Mergers & Acquisitions

Question 39
XML bank was established in 2001 and doing banking business in India. The bank is
facing very critical situation. There are problems of Gross NPA (Non -Performing
Assets) at 40% & CAR/CRAR (Capital Adequacy Ratio/Capital. Risk Weight Asset
Ratio) at 2%. The net worth of the bank is not good. Shares are not traded regularly.
Last week, it was traded @ ` 4 per share.

RBI Audit suggested that bank has either to liquidate or to merge with other bank.

ZML Bank is professionally managed bank with low gross NPA of 5%. I t has net
NPA as 0% and CAR at 16%. Its share is quoted in the market @ ` 64 per share. The
Board of Directors of ZML Bank has submitted a proposal to RBI for takeover of bank
XML on the basis of share exchange ratio.

The Balance Sheet details of both the banks are as follows:

Particulars XML Bank (`) ZML Bank (`)

(Amount in Crores) (Amount in Crores)
Liabilities
Paid up share capital (` 10) 70 250
Reserve and Surplus 35 2,750
Deposits 2,000 20,000
Other Liabilities 445 1,250
Total Liabilities 2,550 24,250
Assets
Cash in hand and with RBI 200 1,250
Balance with other banks 0 1,000
Investments 550 7,500
Advances 1,750 13,500
Other Assets 50 1,000
Total Assets 2,550 24,250

It was decided to issue shares at Book Value of ZML Bank to the shareholders of XML
Bank. All Assets & Liabilities are to be taken over at Book Value.

For the Swap Ratio, weights assigned to different parameters are as follows:
Gross NPA 40%
CAR 10%
Market Price 40%
Book Value 10%

You are required to:

1. Calculate swap ratio based on above rates.
2. Calculate number of shares are to be issued.
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 Incito Academy – Final CA – Strategic Financial Management

3. Prepare Balance Sheet after Merger.

(May 17, 10 Marks)

Solution 39
WN 1: Calculation of Book Value Per Share: ` in crores
XML Bank ZM Bank
(Target) (Acquirer)
Total Assets (T/O at book value ) 2,550 24,250
(-) Deposits (2,000) (20,000)
Other Liabilities (445) (1,250)
Net Book Value 105 3,000
() No. of shares in crores 7 25
Book Value per share (BVPS) 15 120

WN 2: Determining Swap Ratio based on: (given)

5
Gross NPA = = 0.125
40
2
CAR = = 0.125
16
4
Market Price = = 0.0625
64
15
Book Value = = 0.125
120

1. Determining Swap Ratio based on above rates:

Basis Swap Ratio (x) Weights (W) (x.w)
Gross NPA 0.125 0.4 0.05
CAR 0.125 0.1 0.0125
Market Price 0.0625 0.4 0.025
Book Value 0.125 0.1 0.0125
0.1

 For every share of XML Bank, 0.1 shares of ML Bank shall be issued:
2. Number of shares to be issued: = Number of shares in XML Bank X Swap Ratio
70 cr
= X 0.1 = 0.7 crores shares
` 10

Balance sheet of ZML Bank (after merger) :` in crores

Liabilities :
Paid up share capital (` 10 X 25.7 crores) 257.00
Reserves & Surplus 2750.00
Capital Reserves (Bal. Figure ) 98.00
Deposits 22000.00
Other Liabilities 1695.00
Total 26,800.00

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 Incito Academy – Final CA – Strategic Financial Management

Assets :
Cash in hand & with RBI 1450.00
Balance with other bank 1000.00
Investments 8050.00
Advances 15250.00
Other Assets 1050.00
Total 26800.00

Question 40
East Co. Ltd. is studying the possible acquisition of Fost Co. Ltd. by way of merger.
The following data are available in respect of the companies:
East Co. Ltd. Fost Co. Ltd.
Earnings after tax (`) 2,00,000 60,000
No. of equity shares 40,000 10,000
Market value per share (`) 15 12

1. If the merger goes through by change of equity share and the exchange ratio is
based on the current market price, what are the new earnings per share for East
Co. Ltd.·?
2. Fort Co. Ltd. wants to be sure that the merger will not diminish the earnings
available to its shareholders. What should be the exchange ratio in that case?
(Nov 17, 8 Marks)

