Intricacies of Corporate Actions -Final

INTRICACIESINTRICACIES

OF OF

CORPORATE ACTIONSCORPORATE ACTIONS

CORPORATE ACTIONSCORPORATE ACTIONS Why Analysis ? Why Analysis ?

DefinitionDefinition

SignificanceSignificance

What is Ex – Date ?What is Ex – Date ? What is Record – Date ?What is Record – Date ? Types:Types:

DefinitionsDefinitions Objectives Objectives Compliance Compliance Chronological Steps Chronological Steps Accounting Accounting Financials Financials

Why Analysis:Why Analysis:

When a publicly-traded company issues a corporate action, it is When a publicly-traded company issues a corporate action, it is initiating a process that will bring actual change to its stock. By initiating a process that will bring actual change to its stock. By understanding these different types of processes and their understanding these different types of processes and their effects, an investor can have a clearer picture of what a effects, an investor can have a clearer picture of what a corporate action indicates about a company's financial affairs corporate action indicates about a company's financial affairs and how that action will influence the company's share price and and how that action will influence the company's share price and performance. This knowledge, in turn, will aid the investor in performance. This knowledge, in turn, will aid the investor in determining whether to buy or sell the stock in question. It is to determining whether to buy or sell the stock in question. It is to be remembered that the every corporate action would have an be remembered that the every corporate action would have an impact on the prices of the shares in the financial markets but impact on the prices of the shares in the financial markets but not necessarily always in the form of quantum of securities to be not necessarily always in the form of quantum of securities to be traded or outstanding. traded or outstanding.

Definition:Definition:

Corporate Actions means any event that brings material change Corporate Actions means any event that brings material change to a company and affects its shareholders interest in the to a company and affects its shareholders interest in the company. This includes shareholders, both common and company. This includes shareholders, both common and preferred, as well as bondholders of the company. These events preferred, as well as bondholders of the company. These events are generally approved by the company’s Board of Directors; are generally approved by the company’s Board of Directors; there are also some instances where the governing act would there are also some instances where the governing act would require the permission of the affected class of the stakeholders require the permission of the affected class of the stakeholders by way of ordinary or special resolution in general meeting. by way of ordinary or special resolution in general meeting.

Significance:Significance:

As these Corporate Actions have a direct impact on the market prices of As these Corporate Actions have a direct impact on the market prices of the listed security which in turn affects the shareholders wealth, it tends the listed security which in turn affects the shareholders wealth, it tends to catch up the attention of analyst for valuation of securities and to to catch up the attention of analyst for valuation of securities and to predict the performance of the stock in future. Almost all corporate predict the performance of the stock in future. Almost all corporate actions are objective driven which is to be elicited. It is also important actions are objective driven which is to be elicited. It is also important from the point of view of the future plans of the company.from the point of view of the future plans of the company.

ExEx – Date: – Date:

It is the date when the company's stock would be traded after fully It is the date when the company's stock would be traded after fully absorbing the effect of the corporate action i.e. the security would be absorbing the effect of the corporate action i.e. the security would be traded on the exchanges without having a entitlement to the purchaser traded on the exchanges without having a entitlement to the purchaser the benefit of the corporate actions. the benefit of the corporate actions.

RecordRecord Date: Date:

It is the date which is declared for the purpose of entitlement of the It is the date which is declared for the purpose of entitlement of the corporate action. The purchaser of the common stock of the company corporate action. The purchaser of the common stock of the company till this date would have the entitlement for the corporate action and the till this date would have the entitlement for the corporate action and the purchaser of the security post this date wont have an entitlement for the purchaser of the security post this date wont have an entitlement for the benefit of the corporate action. In a way we can say that the after this benefit of the corporate action. In a way we can say that the after this date corporate actions wont have any bearing on the security. date corporate actions wont have any bearing on the security.

Types:Types:

The following are the major corporate actions which The following are the major corporate actions which are proposed to be covered in this exercise.are proposed to be covered in this exercise.

• Dividends Dividends • Bonus Issue Bonus Issue • Rights Issue Rights Issue • Mergers and AcquisitionMergers and Acquisition• Spin-offsSpin-offs• Buy BackBuy Back• Stock SplitsStock Splits

Dividend:Dividend: Definition: Definition:

Dividend can be defined as share in the profits of the company which is distributed Dividend can be defined as share in the profits of the company which is distributed among the shareholders with reference to their participating eligibility according to among the shareholders with reference to their participating eligibility according to the terms of issue under which they have been issued. It is declared per share or in the terms of issue under which they have been issued. It is declared per share or in percentage terms e.g. Rs. 3/- dividend for every one share held or 30% dividend on percentage terms e.g. Rs. 3/- dividend for every one share held or 30% dividend on shares bearing face value of Rs. 10/-. It is to be remembered that the dividends are shares bearing face value of Rs. 10/-. It is to be remembered that the dividends are declared on the basis of face value of shares and not on the basis of subscription or declared on the basis of face value of shares and not on the basis of subscription or the purchase value. There are three types of dividend which can be narrated as the purchase value. There are three types of dividend which can be narrated as follows: follows:

Cash Dividend:Cash Dividend:

Most common in type of sharing corporate profits these are paid in real cash. This is Most common in type of sharing corporate profits these are paid in real cash. This is in form the Investment income and usually taxable in the year of receipt. in form the Investment income and usually taxable in the year of receipt.

