Merger and acquisitions have emerged as chief forces in the contemporary financial and economic environment. They have been a source of corporate growth and in India, it has changed radically after the liberalization of Indian economy. Mergers and acquisitions came up as one of the most efficient methods of such corporate restructuring, and became an essential part of the long-term trade strategy of corporates in India.
The sole three chief objectives at the back any M&A transaction were found to be:
â€¢ Improving Profitability
â€¢ Rapid growth in scale and closer time to market
â€¢ Acquirement of new technology
Many in corporate India would be jealous of the Tata Group's strategy around mergers and acquisition. In the past 8 years, the Tata Group had made 35 overseas acquisitions, including coal and iron ore mines, adding up Rs 78,000 crore, mostly in the past 3 years.
To examine the consequence of going global through mergers and acquisitions and the trader's long term and short term earnings respectively. This would aid in studying the impact on companies financials past the merger or acquisition. To also determine the enterprise value of the corporation by comparing it with the peer group and studying the value of the firm
Objective of the study
To analyze the a thorough detailed case study of 3 companies of Tata Group who merged or acquired in the past years.
To evaluate the closing price of 3 companies previous to and post acquisition
To weigh up the key financial ratios of 3 companies pre and post acquisition
To do valuation of two companies through enterprise value and contrast the value with peer group and examine in detail
Review of literature
The following are the few existing studies reviewed which were conducted by researchers in the view of analyzing the financial performance during merger activity in different time periods.
The study entitled Effect of mergers on corporate performance in India, written by Vardhana Pawaskar (2001), studied the impact of mergers on corporate performance. It compared the pre- and post- merger operating performance of the corporations involved in merger between 1992 and 1995 to identify their financial characteristics. The study identified the profile of the profits. The regression analysis explained that there was no
increase in the post- merger profits. The study of a sample of firms, restructured through mergers, showed that the merging firms were at the lower end in terms of growth, tax and liquidity of the industry. The merged firms performed better than industry in terms of profitability.
Mansur.A.Mulla (2003) in his case study Forecasting the viability and operational efficiency by use of ratio analysis: A case study, assessed the financial performance of a textile unit by using ratio analysis. The study found that the financial health was never in the healthy zone during the entire study period and ratio analysis highlighted that managerial incompetence accounted for most of the problems. It also suggested toning up efficiency and effectiveness of all facets of management and put the company on a profitable footing.
Pramod Mantravadi and Vidyadhar Reddy (2007) in their research study Mergers and operating performance: Indian experience, attempted to study the impact of mergers on the operating performance of acquiring corporate in different periods in India, after the announcement of industrial reforms, by examining some pre- and post-merger financial ratios, with chosen sample firms, and all mergers involving public limited and traded
companies of nation between 1991 and 2003. The study results suggested that there are minor variations in terms of impact on operating performance following mergers in different intervals of time in India. It also indicated that for mergers between the same groups of companies in India, there has been deterioration in performance and
returns on investment.
A book entitled Mergers & acquisitions in the banking sector- The Indian scenario, written by Selvam. M (2007) has analyzed the implications of stock price reactions to mergers and acquisitions activities taken place in banking industry with special reference to private and public sector banks. The author has found from the analysis that the share prices are market sensitive. From the financial analysis it was observed that majority of the banks went for branch expansion and this has affected profitability to some extent and it resulted in unhealthy competition among the players.
To sum up the review of literature, many contributions have offered different perspectives of merger in different industries worldwide and explained the valuation techniques followed by merging companies, and shareholders wealth effect due to merger. From the review of many excellent research papers analyzing the pre and post merger performance of merged companies, it is inferred that majority of the studies strongly support the concept of enhanced post merger performance due to merger and it is beneficial to the acquirer companies.
Methodology of the study
There are several mergers within the TATA Group during the study period from
01.04.2006 to 31.03.2009. For the purpose of corporate analysis, it was decided to select two of the highest deals which merged within under the TATA Group during the study period. Hence, the sample size of this study is confined to 2. Besides, while
selecting the sample, following points were taken into account.
- Acquirer and target companies should belong to the same industry.
- Availability of merger date and industry information.
The details of sample companies, (Acquirer and Target), along with the date of merger and name of the Industry concerned are given in Table 1.
Period of the study
For the purpose of selecting sample companies, the present study covers a period of one year from April 1, 2006 to March 31, 2009. But in order to evaluate the financial performance of sample companies on a comparative basis, 15-20 days before merger and after merger were considered.
