as its impact will be on the global

pharmaceutical industry, the Aventis drama

will be equally remembered for its political

implications, particularly in the new Europe.

From the start, the battle for Aventis was as

much about France's desire to create a home-

grown national champion in the

pharmaceutical industry as it was about

shareholder value and business sense. The

French government pushed to make Sanofi and

Aventis come together, as it did four years ago

when it backed the all-French mergers that

created Total SA, the world's fourth-largest oil

company, and BNP Paribas SA, the biggest bank among the countries that have adopted

the euro.

Before Sanofi even unveiled its original bid in late January, the French finance minister

called it "positive" because it would enable France to create a "national champion" -- a

NATIONAL CHAMPIONS

Aventis CEO: Igor Landau Headquarters: Strasbourg, France 2003 income: $2.91 billion*

Leading drugs: Allergy pill Allegra, anti-blood-clotting drug Lovenox and cancer medicine Taxotere

Sanofi-Synthelabo CEO: Jean-Francois Dehecq Headquarters: Paris 2003 income: $2.48 billion *Leading drugs: Antistroke medicine Plavix, sleeping pill Ambien and cancer therapy Eloxatin *Figures converted from euros to dollars at current rate. Source: the companies

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huge company in what the country deems a strategic industry able to compete world-wide

with U.S. giants.

When it became clear that Aventis would fight Sanofi's hostile bid and seek a white-

knight offer from Novartis, French officials placed phone calls to executives at the Swiss

company on at least three occasions warning that Novartis should stay away.

France's intervention in the takeover battle, which runs counter to the free-market

principles espoused by the European Union, comes as the four-decade-old EU is

expanding to include 10 new members, ranging from Malta to Poland. Together with

Germany, France has been the EU's founding father and its biggest advocate. Yet, in

recent years, it has broken the union's economic rules more than once, giving state aid to

ailing French companies, letting its budget deficit grow and thus contravening a pact that

underpins the euro, and getting involved in takeover battles.

Afraid that Aventis, based in Strasbourg, France, would fall into Swiss hands, the French

government had leaned on Sanofi Chief Executive Jean-Francois Dehecq in recent days

to raise Sanofi's bid to improve the chances of an all-French deal.

The higher bid was accepted after Aventis's Chief Executive Igor Landau and Sanofi's

Mr. Dehecq met Friday under pressure from French Finance Minister Nicolas Sarkozy,

according to people familiar with the matter. It was the first time the two men, who have

been waging a war of words for three months, met face to face since Sanofi unleashed its

hostile takeover.

Mr. Landau will resign his executive duties at the company with a golden parachute

valued at €24 million, but may retain a seat on the merged company's board, according to

a person familiar with the arrangement. Mr. Dehecq will become head of the new

company.

The sudden finish to the Aventis takeover battle came after a surprise no-show by Swiss

drug-maker Novartis. Novartis failed to put in a bid for Aventis just a few days after

announcing that it was prepared to enter merger negotiations with France's biggest drug

maker. An Aventis team had been negotiating with Novartis late into Saturday night and

had produced agreements on everything from conditions for the offer and businesses to

be divested, say people familiar with the situation. However, Novartis still had not

broached a possible price at which it would be willing to acquire Aventis, making some

on the Aventis team suspicious that the Swiss company would turn up with a bid.

Novartis said last night it decided to break off merger talks with Aventis and not to

submit a bid because of the "strong intervention of the French government."

While French authorities last night were congratulating Sanofi and Aventis on their

planned marriage, some investors have long thought that France's approach could hurt it

in the long term. France argued that Aventis's vaccines were crucial to its defense against

14

potential bioterrorism -- an argument that the European Commission has said would be

hard to prove and that investors have dismissed as an excuse to mask protectionism.

"I think ultimately the victim is the French economy," says Steven Cohen, chief

investment officer at Kellner DiLeo Cohen & Co., a $500 million New York-based hedge

fund that owns Aventis shares. "There is no better way to discourage investment in your

economy" than to deter foreign companies from bidding for French companies.

Even as Aventis's board was meeting yesterday, French ministers were talking up the

merits of a Sanofi-Aventis tie-up. Speaking on Europe-1 radio, Health Minister Philippe

Douste-Blazy said he was hoping for a "positive response" from the Aventis board,

presented with the opportunity of a hook-up with Sanofi that would be a "very good

thing" for French industry. Any other outcome would leave Sanofi vulnerable to a

takeover, the minister warned. "If it doesn't buy another company, a foreign bidder will

come along," he said.

Under the pact, Sanofi will offer 0.8333 Sanofi share and €20 a share in cash, valuing

Aventis at €69 a share in cash and stock, based on Sanofi's average closing stock

price in the month before rumors of the deal leaked earlier this year, say people

familiar with the situation. However, based on Sanofi's closing stock price Friday of

€55.95, the deal values Aventis at €66.6 a share in cash and stock or a total of about

€53.2 billion. Both values are higher than Sanofi's original offer in January that valued

the company at €60.43 a share in cash and stock. The combined company will have a 17-

member board with nine members from the Sanofi side, including Mr. Dehecq, and eight

from the Aventis side.

The decision to accept the Sanofi offer was not unanimous. Kuwait Petroleum Corp.,

which is Aventis's single largest shareholder, was one of the parties that abstained, say

people familiar with the situation.

The takeover battle for Aventis could burnish the reputation of Novartis chief Daniel

Vasella as a tough pharmaceutical deal-maker who is willing to walk away from

transactions when the apparent price becomes too high.

Still, the outcome leaves Novartis with a dilemma. The company has made no secret of

its desire to grow, especially in the U.S. market, a region where an Aventis acquisition

would have helped significantly. But the potential assets it could acquire now are few and

far between. Novartis has been stymied in its efforts to take over Swiss rival Roche

Holding AG and it is sitting on a large hoard of billions of dollars in cash. Analysts say

reinvesting such cash doesn't always yield the kind of return a fast-growing

pharmaceutical company such as Novartis would like, because of declining productivity

in the drug industry.

Novartis may fall back now on licensing drugs from other companies as part of its

strategy to keep growing

15

Case Study-6

: Ranbaxy Laboratories (Ranbaxy) and Orchid Chemicals & Pharmaceuticals (Orchid)

have announced that they have entered into a business alliance agreement involving

multiple geographies and therapies for both finished dosage formulations and active

pharmaceutical ingredients (APIs). Additionally, this agreement would establish a

framework for enhanced future co-operation between the two companies.

The business alliance between the two comes even as the Ranbaxy Group has stretched

its holding in Orchid to 14.7 per cent through market operations, triggering intense

speculation about a possible takeover attempt on Orchid. With the holding of promoters

in Orchid dropping to 16.2 per cent, the Ranbaxy Group‟s share-buying exercise has only

heightened the possibilities for a takeover.

The drop in equity holding was caused by the sale of 5.6 million shares by a couple of

lenders with whom the promoters had pledged seven million free shares. The promoters

had borrowed about Rs. 80 crore from India Bulls Financial Services and Religare

Enterprises to help them raise their stake in the company from 17 per cent to 24 per cent.

They had bought five million shares from the market during March-April 2007 to raise

their stake.

K. Raghavendra Rao, Managing Director, Orchid, said the talks for a business alliance

with Ranbaxy were on much before the developments on the share front. He expected the

business alliance to fetch `significant revenue for Orchid‟. Mr. Rao told The Hindu that

the alliance would not upset the existing applecart (business). The incremental revenue

would be determined by the product and market configuration of any new business

initiative.

To a question, he said Orchid would continue to drive drug development and make

products. The alliance would leverage the marketing strength of Ranbaxy to push sales

numbers for both, he said. On increased co-operation between the two companies, Mr.

Rao said, “what is known is captured. The template is ready. A super structure can be

built easily, as the framework is already there.” Asked if the alliance with Ranbaxy and

the share buying episode would constrain Orchid, Mr. Rao said, “The management

freedom should continue. It should not be dictated by the shareholders.”

Informed institutional sources said that Orchid promoters were indeed trying to secure

their positions. Mr. Rao, however, has preferred to keep his cards close to his chest. With

institutional holders reportedly not enthusiastic about selling their shares in Orchid,

industry observers felt that the Ranbaxy Group would do nothing hastily.

Driven by a robust growth in emerging markets and North America, Ranbaxy

Laboratories on Tuesday reported a profit after tax of Rs. 153 crore for the first quarter

ended March 31, 2008, a 7.21 per cent growth over the corresponding period last year.

16

“Emerging markets continue to be the major contributor to the company‟s growth,

accounting for around 55 per cent of our total sales, followed by developed markets

which account for 40 per cent,” Ranbaxy Managing Director and CEO Malvinder Mohan

Singh told reporters here.

On the company‟s plans for alliances, Mr. Singh said at present it was negotiating with a

firm for a deal similar to what it has with GlaxoSmithKline. “Initially, it will be with

Ranbaxy but once the demerger takes place it will be transferred (to Ranbaxy Life

Science Research),” Mr. Singh said.

Mr. Singh said Ranbaxy was at present involved in about 19 patents litigations with an

innovator value of $27 billion . Out of these, the company had been able to settle four

that had a value of $8-10 billion.

Case Study-8

Battle lines are being drawn in India‟s pharmaceutical sector. A creeping acquisition has

begun in the shares of Chennai-based Orchid Chemicals & Pharmaceuticals which has

become vulnerable to acquisition after its share price fell steeply last month.

A firm called Solrex Pharmaceutical Co, which market sources say belongs to Ranbaxy

Labs or its founders, has now garnered 9.54% stake in the company.

Orchid founder and managing director Kailasam Raghavendra Rao said he was

determined to retain control over the company and would lean on support from

institutional investors. But his options could be limited, since he owns only 17%. “I have

not started this company to sell out,” an emotional Mr Rao told ET. He will be watched

for his moves in the next few days.

When contacted, Ranbaxy managing director and CEO Malvinder Singh said, “I have no

comment to make.” However, Mr Singh had earlier spoken of consolidation being the

„buzzword‟ in the industry and his company had been on the lookout for strategic stakes

in the domestic market.

Orchid shares were beaten down mercilessly on March 17, when promoter holdings of

about 7.5% were sold by stock dealers who had lent Mr Rao and his family money to

buy those shares. A bearish pressure had caused the price to fall below a predetermined

threshold, invoking margin calls that Mr Rao could not meet.

The Orchid founder incurred a personal loss of Rs 75 crore in the selloff and the shares

lost 40%, though they have recovered ground since then. "I do not know the antecedents

of Solrex and the events of the past few days have been too sudden to say anything. But I

can tell you, I am here to stay,” Mr Rao said.

The buzz about Ranbaxy‟s interest and a block deal of nearly one million shares, or 1.5%

stake in the target firm, caused a spike in Orchid shares which gained 15.5% to close at

17

Rs 207.15 on the BSE. Even after this, the company is trading at a low price-earning

multiple of 7.2 compared with the industry average of 17.23.

Incidentally, the name „Solrex‟ bears a close resemblance to Ranbaxy‟s two business

divisions „Solus‟ and „Rexcel‟, which were created in 2002 as part of the company‟s

restructuring programme. With Ranbaxy refusing to clarify, it was unclear whether

Solrex could be a Ranbaxy unit or a firm floated by its promoters.

Analysts said that it made sense for Ranbaxy to have Orchid in its fold. “What Orchid

brings on the table for Ranbaxy is its market standing in Cephalosporin (both sterile and

oral). Orchid has created many assets in this regard over the past couple of years.

Ranbaxy has products in anti-biotics and Orchid would help consolidate its position in

this regard,” said Angel Broking vice-president (research) Sarabjit Kaur Nangra.

Pharma consultant and industry veteran Ajit Dangi said, “Orchid Chemicals has good

API portfolio and manufacturing facilities. It should be complementary for Ranbaxy to

acquire Orchid and enable the Indian pharma MNC to increase its market share.”

However, another industry expert said that the investment could just be an attractive-

buying opportunity rather than a strategic fit for the company.

Orchid reported Rs 866-crore revenues and a net profit of Rs 169 crore for the nine-

month period ended December 2007. It has a return on capital of about 11% and a market

capitalisation of Rs 1,400 crore.

_____________________________________________________________

___________Merger,acquisition And Corporate Restructuring

Structure

Conceptual framework

History of M&A

Financial framework

Corporate restructuring

Accounting for amalgamation

Tax benefits

Exercise

CONCEPTIONAL FRAMEWORK

18

CONCEPTIONAL

FRAMEWORK

MEANING OF

• MERGERS

• ACQUSITIONS

• AMALAMATIONS

• TAKEOVERS

• ABSORPTIONS

TYPES OF MERGERS

HDFC Bank's merger with Centurion Bank of Punjab and Walt Disney

Company's acquisition of 17.2per cent stake in UTV Software

Communication to increase its stake to 32.10 per cent in the company.

19

In February 2008, as many as 38 cross-border deals were announced with

total value of $2.80 billion, of which 27 were outbound deals with a value of

$2.57 billion.

Diologic Report

Meanwhile, global financial information provider Diologic in its latest report

said that India-targeted M&A volumes reached $11.9 billion through 345

deals so far this year. US was the leading acquiring country with deals worth

1.6 billion dollars, followed by the UK with $904 million and Germany with

USD 584 million.

ADVANTAGES

REDUCTION OF COMPETITION

PUTTING AN END TO PRICE CUTTING

ECONOMIES OF SCALE IN PRODUCTION

RESEACH AND DEVELOPMENT

MARKETING AND MANAGEMENT

VERTICAL MERGER –

FIRMS SUPPLYING RAW MATERIALS MERGE WITH FIRM THAT

SELLS

ADVANTAGE

LOWER BUYING COST OF MATERIAL

LOWER DISTRIBUITION COST

ASSURED SUPPLIES AND MARKET

COST ADVANTAGE

CONGLOMERATE MERGER

UNRELATED INDUSTRIES MERGE

PURPOSE

DIVERSIFICATION OF RISK

Ex:Time warner-(they were into media & movie production) & AOL-

(leading American website)

20

Expansion

Merger and Acquisition

Asset acquisition

Joint ventures

Tender offer

Contraction

1.Spin off-shares in subsidiary distributed to its own shareholders

Kotak Mahendra Capital finance Ltd formed a subsidiary called Kotak

Mahendra Capital Corporation by spinning off its investment division.

2.Split off- A new company is created to takeover an existing division or

unit.

It does not result in any cash inflow to the parent company

HISTORY

The First wave

1897-1904-horizontal Mergers

Monopolistic Market structure

Mega merger between US Steel and Carnegie Steel.It also merged with 785

separate firms-75% of Steel production of US.

More than 3000 companies disappeared.

General Electric,Navistar, Standard Oil, Du-Point, American Tobacco-90%

of market share

Transformation of regional firms into national firms.

Exploited the economies of scale.

Table-1

Year Number of mergers

1897 69

1898 303

1899 1208

1900 340

1904 79

Problems of the first Wave

Financial factors

Fraudulent financing

Stock Market crash in 1904 and Banking panic of 1907

Closure of many banks and formation of Federal Reserve System.

21

Easy finance ends here.

The US President Teodore Roosevelt and President William Taft made a

crack down on Large Monopolies.

As a result: ???? What happened to Standard Oil?

Standard Oil(SO)

Broken in to 30 Companies.

SO of New Jersey named EXXON

SO of New York named MOBIL

SO of California renamed CHEVRON

SO of Indiana renamed AMOCO

The Second Wave

1916-1929

Oligopolies industry structure

Industries like primary metals, petrolium products, food products, chemicals

Outside the previously consolidated heavy manufacturing industries.