Solution 40
i. Calculation of new EPS of East Co. Ltd.
No. of equity shares to be issued by East Co. Ltd. to Fost Co. Ltd.
= ` 12
10,000 shares X = 8,000 shares
` 15

Total no. of shares in East Co. Ltd. after acquisition of Fost Co. Ltd.
= 40,000 + 8,000 = 48,000

Total earnings after tax [after acquisition]

= 2,00,000 + 60,000 = 2,60,000
` 2,60,000
EPS = = ` 5.42
48,000 equity shares

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 Incito Academy – Final CA – Strategic Financial Management

ii. Calculation of exchange ratio which would not diminish the EPS of Fost Co.
Ltd. after its merger with East Co. Ltd.
Current EPS:
` 2,00,000
East Co. Ltd. = = `5
40,000 equity shares

` 60,000
Fost Co. Ltd = = `6
10,000 equity shares
6 1.20
Exchange ratio = =
5
Cross Tally
No. of new shares to be issued by East Co. Ltd. to Fost Co. Ltd.
= 10,000 X 1.20 = 12,000 shares

Total number of shares of East Co. Ltd. after acquisition

= 40,000 + 12,000 = 52,000 shares
` 2,60,000
EPS (after merger) = = `5
52,000 shares

Total earnings in East Co. Ltd. available to new shareholders of Fost Co. Ltd.
= 12,000 X ` 5 = ` 60,000

Question 41
Tatu Ltd. wants to takeover Mantu Ltd. and has offered a swap ratio of 1:2 (0.5 shares
for every one share of Mantu Ltd.). Following information is provided

Tatu Ltd. Mantu Ltd.

Profit after tax ` 24,00,000 ` 4,80,000
Equity shares outstanding (Nos.) 8,00,000 2,40,000
EPS `3 `2
PE Ratio 10 times 7 times
Market price per share ` 30 ` 14

You are required to calculate:

i. The number of equity shares to be issued by Tatu Ltd. for acquisition of Mantu
Ltd.
ii. What is the EPS of Tatu Ltd. after the acquisition?
iii. Determine the equivalent earnings per share of Mantu Ltd.
iv. What is the expected market price per share of Tatu Ltd. after the acquisition,
assuming its PE multiple remains unchanged?
v. Determine the market value of the merged firm.
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 Incito Academy – Final CA – Strategic Financial Management

(May 18, 8 Marks)

Solution
i. The number of shares to be issued by Tatu Ltd.:
The Exchange ratio is 0.5
So, new Shares = 2,40,000 X 0.5 = 1,20,000 shares.

ii. EPS of Tatu Ltd. after acquisition:

Total Earnings (` 24,00,000 + ` 4,80,000) ` 28,80,000
No. of Shares (8,00,000 + 1,20,000) 9,20,000

(` 28,80,000)
EPS = = ` 3.13
9,20,000

iii. Equivalent EPS of Mantu Ltd.:

No. of new Shares 0.5
EPS ` 3.13
Equivalent EPS (` 3.13 X 0.5) ` 1.57

iv. New Market Price of Tatu Ltd. (P/E remaining unchanged)

Present P/E Ratio of a Ltd. 10 times
Expected EPS after merger ` 3.13
Expected Market Price (`3.13 X 10) ` 31.30

v. Market Value of merged firm:

Total number of Shares 9,20,000
Expected Market Price ` 31.30
Total value (9,20,000 X 31.30) ` 2,87,96,000

Question 42
TK Ltd. and SK Ltd. are both in the same industry. The former is in negotiation for
acquisition of the latter. Information about the two companies as per their latest
financial statements are given below:

TK Ltd. SK Ltd.
` 10 Equity shares outstanding 24 lakhs 12 lakhs
Debt:
10% Debentures (` Lakhs) 1,160 -
12.5% Institutional Loan (` Lakhs) - 480
Earnings before interest, depreciation and tax (EBIDAT)
800.00 230.00
(` Lakhs)
Market Price/Share (`) 220.00 110.00
TK Ltd. plans to offer a price for SK Ltd. business, as a whole, which will be 7 times of
EBIDAT as reduced by outstanding debt and to be discharged by own shares at
market price.

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 Incito Academy – Final CA – Strategic Financial Management

SK Ltd. is planning to seek one share in TK Ltd. for every 2 shares in SK Ltd. based on
the market price. Tax rate for the two companies may be assumed as 30%.