Sources of data
The present study basically depends on secondary data. The required data on financial performance before and after merger were collected and they were obtained from Prowess software, Internet sources, Business Journals (ICFAI JOURNAL ON M & A)
The data were also collected from books, journals, magazines and newspapers.
In order to study the liquidity performance of acquirer and target companies, ratios Debt-Equity Ratio, ROCE (%),net profit margin, P/E, EPS, OPM(%) and valuation.
(1) Analysis of financial performance
Empirical tests were carried out on the collected financial data with the help of ratio analysis, t-test and standard deviation. The pre-merger average performance of the acquirer and target companies were compared with the post- merger performance of the combined firm. The present study attempts to measure and analyze the pre and post merger performance of acquirer and target companies by using financial ratios in order to ascertain whether mergers resulted in shareholders wealth or not.
Accordingly, the following null hypothesis has been tested:
H0: The post merger financial performance of the combined firm is not significantly different from the aggregate performance of the acquirer and target companies prior to the merger.
Debt-Equity Ratio : A measure of a company's financial leverage calculated by dividingÂ its total liabilitiesÂ byÂ stockholders' equity. It indicates what proportion of equity and debt the company is using to finance its assets.
ROCE : ROCE compares earnings with capital invested in the company. It is similar to Return on Assets (ROA), but takes into account sources of financing
Net profit margin: The profit margin tells you how much profit a company makes for every1 Rupee it generates in revenue or sales. Profit margins vary by industry, but all else being equal, the higher a company's profit margin compared to its competitors, the better.
P/E: It is a measure of the price paid for a share relative to the annual net income or profit earned by the firm per share.
EPS: The portion of a company's profit allocated to each outstanding share of common stock.Â Earnings per shareÂ serves as an indicator ofÂ a company's profitability.
OPM: Operating margin is a measurement of the proportion of a company's revenue that is left over after variable costs of production such as wages, and raw materials have been paid. A healthy operating margin is required for a company to be able to pay for its fixed costs, such as interest on debt. Also known as operating profit margin and net profit margin.
(3) Enterprise Value
Enterprise value is a figure that, in theory, represents the entire cost of a company if someone were to acquire it. Enterprise value is a more accurate estimate of takeover cost than market capitalization because it takes includes a number of important factors such as preferred stock, debt, and cash reserves that are excluded from the latter metric.
ANALYSIS OF DATA
TATA GROUP OF COMPANIES
One of the India's largest business groups in the country. It has about 96 operating companies. Diverse business in 7 sectors. Revenues equivalent to 5.3% of India's GDP. Group revenue FY 2008: Rs 251,543 Cr. / $ 62.5 b. Group profit FY 2008: Rs 21,578 Cr. / $ 5.4 b .Its 27 publicly listed companies have a combined market capitalization which is the 2nd highest among all business houses in India. Largest employer in private sector over 300,000 employees. A shareholder base of over 2.9 million. Operations in over 80 countries. Products and services exported to 85 countries
Tata is a rapidly growing business group based in India with significant international operations. Revenues in 2007-08 are estimated at $62.5 billion (around Rs251, 543 crore), of which 61 per cent is from business outside India. The group employs around 350,000 people worldwide. The Tata name has been respected in India for 140 years for its adherence to strong values and business ethics.
The business operations of the Tata group currently encompass seven business sectors: communications and information technology, engineering, materials, services, energy, consumer products and chemicals.
The group's major companies are beginning to be counted globally.
Considering two of the largest mergers of TATA Group
-Tata Steel became the sixth largest steel maker in the world after it acquired Corus.
-Tata Communications is a leading global provider of a new world of communications. With a leadership position in emerging markets, Tata Communications leverages its advanced solutions capabilities and domain expertise across its global and pan-India network to deliver managed solutions to multi-national enterprises, service providers and Indian consumers.
About the acquisition
Date: - 30th March 2007
Acquirer: - Tata Steel Limited
Target company: - Corus Plc.
Stake: - 100 %
Deal amount: - US$ 12201 m
Sector: - Steel sector
On January 31, 2007, India based Tata Steel Limited (Tata Steel) acquired the Anglo Dutch steel company, Corus Group Plc (Corus) for US$ 12.20 billion. The merged entity, Tata-Corus, employed 84,000 people across 45 countries in the world. It had the capacity to produce 27 million tons of steel per annum, making it the fifth largest steel producer in the world as of early 2007.
Before the acquisition, the major market for Tata Steel was India. The Indian market accounted for sixty nine percent of the company's total sales. Almost half of Corus' production of steel was sold in Europe (excluding UK). The UK consumed twenty nine percent of its production.