Product extension merger like IBM and General Foods

Vertical mergers In the mining and metal industries(1920)

Prominent Corporations

General Motors, IBM, Union Carbide, John DEERE

Between 1926 and 1930- there were 4600 mergers took place

Result of which between 1919 and 1930 12,000 manufacturing ,

mining,public utility and banking firms disappeared.

This period rail transportation, motor vehicle transportation became national

market.

Radios in homes, entertainment enhanced the competition.

Mass merchandising, national brand advertising

Enhance productivity as a part of war effect.

The firms were urged to work together rather than compete

The second wave came to an end when stock market crashed on October

29,1929.

Investment Bankers played in the first two phases of mergers.

The 1940s

The second world war with merger of small firms with larger firms

Motive of tax relief

High estate taxes

There were no increased concentration of wealth

22

Mergers were small.

The third Wave-1965-1969

Merger activity reached its highest level during this period

Booming of economy

Conglomerate merger period-80%

Diversification strategy

It is because of ANTI TRUST enforcement

Federal government adopted a stronger antitrust enforcement both with

horizontal and verticle merger.

1963-1361 mergers; 1970-5152 mergers

Management sciences

Management principles were applied in industries.

Management graduates were employed to manage conglomerate mergers.

There were 6000 mergers which leads to 25000 firms disappeared.

Investment Bankers do not finance most of these mergers

Finance:-????

Finance for mergers

Equity financing

Boom in stock market prices

Many conglomerate merger failed

The Revlon –cosmetic entered into health care and failed and suffered in

cosmetic industry.

The Fourth Wave-1981-1989

Recession in 1974-75

Hostile merger

Take over or targeting on target company‟s board of directors.

If the board accepts, it is considered friendly, and if it opposes it, it is

deemed to be hostile.

The great mergers such as Oil companies-21.6%

Of dollar values of merger and acquisitions

Drugs and medical equipment industries due to deregulation in some

industries

Deregulation of airline industries

23

Investment bankers played an aggressive role.

M&A advisory services became a lucrative source of income for Goldman

Sachs

Innovation in acquisition techniques

The Fifth Wave-1992-till date

Once again increased activity in merger in 1992

Mega mergers

Strategic mergers

Equity based

Deregulations and technological changes

Banking , telecommunications entertainment and media industries

High growth in banking sectors in 1990 as banks grew greater than central

banks.

Banks fund M&A rather than new ventures.

Oligopoly market structure

Competition declined

Very few competitors

Example: Coco-Cola-44.5%,Pepsi-31.4%,Cadbury Schweppes-14.4%

Globalisation

Not confined to US companies

1995-US companies were acquired

1981-2395

1989-2366

1990-2074 companies

2001-7528 companies merged

Major Mergers in the telecom

Acquirer Target

Vodafone Mannes man

MCL worldcom Spirit

Bell atlantic GTE

24

AT&T MeCaw Celluar

SBC Pacific Telesis

Major Mergers in Media and Entertainment sector

AOL Time Warner

VIOCOM CBS

WALT DISNEY CAPITAL ITIES/ABC

AT&T MEDIA ONE

TIME WARNER TURNER BRODCAST

M&A IN INDIA

License era-Unrelated diversification

Conglomerate merger

Friendly take over and hostile bids by buying equity shares

Example: Swaraj paul attempted to raid on Escorts Ltd.and DCM Ltd but

could not succeed.

The Hindujas raided and took over Ashok leyland and Ennore Foundaries.

Chhabria Group acquired stake in Shaw Wallace, Dunlop india and Falcon

Tyres.

Goenka group from culcutta took over Ceat tyres.

The Obroi-Pleasant hotels of Rane group.

1989- Tata Tea acquired 50% of the equity shares of Consolidated Coffee

Ltd from resident shareholders.

Merged to form HCL Ltd??.

HCL

Hindustan Computers, Hindustan Reprographic, Hindustan

Telecommunications and Indian Software Ltd.

Comparative study

US India

Strategic By default(ANZ&

Gains by investment Not benefited by banks

Capital goods Consumer goods

BorrowedEarlier

debt later by equity cash/FDI

Anti trust Act MRTP later The competition

bill 2001

25

FINANCIAL FRAMEWORK

1.IT COVERS THREE INTERRELATEDASPECTS

2.DETERMINING THE FIRM‟S VALUE

3.FINANCING TECHNIQUES IN MERGER

4.CAPITAL BUDGETING

DETERMINIG THE FIRMS VALUE

QUANTITATIVE FACTORS – BASED ON

THE VALUE OF THE ASSETS

BOOK VALUE – OWNERS EQUITY

DEPENDS ON FIXED ASSETS AND WORKING CAPITAL

APPRAISAL VALUE- INDEPENDENT APPRISAL AGENCIES

MARKET VALUE – BASED ON STOCK MARKET QUATATIONS

,BUT CHANCE FOR SPECULATION

EARNING PER SHARE AND P/E RATIO – IMPACT OF EPS AFTER

MERGERTHE EARNINGS OF THE FIRM.

EXERCISE

COMPANY A

NO. OF SHARES 2 LACS

MARKET VALUE PER SHARE RS.25

EPS RS.3.125

COMPANY B

NO. OF SHARES 1 LAC

MARKET VALUE RS.18.75

EPS RS.2.5

CONCLUSIONS

EXCHANGE AT EPS – NO EFFECT ON EPS AFTER MERGER

EXCHANGE MORE THAN EPS RATIO – COMPANY WITH LOWER

EPS GAINS

26

IF LESS THAN EPS RATIO – COMPANY WITH HIGHER EPS BEFORE

MERGER GAINS

PRICE EARNING RATIO APPROACH

MEANING

COMPUTATION :

P/E RATIO = MP/EPS

EPS = EAT/NO. OF EQUITY SHARES

MARKET PRICE = P/E (NO. OF TIMES) * EPS

EXAMPLE

7.58P/E RATIO(TIMES)

18,75,00050,00,000TOTAL MARKET

VALUE (N*MPS) OR

(EAT*P/E RATIO)

18.7525MARKET PRICE PER

SHARE(MPS)

2.53.125EPS

1,00,0002,00,000NO. OF SHARES

2,50,0006,25,000EAT

FIRM BFIRM APRE MERGER

SITUATION

27

7.58P/E RATIO

(ASSUMED TO BE THE

SAME)

21.8253.125*8=25MPS

65,47,50070,00,000TOTAL MARKET VALUE

8,75,000/3,00,000=2.91/8.75/2.8=3.125EPS

2,00,000+1,00,000=3,00,0

00

2.8 lakhsNO. OF SHARES

8,75,0006.25+2.5=8.75EAT(COMBINED FIRM)

1 : 12.5:3.125=.8EXCHANE RATIO/ SWAP

RATIO (ASSUMING)

SITUATION 2SITUATION 1

(BASED ON CURRENT

MARKET PRICE

POST MERGER

CONCLUSION

IF SHARES ARE EXCHANGED BASED ON CURRENT MARKET

PRICE PER SHARE , POST MARKET PRICE SHARE INCREASED AT

HIGHER RATE THAN EXCHANGED BELOW THIS RATIO

Boot strap effect

MARKET VALUE AFTER MERGER = MARKET VALUE BEFORE

MERGER = 68,75,000

NET GAIN = 15,00,000

? IF EXCHANGE RATIO IS 2.5:1 WHO GAINS WHO LOSES

? IF EXCHANGE RATIO IS 1:1 WHO GAINS WHO LOSES

? HOW TO CALCULATE TOLERABLE SHARE EXCHANGE RATIO

28

DETERMINATION OF

TOLERABLE SHARE

EXCHANGE RATIO75,00,000

10,00,000

TOTAL MV

LESS: MINIMUM TO BE GIVEN TO B

1,00,000NO. OF SHARES OF A TO A CO. SHARE

HOLDERS

65,00,000NET BENEFIT TO A

10,00,000/65 = 15,385 SHARESNO. OF EQUTY SHARES TO BE ISSUED

BASED ON DESIRED MARKET PRICE

50,000/15385 = 3.25 SHARES OF FIRM B,

1 SHARE IN FIRM A

1:3.25

TOLERANCE SHARE EXCHANGE

RATIO

65 PER SHAREDESIRED POST MERGER MPS

CONCLUSION

FIRM WITH HIGHER P/E RATIO CAN ACQUIRE FIRM WITH LOWER

P/E RATIO WHICH WILL INVARIABLY INCREASES MARKET

VALUE AFTER MERGER

CAPITAL BUDGETING

THE TARGET FIRM SHOULD BE VALUED BASED ON PV OF

INCREMENTAL CASH INFLOWS

CORPORATE RESTRUCTURING

FINANCIAL RESTRUCTURING

RESTRUCTURING SCHEMES : INTENAL AND EXTERNAL

RESTRUCTURING

DEMERGERS

29

BUYOUTS

ACCOUNTING FOR AMALGAMATION

POOLING INTEREST METHOD

CONDITIONS AS PER AS 14:

ALL ASSETS AND LIABILITIES OF TRANSFEROR CO. TO BE THE

ASSETS OF THE TRANSFREE CO.

AT LEAST 90% OF F.V OF EQUITY SHARE HOLDERS SHOULD BE

SHAREHOLDERS OF NEW CO.

PURCHACE CONSIDERATION TO BE SETTLED BY THE NEW CO.

THE BUSINESS OF NEW CO. SHOULD CONTINUE

NO ADJUSTMENT IS INTENDED TO BE MADE TO BOOK VALUE OF

ASSETS AND LIABILITIES OF TRANSFEROR CO.

OTHER ACCOUNTING TREATMENTS

CROSS HOLDINGS OF SHARES TO BE CANCELLED SUBSIQUENT

TO MERGER

INTER CO. TRANSACTIONS LIKE DEBTORS AND CREDITORS –

SALE OF GOODS FROM ONE CO. TO ANOTHER

SALES TAX PAID ALREADY CAN NOT BE RECOVERED

INCOME TAX RELATED ISSUES FOR AMALGAMATION

CONDITIONS OF AMALGAMATION UNDER INCOME TAX ACT

SEC 2 (1B)

ALL ASSETS AND LIABILITIES OF TRANSFEROR CO. TO BE THE

ASSETS OF THE TRANSFREE CO.

SHARE HOLDERS HOLDING NOT LESS THAN 3/4TH

IN VALUE OF

SHARES OTHER THAN SHARES ALREADY HELD SHOULD

BECOME SHARE HOLDERS OF AMALGAMATED COMPANY

EX. NO. OF SHARES OF Altd CO. 1,00,000

NO. OF SHARES HELD BY Bltd IN Altd IS 20,000

NOMINAL VALUE OF SHARE IS RS.10

ASSUME Altd MERGE WITH Bltd THEN 75% OF 1,00,000- 20,000 =

60,000 TO BE THE SHARE HOLDES OF B CO.

30

NOTE:SHARE HOLDERS MAY BE EQUITY OR PREFERNCE SHARE

HOLDERS

OTHER CONDITIONS

THE AMALGAMATED CO. IS AN INDIAN CO.

EXCEPTION

IF SHARES OF INDIAN CO.HELD BY FOREIGN BEFORE MERGER

AND SUCH FOREIGN CO. TAKEN OVER BY ANOTHER FOREIGN

CO.

ATLEAST 25% OF THE FOREIGN CO. (BEFORE MERGER) TO BE

SHARE HOLDERS OF THE NEW FOREIGN CO.

? WHAT IS THE BENEFIT TO THE AMALGAMATED CO.

AMALGAMATING CO.(OLD CO.)

NO CAPITAL GAIN ON TRANSFER ON CAPITAL ASSETS BY THE

TRANSFEROR CO. UNDER SEC 47(VI) OF I.T ACT

? CAN NEW CO. CARRY FORWAD AND SET OF LOSS AND

DEPRECIATION

SEC 72 A TO BE FULFILLED

ACCUMULATED LOSSES REMAIN UNABSORBED FOR 3 OR MORE

YEARS

75% OF BOOK VALUE TO BE HELD ATLEAST FOR 2 YEARS

BEFORE AMALGAMATION

THE AMALGAMATED CO. CONTINUES TO HOLD 3/4TH

OF BOOK

VALUE ATLEAST FOR 5 YEARS

NEW CO. SHOULD CONTINUE FOR ANOTHER 5 YEARS

NEW CO. SHOULD ACHIEVE ATLEAST 50%OF INSTALLED

CAPACITY BEFORE END OF 5 YEARS AND SHOULD CONTINUE

FOR 5 YEARS

THE NEW AMALGAMATED CO. SHOULD FURNISH TO ASSESSING

OFFICER ABOUT PARTICULARS OF PRODUCTION

BENEFIT

THIS SCHEME IS ALSO APPLICABLE TO BANKING INSTITUTIONS.

31

Conditions in brief

A LTD AMALGAMATES WITH B LTD

AS ON 2007

NO CAPITAL

GAIN TAX &

ACCUMULATED

LOSSES &

UNABSORBED

DEPERICIATION

CAN BE

CARRIED

FORWARD

DOES NOT

ATTRACT

CAPITAL GAIN

FOR A BUT NO

GAIN FOR B

NO BENEFIT

TO A & B

A MERGES WITH

B (A GOES OUT)

SATISFIES

BOTH 2(1B) & 72

A

SATISFIES 2(1B)

BUT DOES NOT

SATISFY 72 A

DOES NOT

SATISFY SEC

2(1B) & 72 A

PARTICULARS

A LTD AMALGAMATES WITH B LTD AS ON 2007

? If b merges with a & b goes out of market who gains under above 3

situations

? If a&b merge with c what are the tax implication under above situations

Assume b is a loss making co.& Have accumulated losses & unabsorbed

depreciation

? If c is not an Indian co.

32

OTHER TAX BENEFITS

Expenditure on amalgamation or de-merger – allowed under sec 35DD both

revenue and capital expenditure allowed

Expenditure on scientific research can be carried forward

Expenditure on acquisition of patent rights copyrights – depreciation can be

provided

Expenditure for obtaining license for tele-communication service can be

written off

Preliminary expenses

Capital expenditure on family planning

Bad debts are allowed

Tax Concession To Share Holders Of Amalgamating Co.

No capital gain tax provided, new co. is an Indian co.& Shareholders are

acquired everything in shares

EXERCISE

4070MARKET PRICE

810P/E RATIO

57EPS

7,50020,000NO. OF SHARES

37,5001,40,000EAT

CO. BCO. APARTICULARS

Co. A is acquiring co. B Exchanging one share for every 1.5 shares of B ltd

& p/e ratio will continue even after merger

33

? Are they better or worse of than they were before in merger

? Determine the range of minimum & maximum ratio between the two firms

? A is an Indian co.

? A is a foreign co.

? A merges with T & formed a new co. AT ltd

? What are the tax planning required before & after merger

Conversion of sole proprietorship into a company By

Prof.Augustin Amaladas

conditions

•All assets and Liabilities of the sole proprietarily concern leading to the

business immediately before the succession shall become the A/L of the

company

•Sole proprietor should hold not less than 50% of the total voting power

in the company

•The sole proprietor should continue for a minimum period of 5 years.

•The sole proprietor should receive the consideration only in the form of

shares in the company

Consequences if not fulfilled

•Withdrawal of exemption U/S 47A(3)

•The capital gain which was not taxed earlier will become taxable in the

hands of the company.