Stock Dividend:Stock Dividend:

This are issued in the form of securities which increases the capital base of the This are issued in the form of securities which increases the capital base of the company without changing the market capitalization as widening of capital base of company without changing the market capitalization as widening of capital base of the company is compensated by the lowering the market price of the shares. In the company is compensated by the lowering the market price of the shares. In India securities cannot be issued in lieu of dividend but the investors can be given India securities cannot be issued in lieu of dividend but the investors can be given an option to either opt for the cash/stock dividend. an option to either opt for the cash/stock dividend.

Property Dividend: Property Dividend:

Very rare in nature of sharing the corporate profits which is distributed out of the Very rare in nature of sharing the corporate profits which is distributed out of the assets of the issuing corporation. Property dividends are usually paid in the form of assets of the issuing corporation. Property dividends are usually paid in the form of products or services provided by the corporation. products or services provided by the corporation.

Objectives:Objectives:

The primary purpose of any business is to The primary purpose of any business is to earn profit for its owners, and the dividend earn profit for its owners, and the dividend is the most important way the business is the most important way the business fulfills this purpose.fulfills this purpose.

When a company earns a profit, some of When a company earns a profit, some of this money is typically reinvested in the this money is typically reinvested in the business and called retained earnings, and business and called retained earnings, and some of it can be paid to its shareholders as some of it can be paid to its shareholders as a dividend.a dividend.

Paying dividends reduces the amount of Paying dividends reduces the amount of cash available to the business, but the cash available to the business, but the distribution of profit to the owners is, after distribution of profit to the owners is, after all, the purpose of the business.all, the purpose of the business.

AccountingAccounting::

The dividend is always declared out of the profits of The dividend is always declared out of the profits of the company, it may be out of the current profits or the company, it may be out of the current profits or the past profits i.e. reserves and surplus. Financial the past profits i.e. reserves and surplus. Financial statements would reflect Proposed Dividend as the statements would reflect Proposed Dividend as the current liability and the profits of the company would current liability and the profits of the company would be reduced to that extend in the liability side of the be reduced to that extend in the liability side of the balance sheet. After the declaration payment of the balance sheet. After the declaration payment of the dividend the cash would be reduced to the extent of dividend the cash would be reduced to the extent of amount paid by the company to the shareholders and amount paid by the company to the shareholders and correspondingly the proposed dividend would be correspondingly the proposed dividend would be reduced by the same amount. The example of the reduced by the same amount. The example of the dividend declaration in the accounting form can be dividend declaration in the accounting form can be narrated as follows:narrated as follows:

Suppose a company has 1.5 crores outstanding Suppose a company has 1.5 crores outstanding equity shares of face value Rs. 10 each. The company equity shares of face value Rs. 10 each. The company declares the 50% as dividend and the company has declares the 50% as dividend and the company has the profit for the year amounting to Rs. 12.5 crores. the profit for the year amounting to Rs. 12.5 crores. The company’s balance sheet would look like as The company’s balance sheet would look like as under:under:

As the dividend is proposed to the tune of Rs. 7.5 As the dividend is proposed to the tune of Rs. 7.5 crores it immediately became the current liability of crores it immediately became the current liability of the company and will be shown in the balance sheet. the company and will be shown in the balance sheet. Correspondingly the reserves of the company gets Correspondingly the reserves of the company gets reduced from Rs. 12.5 crores to Rs. 5 crores because reduced from Rs. 12.5 crores to Rs. 5 crores because of the dividend. After distribution of the dividend of the dividend. After distribution of the dividend current liability of proposed dividend is nil and there current liability of proposed dividend is nil and there is corresponding decrease in cash to the tune of is corresponding decrease in cash to the tune of

Rs. 7.5 crores. Rs. 7.5 crores.

FinancialsFinancials: :

It has been observed that an increase in the dividend is often It has been observed that an increase in the dividend is often accompanied by an increase in the price of the stock, while accompanied by an increase in the price of the stock, while dividend cut generally leads to a stock price decline. The dividend cut generally leads to a stock price decline. The companies in practice appear to place great emphasis on the last companies in practice appear to place great emphasis on the last year’s dividend when deciding the current year’s dividend. year’s dividend when deciding the current year’s dividend. Dividends are changed in line with expected future net cash flows. Dividends are changed in line with expected future net cash flows.

Changes in dividend policy may convey information to the stock Changes in dividend policy may convey information to the stock market. An increase in the dividends is likely to be interpreted as market. An increase in the dividends is likely to be interpreted as good news and cut as bad news. The dividend skip is considered good news and cut as bad news. The dividend skip is considered as very bad news. as very bad news.

But it not every time that the company’s dividend cut is seen as But it not every time that the company’s dividend cut is seen as bad. For example if the sector to which the company belong is not bad. For example if the sector to which the company belong is not performing well and the particular company gives the returns performing well and the particular company gives the returns better than the industry standards the companies share price may better than the industry standards the companies share price may increase as a result of the comparative better performance.increase as a result of the comparative better performance.

Likewise the dividend skip may not be seen as bad if the company Likewise the dividend skip may not be seen as bad if the company has a growth and diversification plans and it is holding back the has a growth and diversification plans and it is holding back the profits for the purpose of financing the same. profits for the purpose of financing the same.