Calculate and show the following under both alternatives -TK Ltd.'s offer and SK
Ltd.'s plan:
i. Net consideration payable.
ii. No. of shares to be issued by TK Ltd.
iii. EPS of TK Ltd. after acquisition.
iv. Expected market price per share of TK Ltd. after acquisition.
v. State briefly the advantages to TK Ltd. from the acquisition.

Calculations may be rounded off to two decimals points.

(Nov 18, 12 Marks)

Solution
As per TK Ltd.’s Offer
i. Net Consideration Payable
` in Lakhs
7 times EBIDAT, i.e. 7 X ` 230 lakh 1,610
Less: Debt 480
1,130

ii. No. of shares to be issued by TK Ltd.

` 1,130 Lakh
= = ` 5,13,600 Lakhs
` 220 (rounded off) (Nos.)

iii. EPS of TK Ltd after acquisition

` in Lakhs
Total EBIDT (` 800 lakh + ` 230 lakh) 1,030.00
Less: Interest (` 116 lakh + ` 60 lakh) 176.00
854.00
Less: 30% Tax 256.20
Total earnings (NPAT) 597.80
Total No. of shares outstanding
(24 lakh + 5,13,600) 29,13,600

Earnings Per Share (EPS)

` 597.80 Lakh
= = ` 20.52 Lakhs
29,13,600

iv. Expected Market Price

` in Lakhs
Pre-acquisition P/E multiple:

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EBIDAT 800.00
10
Less: Interest 1,160 X 116.00
100
684.00
Less: 30% Tax 205.20
478.80
No. of shares (lakhs) 24
EPS ` 19.95
Hence, PE multiple (220/19.95) 11.03
Expected market price after acquisition
(` 20.52 X 11.03) ` 226.34

As per SK Ltd.’s Offer

i. Net consideration payable
12 lakhs shares X ` 110 = ` 1,320 Lakhs

ii. No. of shares to be issued by TK Ltd.

` 1,130 Lakhs
= = 6 Lakhs
220

iii. EPS of T Ltd after Acquisition

NPAT (as per earlier calculations)
= 597.80 Lakhs
Total no. of shares outstanding
24 lakhs + 6 lakhs = 30 Lakh

Earnings Per Share (EPS)

` 597.80 Lakh
= = ` 19.93 Lakhs
30 Lakh

iv. Expected Market Price

` 19.93 X 11 = ` 219.23 Lakhs
v. Advantages of Acquisition to TK Ltd.
Since the two companies are in the same industry, the following advantages
could accrue:
 Synergy, cost reduction and operating efficiency.
 Better market share.
 Avoidance of competition

Question 43
Given is the following information:
Day Ltd. Night Ltd.
Net Earnings ` 5 crores ` 3.5 crores
No. of Equity Shares 10,00,000 7,00,000

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 Incito Academy – Final CA – Strategic Financial Management

The shares of Day Ltd. and Night Ltd. trade at 20 and 15 times their respective P/E
ratios.
Day Ltd. considers taking over Night Ltd. By paying ` 55 crores considering that the
market price of Night Ltd. reflects its true value. It is considering both the following
options:
i. Takeover is funded entirely in cash.
ii. Takeover is funded entirely in stock.
You are required to calculate the cost of the takeover and advise Day Ltd. on the best
alternative.
(May 19, 8 Marks)

Solution
Working Notes:
Day Ltd. Night Ltd.
Net Earnings ` 5 crores ` 3.5 crores
No. of Equity Shares 10,00,000 7,00,000
EPS 50 50
P/E 20 times 15 times
MPS ` 1,000 ` 750
Market Value 1,00,00,00,000 52,50,00,000

i. If takeover is funded by Cash

Since Market Price of Night Ltd. reflects its full value, cost of takeover to Day
Ltd is 55 crore – 52.50 crore = ` 2.5 crore.

ii. If the takeover is funded by stock

Number of shares to be issued to Night Ltd.
` 55 Crore
= = 5,50,000 Lakhs
` 1,000

Market Value of Merged Firm = ` 1,00,00,00,000 + ` 52,50,00,000

= ` 1,52,50,00,000 i.e. ` 152.50 Crore

Proportion that Night Ltd.’s shareholders get in Day Ltd.’s Capital Structure
will be:
5.5 Lakhs
= = 0.3548
5.5 Lakhs + 10 Lakhs

True Cost of Merger = ` 152.50 Crore X 0.3548 – ` 55 Crore

= – ` 0.893 Crore
Since true cost is negative in case of funding from stock, Day Ltd. would
better off by funding the takeover by stock.