34

Conversion of Firm into a company

•Conditions:

•1. All assets and Liabilities of the firm leading to the business

immediately before the succession shall become the A/L of the company.

•2. All the partners of the firm become the shareholders of the company

in the same proportion of their capital account stood before the

succession.

•3.Every thing should be received in Shares of the company by the

partners.

•4.Not less than 50% of voting power in the company by all the partners

and hold such shareholdings for a period of 5 years from the date of

succession.

Failed to fulfill the conditions

•Withdrawal of exemption U/S 47A(3)

•The capital gain which wad not taxed earlier will become taxable in the

hands of the company

Exercise-1-Case study

•A Ltd. is incorporated on April 1st 2008 which takes over the assets and

liabilities at the agreed valuation of X Co. as follows:

•Plant-2,80,000, House property-10,00,000, stock-60,000, debtors-

70,000,Bank –10,000.

???

•How is it treated as per IT?

•If firm sells the whole business at the agreed value what is the tax

implication?

•Calculate the total consideration the company is willing to give the

partners and also find out the number of shares allotted to each

partner?

•If Shareholder Y transfers his shares to Z on 5th

March 2011 what is

the consequences to the firm and Company and partners(shareholders)?

•How do you compute capital gain tax?

•Suppose the firm has a land worth Rs. 50 crores and sells which

attracts 8 crores Income tax. Is there tax planning to avoid tax liability?

35

Answer

1.Short term capital gain on plant and Machinery as a depreciated

asset=2,00,000

House property – Long term as no depreciation provided use index cost

of acquisition

Stock in trade 60,000-40,000=20,000 is business income.

•If all the conditions fulfilled as per 47(xiii)

•No capital gain tax.However business income arises on stock which

attracts tax as business income and to be paid by the firm.

•Stock is a current asset which is used as a stock in trade does not

amount to capital asset.

•If Y transfers his shares to Z the capital gain earlier exempted will be

taxed as it was originally calculated.Long term capital gain on house

property and short term capital gain on plant and machinery.

Tax Planning:

•If lands worth Rs. 50 crores if transferred to A Ltd. it does not amount

to transfer.

•No capital gain on the firm and the company.

•It is treated just like gift or will and the cost of acquisition will be the

cost of acquisition of firm.

Set off and carry forward of losses of proprietor/Firm

•Un absorbed depreciation and accumulated losses can be carried

forward and can be set off by the company as if it is their losses.

•It should not be speculative business loss.

•If failed to fulfill the conditions such losses set off and un absorbed

depreciation set off are considered as income of the company.

•Any loss can not be carried forward for more than 8 years. How ever if

company acquires firm the company itself can carry forward and set off

such loss for the further period of 8 years.

Case study-2

36

•X and Y are partners; capital ratio is 1:3; Business Loss –10 crores

which remains due to be set off at the end of 7th

year, the firm can carry

forward and set off with in one more year otherwise it will lapse.

•If firm is converted into a company the company can treat such loss as

their loss occurs in the first year. Therefore they can carry forward for

8 more years.

•If Y transfers his shares with in 5 years to Z then the loss set off is

taxed to the company as the shareholder Y fails to fulfill the

requirements as per the law.

_____________________________________________________________

___________

Practicals

DETERMINATION OF VALUE PER SHARE OF XY LIMITED,

ITES DIVISION OF XY

SERVICES XY PRIVATE LIMITEDAND M&A INDIA LIMITED

Determination Date: April 1, 2008- based on the audited

Balance sheet as on 31st March, 2005, 2006 and 2007 except for the ITES

division of XY India Private Limited, where I have relied on the

segment financials provided by the client.

Purpose: The purpose of this Certificate is to estimate the ―fair value‖

of the Equity Shares of the Companies on the determination date

requested.

Dear Sir,

I have prepared, and enclosed herewith, my report on determination of fair

value of equity shares of M/s. XY Limited ITES division of XY Services

India Private Limited and M/s. M&A Ltd. based on the audited balance

sheets of the companies as on 31st March, 2005, 31

st March 2006 and 31

st

37

March, 2007, in case of XY and M&A and based on the segment financials

provided by the company in case of CISIPL. The purpose of the report is to

estimate the “fair value” of the equity shares of the three companies as on 1st

April, 2008.

Estimate of the Fair Value

I have used the Intrinsic Value method, the Capitalisation of Earnings

Method as well as the Profit Earning Capacity Value method to determine

the “fair value per share” of the three companies and the results of my

workings are as under:

Using the Intrinsic Value Method:

The value per share of M/s. Cambridge Solutions Limited is Rs.15.88, that

of the ITES division of XY is Rs. Nil and that of M/s. M&A is Rs. Nil.

Using the Capitalisation of Earnings Method:

The value per share of M/s. XY is Rs.2.74, that of the ITES division of XY

is Rs.11.77 and that of M/s. M&A Limited is Rs. Nil.

Using the Price Earning Capacity Value Method:

The value per share of M/s. XY Limited is Rs.22.05, that of the ITES

division of XY Services India Pvt. Ltd. is Rs.16.76 and that of M/s. M&A is

Rs.Nil.

Based on my findings above, I consider that the fair value per share of XY to

be Rs.13.56, that of the ITES division of XY Services India Private Limited

to be Rs.9.51 and M&A to be Rs. Nil.

However, since XY Limited is a company listed in recognized stock

exchanges in India, it is prudent to consider the market price of the

company‟s share, as on the date of valuation being Rs.125 [average of BSE

and NSE prices as on March 30, 2007, rounded off], as the fair value per

share of XY Limited.

Further, the par value of equity shares of XY India Private Limited of Rs 10

[in respect of 6,285,620 equity shares of Rs 10 each fully paid up] and Rs 5

[in respect of 178,449 equity shares of Rs 5 each fully paid up], is

considered as fair and reasonable.

38

Based on my findings above, I consider an exchange ratio of one equity

share in M/s. XY Limited for every 12.50 equity shares of Rs 10 each

fully paid up and held in M/s. XY Services India Private Limited, to be

fair and reasonable.

Based on my findings above, I consider an exchange ratio of one equity

share in M/s. XY Limited for every 25 equity shares of Rs 5 each fully

paid up and held in M/s. XY Services India Private Limited, to be fair

and reasonable.

Thanking you,

Yours truly,

For A &Co.

CHARTERED ACCOUNTANTS

Enclosed:

a) Summary of the valuation of share of the three companies using the

various methods

b) Calculation of value as per the Net Assets Method

c) Calculation of value as per the Earnings Capitalisation Method of XY

d) Calculation of value as per the Earnings Capitalisation Method of XY

Integrated

e) Calculation of value as per the Earnings Capitalisation Method of

M&A

f) Calculation of value as per Profit Earning Capacity Value Method of

XY

g) Calculation of value as per Profit Earning Capacity Value Method of

XY integrated

h) Calculation of value as per Profit Earning Capacity Value Method of

M&A

i) Average PE Multiple of Software Development Companies

j) Average PE Multiple of IT Enabled Services Companies

k) Report

39

PURPOSE OF THIS REPORT

The report has been prepared for the specific purpose of determining the

“fair value” of the equity shares of XY Limited, ITES division of XY

Services India Private Limited and M&A India Limited. The determination

of fair value is based on the audited financial accounts for the years ended

31st March, 2005, 31

st March, 2006 and 31

st March, 2007 in case of XY and

M&Aand the segment financials provided by the company in case of

XYSIPL.

The determination is on the basis of the intrinsic value per share of the three

companies, the capitalization of earnings method as well as the price

earning capacity value based on the audited balance sheets of the companies

for the immediately previous three years.

APPROACH TO VALUATION

My approach has been to determine an estimate of the fair value per share.

My estimate of value is based on the audited financial accounts of the

companies for the years ended 31st March, 2005, 31

st March, 2006 and 31

st

March 2007.

For the purpose of this valuation I have not included a review, analysis and

interpretation of extent of control associated with the percentage of equity

proposed to be divested, since it is not applicable under the given

circumstances.

40

LIMITING CONDITIONS

This report is based on the historical financial information provided to me. I

have not audited or reviewed the underlying data.

I have no present or contemplated financial interest in the Company or with

any of the members of the management team. My fee, for this valuation, is

based upon my normal hourly billing rates and is in no way contingent upon

the results of my findings. I have no responsibility to update this report for

events and circumstances occurring subsequent to the date of this report.

The report has been prepared for the specific purpose of determining the

“fair value per share” of the companies on the determination date and is not

intended for any other use. Furthermore, no aspect or conclusion of this

report is meant to be construed as legal advice, or any other type of

professional advice or counsel, unless specifically stated to the contrary in

this report.

I have relied on the Audited Financial Accounts and other Financial

Information concerning the value and useful condition, of all equipment, real

estate leases, investments, and any other assets or liabilities except as

specifically stated to the contrary in this report. I have not attempted to

confirm whether or not all assets of the business are free and clear of liens

and encumbrances, or that the business has good title to all assets.

41

Valuation of Shares using the Net Assets Method [Intrinsic Value Method]

Amount in Rupees

Particulars XY Ltd M&A

XY Integrated

services

ASSETS

Fixed Assets (net of accumulated

depreciation)

51,897,165

- 135,893,593

Capital Work-in-Progress

6,368,235

- 58,831,491

Intangible Assets

6,075,480

- 18,618,605

Investments:

- 49,990 Equity Shares in Matrix

One India Ltd

- -

- Other Investments

2,391,268,775

- -

Deferred Tax Asset

30,007,312

- 10,851,163

Current Assets:

Inventory

-

1,221,199 -

Sundry Debtors

1,382,259,872

10,802,715 8,825,698

Cash and bank balances

44,815,501

2,699,359 20,806,119

Loans and advances

643,659,863

1,937,244 82,886,363

42

TOTAL ASSETS

4,556,352,203

16,660,517 336,713,032

LIABILITIES

Secured Loans

930,293,407

- 135,528,456

Unsecured Loans

1,426,500,000

- 35,307,070

Current Liabilities

451,734,802

22,807,106 163,498,859

Provisions

78,578,371

617,695 2,445,411

TOTAL LIABILITIES

2,887,106,580

23,424,801 336,779,796

NET ASSETS

1,669,245,623

(6,764,284) (66,764)

Weighted Average Number of

Equity Shares

105,130,577

50,000 6,374,845

Intrinsic Value per share

15.88

- -

Face Value per share

10.00

10.00 10.00

Notes:

a)

Fixed Assets are considered at

book value.

43

b)

Current Assets are considered to be fully

recoverable at book value.

c)

For the ITES Division of XY Integrated Services India Private Limited, 178,449 shares

of Rs 5 each fully paid

up have been converted into equal number of equity shares of Rs 10 each fully paid up,

on a weighted average basis.

Valuation of Shares of XYLimited using the Earnings Capitalisation Method

Amount in Rupees

Particulars

Year ended

March 31,

2005

Year ended March 31,

2006

Year ended

March 31, 2007

Net Profit before Taxation

79,010,924 73,010,924 (97,468,857)

Add: Adjustment of Extraordinary

Items

- Interest on 5.22% Convertible

Bonds - 4,350,085 88,203,890

Adjusted Net Profit Before Tax

79,010,924 77,361,009 (9,264,967)

Provision for Taxation

27,967,938 (26,959,333) (13,843,682)

44

[including Deferred Tax and Fringe

Benefit Tax]

Adjusted net profit after tax

106,978,862 50,401,676 (23,108,649)

Assigned weights 1 2 3

Product

106,978,862 100,803,352 (69,325,947)

Weighted Average of the adjusted net profit for

three years 23,076,045

Weighted Average Profit capitalised at a

normal earnings of 8% 288,450,556

No of equity shares 105,130,577

Value per share 2.74

Face Value per share 10

Note:

1. The profits exhibit a trend of decrease year on year. Therefore, it is

prudent to assign

a higher weight for the later years.

2. Capitalisation factor of 8% is arrived at considering the return on

Government of

India ["GOI"] securities gross of taxation.

3. Weighted Average of Adjusted Profits is assumed to be the future

annual earnings of

the company, under assumption of going

concern.

45

Valuation of the ITES Division of XY Integrated Services India Private Limited

using the Earnings Capitalisation Method

Amount in Rupees

Particulars Year ended

March 31, 2005

Year ended

March 31, 2006

Year ended March

31, 2007

Net Profit before Taxation (64,512,818) (24,329,324) 44,284,413

Add: Adjustment of Extraordinary Items - - -

Adjusted Net Profit Before Tax (64,512,818) (24,329,324) 44,284,413

Provision for Taxation - (2,412,779) 7,048,765


Benefit Tax]

Adjusted net profit after tax (64,512,818) (26,742,103) 51,333,178

Assigned weights 1 2 3

Product (64,512,818) (53,484,206) 153,999,534

Weighted Average of the adjusted net profit for three

years 6,000,418

Weighted Average Profit capitalised at a normal

earnings of 8% 75,005,229

Weighted Average number of equity shares 6,374,845

Value of ITES Division per share 11.77


46

Note:

1. The profits exhibit a trend of increase year on year. Therefore, it is

prudent to assign

a higher weight for the latest year.

2. Capitalisation factor of 8% is arrived at considering the return on GOI

securities gross

of taxation.

3. Weighted Average of Adjusted Profits is assumed to be the future annual

earnings of


concern.

4. 178,449 shares of Rs 5 each fully paid up have been converted into equal

number of

equity shares of Rs 10 each fully paid up, on a weighted

average basis.

Valuation of Shares of M&A India Limited using the Earnings Capitalisation Method

Amount in Rupees

Particulars

Year ended

March 31,

2005

Year ended March 31,

2006

Year ended March

31, 2007


461,361 2,900,850 (6,228,052)

Add: Adjustment of Extraordinary Items

- - -


461,361 2,900,850 (6,228,052)


(35,000) (617,695) -


Benefit Tax]

47


426,361 2,283,155 (6,228,052)

Assigned weights

1 2 3

Product

426,361 4,566,310 (18,684,156)

Weighted Average of the adjusted net profit for

three years (2,281,914)

Weighted Average Profit capitalised at a normal

earnings of 8% (28,523,927)

Weighted Average number of equity shares 50,000

Value per share 0


Note:

1. Though the profits do not exhibit any particular trend year on year, for

consistency,

a higher weight has been assigned for the latest year.

2. Capitalisation factor of 8% is arrived at considering the return on GOI

securities gross

of taxation.


earnings of


concern.

48

Valuation of Shares of XY Limited

using the Profit Earning Capacity Value Method

Amount in Rupees

Particulars

Year ended

March 31,

2005

Year ended

March 31,

2006

Year ended March 31, 2007


79,010,924

73,010,924 (97,468,857)

Add: Adjustment of Extraordinary Items

- Interest on 5.22% Convertible

Bonds -

4,350,085 88,203,890


79,010,924

77,361,009 (9,264,967)


27,967,938

(26,959,333) (13,843,682)


Benefit Tax]


106,978,862

50,401,676 (23,108,649)

Weighted Average number of equity

shares

28,732,276

30,113,456 105,130,577

Earnings Per Share [EPS]

3.72 1.67 (0.22)

Assigned weights

1 2 3

Product

3.72 3.35 (0.66)

49

Weighted Average of the EPS for three years (a) 1.07

Average PE multiple of Software Development

companies (b) 20.63

on the BSE Index [refer Annexure A]

Value per share based on EPS (a) * (b) 22.05


Note:

1. The profits exhibit a trend of decrease year on year. Therefore, it is

prudent to assign

a higher weight for the later years.


earnings of


concern.