Bonus Issue:Bonus Issue:

DefinitionDefinition::

It can be defined as a distribution of retained earnings It can be defined as a distribution of retained earnings to the shareholders in the form of securities of the to the shareholders in the form of securities of the company with no extra cost to them. It is the company with no extra cost to them. It is the capitalization of profits of the company. It cannot be capitalization of profits of the company. It cannot be issued in lieu of dividend in India as per the Securities issued in lieu of dividend in India as per the Securities Exchange Board of India Guidelines. Exchange Board of India Guidelines.

ObjectivesObjectives::

The following would be the objectives behind the bonus The following would be the objectives behind the bonus issue of the companies: issue of the companies:

• Large accumulation of reserves without having any foreseeable Large accumulation of reserves without having any foreseeable use use

• To stabilize the stock exchange prices of sharesTo stabilize the stock exchange prices of shares• Reward to shareholders for their association with the company Reward to shareholders for their association with the company

• It may indicate that the company has the wider capital It may indicate that the company has the wider capital

servicing capability. servicing capability.


As mentioned earlier the bonus shares are to be As mentioned earlier the bonus shares are to be issued out of accumulated profits, it involves issued out of accumulated profits, it involves reduction in the reserves and surplus portion of the reduction in the reserves and surplus portion of the liability side and increase in the share capital portion. liability side and increase in the share capital portion. This can be explained with the following example: This can be explained with the following example:

A company having 1 crore outstanding shares A company having 1 crore outstanding shares decides to declare the bonus issue in the ratio of 2:1. decides to declare the bonus issue in the ratio of 2:1. The face value of the shares is Rs. 10 and the The face value of the shares is Rs. 10 and the reserves and surplus as on the latest date of balance reserves and surplus as on the latest date of balance sheet are amounting to Rs. 10 crores. Now the sheet are amounting to Rs. 10 crores. Now the subscribed portion of the equity capital would subscribed portion of the equity capital would increase by Rs. 5 crores and reserves and surplus increase by Rs. 5 crores and reserves and surplus would decrease by equivalent amount. This can also would decrease by equivalent amount. This can also be lucidly explained in the following form: be lucidly explained in the following form:

As the bonus shares are issued the amount equivalent to the bonus sharesface value is transferred to share capital account from reserves and surplus to the tune of Rs. 5 crores.


It is the capitalization of the reserves of the company It is the capitalization of the reserves of the company and involves issuing the fresh shares to the and involves issuing the fresh shares to the shareholders without involving the any cash in return, shareholders without involving the any cash in return, it involves widening the capital base of the company it involves widening the capital base of the company hence would result in reducing the market price of hence would result in reducing the market price of the share which purely an adjustment without the share which purely an adjustment without involving any difference in the shareholders wealth as involving any difference in the shareholders wealth as the increase in the number of shares are the increase in the number of shares are compensated by the reduction of the price of the compensated by the reduction of the price of the shares in the financial markets. shares in the financial markets.

The price of the bonus scrip would show an increasing The price of the bonus scrip would show an increasing trend because of buying of shares for the purpose of trend because of buying of shares for the purpose of bonus entitlement but it won’t rise appreciably as the bonus entitlement but it won’t rise appreciably as the investors would take into consideration the bonus investors would take into consideration the bonus effect on their investment and the valuation of the effect on their investment and the valuation of the scrip and would apply a discount for the purpose of scrip and would apply a discount for the purpose of current purchase. current purchase.

Rights Issue: Rights Issue:

DefinitionDefinition: :

It is an offering of the company’s common stock to existing It is an offering of the company’s common stock to existing shareholders who holds subscription rights or pre – emptive rights shareholders who holds subscription rights or pre – emptive rights that entitle them to buy newly issued shares at a discount that entitle them to buy newly issued shares at a discount compared to the price at which they will be offered to public later. compared to the price at which they will be offered to public later. It is right given to the shareholder, which is to be exercised within a It is right given to the shareholder, which is to be exercised within a specific period of time. The right given to the shareholders can also specific period of time. The right given to the shareholders can also be renounced (transferred) in favour other person. It is in be renounced (transferred) in favour other person. It is in proportion to the existing shareholding of the holders. It can also be proportion to the existing shareholding of the holders. It can also be combined with the general public offer and the rights component combined with the general public offer and the rights component can be offered at discount or lesser price. can be offered at discount or lesser price.


There may be various objectives for rights issue by the company There may be various objectives for rights issue by the company but one of the leading reasons behind the same can be it reduces but one of the leading reasons behind the same can be it reduces the flotation cost of the issue which is of great magnitude in case of the flotation cost of the issue which is of great magnitude in case of public offerings. One of the other reasons can be the company may public offerings. One of the other reasons can be the company may not want to dilute their present holdings to the outsiders, not want to dilute their present holdings to the outsiders, assumingly all the shareholders exercise their right entitlement to assumingly all the shareholders exercise their right entitlement to the fullest extent shareholding pattern pre and post issue remains the fullest extent shareholding pattern pre and post issue remains unchanged. Rights issue is normally proposed by the company to unchanged. Rights issue is normally proposed by the company to increase the shareholding of the promoters group. increase the shareholding of the promoters group.