After the acquisition, the European market (including UK) would consume 59 percent of the merged entity's total production.
DEAL : An auction was initiated on January 31, 2007, and after nine rounds of bidding, TATA Steel could finally clinch the deal with its final bid 608 pence per share, almost 34% higher than the first bid of 455 pence per share of Corus.
There were many likely synergies between Tata Steel, the lowest-cost producer of steel in the world, and Corus, a large player with a significant presence in value-added steel segment and a strong distribution network in Europe. Among the benefits to Tata Steel was the fact that it would be able to supply semi-finished steel to Corus for finishing at its plants, which were located closer to the high-value markets...
Though the potential benefits of the Corus deal were widely appreciated, some analysts had doubts about the outcome and effects on Tata Steel's performance. They pointed out that Corus' EBITDA (earnings before interest, tax, depreciation and amortization) at 8 percent was much lower than that of Tata Steel which was at 30 percent in the financial year 2006-07
COMPANY'S RETURN BEFORE AND AFTER ACQUISITION
As we can see from the line chart that the %cumulative abnormal return before acquisition was sharply decreasing since past month with not even a single glimpse of positive return on any single day.
But as soon as the acquisition took place, the earnings showed a marginal rise and again got back to the level where it was just before the acquisition. This happened due to very large debt generated due to overpaying by acquiring the Corus at a very high price of 608 pence per share as compared to previously valued 455 pence per share.
TATA Steel (31st Jan 2007)
Change ( %)
net profit margin
Debt equity ratio on post acquisition increase because Corus debt was high it was GBP1.6b to buy Corus and so its debt is almost 116% more than in pre acquisition. ROCE shows that post acquisition is very less as compared to pre acquisition it has negative percentage because company has short term returns after one year it will improve in the long run. Net profit margin has very less change as profit is not much affected. P/E increases in post acquisition by 30.2% which show high future cash flow. ROE is decreasing by 37.7 which show that it has more debt than equity. EPS has a very minor change. Operating profit margin is reduced by 9.1% which shows that it has low profit.
TATA COMMUNICATION-NTT DOCOMO
About the acquisition
Date: - 13th November 2008
Acquirer: - Ntt-Docomo
Target company: - Tata Teleservices Ltd.
Stake: - 26 %
Deal amount: - US$ 2700 m
Sector: - Tele-communication
Tata Teleservices has sold a stake of 26% to Japan's NTT DoCoMo. The deal value is $2.7 bn. Tata Tele has 30 million CDMA subscribers and is rolling out its GSM services. Some say the deal is over-valued and some say its not easy to put value on the fastest growing mobile market in the world. India is the fastest growing market second only to China. It adds 10mn subscribers every month. The current subscriber base stands at 300+million and is expected to be 700 million in 2012. That is almost double to today's numbers.
The Road ahead
Great deal it may be, but it has its risks. One reason is that telecom deals have been controversial in recent times. This goes back to late last year when the government sold pan-India licenses for $333 million apiece, amid a welter of controversy.
DoCoMo, in accordance with regulations of the Securities and Exchange Board of India, expects to make an open offer to acquire up to 20 per cent of outstanding equity shares of Tata Teleservices Maharashtra (TTML), a Tata telecommunication company, through a joint tender offer along with Tata Sons. TTSL and TTML through the Tata Indicom brand, have increased their combined share of the fast-growing Indian mobile market and their combined subscriber base now stands at over 30 million.
TTSL expects to leverage DoCoMo's expertise in the development and delivery of value-added services, where DoCoMo is a firmly established market leader.
TATA DOCOMO (13-11-08)
net profit margin
Debt equity ratio on post acquisition debt is increasing which shows company debt is increasing after merger. ROCE is constant it has not change much.Net profit margin increases by 11.10 as it income increases in post acquisition as compared to pre acquisition. P/E highly increases in post acquisition from 0 to 12%. ROE is decreasing by 1.53% which shows that it slightly more debt than equity. EPS is increasing drastically by 24.27% which is very profitable for investors. Operating profit margin is increased by 15.43% which shows that company profit margin is very fairly profitable.
COMPANY'S RETURN BEFORE AND AFTER ACQUISITION
The return of the target company Tata Communication has been very poor since the past 15 to 20 days before the acquisition but it almost got to break-even soon after the acquisition date. This sustained for the next 8 to 10 days but again got back into negative returns zone due to poor customer support to the newly entered Docomo brand in highly competitive communications market in India.
