m&a 4th - legislation.pdf
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LEGISLATION FORMEGER AND
ACQUISITION
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Legislation Dealing Mergers in a
Particular Sector.
Section 48 of the Banking
Companies Ordinance, 1962
282L of Companies Ordinance,
1984
Section 67 to 71 of the Insurance
Ordinance, 2000 and
application to High Court
For Banking Companies.
For N.B.F.Cs
For Insurance Companies.
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Legislation on Foreign Investment.
Board of Investment and Foreign Exchange
Regulation contain certain exceptions and
restrictions for non-residents for which general or
special permission is required.*
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Section 2 (1A) of the Income Tax Ordinance,
2001
Amalgamation means the merger of one or more
1. banking companies or
2. non-banking financial institutions, or
3. insurance companies, or
4. companies owning and managing industrial undertakings or
5. companies engaged in providing services and not being a trading company or
companies.
In such manner that
The assets of the amalgamating company or companies immediately before the
amalgamation become the assets of the amalgamated company by virtue of theamalgamation, otherwise than by purchase of such assets by the amalgamated
company or as a result of distribution of such assets to the amalgamated
company after the winding up of the amalgamating company or companies; and
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Section 2 (1A) of the Income Tax Ordinance,
2001
The liabilities of the amalgamating company or companies immediately before
the amalgamation become the liabilities of the amalgamated company by virtue
of the amalgamation
Requisite criterionOne company must be a public company or
A company incorporated under Companies Ordinance,1984 or under any
other law for the time being in force,
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Merger/Amalgamation.
From
Members/Shareholders
Point of View
From the Point of View of
Company to beMerged/Amalgamating.
From the Point of View of
Amalgamated
Company.
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From the Point of View of Company to be
Merged/Amalgamated.
S 97 & 97A - No gain or loss is taxable
subject to certain conditions.
Amalgamating companies are resident
and belong to wholly owned group.
In case of Section 97 the condition of
both companies to be resident shall not
apply in light of clause 62 of Part IV of
2nd Schedule.
Gain of amalgamating companies are
taxable if the above criteria is not
fulfilled under the Income Tax
Ordinance, 2001
Taxability of gain on transfer of assets and
liabilities?
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From Amalgamated Company Point of View.
S 76 - Relating to cost of purchase.
S 98C, concerning succession.
The tax value of assets in the hands of
amalgamating company (immediatelybefore amalgamation) shall be taken
as the tax value for amalgamated
company
Tax value of assets / liabilities acquired?
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From the Amalgamated Companys Point of View.
S 20(3) - Only expenditures incurred
under following heads are tax
deductible
Legal Advisory Services
Financial Advisory Services
Administrative expensesPlanning and Implementation of
amalgamation
What is the treatment of merger related
expenses?
What about carry forward and set-off
of losses sustained by the
amalgamating company ?
S. 57A - In the year of amalgamation only
assessed loss of the amalgamating
companies for the tax year is availablefor the set off. The facility to set off
accumulated losses of amalgamating
companies has been taken away from
July 01, 2007.
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Acquiree Point of View.
Transfer of assets and liabilities have tax implications
depending on the basis of nature of asset.
Consideration may be taken at higher of the actual selling
price or Fair Market Value [S. 77]
Slump sale principle Applicability ? [S. 77]
Consideration under restrictive covenant whether capital
or revenue?
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PAYING FORACQUISITION
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Factors influencing choice among
financing methods
a. Risk and Valuation Considerations Preferred Payment Methoda. Risk and Valuation Considerations Preferred Payment Method
Higher valuation risk to bidder
Target a highly cyclical business
Bidder keen to exploit its high current
share valuationBidder already leveraged
bidder prefers shares(Target-cash)
share offer
Share offer
Share offer to reduce financial risk
b. Maximize Tax Benefits Preferred Payment Method
high capital gain tax to targetBidder can use accumulated tax losses
and investment credits of targets
Bidder can step up target assets value for
depreciation allowance
Exploit additional debt capacity of target
And tax advantage of debt
Target prefers sharesShare offer
Cash
Loan stock or leveraged cash finance
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Share Exchange-Walk-away
options and Top up right
M&A agreements may provide for termination for
either party to walk away from deal when price has
fallen (target)or risen (bidder) unacceptably high.
Walk-away option may be exercised with collarsand exercised when the bidder stock price goes
outside the range.
To off-set target walk-away rights, the bidder mayask for top up rights which allow to increase the
exchange ratio.
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Conversion value Rights
CVRs are commitment by the acquirer to pay
additional cash or securities if the share prices of
the combined company does not exceed a specified
level e.g. a year after the acquisition is completed.
CVRs are part of the acquisition currency and are
traded in open market enabling the shareholder totarget to cash out earlier.
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Leveraged cash Financing-
characteristics
High gearing may sometimes leads to default and
decline
Target assets may be used to finance the acquisition
Related interest payment is tax deductible.
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Financing with Convertibles
Straight preferred or loan stock with an option of
conversion to ordinary shares.
Valuing a convertible is rather complex.
D f d id ti Fi i
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Deferred consideration Financing-
An Earn-out
Both bidders and shareholder of target facevaluation risk in negotiation.
One way of mitigating this risk is to make
consideration contingent upon future performanceof the company under their own management.
Value of such company normally depends uponhuman creativity and the flair of one or two
individual e.g. advertising company An earn-out is the way of retaining the vendors
talent.
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D f d id ti Fi i
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Deferred consideration Financing-
An Earn-out
Advantages Disadvantages
a. For Acquirer
Vendors talent retained
Valuation risk reduced
Buy not and pay later reducesimmediate need for cash
Provide hedge against warranty and
indemnity claims
Conflict of motive between vendor and
buyer
Vendor given autonomy and buyersintegration plan delayed
Vendor after becoming rich may lack
motivation
Management succession after earn-out
may cause problems
b. For Vendor Increases personal wealth
Career opportunities may be brighter
Buyer can fund future growth of
business.
Loss of control
Pressure for short term results
Culture shock of working in a large
bureaucratic company
T A t f A i iti
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Tax Aspects of Acquisition
financing
Objectives:
Structuring acquisition to maximize the tax relie
Enhancing bid price to benefit target shareholders and
success of acquisition
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Bidd fi i l t t d
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Bidders financial strategy and
acquisition financing
Maintaining reasonable gearing
Credit rating
Ensuring adequacy of lines of credit from banks
Tax impact on cost of capital
Timing of security issue
Earning dilution is share exchange
Boot strapping-applying bidder higher P/E ratio totarget is known as boot strapping. It assumes thatearning growth of target after acquisition match withthat of the bidder. If not, boot strapping will be a shortlived delusion.
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