Accounting for the rights issue is at the same footing as for any Accounting for the rights issue is at the same footing as for any other public issue of securities. The nominal value of the shares other public issue of securities. The nominal value of the shares would be credited to the share capital account and the premium would be credited to the share capital account and the premium if any would be credited to the securities premium account. This if any would be credited to the securities premium account. This can be shown with the help of following example. can be shown with the help of following example.

A company having the outstanding shares amounting to Rs. 2 A company having the outstanding shares amounting to Rs. 2 crores having the face value of Rs. 10/- the company decides to crores having the face value of Rs. 10/- the company decides to offer rights shares to its existing shareholders in the ration of 2:1 offer rights shares to its existing shareholders in the ration of 2:1 and pass necessary resolution. The current market price of the and pass necessary resolution. The current market price of the share is Rs. 25 and the shares are offered to the shareholders share is Rs. 25 and the shares are offered to the shareholders with the premium of Rs. 12. The securities premium account as with the premium of Rs. 12. The securities premium account as on the date of the issue amounts to Rs. 1 crore.on the date of the issue amounts to Rs. 1 crore.

The entries in the balance sheet would look like as follows pre The entries in the balance sheet would look like as follows pre and post rights issue. and post rights issue.

What happened is the share capital of the company has increased What happened is the share capital of the company has increased fromRs.2 crores to Rs.3 crores i.e. the nominal amount of shares fromRs.2 crores to Rs.3 crores i.e. the nominal amount of shares and the securities premium increased from Rs. 1 crore to Rs.2.4 and the securities premium increased from Rs. 1 crore to Rs.2.4 crores and to set off this at asset side there is an increase in cash.crores and to set off this at asset side there is an increase in cash.

FinancialsFinancials::

The rights issue involves increase in the outstanding The rights issue involves increase in the outstanding shares in the financial market and hence would lead to shares in the financial market and hence would lead to increase in the capital base of the company and increase in the capital base of the company and resultantly decrease in the market price of the share. resultantly decrease in the market price of the share. The Rights issue is normally resorted as an anti The Rights issue is normally resorted as an anti takeover strategy, as the shares are issued at discount takeover strategy, as the shares are issued at discount to the existing shareholders it leads to the creation of to the existing shareholders it leads to the creation of the large capital base of the company and hence the large capital base of the company and hence acquirer finds acquiring controlling interest very acquirer finds acquiring controlling interest very difficult. difficult.

So when the company issues the rights shares at a price So when the company issues the rights shares at a price less than the current market price of the shares, the less than the current market price of the shares, the difference between the market price and the offered difference between the market price and the offered price is the value of the right. When the company price is the value of the right. When the company decides to go for the rights issue what happens is decides to go for the rights issue what happens is market price of the shares fall to the extent of the value market price of the shares fall to the extent of the value of the right as the capital base would be widening but of the right as the capital base would be widening but not at corresponding price levels. not at corresponding price levels.

Mergers and Acquisitions: Mergers and Acquisitions: DefinitionDefinition: :

A merger can be defined as the fusion or absorption of one thing or right into A merger can be defined as the fusion or absorption of one thing or right into another. It may also be understood as an arrangement, whereby the assets of two another. It may also be understood as an arrangement, whereby the assets of two (or more) companies become vested in, or under control of one company (which (or more) companies become vested in, or under control of one company (which may or may not be one of the original two companies) which has as its may or may not be one of the original two companies) which has as its shareholders all or substantially all, the shareholders of the two companies. shareholders all or substantially all, the shareholders of the two companies.

ObjectivesObjectives:: The key determinants for success in the global markets are the ability to achieve The key determinants for success in the global markets are the ability to achieve size, scale, integration and greater financial strength and flexibility, in the interest size, scale, integration and greater financial strength and flexibility, in the interest of maximizing overall shareholders value. Mergers acquisitions are strategic of maximizing overall shareholders value. Mergers acquisitions are strategic decisions leading to the maximization of a company’s growth by enhancing its decisions leading to the maximization of a company’s growth by enhancing its production and marketing operations, enhanced competition, breaking of trade production and marketing operations, enhanced competition, breaking of trade barriers, free flow of capital, globalization of business etc. Following may be cited barriers, free flow of capital, globalization of business etc. Following may be cited as objectives of M&A.as objectives of M&A.

• To limit competition To limit competition • To utilize under utilize market power To utilize under utilize market power • To overcome the problem of slow growth and profitability in ones own industryTo overcome the problem of slow growth and profitability in ones own industry• To achieve diversificationTo achieve diversification• To gain economies of scale and increase in income with proportionately less To gain economies of scale and increase in income with proportionately less

investment investment • To establish a transitional bridgehead without excessive startup costs to gain To establish a transitional bridgehead without excessive startup costs to gain

access to foreign marketaccess to foreign market• To utilize under utilized resources – human, physical and managerial skills To utilize under utilized resources – human, physical and managerial skills • To displace existing managementTo displace existing management• To circumvent government regulationsTo circumvent government regulations• To reap speculative gains attendant upon new security issue or change P/E ratioTo reap speculative gains attendant upon new security issue or change P/E ratio• To create an image of aggressiveness and strategic opportunism, empire To create an image of aggressiveness and strategic opportunism, empire

building and amass vast economic powers of the company.building and amass vast economic powers of the company.