TATA MOTOR - JLR
About the acquisition
Date: - 27th March 2008
Acquirer: - Tata Motors Ltd
Target company: - Jaguar Land Rover
Stake: - 100 %
Deal amount: - US$ 2300m
Sector: - Automotive
Detailed Case Study
In June 2008, India-based Tata Motors Ltd. announced that it had completed the acquisition of the two iconic British brands - Jaguar and Land Rover (JLR) from the US-based Ford Motors for US$ 2.3 billion. Tata Motors stood to gain on several fronts from the deal. One, the acquisition would help the company acquire a global footprint and enter the high-end premier segment of the global automobile market. After the acquisition, Tata Motors would own the world's cheapest car - the US$ 2,500 Nano, and luxury marquees like the Jaguar and Land Rover. Though there was initial skepticism over an Indian company owning the luxury brands, ownership was not considered a major issue at all.
According to industry analysts, some of the issues that could trouble Tata Motors were economic slowdown in European and American markets, funding risks, currency risks etc.
Morgan Stanley reported that JLR's acquisition appeared negative for Tata Motors, as it had increased the earnings volatility, given the difficult economic conditions in the key markets of JLR including the US and Europe. Moreover, Tata Motors had to incur a huge capital expenditure as it planned to invest another US$ 1 billion in JLR. This was in addition to the US$ 2.3 billion it had spent on the acquisition. Tata Motors had also incurred huge capital expenditure on the development and launch of the small car Nano and on a joint venture with Fiat to manufacture some of the company's vehicles in India and Thailand. This, coupled with the downturn in the global automobile industry, was expected to impact the profitability of the company in the near future
In less than three years after its acquisition, Jaguar Land Rover has metamorphosed from a millstone around Tata Motors' neck into its crowning jewel. In the June 2010 quarter, JLR division accounted for nearly 70% of the company's net profit and over 60% of its revenues on the consolidated basis. This was more than what the market has expected and the stock is up by nearly 150% in the past two trading sessions.
JLR benefited from an improvement in its pricing power and a favourable exchange rate in the US dollar and the euro. The two worked in tandem and resulted in a sharp 60% jump in JLR revenue per unit to around £38,000 in June 2010 quarter compared to the £23,800 a year ago. With the raw material costs remaining benign, it led to a sharp improvement in the division's operating margin and its reported net profit of £221 million (`1,613.3 crore) in the first quarter as against a net loss of £64 million (`467 crore) a year ago.
TATA MOTORS(27- 03 2008)
net profit margin
Debt equity ratio is increasing by 42.27% as Tata took loan of banks to acquire JLR.ROCE increases vey high by 343.60% as compared to pre acquisition as it gauges that company that generate its earnings from the total pool of capital which indicates profitability.Net profit margin increases as it income increases in post acquisition as compared to pre acquisition. P/E highly decreases in post acquisition by 60.1% which in investor point of view they will be profitable to invest to get high earning. ROE is highly increasing by 480.15% which shows that it has more equity than debt. EPS is increasing drastically by 480.15% which is very profitable for investors. Operating profit margin is reduced by 41.44% which shows that company profit margin is very less.
COMPANY'S RETURN BEFORE AND AFTER ACQUISITION
As we can see from the line chart that the cumulative return before merger was negative and the entire trend is moving in the negative direction due to poor returns of tata motors.
A soon as the acquisition took place, the highly profit generating Jaguar as well as Land Rover added to the profit and earnings of the tata motors. The brand value of JLR added to the highly reputable Tata Group and the company's balance sheet. This can be clearly seen in the line chart above.
VALUATION AND INTERPRETATION
EV Multiples of Tata Corus
Tata Steel and Corus Group deal happened at high multiples compared to its peers. We can observe that the average multiples of the peer group company stands half compared to the deal multiples.
The average sales multiple of its peers is 1.17x compared to the deal of 0.68x of Corus Group's sales. This can be possible due to high sales value, reducing the multiple to 0.68x. The lowest multiple (Steel Authority of India) is at 0.73x.
EBITDA multiple of its peers averages at 4.38x compared to the deal multiple of 7.02x of Corus Group's sales. Even the highest multiple (Jindal Steel & Power) is at 4.38x. This is almost half of the deal multiple. It can be observed that Tata played very aggressively.
EBIT multiple of its peers averaged at 5.54x compared to the deal of 10.19x of Corus Group's sales. Even the highest multiple (Jindal Steel & Power) is at 8.39x.