Valuation of the ITES Division of XY Integrated Services India Private Limited


Amount in Rupees

Particulars

Year ended

March 31,

2005

Year ended March

31, 2006

Year ended

March 31, 2007


(64,512,818) (24,329,324) 44,284,413



(64,512,818) (24,329,324) 44,284,413

Provision for Taxation - (2,412,779) 7,048,765

50


Benefit Tax]


(64,512,818) (26,742,103) 51,333,178


shares

6,332,260 6,374,845 6,374,845

Earnings Per Share [EPS]

(10.19) (4.19) 8.05

Assigned weights

1 2 3

Product

(10) (8) 24

Weighted Average of the EPS for three years (a) 0.93

Average PE multiple of ITES companies on the BSE Index [refer

Annexure B] 45.06

Discounted PE multiple@40% (b)

18.03

Value of ITES Division per share based on EPS (a) * (b)

16.76


10

Note:

1. The profits exhibit a trend of increase year on year. Therefore, it is

prudent to assign

a higher weight for the latest year.

2. Weighted Average of Adjusted Profits is assumed to be the future

annual earnings of

51


concern.

3. For the years ended March 31, 2007 and March 31, 2006, 178,449

shares of Rs 5 each

fully paid up have been converted into equal number of equity shares

of Rs 10 each

fully paid up, on a weighted average

basis.

Valuation of Shares of M&A India Limited


Amount in Rupees

Particulars Year ended

March 31, 2005

Year ended

March 31, 2006

Year ended

March 31, 2007

Net Profit before Taxation 461,361 2,900,850 (6,228,052)


Adjusted Net Profit Before Tax 461,361 2,900,850 (6,228,052)

Provision for Taxation (35,000) (617,695) -


Benefit Tax]

Adjusted net profit after tax 426,361 2,283,155 (6,228,052)


shares 50,000 50,000 50,000

Earnings Per Share [EPS] 9 46 (125)

Assigned

weights 1 2 3

Product 9 91 (374)

52

Weighted Average of the EPS for three years (a) 0

Average PE multiple of Software Development companies 20.63

on the BSE Index [refer Annexure A]

Discounted PE multiple@40% (b) 8

Value per share based on EPS (a) * (b) 0


Note: 1. Though the profits do not exhibit any particular trend year on year, for consistency,

a higher weight has been assigned for the latest year.

2. Weighted Average of Adjusted Profits is assumed to be the future annual earnings of


concern.

Annexure A - List of Software Development companies considered

for computation of PE multiple

Particulars EPS Share price PE multiple

Aztecsoft

4.60

119 25.9

Cranes Software International

5.60

100 17.9

Geometric Software

2.90

103

35.5

GTL Limited

5.90

135

22.9

Helios & Mathers

13.40

125

9.3

53

Intellvisions Software

4.30

147

34.2

Kernex Microsystems

7.60

126

16.6

Megasoft Limited

10.30

120

11.7

Panoramic Universal

7.00

120

17.1

Ramco Systems Limited

(22.1

0)

129 (5.84)

Redington (India) Limited

3.80

140

36.8

Vakrangee Software

5.40

138

25.6

Total 247.6

Average PE Multiple of the Software Development companies 20.63

> The share price is based on the closing share price as on April 9, 2007

> Source: Dalal Street (April 16 - April 29, 2007)

Annexure B - List of IT Enabled Service companies considered for computation of

PE multiple

54

Particulars EPS Share

price PE multiple

Allsec Technologies

14.20

280 19.7

HOV Services

Limited

2.10

186 88.6

Northgate

Technologies

15.30

851 55.6

Spanco Telesystems

12.60

206 16.3

Total 180.3

Average PE Multiple of the IT

Enabled Service companies 45.06

> The share price is based on the closing share price as on April 9, 2007

> Source: Dalal Street (April 16 - April 29, 2007)

Summary of Valuation of Shares of XY Limited,

M&A India Limited

and the ITES Division of Cambridge Integrated

Services India Private Limited

55

Amount in Rupees

Method of Valuation XY

Limited

ITES Division of

XY Integrated

Services India

Private Limited

M&A India

Limited

Value per share under Net

Asset Value Method

15.88 0 0

Value per share under

Earnings Capitalisation

Method

2.74 11.77 0

Value per share under Price

Earning Capacity Value

Method

22.05 16.76 0

Average Value per share

based on the above

methods

13.56 9.51 0


10.00 10.00 10.00

Market Price per share

(average of BSE and NSE

prices

125.00 NA NA

as on March 30, 2007,

rounded off to the nearest

decimal)

69

M&A Regulatory control By

Prof. Augustin Amaladas

Content

•Evolution of Regulatory Control of M&A

•Procedures under the Companies Act, 1956

•The SEBI Takeover Regulation Code, 1997

•The recent changes made by SEBI in the take over Code

•Implications under Income tax Act, 1961.

Evolution of Regulatory Control of M&A

•Every business is targeted.

•MRTP-1969

•Indian firms require consolidation

•Survival and growth

•Preceding to 1991 there were 120 successful mergers and takeovers and

about which failed to succeed.

•HLL-TOMCO merger -SC‘s Judgment.It is the best route to reach a

size comparable to global companies so as to effectively compete with

them.

•

•Compliance under the Companies Act, 1956

•1. Scheme of Amalgamation /Merger

•2. Financial Institutions‘ approval-Debenture holders, Banks, creditors

etc.

•3. Approval of BODs

•4. Intimation to stock exchange-when release to press.

•5. Application to court for direction-U/S 391(1)-A separate application

by TFR and TFREE

•6. Direction by court Directions for Members‘ Meeting.

•7. Draft notices calling for meetings of Members

•8. 21 days clear notices

•9.Advertise for Meeting of members

•10. Confirmation about services of the Notice-Chairman conveys to the

court for the fulfillment of issue of notices and advertised.

70

•No one can acquire individually or along with some one (more than

15% upto 75%) of holding further shares without public

announcement.

•The offer price to be paid in cash/shares of acquirer company.

•Average weekly high and low of the closing prices of the shares of

target price traded during 26 weeks quoted

•or average daily price high and low of closing prices most frequently

traded during two weeks before the public announcement whichever is

higher.

•Minimum 20% of voting capital to be acquired.

•The offer should not be more than 16 days

•11. Holding the meeting and pass with ¾ th majority of the value of

shares.And file such resolution with the Registrar within 30 days of the

resolution

•12. Submission of Chairman‘s Report of the General Meeting to Court

within 7 days.

•13. Joint petition to court within 7 days from the date of his report to

court for approving the scheme.

•14.Issue of Notice to Regional Director‘s Company Law Board u/s 394A

by the Court.

•15. Hearing of petition and confirmation of scheme

•16. Filing of Court‘s order with ROC by both the Companies.

•17. Dissolution of Transferor Company u/s 394(1)(iv) without winding

up.

•18. Transfer of assets and Liabilities U/s 394(2)

•19. Allotment of shares to shareholders of Transferor company

•20. Listing of shares at Stock Exchange-new shares allotted

•21. Court Order to be annexed to Memorandum of Transferee

Company

•22.Prevention of Books and papers of amalgamated Company

•23. Post merger secretarial obligation

The Companies Act 1956-Special provisions-merger/take over

•1. Condition Prohibiting Reconstruction or Amalgamation of Company

(sec.376)

•MOA Or AOA Or resolution prohibiting is void.It is also applicable for

reorganisation

71

Power to compromise or make arrangements with creditors and members

•Compromise either with company and the creditor/members/any class

of them

•The court may order the company to conduct meeting of the

creditors/class of creditors/members/class of members.

•¾ in value of such creditors/members vote for the resolution.It binds

on all creditors/members

Regulatory framework of Takeovers

•As per SEBI (Substantial Acquisition of Shares and takeover)

Regulations

The company which takes over make outside shareholders an

opportunity to exit.

The price will be the price the company which takes over paid to the

sellers or the average price quoted in the market

Disclosure of share holdings

•Any person holding more than shares 5% or 10%, 15% of voting rights

–disclose to SEBI within 2 months and to the company at every stage.

•The company also should disclose to all stock exchanges with in 3

months from the date of notifications.

•A promoter or person controlling company disclose with in 2 months.

•Purchase/ sale of 2% or more-with in 2 days to stock exchange and the

company.

•The company should disclose to all stock exchanges.

•Any person holding 15% -disclose to company within 21 days of the

financial year ending on 31st March.

Capital gains By

Augustin Amaladas.Lourduswamy

M.Com.,AICWA.,B.Ed.,PGDFM

Capital Assets

72

•Any stock-in-trade, consumable stores or raw materials held for the

purpose of his business or profession;

•Personal effects, i.e., movable property (including wearing apparel and

furniture, excluding jewellery), held for personal use by the assessee or

any member of his family dependent on him.

•Agricultural land in India, not being land situated in the following:-

•In any area which is comprised within the jurisdiction of a municipality

(whether known as a municipality, municipal corporation, notified area

committee, town area committee, town committee, or by any other

name) or a cantonment board and, which has a population of not less

than ten thousand according to the last preceding census.

•In any area within such distance, not being more than eight kilometers,

from the local limits of any municipality or cantonment board referred

to in item

Capital assets

• 6.5 per cent Gold Bonds 1977, or 7 per cent Gold Bonds 1980,

National, Defence Gold Bonds, 1980, issued by the Central

Government;

• Special Bearer Bonds, 1991, issued by the Central Government;

• Gold Deposit Bonds issued under the Gold Deposit Scheme, 1999

notified by the Central Government.

•

Computation of Short-term capital gain

1. Find out the full value of consideration

2. Deduct the following:

a. Expenditure incurred

wholly and exclusively

in connection with such

transfer.

b. Cost of acquisition.

c. Cost of improvement

3. From the resulting sum

deduct the exemption provided

by section 54B, 54D and 54G.

4. The balancing amount is the short-term capital gain.

Short term capital gain

73

Computation of Long-term capital gain

•1. Find out the full value of consideration

2. Deduct the following:

a. Expenditure incurred wholly and exclusively in connection with

such transfer

b. Indexed Cost of acquisition

c. Indexed Cost of improvement.

3. From the resulting sum deduct the exemption provided by section 54,

54B, 54D, 54EC,, 54F and 54G, and 54GA.

4. The balancing amount is the long-term capital gain.

How IS long term capital gain taxed?

•Flat rate-20%+Surcharge+Educational cess+ Secondary and higher

education cess.

•Surcharge-10% if net income exceed Rs.10,00,000 for

individual,HUF,AOP,BOI

• Educational cess-3% on tax

• Companies -10% if net income does not exceed 1 crore rupees.

3% educational cess

• For Assesment year 2008-09 secondary and higer education cess-

1% on( tax+surcharge)

Indexed cost of acquisition

•Formula

•Cost *Index of the year of sale/index of the year of acquisition of the

present owner

•cost= cost of acquisition of the present owner or

•Cost of acquisition of the previous owner in case of will or gift

indexed cost of acquisition?

•S 48 defines "indexed cost of acquisition" as the amount, which bears

to the cost of acquisition the same proportion as Cost Inflation Index for

74

the year, in which the asset is transferred, bears to the Cost Inflation

Index for the first year in which the asset was held by the assessee or for

the year beginning on the 1st day of April, 1981, whichever is later.

The Cost Inflation Index, in relation to a previous year, means such

Index as the Central Government may, having regard to 75% of

average rise in the Consumer Price Index for urban non-manual

employees for the immediately preceding previous year to such previous

year, by notification in the Official Gazette.

tax shelter for avoiding capital gains tax?

•The Income Tax Act grants total/partial exemption of capital gains

under Sec.- 54, 54B, 54D, 54EC, 54F, 54G and 54H.

Capital gains exemted U/S 10 1. Capital gain on transfer of US 64[Section 10(36)]- both long term and

short term

•2. Long term capital gain on transfer of BSE-500 Equity

Shares[10(36)]-long term

•3.Compulsory acquisition of urban agriculture land[10(37)]-longterm

and short term.-individual and HUF.

•4. Securities not chargeable to tax if covered under transaction tax-

such as mutual fund equity linked issued by domestic companies.

•5. Capital gain arising in the reconstruction or revival of power

generation business [10(41)]

75

Under S 54 F

•where, in the case of an assessee being an individual or a Hindu

undivided family,

•the capital gain arises from the transfer of any long-term capital asset,

•not being a residential house,

•within a period of one year before

• or two years after the date on which the transfer took place purchased, or

has within a period of three years after that date constructed, a residential

house.

S 54 G Voluntary transfer of industry

•The shifting of such industrial undertaking to any area other than an

urban area, and

• the assessee has, within a period of 1 year ,before

•or 3 years after the date on which the transfer took place, purchased a

new machinery or plant for the purposes of business of the industrial

undertaking

Sec.54GA Shifting from urban to Special Economic Zone

•Industry

•1year before or 3 years after transfer

•New asset can not be transferred with in 3 years.

Amalgamation

•cost of acquisition of the asset shall be deemed to be the cost of

acquisition to him of the shares(s) in the amalgamating company.(old

company )

conversion of bonds or debentures, debenture-stock

•the cost of acquisition of the asset to the assessee shall be deemed to be

that part of the cost of debenture, debenture- stock or deposit

certificates in relation to which such asset is acquired by the assessee.

Demerger

•The cost of acquisition of the shares in the resulting company shall be

the amount which bears to the cost of acquisition of shares, held by the

assessee in the demerged company

Compensation for loss of capital asset(Insurance claim)

•It amounts to extinguishment of right

76

•Sec.45(1A)

•Taxable in the year of compensation

Compensation for revenue asset-stock in trade

•It amounts to revenue receipt u/s-28 from business

•Or income from other sources u/s 56

Buy back of shares

•Sec.46A

•Transfer in the year of buy back

•Capital gain=consideration received minus cost of acquisition(Index if

long term)

Slump sale[50B]

•Assets are not sold individually but collectively

•Capital gain=Sale- Net worth

•Net worth= Assets—liabilities appearing in the books of accounts

•No index

77

Consolidation of business – options

A consolidation of ABC Limited and XYZ Limited can be

achieved either through a slump sale or itemized sale approach, de-

merger process or a merger

•Each of the consolidation approaches have been discussed in some

detail in the subsequent slides and the pros and cons have been outlined

Itemized and slump sale options

Conventional modes

•Sale of assets and liabilities through an itemized sale

•Slump sale of undertaking

Potential shortcomings

•No protection of carried forward tax losses

•Capital gains tax (in the range of 22-34 % on gains) on transfer

•Cash flow impact – movement of cash from one company to another

•No automatic dissolution of the selling company

•Long drawn winding up process of shell company

•Stamp duty at 8-10%* on market value of immovable properties

* On a conservative basis

De-merger (meaning)

•Generally, a de-merger means the splitting up of a company into one or

more companies through a court approved process

•A qualified de-merger is defined under the Income Tax Act, 1961(‗Act‘)

[section 2(19A)]

•The de-merger requires approvals from shareholders, creditors, the

jurisdictional Courts, etc

•Under the Act, de-merger is defined to mean a transfer pursuant to a

scheme of arrangement under sections 391 to 394 of the Companies Act,

1956, by a de-merged company of one or more of its undertakings to

any resulting company in the prescribed manner

78

•If the de-merger complies with the conditions prescribed under section

2(19AA) of the Act, it will result in specific tax benefits to the Group

companies and its shareholders

•For the purpose of the analysis, we have assumed that XYZ Limited

would be de-merged into ABC Limited

•We understand that XYZ Limited has only one undertaking, that is

principally engaged in certain services. In this regard, XYZ Limited

can de-merge its lone undertaking and transfer it to ABC Limited .