The accounting depends upon the nature of transaction i.e. The accounting depends upon the nature of transaction i.e. whether amalgamation is in nature of merger or it is in nature whether amalgamation is in nature of merger or it is in nature of the purchase. There are two methods of accounting one is of the purchase. There are two methods of accounting one is pooling of interest method and another is termed as the pooling of interest method and another is termed as the purchase method of accounting.purchase method of accounting.

In the pooling of interest method of accounting all the assets In the pooling of interest method of accounting all the assets and liabilities of the merging company gets aggregated in one and liabilities of the merging company gets aggregated in one balance sheet. Only the share capital remains the distinct part balance sheet. Only the share capital remains the distinct part depending upon the share exchange ratio decided in the depending upon the share exchange ratio decided in the negotiations. The difference between the assets and liabilities is negotiations. The difference between the assets and liabilities is adjusted in the reserves and surplus of the company.adjusted in the reserves and surplus of the company.

In the purchase method of accounting only those assets and In the purchase method of accounting only those assets and liabilities are considered which are agreed to be taken over by liabilities are considered which are agreed to be taken over by the purchasing company. The other assets are left to the the purchasing company. The other assets are left to the vendor company. The difference between the assets & liabilities vendor company. The difference between the assets & liabilities taken over and the purchase consideration is adjusted against taken over and the purchase consideration is adjusted against the goodwill or capital reserves as the case may be. the goodwill or capital reserves as the case may be.

Here in example all the assets and liabilities of the two companies got clubbed into the one Here in example all the assets and liabilities of the two companies got clubbed into the one company but the company A and B will have the different percentage of holding because of company but the company A and B will have the different percentage of holding because of difference in the purchase consideration.difference in the purchase consideration.


When the mergers are announced there are short When the mergers are announced there are short term and long term implication on the post merger term and long term implication on the post merger performance. In short run there would be a positive performance. In short run there would be a positive effect on the stock prices if the acquisition takes effect on the stock prices if the acquisition takes place in the high valuation markets and negative place in the high valuation markets and negative when it takes place in the low valuation markets. But when it takes place in the low valuation markets. But the effects are only in short run as the stock valuation the effects are only in short run as the stock valuation in the market don’t go beyond what the value created in the market don’t go beyond what the value created after the synergy benefits in the long run. after the synergy benefits in the long run.

In the long run scenario is quite different; if the In the long run scenario is quite different; if the acquisition takes place the low valuation market or acquisition takes place the low valuation market or low economic growth scenario then the post merger low economic growth scenario then the post merger effects are positive as the value can be achieved in effects are positive as the value can be achieved in the long run because of the synergy benefits. The the long run because of the synergy benefits. The reverse is the case when the acquisition takes place reverse is the case when the acquisition takes place in the high valuation markets. in the high valuation markets.

Normally cash acquisitions are more beneficial than the stock Normally cash acquisitions are more beneficial than the stock as the post merger outstanding shares are less in number as the post merger outstanding shares are less in number corresponding to the earning levels of the combined entity. So corresponding to the earning levels of the combined entity. So the servicing capacity to the shareholders would be more when the servicing capacity to the shareholders would be more when compared to the stock acquisitions. compared to the stock acquisitions.

When a firm acquires another entity, there usually is a When a firm acquires another entity, there usually is a predictable short-term effect on the stock price of both predictable short-term effect on the stock price of both companies. In general, the acquiring company's stock will fall companies. In general, the acquiring company's stock will fall while the target company's stock will rise. (Please note, we are while the target company's stock will rise. (Please note, we are generalizing here - there can be exceptions to this rule.). In a generalizing here - there can be exceptions to this rule.). In a special case it may so happen that when the shareholders of special case it may so happen that when the shareholders of the acquiring company feels that the post merger price earning the acquiring company feels that the post merger price earning ratio of the merged entity will be equal to or more than the ratio of the merged entity will be equal to or more than the current level then it is likely that the price of the acquirer current level then it is likely that the price of the acquirer company's share would be stable or rise. company's share would be stable or rise.

The reason the target company's stock usually goes up is that The reason the target company's stock usually goes up is that the acquiring company typically has to pay a premium for the the acquiring company typically has to pay a premium for the acquisition: unless the acquiring company offers more per share acquisition: unless the acquiring company offers more per share than the current price of the target company's stock, there is than the current price of the target company's stock, there is little incentive for the current owners of the target to sell their little incentive for the current owners of the target to sell their shares to the acquirer company.shares to the acquirer company.

The acquiring company's stock usually goes down for a number of The acquiring company's stock usually goes down for a number of reasons. First, as we mentioned above, the acquiring company reasons. First, as we mentioned above, the acquiring company must pay more than the target company's current worth to make must pay more than the target company's current worth to make the deal go through. Beyond that, there are often a number of the deal go through. Beyond that, there are often a number of uncertainties involved with acquisitions. Here are some of the uncertainties involved with acquisitions. Here are some of the problems the acquirer company could face during an acquisition:problems the acquirer company could face during an acquisition:

• A A turbulent integration process: problems associated with turbulent integration process: problems associated with

integrating different workplace cultures integrating different workplace cultures

• Lost productivity because of management power struggles Lost productivity because of management power struggles

• Additional debt or expenses that must be incurred to make the Additional debt or expenses that must be incurred to make the purchase purchase

• Accounting issues that weaken the takeover company's Accounting issues that weaken the takeover company's financial position, including restructuring charges and goodwillfinancial position, including restructuring charges and goodwill

We should emphasize that what we've discussed here does not We should emphasize that what we've discussed here does not touch on the long-term value of the acquiring company's stock. If touch on the long-term value of the acquiring company's stock. If an acquisition goes smoothly, it will obviously be good for the an acquisition goes smoothly, it will obviously be good for the acquiring company in the long run.acquiring company in the long run.

