Lecture notes on Advanced Financial management

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Subject: FINANCIAL MANAGEMENT Course Code: M. Com Author: Dr. Suresh Mittal Lesson: 1 Vetter: Dr. Sanjay Tiwari FINANCIAL MANAGEMENT OF BUSINESS EXPANSION, COMBINATION AND ACQUISITION STRUCTURE 1.0 Objectives 1.1 Introduction 1.2 Mergers and acquisitions 1.2.1 Types of Mergers 1.2.2 Advantages of merger and acquisition 1.3 Legal procedure of merger and acquisition 1.4 Financial evaluation of a merger/acquisition 1.5 Financing techniques in merger/Acquisition 1.5.1 Financial problems after merger and acquisition 1.5.2 Capital structure after merger and consolidation 1.6 Regulations of mergers and takeovers in India 1.7 SEBI Guidelines for Takeovers 1.8 Summary 1.9 Keywords 1.10 Self assessment questions 1.11 Suggested readings 1.0 OBJECTIVES After going through this lesson, the learners will be able to • Know the meaning and advantages of merger and acquisition. 1 • Understand the financial evaluation of a merger and acquisition. • Elaborate the financing techniques of merger and acquisition. • Understand regulations and SEBI guidelines regarding merger and acquisition. 1.1 INTRODUCTION Wealth maximisation is the main objective of financial management and growth is essential for increasing the wealth of equity shareholders. The growth can be achieved through expanding its existing markets or entering in new markets. A company can expand/diversify its business internally or externally which can also be known as internal growth and external growth. Internal growth requires that the company increase its operating facilities i.e. marketing, human resources, manufacturing, research, IT etc. which requires huge amount of funds. Besides a huge amount of funds, internal growth also require time. Thus, lack of financial resources or time needed constrains a company’s space of growth. The company can avoid these two problems by acquiring production facilities as well as other resources from outside through mergers and acquisitions. 1.2 MERGERS AND ACQUISITIONS Mergers and acquisitions are the most popular means of corporate restructuring or business combinations in comparison to amalgamation, takeovers, spin-offs, leverage buy-outs, buy-back of shares, capital re- organisation, sale of business units and assets etc. Corporate restructuring refers to the changes in ownership, business mix, assets mix and alliances with a motive to increase the value of shareholders. To achieve the objective of wealth maximisation, a company should 2 continuously evaluate its portfolio of business, capital mix, ownership and assets arrangements to find out opportunities for increasing the wealth of shareholders. There is a great deal of confusion and disagreement regarding the precise meaning of terms relating to the business combinations, i.e. mergers, acquisition, take-over, amalgamation and consolidation. Although the economic considerations in terms of motives and effect of business combinations are similar but the legal procedures involved are different. The mergers/amalgamations of corporates constitute a subject-matter of the Companies Act and the acquisition/takeover fall under the purview of the Security and Exchange Board of India (SEBI) and the stock exchange listing agreements. A merger/amalgamation refers to a combination of two or more companies into one company. One or more companies may merge with an existing company or they may merge to form a new company. Laws in India use the term amalgamation for merger for example, Section 2 (IA) of the Income Tax Act, 1961 defines amalgamation as the merger of one or more companies (called amalgamating company or companies) with another company (called amalgamated company) or the merger of two or more companies to form a new company in such a way that all assets and liabilities of the amalgamating company or companies become assets and liabilities of the amalgamated company and shareholders holding not less than nine-tenths in value of the shares in the amalgamating company or companies become shareholders of the amalgamated company. After this, the term merger and acquisition will be used interchangeably. Merger or amalgamation may take two forms: merger through absorption, merger through consolidation. Absorption is a combination of two or more companies into an existing company. All companies except one lose their identity in a merger through absorption. For example, absorption of Tata Fertilisers Ltd. (TFL) by Tata Chemical Limited (TCL). Consolidation is a combination of two or more companies into a new company. In this form of merger, all companies are legally 3 dissolved and new company is created for example Hindustan Computers Ltd., Hindustan Instruments Limited, Indian Software Company Limited and Indian Reprographics Ltd. Lost their existence and create a new entity HCL Limited. 