•Pursuant to the de-merger XYZ Limited would be a shell company

without any business

•Further, pursuant to the de-merger, a separate winding up process

would be required to wind up XYZ Limited to result in the creation of

only one entity in India

•The de-merger process has been explained later in this presentation.

Essentially the approval of the board of directors, shareholders, High

Court(s) approvals are required.

•Normal time frame 5 to 6 months

De-merger (conditions) •Section 2(19AA) of the Act, prescribes certain conditions, which

necessarily need to be complied with in order for the de-merger to

qualify as such under the Act and only in such circumstances are the

stakeholders eligible for various tax incentives under the Act

•Briefly the conditions prescribed are:

–The Scheme of arrangement to be under section 391to section 394 of the

Companies Act, 1956;

79

–The scheme should result in the transfer of one or more undertakings;

–The undertakings to be transferred as a going concern and all property

and liabilities to be transferred;

–The transfer of property and liabilities to be at book value and there

should be no revaluation as such;

–Settlement of consideration by issue of shares to the shareholders of the

de-merged company on proportionate basis. Composite consideration

through a mix of equity and cash is not possible;

–Shareholders holding at least 75% in value to become shareholders in

the new resulting company.

•The de-merger should result in a transfer of one or more undertakings

•Explanation 1 to section 2(19AA) of the Act, defines an undertaking to

include:

–any part of an undertaking;

–a unit or division of an undertaking; or

–a business activity taken as a whole

but does not include individual assets or liabilities or any combination

thereof, not constituting a

business activity

•The underlying condition is that an ‗undertaking‘ should constitute a

separate business activity and should not merely represent assets or

property

•The other possible tests which would go on to substantiate a separate

undertaking are:

–Independent and distinct business

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–separate revenue stream

–Independence in terms of capital employed, assets, customer base,

employees, etc

–Continuation of business of the undertakings after de-merger

•The going concern condition contemplates that the company will

operate indefinitely and will not go out of business or liquidate its assets

• The going concern assumption assumes:-

–That the company does not have neither the intention nor the necessity

of liquidation or of curtailing materially the scale of business and

intends to continue its business for the foreseeable future

–Indicators like loss of key management personnel without replacement,

loss of major market or contract raises questions regarding the going

concern assumption being not valid

•Hence, it is necessary that all assets, liabilities, contracts and employees

relating to the services business of XYZ Limited should be transferred

to the resulting company (ABC Limited ) so that the going concern

condition is satisfied

•

•Liabilities include:-

–the liabilities which arise out of the activities or operations of the

undertaking

–the specific loans or borrowings (including debentures) raised, incurred

and utilised solely for the activities or operations of the undertaking

–general or multipurpose borrowings to the extent of :

total of such borrowing X value of the assets transferred in a

de-merger

total value of the assets of such de-

merged company

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•Properties include:-

–All immovable and movable assets which arise out of the activities or

operations of the undertaking

–All intangible assets which have been developed out of the functioning

of the undertaking

•Section 72A(4) of the Act provides that in the event of a de-merger, the

business loss and unabsorbed depreciation of the de-merged company to

the extent it relates to the undertaking being de-merged is deemed to be

the business loss and unabsorbed depreciation of the resulting company

and is permitted to be carried forward and set-off in the hands of

resulting Co

•In case where such loss or unabsorbed depreciation is directly relatable

to the undertaking transferred to the resulting company, the same shall

be allowed to be carried forward and set off in the hands of the resulting

company

•However where such loss or unabsorbed depreciation is not directly

relatable to the undertaking transferred, the same shall be apportioned

in the hands of de-merged and resulting company in the same

proportion in which the assets of the undertaking have retained by the

de-merged company and transferred to the resulting company.

•Practical challenges exist in determining the quantum of loss in cases

where there is more than one undertaking in the de-merged entity

•We understand that XYZ Limited has carry forward tax losses.

•In case of de-merger the benefit of carry forward is available to an

‗undertaking‘ in general and not restricted to industrial undertaking.

The term ‗undertaking‘ is wider than the term industrial undertaking.

As advised in slide 14, the business of XYZ Limited would qualify as

undertaking. Hence, the business loss or unabsorbed depreciation of

the de-merged company (XYZ Limited ), would be eligible for carry

forward in the hands of the resulting company (ABC Limited )

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Merger (meaning)

•A merger involves the union of 2 or more legal entities into 1 legal

entity accompanied by pooling of all financial and other resources of the

entities

•A qualified merger is defined under section 2(1B) of the Act

•Under the Act, amalgamation and merger are similar concepts

•Section 2(1B) of the Act defines amalgamation to mean merger of one

or more companies with another company or the merger of two or more

companies to form one new company

•Further, section 2(1B) prescribes the following conditions for a

qualified merger

–All properties to be transferred to the merged company

–All liabilities to be transferred to the merged company

–At least 3/4th in value of shareholders of the merging Co should be

shareholders in the merged Co

•The above conditions are cumulative and would need to be satisfied to

ensure that the amalgamation qualifies as a tax qualified merger

•The legal consolidation can be achieved through a Scheme of merger

under section 391-394 of Companies Act, 1956. The merger requires

approvals from shareholders, creditors, company law authorities and

the jurisdictional Courts

•Discharge of purchase consideration by way of issue of shares by

transferee company (ABC Limited ) to the shareholders of the

transferor company (XYZ Limited ). In addition, cash consideration

could also possibly be structured

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•Automatic dissolution of the transferor company (XYZ Limited ) and

hence separate winding up process is not necessary

•Time frame 5 to 6 months

•Section 72A(1) of the Act provides that in case of amalgamation of a

company owning an industrial undertaking with another company, the

business loss and unabsorbed depreciation of the amalgamating

company (XYZ Limited ) is permitted to be carried forward and set-off

in the hands of amalgamated company (ABC Limited ) subject to

fulfillment of certain conditions

•Conditions to be fulfilled by amalgamating company (XYZ Limited ):

–It qualifies as an industrial undertaking

–Has been engaged in the business for at least three years during which

the accumulated loss has occurred or the unabsorbed depreciation has

accumulated

–Has held continuously as on the date of the amalgamation at least

three-fourths of the book value of fixed assets held by it two years prior

to the date of amalgamation

Merger (tax implications)

Carry forward of losses

•Conditions to be fulfilled by amalgamated company (ABC Limited ):

–Holds at least 3/4th

of the book value of the fixed assets of the

amalgamating company (ABC Limited ) for a minimum period of five

years from the date of amalgamation

–The amalgamated company (ABC Limited ) continues the business of

the amalgamating company (XYZ Limited ) for a minimum period of

five years from the date of amalgamation

–It achieves a certain minimum level of production of installed capacity

of the amalgamating company. However, considering the fact that XYZ

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Limited is engaged in certain services, this condition should not per-se

be applicable

•In case the any of the above conditions are not fulfilled in subsequent

years the amount of loss or unabsorbed depreciation set off would be

taxable in the hands of amalgamated depreciation (ABC Limited ) in

the year in which the applicable condition is breached

•Further it should be noted that benefit of carry forward of losses is

available only to a company owning an industrial undertaking or a ship or

a hotel

•Industrial undertaking is defined in section 72A(7) of the Act to mean

an undertaking engaged in one of the following:-

–The manufacture or processing of goods

–The manufacture of computer software

–The business of generation or distribution of electricity or any other

form of power

–The business of providing telecommunication services

–The construction of ships, aircraft or rail systems

–Mining

•The above definition of the term industrial undertaking is exhaustive

and any other industry not falling within the above definition would not

qualify as industrial undertaking

•Hence any other entity not engaged in the businesses that have been

specifically covered in section 72A(7) of the Act and which merges into

another company would not be entitled to the benefit of carry forward

of business loss and unabsorbed depreciation

•We understand that XYZ Limited is engaged in the business of certain

services

•We also understand that such services would not fall within any of the

clauses of the definition of the term industrial undertaking

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•XYZ Limited hence may not qualify as a company owning an

industrial undertaking and hence upon merger may not be able to carry

forward business losses and depreciation if a merger option is pursued

Stamp duty implications

on de-merger and merger

•We have not been provided with the financial statements of XYZ

Limited and ABC Limited . We also have not been provided with the

value of immovable property.

•Therefore, we are unable to quantity potential stamp duty liabilities

and the purpose of this section is to address the concept and broad

principles

•Stamp duty is payable in the state in which the registered office (RO) of

the de-merged or amalgamating company is situated or where the

immovable property is located

•We understand that XYZ Limited has its registered office in Mumbai,

Maharashtra. Further, XYZ Limited has operations in Calcutta (West

Bengal) and Bangalore

•In such a case, the de-merger or merger of XYZ Limited with ABC

Limited could trigger stamp duty levies in Mumbai, the state where the

registered office is located and in West Bengal and Karnataka, the

states where immovable property (if any) is located. Practically the

stamp duty is payable at the rate of the state which imposes the

maximum stamp duty and although stamp duty is payable in the other

states credits may possibly be obtained. The exact mechanics would

need to be checked by a lawyer

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Maharashtra Stamp Act provisions

•The Maharashtra Stamp Act has specific entries prescribing stamp

duty rates applicable in merger and de-merger situations

•The applicable stamp duty levy is 10% of the market value of shares

issued or allotted on merger or de-merger and the amount of

consideration payable as such

•However the above rate is restricted to higher of the following limits:

–5 percent of the market value of the immovable property of the selling

Co located in Maharashtra; or

–0.7 percent of the market value of the shares issued or allotted plus

amount of consideration paid.

•Where no property is situated in Maharashtra, stamp duty in

Maharashtra is payable on 0.7 percent of the consideration paid on de-

merger or merger


Karnataka Stamp Act provisions

•The Karnataka Stamp Act also has specific entries prescribing stamp

duty rates applicable in merger and de-merger situations

•The stamp duty payable in Karnataka is computed based on the lower

of the following limits:

–7 percent of the market value of the immovable property or 0.7 percent

of the value of shares, whichever is higher; or

–10 percent of the value of the shares


West Bengal Stamp Act provisions

•West Bengal does not have a separate state duty legislation and hence

one would need to resort to the provisions of the Indian Stamp Act. The

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West Bengal State Government has however issued time to time

notifications amending the provisions of the Indian Stamp Act as

applicable specifically to the State of West Bengal

•The Indian Stamp Act provides for stamp duty on conveyance as

defined in section 2(10)

•As per the Indian Stamp Act, the term ‗conveyance‘ has been defined to

include a sale or conveyance and every instrument by which property,

whether movable or immovable, is transferred and which is otherwise

not specifically provided for by Schedule I A

•The West Bengal State Government in the context of conveyance has

notified that the term conveyance would include any court decree

providing for amalgamation, merger, reconstruction or de-merger of

companies

•The West Bengal State Government has also notified that the

applicable stamp duty levy is 8% on market value of property

transferred in the case of a conveyance


Haryana Stamp Act provisions

•Since XYZ Limited does not have any presence in Haryana, the

provisions as applicable to stamp duty in the state of Haryana should

per se not apply. The Haryana Stamp Act provisions would assume

importance in case ABC Limited is the selling Co

•Haryana does not have a separate state duty legislation and hence one

would need to resort to the provisions of the Indian Stamp Act

•As per the Indian Stamp Act, stamp duty is payable at 8% on the

market value of the immovable property. However, there is no specific

notification on whether stamp duty is payable on merger or

amalgamation

•In the absence of a specific entry, Indian Courts have been divided on

the applicability of stamp duty on de-merger and merger transactions

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•While the Calcutta High Court has held that stamp duty is not payable

in a merger or de-merger transaction, the Bombay High Court has

ruled to the contrary. The conservative view here is that stamp duty is

payable even in the case where there are no specific entries supporting

the levy and is liable at the rate as applicable to conveyance


Stamp duty on issue of shares

•As per the Indian Stamp Act, issue of shares would be subject to stamp

duty at 0.1% of the value of shares issued

•Issue of shares by XYZ Limited to the shareholders of ABC Limited

would be subject to stamp duty at 0.1% of the value of shares issued Stamp duty implications (summary)

•If ABC Limited merges or de-merges its business into XYZ Limited , it

is possible that stamp duty is payable in the states of Maharashtra, West

Bengal and Karnataka

•All of the above states have provided guidance on the quantum of

stamp duty payable in the case of a merger or de-merger process and

the stamp duty payable would need to be computed based on the highest

levy prescribed

•The broad stamp duty as applicable to the subject transaction can be

computed on the basis of the net book values as reflected in the latest

financial statements, which will determine the shares to be issued to the

shareholders of XYZ Limited . The market values of immovable

properties are also required to compute the stamp duty amounts

•Considering that XYZ Limited is a services company, it is unlikely that

there would be significant ownership of immovable assets and hence the

stamp duty costs may not be large

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•The issue of shares by XYZ Limited to the shareholders of ABC

Limited would be subject to stamp duty at 0.1% of the value of shares

issued

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DDee--mmeerrggeerr aanndd mmeerrggeerr pprroocceessss •Board approval of the transferor and transferee company

•Preparation of a de-merger or merger scheme (―scheme‖) and

valuation

•Application to the High Court for directions to convene / dispense with

meetings

•Convening of Meetings (if ordered by the Court) and submission of the

chairman‘s report

•Petition to the High Court

•Implementation of the Scheme

De-merger and merger process

The scheme should inter-alia contain the following matters:-

•Definitions

–Transferor Company (XYZ Limited ) & Transferee Company (ABC

Limited )

–Effective date of Transfer – Appointed Date

–Undertakings to be transferred pursuant to the scheme

•Contracts, agreements, pending suits, charges and guarantees of

Transferor Co

•Transfer of employees of Transferor Co to Transferee Co

–On same terms and conditions as applicable in the transferor co

–Without any break or interruption in their services

–Transfer of balances held in provident funds, etc to respective funds of

transferee co

De-merger and merger process

•Interim period related issues

–Functioning of the transferor company and transferee co until such

time Court approvals are obtained

–Issue of further shares in the transferor company and transferee

company until such time the Court approvals are obtained and rights of

the existing shareholders to participate

•Payment of consideration by the transferee company to shareholders of

the transferor Company

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–Record date i.e. cut off date on which the shareholders in the transferor

Co would be issued shares in the transferee Co

–Exchange ratio and treatment of fractional shares and rights of the new

shareholders

•Accounting Treatment in accordance with the applicable Indian

accounting standard

•Conditions precedent and expenses of the scheme

–Obtaining various approvals such as labour law approvals, creditor

approvals, etc

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De-merger and merger process - valuation

•The valuation could be a subjective process since this could depend on

the valuation methodology followed by the respective Valuer

•There are several recognized valuation approaches including Net Asset

Value, Profit Earning Capacity Value, Market Value, Discounted Cash

Flow, Hybrid Methods, etc

•The appropriateness of Method could depend on several methods

including purpose of valuation, the size of stake being valued, nature of

entity, etc

•In the instant case, since the transfer of the undertakings is between

related entities, it may be appropriate to transfer at book values.