The target company would be willing to accept the acquisition only The target company would be willing to accept the acquisition only when the its Price Earning Ratio is better off than at the current when the its Price Earning Ratio is better off than at the current level and the acquirer company would try to at least offer their level and the acquirer company would try to at least offer their shareholders the pre merger Price Earning ratio. shareholders the pre merger Price Earning ratio.

SpinSpin OffsOffs: :

DefinitionDefinition::

Spin off occur when a new company is formed for the purpose of taking Spin off occur when a new company is formed for the purpose of taking over the residual division of one or more of existing companies. It is a over the residual division of one or more of existing companies. It is a type of rearrangement of the business which is in line of amalgamation type of rearrangement of the business which is in line of amalgamation but here the companies split in the sense that the segments of the but here the companies split in the sense that the segments of the companies are segregated. The spin offs are exactly opposite of companies are segregated. The spin offs are exactly opposite of amalgamation or merger.amalgamation or merger.


The following are the two basic objectives that why the company would The following are the two basic objectives that why the company would go for the spin off:go for the spin off:

• To concentrate on the core business of the company To concentrate on the core business of the company • As a anti takeover deviceAs a anti takeover device

The company might want while spinning off its division to concentrate The company might want while spinning off its division to concentrate on the main area of the business through a separate entity so as not to on the main area of the business through a separate entity so as not to be burdened by the other costs which are not associated with the be burdened by the other costs which are not associated with the segment getting spin off. It may also spun off the division when it think segment getting spin off. It may also spun off the division when it think off the product does not match with the other product portfolio of the off the product does not match with the other product portfolio of the company. company. Another objective is that the company might spin off its one division so Another objective is that the company might spin off its one division so as to tackle hostile takeover threat from the rival companies. as to tackle hostile takeover threat from the rival companies.


In the spin off the as far as the accounting is concern In the spin off the as far as the accounting is concern the assets and liabilities of the division spun off the assets and liabilities of the division spun off would be separated from the main company. As in would be separated from the main company. As in the case of merger the assets and liabilities may be the case of merger the assets and liabilities may be transferred at the book value or at the agreed value transferred at the book value or at the agreed value by the both of the companies to the merged entity.by the both of the companies to the merged entity.

This is exactly opposite to the merger of the two This is exactly opposite to the merger of the two companies. In this form only assets and liabilities companies. In this form only assets and liabilities belonging to the spun off segment are transferred to belonging to the spun off segment are transferred to the new company. The shareholders of the existing the new company. The shareholders of the existing company get the shares of the de - merged company company get the shares of the de - merged company in the some pre determined share exchange ratio. in the some pre determined share exchange ratio. Suppose the 50% of the company’s assets have been Suppose the 50% of the company’s assets have been demerged by the scheme the effect would look like demerged by the scheme the effect would look like as follows:as follows:

If the segment accounting for 50% of the assets of the If the segment accounting for 50% of the assets of the company gets demerged then he liabilities representing company gets demerged then he liabilities representing those assets would also be transferred to the demerged those assets would also be transferred to the demerged company.company.


As discussed earlier demerger is carried out when the As discussed earlier demerger is carried out when the company wants to focus on its core competencies and try company wants to focus on its core competencies and try to isolate its core business from the existing company to isolate its core business from the existing company which operates in multiple businesses which are quite which operates in multiple businesses which are quite unrelated to each other.unrelated to each other.

The shares valuation in the stock market of the spun off The shares valuation in the stock market of the spun off company will depend upon its earning potential and the company will depend upon its earning potential and the future growth prospects. The segment reports of the future growth prospects. The segment reports of the division spun off can be a indicator of the stock division spun off can be a indicator of the stock performance in the future. If the division spun off is the performance in the future. If the division spun off is the profit making and because of the demerger the level of the profit making and because of the demerger the level of the earnings and the cash flow would be at rise then we can earnings and the cash flow would be at rise then we can say that the stock would perform good in the future. say that the stock would perform good in the future.

Normally the rule applies that the price of the stock would Normally the rule applies that the price of the stock would show the series of the cash flows which are to be expected show the series of the cash flows which are to be expected in the future. So if the cash flow projections of the in the future. So if the cash flow projections of the demerged entity are up to the mark when compared to its demerged entity are up to the mark when compared to its book value of the assets then we can say that the stock book value of the assets then we can say that the stock price would be attractive for the purpose of investment and price would be attractive for the purpose of investment and it would certainly create value for the shareholders. it would certainly create value for the shareholders.