1.2.1 Types of Mergers Mergers may be classified into the following three types- (i) horizontal, (ii) vertical and (iii) conglomerate. Horizontal Merger Horizontal merger takes place when two or more corporate firms dealing in similar lines of activities combine together. For example, merger of two publishers or two luggage manufacturing companies. Elimination or reduction in competition, putting an end to price cutting, economies of scale in production, research and development, marketing and management are the often cited motives underlying such mergers. Vertical Merger Vertical merger is a combination of two or more firms involved in different stages of production or distribution. For example, joining of a spinning company and weaving company. Vertical merger may be forward or backward merger. When a company combines with the supplier of material, it is called backward merger and when it combines with the customer, it is known as forward merger. The main advantages of such mergers are lower buying cost of materials, lower distribution costs, assured supplies and market, increasing or creating barriers to entry for competitors etc. 4 Conglomerate merger Conglomerate merger is a combination in which a firm in one industry combines with a firm from an unrelated industry. A typical example is merging of different businesses like manufacturing of cement products, fertilisers products, electronic products, insurance investment and advertising agencies. Voltas Ltd. is an example of a conglomerate company. Diversification of risk constitutes the rationale for such mergers. 1.2.2 Advantages of merger and acquisition The major advantages of merger/acquisitions are mentioned below: Economies of Scale: The operating cost advantage in terms of economies of scale is considered to be the primary objective of mergers. These economies arise because of more intensive utilisation of production capacities, distribution networks, engineering services, research and development facilities, data processing system etc. Economies of scale are the most prominent in the case of horizontal mergers. In vertical merger, the principal sources of benefits are improved coordination of activities, lower inventory levels. Synergy: It results from complementary activities. For examples, one firm may have financial resources while the other has profitable investment opportunities. In the same manner, one firm may have a strong research and development facilities. The merged concern in all these cases will be more effective than the individual firms combined value of merged firms is likely to be greater than the sum of the individual entities. Strategic benefits: If a company has decided to enter or expand in a particular industry through acquisition of a firm engaged in that 5 industry, rather than dependence on internal expansion, may offer several strategic advantages: (i) it can prevent a competitor from establishing a similar position in that industry; (ii) it offers a special timing advantages, (iii) it may entail less risk and even less cost. Tax benefits: Under certain conditions, tax benefits may turn out to be the underlying motive for a merger. Suppose when a firm with accumulated losses and unabsorbed depreciation mergers with a profit- making firm, tax benefits are utilised better. Because its accumulated losses/unabsorbed depreciation can be set off against the profits of the profit-making firm. Utilisation of surplus funds: A firm in a mature industry may generate a lot of cash but may not have opportunities for profitable investment. In such a situation, a merger with another firm involving cash compensation often represent a more effective utilisation of surplus funds. Diversification: Diversification is yet another major advantage especially in conglomerate merger. The merger between two unrelated firms would tend to reduce business risk, which, in turn reduces the cost of capital (K ) of the firm’s earnings which enhances the market value of 0 the firm. 1.3 LEGAL PROCEDURE OF MERGER AND ACQUISITION The following is the summary of legal procedures for merger or acquisition as per Companies Act, 1956: • Permission for merger: Two or more companies can amalgamate only when amalgamation is permitted under their memorandum of association. Also, the acquiring company should have the permission in its object clause to carry on the business of the acquired company. 6 • Information to the stock exchange: The acquiring and the acquired companies should inform the stock exchanges where they are listed about the merger/acquisition. • Approval of board of directors: The boards of the directors of the individual companies should approve the draft proposal for amalgamation and authorize the managements of companies to further pursue the proposal. • Application in the High Court: An application for approving the draft amalgamation proposal duly approved by the boards of directors of the individual companies should be made to the High Court. The High Court would convene a meeting of the shareholders and creditors to approve the amalgamation proposal. The notice of meeting should be sent to them at least 21 days in advance. • Shareholders’ and creditors’ meetings: the individual companies should hold separate meetings of their shareholders and creditors for approving the amalgamation scheme. At least, 75 per cent of shareholders and creditors in separate meeting, voting in person or by proxy, must accord their approval to the scheme. • Sanction by the High Court: After the approval of shareholders and creditors, on the petitions of the companies, the High Court will pass order sanctioning the amalgamation scheme after it is satisfied that the scheme is fair and reasonable. If it deems so, it can modify the scheme. The date of the court’s hearing will be published in two newspapers, and also, the Regional Director of the Company Law Board will be intimated. • Filing of the Court order: After the Court order, its certified true copies will be filed with the Registrar of Companies. 