The PE multiple of the deal is very high on the account that the margins of Corus are very low compared to Tata Steel and other peers. The average PE multiples is 7.95x compared to 68.23x at which the deal haapened.
EV Multiples of Tata NTT Docomo
The deal of Tata Teleservices and NTT Docomo happened at very high multiples. We can observe that the average multiples of the peer group company stands very low compared to the deal multiples.
The average sales multiple of its peers is 5.37x compared to the deal of 26.98x (as on 31st March, 2008) of Tata Teleservices's sales. Even the highest multiple (Reliance Communication) is at 9.24x. Thus we can conclude that Tata Teleservices got very good price for its stake dilution for NTT Docmo.
Again the average EBITDA multiple of its peers is very less, 16.35x compared to the deal of 99.81x (as on 31st March, 2008) of Tata Teleservices's sales. Even the highest multiple (Reliance Communication) is at 26.74x. This is a huge difference. NTT Docomo paid 6 times more what it should have paid to Tata.
EBIT multiple of its peers is 25.5x compared to the deal of 952.96x (as on 31st March, 2008) of Tata Teleservices's sales. Even the highest multiple (Reliance Communication) is at 41.02x.
The PE multiple for Tata Teleservices is negative as its net income is negative
Note: The multiples are high on account that Sales and the profitability of Tata Teleservices is low, inturn giving very high multiples. Its sales stands at Rs. 1,815.5 Cr. compared to the average sales of Rs. 11,490.6 Cr. of its peers.
FINDINGS FROM VALUATION OF ENTERPRISE VALUE MULTIPLE
Tata Steel and Corus Group deal happened at high multiples compared to its peers. We can observe that the average multiples of the peer group company stands half compared to the deal multiples. Even the highest multiple (Jindal Steel & Power) is at 4.38x. This is almost half of the deal multiple It can be observed that Tata played very aggressively as it paid high enterprise value as compared to our analysis. A reason for Corus to be sold is chance to Bail out of Debt and Financial stress. TATA Steel Paid 7.02 Times EBITDA of Corus Enterprise Value. The PE multiple of the deal is very high on the account that the margins of Corus are very low compared to Tata Steel and other peers the only company who has high P/E is Jindal steel.
Tata NTT Docomo
The deal of Tata Teleservices and NTT Docomo happened at very high multiples. We can observe that the average multiples of the peer group company stands very low compared to the deal multiples. The average sales multiple of its peers is 5.37x compared to the deal of 26.98x (as on 31st March, 2008) of Tata Teleservices's sales.
Even the highest multiple (Reliance Communication) is at 9.24x. Thus we can conclude that Tata Teleservices got very good price for its stake dilution for NTT Docomo. The PE multiple for Tata Teleservices is negative as its net income is negative. EBITDA multiple of its peers is very less, 16.35x compared to the deal of 99.81x (as on 31st March, 2008) of Tata Teleservices's sales. Even the highest multiple (Reliance Communication) is at 26.74x. This is a huge difference. NTT Docomo paid 6 times more what it should have paid to Tata. The multiples are high on account that Sales and the profitability of Tata Teleservices is low, in turn giving very high multiples. Its sales stands at Rs. 1,815.5 Cr. compared to the average sales of Rs. 11,490.6 Cr. of its peers.
Except Tata Steel- Corus deal, all the other 2 acquisitions was well accepted by not only well accepted by the owners of the company (the shareholders) but even made the entire Tata group come into the eyes of fortune 500 list. In-fact it ranked at 56th position at a global level in 2009
This study was undertaken to test what is the impact of mergers on the financials of acquiring corporate by examining some pre- merger and post-merger financial, in terms of impact on operating performance. The results from the analysis of pre- and post-merger operating performance ratios for the acquiring firms in the sample showed that there was a differential impact of mergers, for different industry sectors in India. Type of industry does seem to make a difference to the post-merger operating performance of acquiring firms.
Expansion through mergers and acquisition is one of the best ways for any domestic company to step outside the shores of India in an international market place and acquit itself as a global player
Company can turn into conglomerate in reasonably less time by capitalizing on its strengths of efficiency and effectiveness by acquiring relatively poor performing companies as TATA did in almost all its group of companies
Recent examples of companies which adopted similar pattern of expansion are Renuka Sugars, Arcelor Mittal, Reliance, Essar Group, Aditya Birla Group, etc.
One can study any of the above mentioned company and conclude that the key underlying decision of these companies expanding quickly and efficiently is their timely decision of merging and acquiring appropriate companies