BuyBuy BackBack: :


It is a financial strategy that allows company to buy back its It is a financial strategy that allows company to buy back its equity shares and other specified securities, including securities equity shares and other specified securities, including securities issued to employees of the company pursuant to scheme of issued to employees of the company pursuant to scheme of stock option or sweat equity.stock option or sweat equity.

ObjectivesObjectives: :

• To facilitate reduction of capital without recourse to the To facilitate reduction of capital without recourse to the lengthy and time consuming process of court confirmation. lengthy and time consuming process of court confirmation.

• Creation of liquidity in a company’s share capital and Creation of liquidity in a company’s share capital and providing an exit route, where shares are unlisted, or to providing an exit route, where shares are unlisted, or to encourage investment in a unlisted company by agreeing to encourage investment in a unlisted company by agreeing to purchase shares subscribed for at a later date. purchase shares subscribed for at a later date.

• Reducing floating stock of company’s securities in the market Reducing floating stock of company’s securities in the market and improving the net asset value per share attributable to the and improving the net asset value per share attributable to the remaining equity.remaining equity.

• Proper and judicious deployment of the company’s finances by Proper and judicious deployment of the company’s finances by investing the same in the purchase of its own securities investing the same in the purchase of its own securities

• Maintaining shareholders value in a situation of poor state of Maintaining shareholders value in a situation of poor state of secondary market by return of surplus cash to the secondary market by return of surplus cash to the shareholdersshareholders

• Countering hostile takeovers.Countering hostile takeovers.


As far as the accounting part is concerned As far as the accounting part is concerned buy back involves the reduction of the share buy back involves the reduction of the share capital of the company. So the amount equal capital of the company. So the amount equal to the nominal amount of the share capital to the nominal amount of the share capital redeemed is to be transferred to the capital redeemed is to be transferred to the capital redemption reserve or if the country in which redemption reserve or if the country in which the physical destruction and cancellation of the physical destruction and cancellation of the securities is not mandatory then the securities is not mandatory then reduction in the share capital and premium reduction in the share capital and premium paid if any would be represented by the paid if any would be represented by the Investment in the treasury stocks. This can Investment in the treasury stocks. This can be explained with the help of the following be explained with the help of the following example:example:

A company having 10 lacs outstanding equity shares decides by A company having 10 lacs outstanding equity shares decides by board resolution to buy back its 20% stock from the market. The board resolution to buy back its 20% stock from the market. The buy back is to be financed out of the reserves of the company buy back is to be financed out of the reserves of the company which stood at Rs. 10 crores. The buy back is at Rs. 125 per which stood at Rs. 10 crores. The buy back is at Rs. 125 per share. The accounting entries would be shown as follows: share. The accounting entries would be shown as follows:

The effect would be the company would transfer the nominal The effect would be the company would transfer the nominal value of the shares to be bought back to the capital redemption value of the shares to be bought back to the capital redemption reserve and the premium is to be financed through the reserve and the premium is to be financed through the securities premium account. So Rs 2 crores would be transferred securities premium account. So Rs 2 crores would be transferred to the capital redemption reserve and premium of Rs. 4.5 crores to the capital redemption reserve and premium of Rs. 4.5 crores is to be financed through the securities premium account and is to be financed through the securities premium account and there would be corresponding decrease in the cash account by there would be corresponding decrease in the cash account by Rs. 4.5 cores. In this case the shares bought back would Rs. 4.5 cores. In this case the shares bought back would extinguished and won’t be traded in the stock exchange i.e. extinguished and won’t be traded in the stock exchange i.e. they wont be outstanding.they wont be outstanding.

If the company decides to keep the bought back shares as If the company decides to keep the bought back shares as investment then the treatment would be different as the shares investment then the treatment would be different as the shares are to be shown as investment in the balance sheet of the are to be shown as investment in the balance sheet of the company. So in this case investment in the own shares would be company. So in this case investment in the own shares would be shown at the actual cost i.e. Rs. 2.5 cores and the share capital shown at the actual cost i.e. Rs. 2.5 cores and the share capital would be the same as the shares are not extinguished and the would be the same as the shares are not extinguished and the reserves would also be intact. But the cash account would be reserves would also be intact. But the cash account would be reduced by Rs. 2.5 cores as the investment in the own share reduced by Rs. 2.5 cores as the investment in the own share shares is financed through the cash account. shares is financed through the cash account.


The buy back of shares is obliviously a corporate action The buy back of shares is obliviously a corporate action which drives the share prices of the company upwards; it which drives the share prices of the company upwards; it is so because the company would be paying the price for is so because the company would be paying the price for buying its own shares more than the prevailing market buying its own shares more than the prevailing market price. If it don’t then there would be a no surrender of the price. If it don’t then there would be a no surrender of the shares from the existing shareholders of the company. It shares from the existing shareholders of the company. It reduces the number of outstanding shares in the financial reduces the number of outstanding shares in the financial markets and improves the earning per share of the markets and improves the earning per share of the company and in turn improves the price earning ratio company and in turn improves the price earning ratio which drives the market prices of the shares upwards.which drives the market prices of the shares upwards.