7 • Transfer of assets and liabilities: The assets and liabilities of the acquired company will be transferred to the acquiring company in accordance with the approved scheme, with effect from the specified date. • Payment by cash or securities: As per the proposal, the acquiring company will exchange shares and debentures and/or pay cash for the shares and debentures of the acquired company. These securities will be listed on the stock exchange. 1.4 FINANCIAL EVALUATION OF A MERGER/ACQUISITION A merger proposal be evaluated and investigated from the point of view of number of perspectives. The engineering analysis will help in estimating the extent of operating economies of scale, while the marketing analysis may be undertaken to estimate the desirability of the resulting distribution network. However, the most important of all is the financial analysis or financial evaluation of a target candidate. An acquiring firm should pursue a merger only if it creates some real economic values which may arise from any source such as better and ensured supply of raw materials, better access to capital market, better and intensive distribution network, greater market share, tax benefits, etc. The shareholders of the target firm will ordinarily demand a price for their shares that reflects the firm’s value. For prospective buyer, this price may be high enough to negate the advantage of merger. This is particularly true if several acquiring firms are seeking merger partner, and thus, bidding up the prices of available target candidates. The point here is that the acquiring firm must pay for what it gets. The financial evaluation of a target candidate, therefore, includes the determination of 8 the total consideration as well as the form of payment, i.e., in cash or securities of the acquiring firm. An important dimension of financial evaluation is the determination of Purchase Price. Determining the purchase price: The process of financial evaluation begins with determining the value of the target firm, which the acquiring firm should pay. The total purchase price or the price per share of the target firm may be calculated by taking into account a host of factors. Such as assets, earnings, etc. The market price of a share of the target can be a good approximation to find out the value of the firm. Theoretically speaking, the market price of share reflects not only the current earnings of the firm, but also the investor’s expectations about future growth of the firm. However, the market price of the share cannot be relied in many cases or may not be available at all. For example, the target firm may be an unlisted firm or not being traded at the stock exchange at all and as a result the market price of the share of the target firm is not available. Even in case of listed and oftenly traded company, a complete reliance on the market price of a share is not desirable because (i) the market price of the share may be affected by insiders trading, and (ii) sometimes, the market price does not fully reflect the firm’s financial and profitability position, as complete and correct information about the firm is nto available to the investors. Therefore, the value of the firm should be assessed on the basis of the facts and figures collected from various sources including the published financial statements of the target firm. The following approaches may be undertaken to assess the value of the target firm: 1 Valuation based on assets: In a merger situation, the acquiring firm ‘purchases’ the target firm and, therefore, it should be ready to pay the worth of the latter. The worth of the target firm, no doubt, depends 9 upon the tangible and intangible assets of the firm. The value of a firm may be defined as: Value = Value of all assets – External liabilities In order to find out the asset value per share, the preference share capital, if any, is deducted from the net assets and the balance is divided by the number of equity shares. It may be noted that the values of all tangible and intangible assets are incorporated here. The value of goodwill may be calculated if not given in the balance sheet, and included. However, the fictious assets are not included in the above valuation. The assets of a firm may be valued on the basis of book values or realisable values as follows: 2. Valuation based on earnings: The target firm may be valued on the basis of its earnings capacity. With reference to the capital funds invested in the target firm, the firms value will have a positive correlations with the profits of the firm. Here, the profits of the firm can either be past profits or future expected profits. However, the future expected profits may be preferred for obvious reasons. The acquiring firm shows interest in taking over the target firm for the synergistic efforts or the growth of the new firm. The estimate of future profits (based on past experience) carry synergistic element in it. Thus, the future expected earnings of the target firm give a better valuation. These expected profit figures are, however, accounting figures and suffer from various limitations