Further, since the transfer is between related entities, valuation may not

be a critical factor. Given, the fact pattern, the Court may even

dispense with the requirement to obtain a separate valuation for this

purpose

De-merger and merger process - Board of Directors approval

•It is necessary to obtain the approval of Board of Directors of both the

transferor company (XYZ Limited ) as well as the transferee company

(ABC Limited )

–To approve the Scheme and adopt and / or recommend exchange ratio

–Authorize any director / company secretary / officer to implement the

scheme

–Authorize any director / company secretary / officer to execute / sign

necessary documents

•The object clause in the memorandum of association of XYZ Limited

to provide for de-merger and merger; else the object clause would need

to be altered

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De-merger and merger process - High Court application

•Each company has to make an application to the jurisdictional High

Court:-

–High Court under whose jurisdiction the registered office of the

company is situated

–We understand that in the instant case, registered office of XYZ

Limited and ABC Limited is located in different states

–Hence, separate application to the jurisdictional High Court i.e. Courts

in Haryana and Mumbai will have to be filed

–The possibility of shifting one of the registered offices to one state can

also be evaluated to avoid the requirement to obtain two High Court

approvals

–Petition should contain the de-merger / merger scheme highlighting key

features of the scheme

•Application seeking directions to convene meeting of shareholders and /

or creditors

–Application to be made in Form 33 along with Affidavit in Form 34

De-merger and merger process - High Court application

•The Court will order that meetings of all stakeholders i.e. the

shareholders and creditors (including banks and financial institutions)

be called for and their approval be taken to the scheme, necessary

provisions are made to safeguard interests of the dissenting parties

•The direction as to meetings – order in Form 35 shall be issued by the

High Court

–Determination of classes of creditors / members whose meetings are

required to be held

–Fixing time, place and quorum for each meeting

–Appointing chairman for the meeting

–Particulars of notice to be given for each meeting

–Directions as to advertisements to be released in newspapers and

government gazette

–Format of the report of the chairman of each meeting

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De-merger and merger process - stakeholder meetings

•The meetings are to be convened as per directions of the Court

–Chairman appointed by the Court to preside over the meeting

–Voting at the meeting to be taken by poll only

•The scheme is to be approved by special majority - Section 391(2) of

the Co Act

–Majority in number - 51% of the members / creditors present should

vote in favor of the scheme

–3/4th in value - The above majority shareholders should be holding

75% shares in value terms

•Chairman to report (in Form 39) result of the meetings to the Court

–Report to be submitted within 7 days of the meeting


•Notice of the meetings – Typical requirements

–At least 21 days‘ clear notice

–To be sent under Certificate of Posting

–To be sent along with Explanatory Statement, Scheme and Proxy Form

•Explanatory Statement under Section 393

–Salient features of the Scheme, its purpose, effect and implications

–Disclosure of material interests of the directors in the Scheme

•Publishing of advertisements – at least 21 days before the meeting

–In one vernacular and one English newspaper

•Notices, Explanatory Statements and advertisements to be approved by

the High Court

95


•In the case of each meeting, chairman to file an affidavit:-

–To the effect that all the formalities relating to convening of meeting

have been complied with as per the Court‘s directions and this report

has to be filed at least 7 days before the meeting

–Financials statements, valuation report, proxy register, etc to be made

available for inspection by shareholders or creditors as required

•Other arrangements to be made for the meetings include:-

–Identify two scrutinizers for the meeting

–Shareholders‘ Register and list of Creditors along with their

outstanding dues

–Speech of the Chairman

–Ballot Papers and Ballot Box required for consent of the scheme

De-merger and merger process - High Court

petition •Once the stakeholder meetings are held, a petition in Form 40 must be

filed with the jurisdictional High Court(s) (Mumbai and Haryana)

seeking approval of the Scheme

–To be presented within 7 days of filing the Chairman‘s report

•Admission of the Petition

–The Court to fix a date of final hearing for consideration of the petition

•Notice of Petition and date of final hearing to be given to the Central

Government i.e. Regional Director and Company Law Board and to

newspapers and Government Gazette

De-merger and merger process - High Court

petition •Prior to filing the High Court petition with the jurisdictional High

Court(s), an advocate is required to file an affidavit of compliance at

least 7 days before the date of final hearing

•The jurisdictional High Court(s) will consider the following factors

while hearing the Petition - Court‘s function, power and discretion

–Ensure compliance with requisite statutory procedure

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–Approval of all the stake holders

–Whether scheme not in violation of any provision of law and not

contrary to public policy

–Whether the scheme is against public interest

–Completeness and workability of the Scheme

•Order of the Petition (Form 41) will be issued after the petition

De-merger and merger process – other investment

approvals •Under Indian foreign direct investment and exchange control

legislation, an Indian Co can pursuant to a merger or de-merger issue

shares under the automatic route i.e. without the requirement to obtain

specific approvals subject to the satisfaction of certain conditions:-

–The foreign shareholding does not exceed the applicable sectoral caps

as permitted

–The transferor and transferee co shall not engage in plantation or real

estate business

–The transferee co files a return in the prescribed form to the Reserve

Bank of India outlining the details of the de-merger and merger and the

details of the shares issued

•It is also important that the shares issued by the transferee co complies

with applicable valuation norms. Here, the shares need to be valued on

the basis of the average of Net Asset Value or the Price Earning

Capacity Method as discounted by an appropriate variable

•It is our understanding that the investment in XYZ Limited n entities

have been under the automatic route where no specific investment

approvals have been obtained. Upon merger or de-merger the

applicable conditions outlined above are likely to be satisfied and no

separate investment approval should be required, subject to certain

reporting formalities

De-merger - notices to regulatory authorities

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•We would like to bring out that if a de-merger is implemented, XYZ

Limited would be a shell company pursuant to the de-merger

•The Courts in India prior to approving the scheme would issue notices

to various regulatory authorities to provide comments, if any, on the

proposed scheme

•It is possible here that the Indian tax office may challenge the de-

merger scheme and contest that a de-merger was the preferred option

(vis-à-vis amalgamation) only so that the resulting entity could obtain

tax concessions through carry forward of business losses and

unabsorbed depreciation

•If the de-merger is the preferred consolidation approach, this issue

would need to be debated further and addressed

De-merger and merger process - implementation

of the Scheme •Upon obtaining the order of the High Court(s), the order must be filed

with appropriate RoC

–As per Section 394(3), within 30 days of the date of receiving certified

copy of the order

–RoC acknowledgement to be filed with the High Court for form /

decree

•Other steps to be taken

–Payment of stamp duty on the Order

–Allotment of shares pursuant to the Scheme

–Appending the Order of the High Court to Memorandum

–Preservation of Books of Accounts of Transferor Co (Section 396A)

•The de-merger and merger is effective from the date the form / decree

passed by the High Court and unless the appointed date is changed by

the High Court(s), the de-merger and merger takes effect from the

appointed date as selected by the company

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SSppeecciiffiicc QQuueerriieess--11 •

•The transfer of shares pursuant to a de-merger or merger process

would not impact the ability to carry forward business losses, subject to

other conditions being satisfied

•Here, in the case of merger, since the amalgamating company (XYZ

Limited ) may not qualify as an industrial undertaking the ability to

carry forward losses may be impacted

•We understand that one of the possible options the ABC group is

creating a holding – subsidiary structure through one Indian company

acquiring the shares of the other operating entity. Once the structure is

in place the entities will be merged or de-merged

•This kind of merger or de-merger in certain states could reduce the

stamp duty impact since on merger the shares are cancelled and hence

the computational mechanism fails

Specific Queries-2

•However, section 79 of the Act places a restriction on carry forward

and set off of business losses if in a closely held company shares

carrying voting power are transferred beyond a specified percentage

(49%). In view of the restriction contained in section 79 of the Act,

there is a possible exposure that XYZ Limited could lose the benefit of

carry forward and set off of business losses in the capacity of a

subsidiary company of ABC Limited

•The risk is mitigated to the extent that the ultimate shareholders

remain common since shares continue to be held within the ABC Group

i.e. commonality of ultimate shareholders of ABC Limited and XYZ

Limited are common. A few tax commentaries also support this view.

This is however a contentious issue and will be contested by the revenue

authorities particularly at lower levels

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•Further, please note that this section does not apply to unabsorbed

depreciation and there would be no exposure in terms of carry forward

and set off of the same

•Under Indian tax law, we would also like to bring out that each entity is

a separate legal entity and losses of one company cannot be set off

against profits of the other

Specific Queries

•Transfer of shares by shareholders of XYZ Limited pursuant to a de-

merger or merger process would not attract capital gains tax

•Generally, a transfer of shares in an unlisted Indian company other

than through a de-merger or merger is subject to capital gains tax

•The all inclusive tax rate on sale of equity shares is 22.66 percent in case

the gain is long term i.e. held for more than a 1 year period and 33.99

percent if short term i.e. under 1 year

Specific Queries-3

•Transfer of capital assets by ABC Limited to XYZ Limited pursuant

to a merger or de-merger process would not be subject to capital gains

tax

•Generally, a transfer of a business or assets at profit is subject to

capital gains tax. The all inclusive tax rate is 22.44 percent in case the

gain is long term i.e. held for more than a 3 year period and 33.66

percent if short term i.e. held under a 3 year time period

Specific Queries-4

•The Indian company law and Indian tax laws specifically provide for a

merger of two Indian companies by following the specified court

approval process, as detailed earlier

100

•It would not make any difference if the two Indian entities are parent /

subsidiary or sister companies and these companies can be merged as

well

•In certain states, the merger of a subsidiary into a parent may go to

mitigate stamp duty costs, however, in the instant case if the Indian

entities are structured as parent / subsidiaries structure, the benefit of

carry forward of business losses of the amalgamating company may

need to be evaluated further if such a structure is adopted (section 79)

•Further, in the case of the present fact pattern, the merger of two

companies into a new company may not achieve additional efficiencies

since this may result in the payment of stamp duty for both entities vis-

à-vis if one entity were to merge into the other

Specific Queries-5

•In both a de-merger or merger, stamp duty would be payable. Stamp

duty is typically levied on the value of shares or immovable property, as

illustrated earlier

•In an itemized or slump sale option, stamp duty is payable on the value

of immovable assets transferred. Further, in an itemized sale, a VAT or

sales tax may be applicable at 12.5% on the value of movable assets

•We could help with quantifying the stamp duty and VAT implication

under various options identified, once we are provided with a copy of

the financial statements and the values of immovable property held by

the Indian operating companies

•The stamp duty is payable on market value of the immovable property

could typically range between 8 to 10 percent

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CCoonncclluussiioonn aanndd wwaayy ffoorrwwaarrdd

•Review the potential consolidation options at length after a review of

the financial statements and the value of immovable property to

determine the most suitable option

–Determine the entity which needs to be merge or de-merge with the

other

–Determine if both entities should merge or de-merge into a new entity

–Determine slump sale and itemized sale options further, if necessary

–Participate in lawyer discussions to take forward the Court process, etc

•Assist with quantifying the stamp duty and other costs associated with

each option to determine the most feasible option

•Assist with identifying other business and commercial issues, which

may be relevant to the subject consolidation

•Assist with implementing the preferred consolidation option

Case Study

When Carly Fiorina was appointed CEO of Hewlett-Packard in 1999, it

marked many firsts: the first outsider, the first woman, the first non-

engineer, and the youngest person ever to head HP in its 60-year history. Her

mandate from the board: “totally recreate and reinvent HP according to the

original HP Way.” In many people‟s eyes, she accomplished this,

transforming the company from a slow, risk-averse country club into a

battle-ready competitor in the „new economy‟. Others believe she destroyed

the very heart and soul of a company that was founded on ideals worthy of a

Frank Capra movie.

In this case, Professor Randel Carlock, Berghmans Lhoist Chaired Professor

in Entrepreneurial Leadership and Elizabeth Florent-Treacy, Senior

Research Associate, detail the merger, the bitter and very public battle with

the Hewlett and Packard families, and the larger issues of corporate

governance, the relationship between boards and management, and the role

of families that have both financial and emotional stakes in a company.

102

This EFMD 2004 Case Competition winner begins with Fiorina‟s arrival in

1999 at an embattled HP, losing market share and pride to the likes of IBM

and Dell. She was to be the saviour, the one to bring HP back to the glory

days under its cherished and now deceased founders, William Hewlett and

David Packard. After a brief honeymoon, Fiorina shakes things up with talks

of a merger with Compaq, launching an ugly battle with the Hewlett and

Packard heirs, which seems to catch her completely by surprise.

At stake is the soul of a company that many revere as an icon among

technology firms in America. Bill Gates hadn‟t even been born when the two

founders started tinkering together in a garage in Palo Alto, California. Not

long after founding the company, the two draft "The Seven Principles of the

HP Way". Included among them are the mandates to “Recognize that profit

is the best measure of a company‟s contribution to society and the ultimate

source of corporate strength,” “Demonstrate good citizenship by making

contributions to the community,” and “Maintain an organizational

environment that fasters individual motivation, initiative and creativity.”

Now, six decades later, Walter Hewlett, an HP board member, votes “Yes”

to the merger but immediately starts a campaign to stop it. With the support

of other family members and the Packard Family Foundation, which in total

own 18% of HP shares, the normally reserved Hewlett leads a fight that

nearly puts an end to the highly publicized merger. In the end Fiorina wins,

after receiving last-minute support from Deutsche Bank. What‟s left over,

say Carlock and Florent, are a series of difficult questions.

Perhaps all would have proceeded smoothly if Fiorina had considered the

concerns of the families before proceeding. They did, after-all, have large

financial and emotional stakes in the company. And what lessons can be

learned about corporate governance? Walter Hewlett says he has learned a

lot, telling an audience at a speaking engagement that the board and

management should have separate counsel during mergers to ensure

unbiased advice and fair representation of shareholders views. In addition,

the case asks students to explore the challenge of leadership when

attempting to regenerate a highly regarded corporation and the significance

of corporate culture in organizational transitions.

Click on 'Carly Fiorina and HP' below to read Randel Carlock's analysis of

Fiorina's recent dismissal from HP.

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Case Study-1

Tata pleases, Ford 'disappoints' British workers' union

Wed, Mar 26 2008 06:38 PM

London, March 26 (IANS) The head of Britain's largest workers union

Wednesday reiterated his support for Tata's acquisition of the luxury car

brands Jaguar and Land Rover, but said he was disappointed by seller Ford's

failure to retain a stake.

'If Jaguar and Land Rover had to be sold, then Tata was the best option,' said

Tony Woodley, joint general secretary of Unite, as Ford announced the sale

of the two British iconic cars to Tata Motors Ltd.

The deal, announced Wednesday, already has the union's seal of approval,

after it secured Tata's assurance that it will not shed jobs at the three Jaguar

and Land Rover factories at Solihull, Castle Bromwich and Halewood and

would continue to source Ford-made engine and components from its

factories in Bridgend and Dagenham.

'We would have much preferred Ford to keep the companies in the family,

so to speak, especially with Land Rover being so profitable,' Woodley said.

'But with the commitments Tata have given to the future of Jaguar-Land

Rover and the long-term supply agreements for components, especially

engines from Bridgend and Dagenham, we're obviously pleased they are in

the game.'

However, Woodley added that there was disappointment that Ford had

decided against taking a stake in the new future.

'That is a big disappointment,' he said.

According to sources in Unite, union officials would have liked to see Ford

take a minority stake, as it did while selling off the luxury car Aston Martin

to two Kuwaiti investment companies last year. Ford retained a $77 million

stake in Aston Martin.

This, the union officials feel, would have helped to 'lock in' long-term

commitments made as part of the agreement signed Wednesday between

Tata and Ford.