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Question 44
ABB Ltd. has a surplus cash balance of ` 180 lakhs and wants to distribute 50% of it to
the equity shareholders. The company decides to buyback equity shares. The
company estimates that its equity share price after re–purchase is likely to be 15%
above the buyback price. if the buyback route is taken.
Other information is as under:
i. Number of equity shares outstanding at present (Face value ` 10 each) is ` 20
lakhs.
ii. The current EPS is ` 5.

You are required to calculate the following:

i. The price at which the equity shares can be re–purchased, if market
capitalization of the company should be ` 400 lakhs after buy back.
ii. Number of equity shares that can be re – purchased.
iii. The impact of equity shares re–purchase on the EPS, assuming that the net
income remains unchanged.
(May 19, 8 Marks)

Solution
i. Let P be the buyback price decided by ABB Ltd.
Market Capitalisation after Buyback
400 lakhs = 1.15P (Original Shares – Shares Bought Back)
50% of 180 Lakhs
= 1.15P 20 Lakhs –
P
= 23 Lakhs X P – 90 Lakhs X 1.15
= 23 Lakhs P – 130.50 Lakhs
= Again, 23 Lakhs P – 130.50 Lakhs
= 400 Lakhs + 130.50 Lakhs
Or 23 Lakhs P
503.50
Or P = = 21.89 per Share
23

ii. Number of Shares to be Bought Back:

` 90 lakhs
= 4.111 lakhs (Approx.) or 411147 shares
21.89

iii. Shares after buyback

= 20 lakhs – 4.111 lakhs = 15.889 lakhs
Or 20,00,000 – 4,11,147 = 15,88,853 shares

5 X 20 lakhs
∴ EPS = = ` 6.29
15.889 lakhs
Thus, EPS of ABB Ltd., increases to ` 6.29.
So, EPS of ABB Ltd. is increased by ` 1.29 (6.29 – 5.00)

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 Incito Academy – Final CA – Strategic Financial Management

Question 45
A Ltd., a listed company is considering merger of B ltd. Which is also a listed company,
with itself by means of a stock swap (exchange). B Ltd. has agreed to a plan under
which A Ltd. Will offer the current market value of B ltd. shares.

Additional Information:
Particulars A Ltd. B Ltd.
Earnings after Tax (`) 10,00,000 2,50,000
Number of Shares outstanding 4,00,000 2,00,000
Current market price (`) Per share 50 20

On the basis of above information, you are required to calculate the following:
i. What is the pre – merger Earnings per Share (EPS) and P/E ratios of both the
companies?
ii. If B Ltd.’s P/E is 10, what is its current market price per share? What is the
exchange ratio? What will A Ltd.’s post – merger EPS be?
iii. What must the exchange ratio be for A Ltd.’s Pre – merger and Post – merger
EPS to be same?
(Nov 19, 8 Marks)
Solution
i. Before Merger
A Ltd. B Ltd.
Earning after tax (`) 10,00,000 2,50,000
No. of shares outstanding 4,00,000 2,00,000
EPS ` 2.50 ` 1.25
Current Market Price/Share ` 50 ` 20
P/E Ratio 20 16

ii. If B Ltd.’s P/E Ratio is 10

Then, it’s Current Market Price = 10 X ` 1.25 = ` 12.50
Exchange Ratio = 12.50: 50 i.e. 1 share of A Ltd. for every 4 shares of B Ltd.
No. of shares to be issued = 50,000
A Ltd. Post-Merger EPS
Post-Merger Earning (10,00,000 + 2,50,000) ` 12,50,000
No. of Equity Shares after Merger (4,00,000 + 50,000) 4,50,000
EPS ` 2.78

iii. Calculation of Exchange Ratio for A Ltd.’s pre-merger and post-merger EPS
to be the same
Total earnings ` 12,50,000
= =
Pre-merger EPS of A Ltd. ` 2.50
= 5,00,000 shares
Now, number of shares to be issue to B Ltd.
= 5,00,000 – 4,00,000 = 1,00,000 shares
Therefore, the share exchange ratio is 1,00,000: 2,00,000 or 1:2. It means for
every two shares in B Ltd., one share should be issued from A Ltd.

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