and, therefore, should be converted into future cash flows by adjusting non-cash items. In the earnings based valuation, the PAT (Profit After Taxes) is multiplied by the Price-Earnings Ratio to find out the value. Market price per share = EPS × PE ratio 10 The earnings based valuation can also be made in terms of earnings yield as follows: EPS Earnings yield = ×100 MPS The earnings yield gives an idea of earnings as a percentage of market value of a share. It may be noted that for this valuation, the historical earnings or expected future earnings may be considered. Earnings valuation may also be found by capitalising the total earnings of the firm as follows: Earnings Value = ×100 Capitalisationrate 3. Dividend-based valuation: In the cost of capital calculation, the cost of equity capital, k , is defined (under constant growth model) as: e () D 1 + g D 0 1 k = + g = + g e P P 0 0 D = Dividend in current year 0 D = Dividend in the first year 1 g = Growth rate of dividend P = Initial price 0 This can be used to find out the P as follows: 0 D() 1 + g D 0 1 P = = 0 k − g k − g e e For example, if a company has just paid a dividend of Rs. 15 per share and the growth rate in dividend is 7%. At equity capitalisation of 20%, the market price of the share is: 11 15() 1 + 0.7 16.05 P = = = Rs. 123.46 0 .20 −.07 .13 The dividend yield, like earnings yield can be calculated as: Div. Per Share Dividend yield = ×100 Market Price 4. Capital Asset Pricing Model (CAPM)-based share valuation: The CAPM is used to find out the expected rate of return, R , as follows: s R = I + (R - I )β s RF M RF Where, R = Expected rate of return, I = Risk free rate of return, R = s RF M Rate of Return on market portfolio, β = Sensitivity of a share to market. For example, R is 12%, I is 8% and β is 1.3, the R is: M RF s R = I + (R - I )β s RF M RF = 0.08 + (0.12 - 0.08) 1.3 = 13.2 If the dividend paid by the company is Rs. 20, the market price of the share is: Div 20 P = = = Rs. 151.51. 0 R 0.132 s 5. Valuation based on cash flows: Valuation of a target firm can also be made on the basis of firm’s cash flows. In this case, the value of the target firm may be arrived at by discounting the cash flows, as in the case of NPV method of capital budgeting as follows: i) Estimate the future cash inflows (i.e., Profit after tax + Non- cash expenses). 12 ii) Find out the total present value of these cash flows by discounting at an appropriate rate with reference to the risk class and other factors. iii) If the acquiring firm is agreeing to takeover the liabilities of the target firm, then these liabilities are treated as cash outflows at time zero and hence deducted form the present value of future cash inflows as calculated in step (ii) above. iv) The balancing figure is the NPV of the firm and may be considered as the maximum purchase price, which the acquiring firm should be ready to pay. The procedure for finding out the valuation based on cash flows may be summarized as follows: n C i MPP = − L ∑ i i=1() 1 + k where MPP = Maximum purchase price, C = Cash inflows over i different years, L = Current value of liabilities, and k = Appropriate discount rate. 6. Other methods of valuation: There are two other methods of valuation of business. Investors provide funds to a company and expect a minimum return which is measured as the opportunity cost of the investors, or, what the investors could have earned elsewhere. If the company is earning less than this opportunity cost of the investors, the company is belying the expectations of the investors. Conversely, if it is earning more, then it is creating additional value. New concepts such as Economic Value Added (EVA) and Market Value Added (MVA) can be used along with traditional measures of Return on Net Worth (RONW) to measure the creation of shareholders value over a period. (a) Economic Value Added: EVA is based upon the concept of economic return which refers to excess of after tax return on capital 13 employed over the cost of capital employed. The concept of EVA, as developed by Stern Steward and Co. of the U.S., compares the return on capital employed with the cost of capital of the firm. It takes into account the minimum expectations of the shareholders. EVA is defined in terms of returns earned by the company in excess of the minimum expected return of the shareholders. EVA is calculated as the net operating profit (Earnings before Interest but after taxes) minus the capital charges (capital employed × cost of capital). This can be presented as follows: EVA = EBIT - Taxes - Cost of funds employed = Net Operating Profit after Taxes - Cost of Capital Employed where, Net Operating Profit after Taxes represents the total pool of profit available to provide a return to the lenders and the shareholders, and Cost of Capital Employed is Weighted Average Cost of Capital × Average Capital employed. So, EVA is the post-tax return on capital employed adjusted for tax shield of debt) less the cost of capital employed. It measures the profitability of a company after having taken cost of debt (Interest) is deducted in the income statement. In the calculation of EVA, the cost of equity is also deducted. The resultant figure shows as to how much has been added in value of the firm, after meeting all costs. It should be pointed out that there is more to calculation of cost