The nervousness may be explained by the fact up to 40,000 jobs were at

stake at a time of a global economic slowdown.

'On the positive side, Tata has not only given us a long-term commitment,

but they are an industrial company as well,' Unite's Andrew Dodgson told

IANS.

'Tata recognise the iconic brand value of Jaguar-Land Rover - that they are

British-engineered and British-made cars and so it is important to keep them

in Britain,' he added.

104

Ford acquired Jaguar for $2.5 bn in 1989 and Land Rover for $2.75 bn in

2000 but put them on the market last year after posting losses of $12.6 bn in

2006 - the heaviest in its 103-year history.

Tata was named by Ford as the preferred bidders in January as it beat off

competition from fellow-Indian carmaker Mahindra and Mahindra and

American buy-up specialist One Equity.

While the three Jaguar and Land Rover factories in Britain employ some

16,000 people, the number swells to between 30,000 and 40,000 when

ancillaries are taken into account, according to Dodgson.

Case Study-2

May 2007, India's Ministry of Civil Aviation announced that Air India

Limited (AI), India's national flag carrier and Indian Airlines Limited (IA),

the government owned domestic airline, would merge with effect from July

15, 2007. The new airline formed by the merger was to be called 'Air India,'

and would operate in both the domestic and international sectors. The

proposal to merge AI and IA had been first mooted in the 1990s. In February

1999, a Parliamentary Standing Committee on Transport and Tourism had

recommended the merger of AI and IA in its report on the 'Functioning of

Air India'.

However, the process had formally been initiated only in September 2006,

when the Indian government assigned the duty of preparing the roadmap for

the merger to Accenture Inc., a management consulting, technology services

and outsourcing company. After being endorsed at various levels of the

administrative hierarchy, the plan for the merger was finally approved by the

Union Cabinet in March 2007.

A new company called the National Aviation Company of India Ltd.

(NACIL) was incorporated on March 30, 2007 under Sections 391 and 394

of the Indian Companies Act, 1956 to facilitate the merger. Under the terms

of the merger, all the undertakings, properties, and liabilities of AI and IA

were to be transferred to NACIL.

The AI-IA merger was expected to create one of the biggest airlines in the

world in terms of the fleet size. As of May 2007, the two airlines had a

combined fleet of 122 aircraft and 34,000 employees including 1,315 pilots.

The combined fleet size placed the merged entity among the top 10 airlines

in Asia, and the top 30 in the world. It would also be India's first airline with

more than 100 aircraft.

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The motives for the merger were widely discussed in the media. India was

the fastest growing aviation market in the world, ahead of China, Indonesia

and Thailand, as of early 2007. The number of people traveling by air had

been increasing rapidly in the country. The main reason for this was thought

to be the advent of low cost airlines like Air Deccan and SpiceJet in the

country in 2003-2004, which brought air travel within reach of India's large

middle class. The entry of a number of new airlines had intensified the

competition in the aviation sector by 2004.

Mumbai: Merger of national carriers Air India and Indian Airlines has been

challenged in the Bombay High Court on the ground that it defies

Parliament‟s intent to keep international and domestic carriers separate.

The petition filed by Air India Cabin Crew Association (AICCA) also

questions the Constitutional validity of section 620 of Companies Act,

which empowers government to exempt any government company from

provisions of the Act.

Air India Limited and Indian Airlines Limited were created by a

Parliamentary statute, and, therefore, without the Parliament‟s nod they

cannot be amalgamated, the petition contended.

AICCA claims to the “sole recognised trade union” in Air India Limited, and

has 1,800 members. The petition is expected to come up for hearing in the

first week of December.

The merger (amalgamation) of AI and IA was sanctioned by the Ministry of

Corporate Affairs on 22 August this year. The move was aimed at bringing

about more efficiency and better utilisation of resources. A new company

called National Aviation Company of India was created to replace them.

However, AICCA contends that in sanctioning the amalgamation,

Parliament was bypassed.

Tracing the history of the national carriers, it points out that in 1953, eight

private airlines were nationalised under Air Corporations Act, which created

AI and IA. Further, in 1994, Air Corporations (Transfer of Undertakings and

Repeal Act) Act was passed, which converted AI and IA into Air India

Limited and Indian Airlines Limited, respectively.

Case Study-3

Second largest Bank in India is now formally in place . RBI has given

approval for the reverse merger of ICICI Ltd with its banking arm ICICI

Bank. ICICI Bank with Rs 1 lakh crore asset base bank is second only to

State Bank of India, which is well over Rs 3 lakh crore in size. RBI also

cleared the merger of two ICICI subsidiaries, ICICI Personal Financial

Services and ICICI Capital Services with ICICI Bank.

106

The merger is effective from the appointed dated of March 30, 02, and the

swap ratio has been fixed at two ICICI shares for one ICICI Bank share.

Reserve Bank, approval is subject to the following conditions:

(i) Compliance with Reserve Requirements

The ICICI Bank Ltd. would comply with the Cash Reserve Requirements

(under Section 42 of the Reserve Bank of India Act, 1934) and Statutory

Liquidity Reserve Requirements (under Section 24 of the Banking

Regulation Act, 1949) as applicable to banks on the net demand and time

liabilities of the bank, inclusive of the liabilities pertaining to ICICI Ltd.

from the date of merger. Consequently, ICICI Bank Ltd. would have to

comply with the CRR/SLR computed accordingly and with reference to the

position of Net Demand and Time Liabilities as required under existing

instructions.

(ii) Other Prudential Norms

ICICI Bank Ltd. will continue to comply with all prudential requirements,

guidelines and other instructions as applicable to banks concerning capital

adequacy, asset classification, income recognition and provisioning, issued

by the Reserve Bank from time to time on the entire portfolio of assets and

liabilities of the bank after the merger.

(iii) Conditions relating to Swap Ratio

As the proposed merger is between a banking company and a financial

institution, all matters connected with shareholding including the swap ratio,

will be governed by the provisions of Companies Act, 1956, as provided. In

case of any disputes, the legal provisions in the Companies Act and the

decision of the Courts would apply.

(iv) Appointment of Directors

The bank should ensure compliance with Section 20 of the Banking

Regulation Act, 1949, concerning granting of loans to the companies in

which directors of such companies are also directors. In respect of loans

granted by ICICI Ltd. to companies having common directors, while it will

107

not be legally necessary for ICICI Bank Ltd. to recall the loans already

granted to such companies after the merger, it will not be open to the bank to

grant any fresh loans and advances to such companies after merger. The

prohibition will include any renewal or enhancement of existing loan

facilities. The restriction contained in Section 20 of the Act ibid, does not

make any distinction between professional directors and other directors and

would apply to all directors.

(v) Priority Sector Lending

Considering that the advances of ICICI Ltd. were not subject to the

requirement applicable to banks in respect of priority sector lending, the

bank would, after merger, maintain an additional 10 per cent over and above

the requirement of 40 per cent, i.e., a total of 50 per cent of the net bank

credit on the residual portion of the bank's advances. This additional 10 per

cent by way of priority sector advances will apply until such time as the

aggregate priority sector advances reaches a level of 40 per cent of the total

net bank credit of the bank. The Reserve Bank‟s existing instructions on sub-

targets under priority sector lending and eligibility of certain types of

investments/funds for reckoning as priority sector advances would apply to

the bank.

(vi) Equity Exposure Ceiling of 5%

The investments of ICICI Ltd. acquired by way of project finance as on the

date of merger would be kept outside the exposure ceiling of 5 per cent of

advances towards exposure to equity and equity linked instruments for a

period of five years since these investments need to be continued to avoid

any adverse effect on the viability or expansion of the project. The bank

should, however, mark to market the above instruments and provide for any

loss in their value in the manner prescribed for the investments of the bank.

Any incremental accretion to the above project-finance category of equity

investment will be reckoned within the 5 per cent ceiling for equity exposure

for the bank.

(vii) Investments in Other Companies

The bank should ensure that its investments in any of the companies in

which ICICI Ltd. had investments prior to the merger are in compliance with

Section 19 (2) of Banking Regulation Act, 1949, prohibiting holding of

108

equity in excess of 30 per cent of the paid-up share capital of the company

concerned or 30 per cent of its own paid-up share capital and reserves,

whichever is less.

(viii) Subsidiaries

(a) While taking over the subsidiaries of ICICI Ltd. after merger, the bank

should ensure that the activities of the subsidiaries comply with the

requirements of permissible activities to be undertaken by a bank under

Section 6 of the Banking Regulation Act, 1949 and Section 19 (1) of the Act

ibid.

(b) The take over of certain subsidiaries presently owned by ICICI Ltd. by

ICICI Bank Ltd. will be subject to approval, if necessary, by other regulatory

agencies, viz., IRDA, SEBI, NHB, etc.

(ix) Preference Share Capital

Section 12 of the Banking Regulation Act, 1949 requires that capital of a

banking company shall consist of ordinary shares only (except preference

share issued before 1944). The inclusion of preference share capital of Rs.

350 crore (350 shares of Rs.1 crore each issued by ICICI Ltd. prior to

merger), in the capital structure of the bank after merger is, therefore, subject

to the exemption from the application of the above provision of Banking

Regulation Act, 1949, granted by the Central Government in terms of

Section 53 of the Act ibid for a period of five years.

x) Valuation and Certification of the Assets of ICICI Ltd

ICICI Bank Ltd. should ensure that fair valuation of the assets of the ICICI

Ltd. is carried out by the statutory auditors to its satisfaction and that

required provisioning requirements are duly carried out in the books of

ICICI Ltd. before the accounts are merged. Certificates from statutory

auditors should be obtained in this regard and kept on record.

109

National Aviation Company of India Ltd, the new entity formed after the

merger of Indian and Air India, today moved the Supreme Court seeking

consolidation of the cases challenging the merger of the two state carriers.

Case Study-4

Merger of Lord Krishna Bank with Centurion Bank legal'

K. C. Gopakumar

Counter affidavit filed against challenging the merger

All shareholders who wanted to exercise their vote were able to vote

without obstruction at the AGM'

Sec. 237 of Companies Act applicable only to companies other than

banking companies'

Kochi: There is absolutely no basis or ground to appoint any inspector to

investigate the affairs relating to the scheme of amalgamation of Lord

Krishna Bank with the Centurion Bank of Punjab, according to

B.Swaminathan, managing director and chief executive officer of the bank.

In a counter-affidavit filed in the High Court, he said section 237 of the

Companies Act was applicable only to companies other than banking

companies. Banking companies were controlled, supervised and inspected

by experts of the Reserve Bank of India (RBI), which could not be done by

inspectors to be appointed by the Central Government under section 237 of

the Companies Act.

The affidavit was filed in response to a writ petition filed before the Kerala

High Court by Umesh Kumar Pai, a minority shareholder, challenging the

merger and seeking to appoint inspectors to investigate the amalgamation

scheme.

The affidavit said no provision of the Companies Act could be invoked to

challenge the amalgamation proceedings initiated under section 44A of the

Banking Regulation Act. In fact, section 44A had overriding effect over

section 237 or any other provisions of the Companies Act.

The affidavit further said resolutions were moved one by one and

arrangements were made for members/proxies to exercise their votes. The

allegations that there was obstruction at the venue of the AGM were

baseless.

All the shareholders or proxies who wanted to exercise their votes were able

to vote without any obstruction. The allegation that there was no discussion

was false. The chairman of the meeting had invited shareholders for

discussion.

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A resolution for the approval of the scheme of amalgamation was passed

with the requisite majority in accordance with the provisions of section 44A

of the Banking Regulation Act.

While 5,63,65,282 votes of the same value were cast for the resolution only

6,046 votes of the same value were cast against the resolution. Of the 1,784

members present in person or by proxy at the meeting, 1,740 shareholders

voted in favour of the resolution while only 24 voted against the resolution

and 20 votes were invalid.

Thus, the resolution approving the scheme of amalgamation was passed by a

majority in number representing two thirds in value of the shareholders

present either in person or by proxy at the meeting as required under section

44A(1) of the Banking Regulation Act, the affidavit added.

The allegation that 65 per cent of the shares were held by a single entity was

totally false. No person holding share in excess of ten per cent of the bank

exercised voting rights in excess of 10 per cent.

With the permission of the RBI, a person could hold more than 10 per cent

of the share of a banking company but the right to exercise vote was

restricted to 10 per cent of the total voting rights.

Case Study-5

In a dramatic climax to a bitter takeover battle that laid bare the large role still played by

economic nationalism in Europe, France's largest drug maker, Aventis SA, Sunday

agreed to be swallowed by its smaller rival, Sanofi-Synthelabo SA, for about €55.2

billion, or $65 billion in cash and stock.

Resorting to behind-the-scenes arm-twisting of Sanofi, along with public and private

warnings to back off directed at rival suitor Novartis AG of Switzerland, the French

government succeeded last night in producing what it had long desired: a French national

champion in a strategically important industry, the fast-growing and highly competitive

drug business.

111

With Aventis succumbing to Sanofi's

sweetened offer, the combination of the two

will form the world's third-largest

pharmaceuticals company, behind Pfizer Inc.

and GlaxoSmithKline PLC, with a market

capitalization of around €90 billion and a

stable of leading drugs such as Sanofi's stroke-

prevention treatment Plavix, sleeping pill

Ambien and cancer therapy Eloxatin. The new

company would also boast Aventis's allergy

pill Allegra, anti-blood-clotting drug Lovenox

and cancer medicine Taxotaere.

Important as its impact will be on the global

pharmaceutical industry, the Aventis drama

will be equally remembered for its political

implications, particularly in the new Europe.

From the start, the battle for Aventis was as

much about France's desire to create a home-

grown national champion in the

pharmaceutical industry as it was about

shareholder value and business sense. The

French government pushed to make Sanofi and

Aventis come together, as it did four years ago

when it backed the all-French mergers that

created Total SA, the world's fourth-largest oil

company, and BNP Paribas SA, the biggest bank among the countries that have adopted

the euro.

Before Sanofi even unveiled its original bid in late January, the French finance minister

called it "positive" because it would enable France to create a "national champion" -- a

huge company in what the country deems a strategic industry able to compete world-wide

with U.S. giants.

When it became clear that Aventis would fight Sanofi's hostile bid and seek a white-

knight offer from Novartis, French officials placed phone calls to executives at the Swiss

company on at least three occasions warning that Novartis should stay away.

France's intervention in the takeover battle, which runs counter to the free-market

principles espoused by the European Union, comes as the four-decade-old EU is

expanding to include 10 new members, ranging from Malta to Poland. Together with

Germany, France has been the EU's founding father and its biggest advocate. Yet, in

recent years, it has broken the union's economic rules more than once, giving state aid to

ailing French companies, letting its budget deficit grow and thus contravening a pact that

underpins the euro, and getting involved in takeover battles.

NATIONAL CHAMPIONS

Aventis CEO: Igor Landau Headquarters: Strasbourg, France 2003 income: $2.91 billion*

Leading drugs: Allergy pill Allegra, anti-blood-clotting drug Lovenox and cancer medicine Taxotere

Sanofi-Synthelabo CEO: Jean-Francois Dehecq Headquarters: Paris 2003 income: $2.48 billion *Leading drugs: Antistroke medicine Plavix, sleeping pill Ambien and cancer therapy Eloxatin *Figures converted from euros to dollars at current rate. Source: the companies

112

Afraid that Aventis, based in Strasbourg, France, would fall into Swiss hands, the French

government had leaned on Sanofi Chief Executive Jean-Francois Dehecq in recent days

to raise Sanofi's bid to improve the chances of an all-French deal.