It leads to the reduction in the capital base of the It leads to the reduction in the capital base of the company normally it is done because the promoters may company normally it is done because the promoters may want acquire the better control over the company or to want acquire the better control over the company or to counteract the takeover threat. The one of the important counteract the takeover threat. The one of the important reason also can be if the company is overcapitalized it is a reason also can be if the company is overcapitalized it is a burden as the company have to service wide capital base burden as the company have to service wide capital base and in turn it affects its profitability, so it may decide to and in turn it affects its profitability, so it may decide to return the capital which is not required for time being. return the capital which is not required for time being.

Stock Split:Stock Split:


A stock split is said to have taken place when A stock split is said to have taken place when company by resolution in general meeting reduces company by resolution in general meeting reduces the denomination of its nominal share capital in the denomination of its nominal share capital in smaller sums. It is a corporate action which increases smaller sums. It is a corporate action which increases the outstanding shares of the public company.the outstanding shares of the public company.

ObjectivesObjectives: :

Companies often split their stocks when they believe Companies often split their stocks when they believe the price of their stock exceeds the amount smaller the price of their stock exceeds the amount smaller individual investors would be willing to pay for the individual investors would be willing to pay for the stock. By reducing the price of the stock, companies stock. By reducing the price of the stock, companies try to make their stock more affordable to the try to make their stock more affordable to the investors. The stock splits also tend to increase the investors. The stock splits also tend to increase the liquidity and the bid ask spread of the stock. liquidity and the bid ask spread of the stock.


Stock split do not have any effect on Stock split do not have any effect on the balance sheet figures as only the the balance sheet figures as only the number and amount per share varies number and amount per share varies and the amount of share capital and the amount of share capital remains the same. So only the value remains the same. So only the value per share is to be reduced and the per share is to be reduced and the number of shares outstanding needs to number of shares outstanding needs to be increased in the financial statements be increased in the financial statements of the company post stock split. of the company post stock split.


As the name implies, a stock split divides each of the As the name implies, a stock split divides each of the outstanding shares of a company, thereby lowering the price outstanding shares of a company, thereby lowering the price per share - the market will adjust the price on the day the per share - the market will adjust the price on the day the action is implemented. A stock split, however, is a non-event, action is implemented. A stock split, however, is a non-event, meaning that it does not affect a company's equity, or its meaning that it does not affect a company's equity, or its market capitalization. Only the number of shares outstanding in market capitalization. Only the number of shares outstanding in the market change, so a stock split does not directly change the the market change, so a stock split does not directly change the value or net assets of a company.value or net assets of a company.

A company announcing a 2-for-1 (2:1) stock split, for example, A company announcing a 2-for-1 (2:1) stock split, for example, will distribute an additional share for every one outstanding will distribute an additional share for every one outstanding share, so the total shares outstanding will double. If the share, so the total shares outstanding will double. If the company had 50 shares outstanding, it will have 100 after the company had 50 shares outstanding, it will have 100 after the stock split. At the same time, because the value of the company stock split. At the same time, because the value of the company and its shares did not change, the price per share will drop by and its shares did not change, the price per share will drop by half. So if the pre-split price was $100 per share, the new price half. So if the pre-split price was $100 per share, the new price will be $50 per share.will be $50 per share.

So why would a firm issue such an action? More often than not, So why would a firm issue such an action? More often than not, the board of directors will approve (and the shareholders will the board of directors will approve (and the shareholders will authorize) a stock split in order to increase the liquidity of the authorize) a stock split in order to increase the liquidity of the shares in the financial markets. shares in the financial markets.

The result of the 2-for-1 stock split in our example above is two-The result of the 2-for-1 stock split in our example above is two-fold: (1) the drop in share price will make the stock more fold: (1) the drop in share price will make the stock more attractive to a wider pool of investors, and (2) the increase in attractive to a wider pool of investors, and (2) the increase in available shares outstanding on the stock exchange will make available shares outstanding on the stock exchange will make the stock more available to interested buyers. So do keep in the stock more available to interested buyers. So do keep in mind that the value of the company, or its market capitalization mind that the value of the company, or its market capitalization (shares outstanding x market price/share), does not change, (shares outstanding x market price/share), does not change, but the greater liquidity and higher demand on the share will but the greater liquidity and higher demand on the share will typically drive the share price up, thereby increasing the typically drive the share price up, thereby increasing the company's market capitalization and the value. company's market capitalization and the value.

A split can also be referred to in percentage terms. Thus, a 2 for A split can also be referred to in percentage terms. Thus, a 2 for 1 (2:1) split can also be termed a stock split of 100%. A 3 for 2 1 (2:1) split can also be termed a stock split of 100%. A 3 for 2 split (3:2) would be a 50% split, and so on. A reverse split might split (3:2) would be a 50% split, and so on. A reverse split might be implemented by a company that would like to increase the be implemented by a company that would like to increase the price of its shares. If a $1 stock had a reverse split of 1 for 10 price of its shares. If a $1 stock had a reverse split of 1 for 10 (1:10), holders would have to trade in 10 of their old shares for (1:10), holders would have to trade in 10 of their old shares for one new one, but the stock would increase from $1 to $10 per one new one, but the stock would increase from $1 to $10 per share (retaining the same market capitalization). A company share (retaining the same market capitalization). A company may decide to use a reverse split to shed its status as a "penny may decide to use a reverse split to shed its status as a "penny stock". Other times companies may use a reverse split to drive stock". Other times companies may use a reverse split to drive out small investors.out small investors.

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Intricacies of Corporate Actions -Final