of equity than simple deduction of the dividends paid. So, EVA represents the value added in excess of the cost of capital employed. EVA increases if: i) Operating profits grow without employing additional capital, i.e., through greater efficiency. ii) Additional capital is invested in the projects that give higher returns than the cost of procuring new capital, and 14 iii) Unproductive capital is liquidated, i.e., curtailing the unproductive uses of capital. EVA can be used as a tool in decision-making within an enterprise. It can help integration of customer satisfaction, operating efficiencies and, management and financial policies in a single measure. However, EVA is based on the performance of one year and does not allow for increase in economic value that may result from investing in new assets that have not yet had time to show the results. In India, EVA has emerged as a popular measure to understand and evaluate financial performance of a company. Several companies have started showing the EVA during a year as a part of the Annual Report. Hero Honda Ltd., BPL Ltd., Hindustan Lever Ltd., Infosys Technologies Ltd. And Balrampur Chini Mills Ltd. Are a few of them. (b) Market Value Added (MVA) is another concept used to measure the performance and as a measure of value of a firm. MVA is determined by measuring the total amount of funds that have been invested in the company (based on cash flows) and comparing with the current market value of the securities of the company. The funds invested include borrowings and shareholders funds. If the market value of securities exceeds the funds invested, the value has been created. 1.5 FINANCING TECHNIQUES IN MERGER/ACQUISITION After the value of a firm has been determined on the basis of the preceding analysis, the next step is the choice of the method of payment to the acquired firm. The choice of financial instruments and techniques in acquiring a firm usually has an effect on the purchasing agreement. The payment may take the form of either cash or securities, i.e., ordinary shares, convertible securities, deferred payment plans and tender offers. 15 Ordinary shares financing: When a company is considering to use ordinary shares to finance a merger, the Relative Price-Earnings (P/E) ratios of two firms are an important consideration. For instance, for a firm having a high P/E ratio, ordinary shares represent an ideal method for financing mergers and acquisitions. Similarly, the ordinary shares are more advantageous for both companies when the firm to be acquired has low P/E ratio. This is illustrated below: TABLE 1.1: EFFECT OF MERGER ON FIRM A’S EPS AND MPS (a) Pre-merger situation: Firm A Firm B Earnings after taxes (EAT) 5,00,000 2,50,000 Number of shares outstanding (N) 1,00,000 50,000 EPS (EAT/N) 5 5 Price-earnings (P/E) ratio 10 times 4 times Market price per share, MPS (EPS × 50 20 P/E ratio) Total market value of the firm 50,00,000 10,00,000 (N × MPS) Or (EAT × P/E ratio) (b) Post merger situation: assuming 2.5 : 1 1 : 1 exchange ratio of shares as EATc of combined firm 7,50,000 7,50,000 Number of shares outstanding after 1,20,000 1,50,000 additional shares issued EPSc (EATc/N) 6.25 5.00 P/Ec ratio ×10 ×10 MPSc 62.50 50.00 Total market value 75,00,000 75,00,000 From a perusal of Table 1.1, certain facts stand out. The exchange ratio of 2.5 : 1 is based on the exchange of shares between the acquiring and acquired firm on their relative current market prices. This ratio implies that Firm A will issue 1 share for every 2.5 shares of Firm B. The 16 EPS has increased from Rs. 5.0 (pre-merger) to Rs. 6.25 (post-merger). The post-merger market price of the share would be higher at Rs. 6.25 × 10 (P/E ratio) = Rs. 62.50. When the exchange ratio is 1 : 1, it implies that the shareholders of the Firm B demand a heavy premium per share (Rs. 30 in this case). The EPS and the market price per share remain constant. Therefore the tolerable exchange ratio for merger of Firm A and B is 1 : 1. Thus, it may be generalised that the maximum and minimum exchange ratio in merger situations should lie between the ratio of market price of shares of two firms and 1 : 1 ratio. The exchange ratio eventually negotiate/agreed upon would determine the extent of merger gains to be shared between the shareholders of two firms. This ratio would depend on the relative bargaining position of the two firms and the market reaction to the merger move is given below: APPORTIONMENT OF MERGERS GAINS BETWEEN THE SHAREHOLDERS OF FIRMS A AND B (I) Total market value of the merged firm Rs. 75,00,000 Less market value of the pre-merged firms: Firm A Rs. 50,00,000 Firm B Rs. 10,00,000 15,00,000 Total merger gains 15,00,000 (II) (1) Apportionment of gains (assuming exchange ratio of 2.5 : 1 Firm A: Post-merger market value 62,50,000 (1,00,000 shares × Rs. 62.50) Less pre-merger market value 50,00,000 Gains for shareholders of Firm A 12,50,000 Firm B: Post-merger market value 12,50,000 (20,000 shares × Rs. 62.50) Less pre-merger market value 10,00,000 Gain for shareholders of Firm B 2,50,000 17 (2) Assuming exchange ratio of 1 : 1 Firm A: Post-merger market value 50,00,000 (1,00,000 × Rs. 50.00) Less pre-merger market value 50,00,000 Gain for shareholders of Firm A Nil Firm B: Post-merger market value 25,00,000 (50,000 × Rs. 50.00) Less pre-merger market value 