The higher bid was accepted after Aventis's Chief Executive Igor Landau and Sanofi's

Mr. Dehecq met Friday under pressure from French Finance Minister Nicolas Sarkozy,

according to people familiar with the matter. It was the first time the two men, who have

been waging a war of words for three months, met face to face since Sanofi unleashed its

hostile takeover.

Mr. Landau will resign his executive duties at the company with a golden parachute

valued at €24 million, but may retain a seat on the merged company's board, according to

a person familiar with the arrangement. Mr. Dehecq will become head of the new

company.

The sudden finish to the Aventis takeover battle came after a surprise no-show by Swiss

drug-maker Novartis. Novartis failed to put in a bid for Aventis just a few days after

announcing that it was prepared to enter merger negotiations with France's biggest drug

maker. An Aventis team had been negotiating with Novartis late into Saturday night and

had produced agreements on everything from conditions for the offer and businesses to

be divested, say people familiar with the situation. However, Novartis still had not

broached a possible price at which it would be willing to acquire Aventis, making some

on the Aventis team suspicious that the Swiss company would turn up with a bid.

Novartis said last night it decided to break off merger talks with Aventis and not to

submit a bid because of the "strong intervention of the French government."

While French authorities last night were congratulating Sanofi and Aventis on their

planned marriage, some investors have long thought that France's approach could hurt it

in the long term. France argued that Aventis's vaccines were crucial to its defense against

potential bioterrorism -- an argument that the European Commission has said would be

hard to prove and that investors have dismissed as an excuse to mask protectionism.

"I think ultimately the victim is the French economy," says Steven Cohen, chief

investment officer at Kellner DiLeo Cohen & Co., a $500 million New York-based hedge

fund that owns Aventis shares. "There is no better way to discourage investment in your

economy" than to deter foreign companies from bidding for French companies.

Even as Aventis's board was meeting yesterday, French ministers were talking up the

merits of a Sanofi-Aventis tie-up. Speaking on Europe-1 radio, Health Minister Philippe

Douste-Blazy said he was hoping for a "positive response" from the Aventis board,

presented with the opportunity of a hook-up with Sanofi that would be a "very good

thing" for French industry. Any other outcome would leave Sanofi vulnerable to a

takeover, the minister warned. "If it doesn't buy another company, a foreign bidder will

come along," he said.

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Under the pact, Sanofi will offer 0.8333 Sanofi share and €20 a share in cash, valuing

Aventis at €69 a share in cash and stock, based on Sanofi's average closing stock

price in the month before rumors of the deal leaked earlier this year, say people

familiar with the situation. However, based on Sanofi's closing stock price Friday of

€55.95, the deal values Aventis at €66.6 a share in cash and stock or a total of about

€53.2 billion. Both values are higher than Sanofi's original offer in January that valued

the company at €60.43 a share in cash and stock. The combined company will have a 17-

member board with nine members from the Sanofi side, including Mr. Dehecq, and eight

from the Aventis side.

The decision to accept the Sanofi offer was not unanimous. Kuwait Petroleum Corp.,

which is Aventis's single largest shareholder, was one of the parties that abstained, say

people familiar with the situation.

The takeover battle for Aventis could burnish the reputation of Novartis chief Daniel

Vasella as a tough pharmaceutical deal-maker who is willing to walk away from

transactions when the apparent price becomes too high.

Still, the outcome leaves Novartis with a dilemma. The company has made no secret of

its desire to grow, especially in the U.S. market, a region where an Aventis acquisition

would have helped significantly. But the potential assets it could acquire now are few and

far between. Novartis has been stymied in its efforts to take over Swiss rival Roche

Holding AG and it is sitting on a large hoard of billions of dollars in cash. Analysts say

reinvesting such cash doesn't always yield the kind of return a fast-growing

pharmaceutical company such as Novartis would like, because of declining productivity

in the drug industry.

Novartis may fall back now on licensing drugs from other companies as part of its

strategy to keep growing

Case Study-6

: Ranbaxy Laboratories (Ranbaxy) and Orchid Chemicals & Pharmaceuticals (Orchid)

have announced that they have entered into a business alliance agreement involving

multiple geographies and therapies for both finished dosage formulations and active

pharmaceutical ingredients (APIs). Additionally, this agreement would establish a

framework for enhanced future co-operation between the two companies.

The business alliance between the two comes even as the Ranbaxy Group has stretched

its holding in Orchid to 14.7 per cent through market operations, triggering intense

speculation about a possible takeover attempt on Orchid. With the holding of promoters

in Orchid dropping to 16.2 per cent, the Ranbaxy Group‟s share-buying exercise has only

heightened the possibilities for a takeover.

The drop in equity holding was caused by the sale of 5.6 million shares by a couple of

lenders with whom the promoters had pledged seven million free shares. The promoters

114

had borrowed about Rs. 80 crore from India Bulls Financial Services and Religare

Enterprises to help them raise their stake in the company from 17 per cent to 24 per cent.

They had bought five million shares from the market during March-April 2007 to raise

their stake.

K. Raghavendra Rao, Managing Director, Orchid, said the talks for a business alliance

with Ranbaxy were on much before the developments on the share front. He expected the

business alliance to fetch `significant revenue for Orchid‟. Mr. Rao told The Hindu that

the alliance would not upset the existing applecart (business). The incremental revenue

would be determined by the product and market configuration of any new business

initiative.

To a question, he said Orchid would continue to drive drug development and make

products. The alliance would leverage the marketing strength of Ranbaxy to push sales

numbers for both, he said. On increased co-operation between the two companies, Mr.

Rao said, “what is known is captured. The template is ready. A super structure can be

built easily, as the framework is already there.” Asked if the alliance with Ranbaxy and

the share buying episode would constrain Orchid, Mr. Rao said, “The management

freedom should continue. It should not be dictated by the shareholders.”

Informed institutional sources said that Orchid promoters were indeed trying to secure

their positions. Mr. Rao, however, has preferred to keep his cards close to his chest. With

institutional holders reportedly not enthusiastic about selling their shares in Orchid,

industry observers felt that the Ranbaxy Group would do nothing hastily.

Driven by a robust growth in emerging markets and North America, Ranbaxy

Laboratories on Tuesday reported a profit after tax of Rs. 153 crore for the first quarter

ended March 31, 2008, a 7.21 per cent growth over the corresponding period last year.

“Emerging markets continue to be the major contributor to the company‟s growth,

accounting for around 55 per cent of our total sales, followed by developed markets

which account for 40 per cent,” Ranbaxy Managing Director and CEO Malvinder Mohan

Singh told reporters here.

On the company‟s plans for alliances, Mr. Singh said at present it was negotiating with a

firm for a deal similar to what it has with GlaxoSmithKline. “Initially, it will be with

Ranbaxy but once the demerger takes place it will be transferred (to Ranbaxy Life

Science Research),” Mr. Singh said.

Mr. Singh said Ranbaxy was at present involved in about 19 patents litigations with an

innovator value of $27 billion . Out of these, the company had been able to settle four

that had a value of $8-10 billion.

Case Study-8

115

Battle lines are being drawn in India‟s pharmaceutical sector. A creeping acquisition has

begun in the shares of Chennai-based Orchid Chemicals & Pharmaceuticals which has

become vulnerable to acquisition after its share price fell steeply last month.

A firm called Solrex Pharmaceutical Co, which market sources say belongs to Ranbaxy

Labs or its founders, has now garnered 9.54% stake in the company.

Orchid founder and managing director Kailasam Raghavendra Rao said he was

determined to retain control over the company and would lean on support from

institutional investors. But his options could be limited, since he owns only 17%. “I have

not started this company to sell out,” an emotional Mr Rao told ET. He will be watched

for his moves in the next few days.

When contacted, Ranbaxy managing director and CEO Malvinder Singh said, “I have no

comment to make.” However, Mr Singh had earlier spoken of consolidation being the

„buzzword‟ in the industry and his company had been on the lookout for strategic stakes

in the domestic market.

Orchid shares were beaten down mercilessly on March 17, when promoter holdings of

about 7.5% were sold by stock dealers who had lent Mr Rao and his family money to

buy those shares. A bearish pressure had caused the price to fall below a predetermined

threshold, invoking margin calls that Mr Rao could not meet.

The Orchid founder incurred a personal loss of Rs 75 crore in the selloff and the shares

lost 40%, though they have recovered ground since then. "I do not know the antecedents

of Solrex and the events of the past few days have been too sudden to say anything. But I

can tell you, I am here to stay,” Mr Rao said.

The buzz about Ranbaxy‟s interest and a block deal of nearly one million shares, or 1.5%

stake in the target firm, caused a spike in Orchid shares which gained 15.5% to close at

Rs 207.15 on the BSE. Even after this, the company is trading at a low price-earning

multiple of 7.2 compared with the industry average of 17.23.

Incidentally, the name „Solrex‟ bears a close resemblance to Ranbaxy‟s two business

divisions „Solus‟ and „Rexcel‟, which were created in 2002 as part of the company‟s

restructuring programme. With Ranbaxy refusing to clarify, it was unclear whether

Solrex could be a Ranbaxy unit or a firm floated by its promoters.

Analysts said that it made sense for Ranbaxy to have Orchid in its fold. “What Orchid

brings on the table for Ranbaxy is its market standing in Cephalosporin (both sterile and

oral). Orchid has created many assets in this regard over the past couple of years.

Ranbaxy has products in anti-biotics and Orchid would help consolidate its position in

this regard,” said Angel Broking vice-president (research) Sarabjit Kaur Nangra.

Pharma consultant and industry veteran Ajit Dangi said, “Orchid Chemicals has good

API portfolio and manufacturing facilities. It should be complementary for Ranbaxy to

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acquire Orchid and enable the Indian pharma MNC to increase its market share.”

However, another industry expert said that the investment could just be an attractive-

buying opportunity rather than a strategic fit for the company.

Orchid reported Rs 866-crore revenues and a net profit of Rs 169 crore for the nine-

month period ended December 2007. It has a return on capital of about 11% and a market

capitalisation of Rs 1,400 crore.

Successful management post merger/acquisition

To integrate companies following a merger, arguably the most important

challenges involve the top of the organization� appointing the right top

team, structuring it appropriately, defining its agenda, and building the trust

that enables its members to work well together. Executives who fail to

overcome these challenges are responsible for the ego clashes and politics

that are often the root cause of spectacular failed mergers.

Unfortunately, recent thinking about change management no longer

emphasizes the pivotal role of the top team. The consensus on how to

manage change has shifted to a dispersed approach because too many

initiatives designed to cascade down the hierarchy have delivered

disappointing results. The usual interpretation is that top-down change fails

because at every step messages get diluted, so that each succeeding one

seems less compelling and less authentic.

While this may be true in certain circumstances, a merger requires direction

from the top because that is the only way to initiate change throughout an

organization. The change required to integrate companies cannot be driven

from an entrepreneurial business unit, an innovative functional unit, or the

front line. Too much coordinated, programmatic change must be achieved in

too short a time for such approaches to succeed. The spirit of the project is

determined at the top, where the conditions are set for the whole integration

effort.

But the top team must do more than just talk about the new company, adopt

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its language and trappings, and act according to its norms. The team must

become the new company in the full sense (see sidebar, "Who's on the top

team?"). Its messages, processes, and targets must deeply incorporate the

aspirations of the new company in a way that is visible

There is a wealth of both anecdotal and theoretical evidence that cultural

differences can, and frequently do, disrupt the attempted integrational

benefits sought in mergers and acquisitions. However as Associate Professor

of Organisational Behaviour Günter Stahl and co-author Andreas Voigt

investigate in depth, empirical research on the performance impact of

cultural differences in M&A has generally offered mixed results.

Some studies have found national and/or organisational cultural differences

to be negatively related to M&A performance measures. Yet others have

disclosed either a positive relationship, or largely found cultural differences

to be undemonstrably related to such performance. Stahl and Voigt offer

several explanations for the generally inconsistent findings of prior research

on the effect of cultural differences in this area, and develop a model that

synthesises their current understanding of the fundamental role of culture in

M&A.

The authors provide a review of previous studies that have examined the

impact of cultural differences on three types of M&A outcome measures:

accounting-based performance measures, stock market returns, and socio-

cultural integration outcomes. "While theoretical models of the role of

culture in M&A emphasise the 'dark side' of cultural diversity," the authors

posit, "empirical research indicates that cultural differences, under some

conditions, may be an asset rather than a liability in M&A."

Their accumulation of research evidence points to an interesting tendency:

"Cultural differences may actually have a positive effect on aspects of the

socio-cultural integration process, such as the cultural sensitivity and

tolerance exhibited by the acquiring firm managers". In contrast,

"(organisational) cultural differences were generally found to have a

negative impact in domestic settings".

In the authors' estimation, such findings support the conclusion that national

cultural differences are very often more prominent than organisational ones.

This serves to increase managers' awareness of the significance of cultural

factors in the post-merger/acquisition integration process. This may in many

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instances lead to more culturally sensitive integration management.

However, Stahl and Voigt concede that the studies included in their

literature review tend to differ widely in terms of sample characteristics;

geographical areas covered; methodologies used; dimensions of cultural

differences examined, etc., thereby making firm conclusions about the

verifiable impact of such differences problematic.

The authors offer both tentative explanations and an integrative model in an

effort partially to remedy these defects. These include analyses of:

- How the impact of cultural differences depends on the outcome variable

being examined.

- How cultural issues cannot realistically be viewed in isolation from other

variables.

- The ongoing, positive shift in focus from the initial conditioning factors to

the integration process involved in M&A activities.

The concept of "culture" as both a multi-level construct and an emergent

process.

In an effort to offer a more integrative framework than provided in existing

research on this topic, the authors present a model synthesising theoretical

perspectives and empirical findings. This helps to account for some of the

complexity underlying the culture-performance relationship in M&A, and

should help in guiding future research by delineating the main mechanisms

through which cultural differences may affect M&A performance.

Stahl and Voigt conclude that the relationship between cultural differences

and M&A outcomes is more complex than previously appreciated. They

summarise their findings by stating that "whether cultural differences have a

positive or a negative impact ... or any impact at all, depends on the

performance measures examined, and ... on the nature and extent of cultural

differences, the integration approach taken, the interventions chosen to

manage cultural differences, and a variety of other factors. Rather than

asking if cultural differences have a performance impact in M&A, future

research endeavours should focus on how cultural differences affect the

integration process."

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Effects: At first, the sight of so many take over battles raging across the

corporate arena leads to loads of excitement. But perhaps it is also necessary

to take a long view. According to business analyst, three issues have to be

considered with a cool head. First, will industry become more efficient after

the current round of consolidation is through? Second, will share holders

benefit when their companies are bought and sold? Third, will we see the

emergence of new monopolies as the small fry are eaten up by the big fish?

The answer seems quite clear. Research the world over shows that although

every take over does not necessarily lead to better use of companies' assets,

in general, mergers (or even the threat of a take over) force companies to

become more lean and mean as far as investors go, the new take over

regulations have ensured that the old-style cosy deals that leave ordinary

investors out in the cold are no longer possible: just look at the number of

open offers in the market today. And monopoly? That's a real threat. The

country badly needs anti-trust legislations to protect consumers from the

monopolies that could emerge once the current round of corporate

consolidation is over.

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course content-merger and acquisitions-by augustin

Economy & Finance