10,00,000 Gains for shareholders of Firm B 15,00,000 Debt and Preference Shares Financing: From the foregoing it is clear that financing of mergers and acquisitions with equity shares is advantageous both to the acquiring firm and the acquired firm when the P/E ratio is high. Since, however, some firms may have a relatively lower P/E ratio as also the requirement of some investors might be different, the other types of securities, in conjunction with/in lieu of equity shares, may be used for the purpose. In an attempt to tailor a security to the requirement of investors who seek dividend/interest income in contrast to capital appreciation/growth, convertible debentures and preference shares might be used to finance merger. The use of such sources of financing has several advantages, namely, (i) potential earning dilution may be partially minimised by issuing a convertible security. For example, suppose the current market price of the shares of an acquiring company is Rs. 50 and the value of the acquired firm is Rs. 50,00,000. If the merger proposal is to be financed with equity, 1,00,000 additional shares will be required to be issued. Alternatively, convertible debentures of the face value of Rs. 100 with conversion ratio of 1.8, which would imply conversion value of Rs. 90 (Rs. 50 × 1.8) may be issued. To raise the required Rs. 50,00,000, 50,000 debentures convertible into 90,000 equity shares would be issued. Thus, the number of shares to be issued would be reduced by 18 10,000, thereby reducing the dilution in EPS that could ultimately result, if convertible security in place of equity shares was not resorted to; (ii) A convertible issue might serve the income objective of the shareholders of target firm without changing the dividend policy of the acquiring firm; (iii) convertible security represents a possible way of lowering the voting power of the target company; (iv) convertible security may appear more attractive to the acquired firm as it combines the protection of fixed security with the growth potential of ordinary shares. In brief, fixed income securities are compatible with the needs and purpose of mergers and acquisitions. The need for changing the financing leverage and for a variety of securities is partly resolved by the use of senior securities. Deferred Payment Plan: Under this method, the acquiring firm, besides making initial payment, also undertakes to make additional payment in future years to the target firm in the event of the former being able to increase earnings consequent also known as earn-out plan. There are several advantages of adopting such a plan to the acquiring firm: (i) It emerges to be an appropriate outlet for adjusting the difference between the amount of shares the acquiring firm is willing to issue and the amount the target firm is agreeable to accept for the business; (ii) in view of the fact that fewer number of shares will be issued at the time of acquisition, the acquiring firm will be able to report higher EPS immediately; (iii) there is built-in cushion/protection to the acquiring firm as the total payment is not made at the time of acquisition; it is contingent to the realisation of the potential/projected earnings after merger. There are various types of deferred payment plan in vogue. The arrangement eventually agreed upon depends on the imagination of the management of the two firms involved. One of the often-used plans for 19 the purpose is base-period earn-out. Under this plan the shareholders of the target firm are to receive additional shares for a specified number of future years, if the firm is able to improve its earnings vis-à-vis the earnings of the base period (the earnings in the previous year before the acquisition). The amount becoming due for payment in shares in future years will primarily be a function of excess earnings, price-earnings ratio and the market price of the share of the acquiring firm. The basis for determining the required number of shares to be issued is Excess earnings × P/E ratio Share price (acqiring firm) To conclude, the deferred-plan technique provides a useful means by which the acquiring firm can eliminate part of the guess-work involved in purchasing a firm. In essence, it allows the merging management the privilege of hindsight. Tender Offer: An alternative approach to acquire another firm is the tender offer. A tender offer, as a method of acquiring firms, involves a bid by the acquiring firm for controlling interest in the acquired firm. The essence of this approach is that the purchaser approaches the shareholders of the firm rather than the management to encourage them to sell their shares generally at a premium over the current market price. Since the tender offer is a direct appeal to the shareholders, prior approval of the management of the target firm is not required. In case, the management of the target firm does not agree with the merger move, a number of defensive tactics can be used to counter tender offers. These defensive tactics include WHITE KNIGHTS and PAC-MANS. A white knight is a company that comes to the rescue of a firm that is being targeted for a takeover. Such a company makes its own tender offer at a higher price. Under Pac-mans form of tender offer, the firm under attack becomes the attacker. 20

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