Chapter 22 Corporate Restructuring

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Chapter 22Corporate Restructuring
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External Expansion
Merger Acquisition
Corporate Restructuring
Failure
Bankruptcy
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Types of Combinations

• Merger A B A
• Vertical Buyer-seller relationship
• Horizontal Compete directly
• Conglomerate Neither
• Geographic market
• Product extension FTC
• Pure
• Consolidation A B C
• Holding company
• Joint venture
• Acquisition Synonymous with merger

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Leveraged Buyout ( LBO )

• Buyer borrows most of the purchase price
• Purchased assets used as collateral
• Buyers frequently are the managers
• Anticipate CFs sufficient to service debt
• Reasonable ROI
• Sell assets to pay off debt
• Employee Stock Ownership Plan ( ESOP )
• Tax advantage

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• Stock Purchase
• Acquiring company buys the stock of the target
  company
• Assumes liabilities
• Asset Purchase
• Acquiring company buys assets of target company
• NO assumption of liabilities
• Tender Offer Hostile takeover
• Purchase the C/S of the merger candidate
• Offering price gt market price
• Induce shareholders to sell

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What Happens After a Merger ?

• Divestitures
• Part of the company sold for cash
• Spinoff
• Equity carve-out
• Restructurings
• Operational
• Financial

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Why Has Restructuring Been Increasing ?

• Failure of internal control mechanisms
• Unproductive investment
• Organizational inefficiencies
• Large active investors
• Available financing Junk bonds
• Long economic expansion
• Increased revenues
• Increased asset values

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Anti-Takeover Measures

• Standstill agreement
• Pacman defense
• Litigation
• Asset/Liability restructuring
• Greenmail

• Staggering board
• Golden parachutes
• Supermajority rule
• Poison pills
• White knight

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Boardmail

• Institutional investors use it to fight
  anti-takeover devices
• Requires the board of directors to adopt weaker
  anti-takeover measures
• In exchange for voting support from institutional
  owners
• Vote in sympathetic board members

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Why Do Companies Seek External Growth ?

• Less Expensive
• Economies of scale
• Vertical merger Availability
• Rapid growth
• Diversification
• Tax-loss carryforward

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Taxes on Mergers

• Cash or nonvoting securities
• Gains are taxable at the time of the merger
• Voting equity securities
• Tax-free

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Accounting for Mergers

• Purchase method
• Total value paid recorded on books
• Tangible assets at fair market value
• Excess as goodwill Not a tax-deductible
  expense
• Pooling-of-interest
• Assets recorded at book value
• No goodwill
• Higher NI No deduction for goodwill
• Not effective after January 1, 2001
• Goodwill
• Must be amortized
• Deducted from NI after taxes

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Valuation of a Merger Candidate

• Comparative P/E Ratio Method
• Examines prices and P/E ratios of similar
  companies
• Adjusted book value method
• Determine market value of the companys assets
• Discounted C/F method
• Capital budgeting techniques

Future free C/Fs
Risk-adjusted rate
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Cash
Terms of a Merger
Stock
Other Financial Instruments
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EPS of the Surviving Company

• E1 E2 E12
• EPSc
• NS1 NS2 ( ER )
• Post-merger price of C/S
• Post-merger P/E

Determined in the marketplace
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Failures

• Technically insolvent
• Unable to meet current obligations
• Legally insolvent
• Assets lt liabilities
• Bankrupt
• Unable to pay debts
• Files bankruptcy Fed bankruptcy laws

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Why Do Businesses Fail ?

• Business risk Symptoms
• Industry downturns
• Over expansion
• Inadequate sales
• Increased competition
• Technological change
• Financial risk Symptoms
• Leverage
• Too much S-T debt
• Poor management of A/R, A/P
• Incompetent management
• Fraud, Poor Strategies, Disasters

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Resolve its Difficulties
Failing Firm
Declare Bankruptcy
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Reorganization Vs Liquidation

• Reorganize if going-concern value exceeds its
  liquidation value
• Going-concern
• Liquidation
• Liquidate if liquidation value is more than its
  going-concern value

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Alternatives for C/F Problems

• Stretch A/P Buy a few weeks time
• Debt restructuring Voluntary
• Extension
• Composition
• Suppliers make concessions
• Sell off assets
• Real estate / operating divisions
• Sale and leaseback
• Creditors committee
• Assignment Liquidation outside bankruptcy

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Chapter 11
(Reorganization)
U. S. Bankruptcy Laws
Chapter 7
(Liquidation)
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Chapter 11

• Seek protection from creditors
• Attempt to work out a plan of reorganization
• Debtor has 120 days to work out plan of
  reorganization
• Court may appoint trustee to run the business
• Reorganization plan must be approved
• Court
• Creditors
• SEC Review for fairness and feasibility
• Companys security holders
• 2/3 of dollar amount of debtholders
• Majority of number of debtholders

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Prepackaged Bankruptcy

• Agreed to by 51 of creditors and 2/3 of debt
  before filling under Chapter 11
• Prepack can speed a firm through the bankruptcy
  process in a few months

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Chapter 7

• Court selects a referee
• Handles the administrative procedures
• Arranges a meeting of the creditors
• Creditors select a trustee
• To liquidate the business
• Distribute the proceeds
• According to Chapter 7 priorities

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Priorities

• Debts satisfied from sale of secured assets
• Administration expenses
• Business expenses After petition before trustee
• Wages owed Three months prior
• Contributions to employee benefit plans
• Customer lay-away deposits
• Taxes owed
• General /unsecured claims Creditors
• P/S and finally C/S holders

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Chapter 7 Bankruptcy

• Accomplishes three important tasks
• Provides safeguards against fraud by the debtor
• Provides for an equitable distribution of the
  debtors assets among the creditors
• Allows insolvent debtors to discharge all their
  obligations and to start new businesses
  unhampered by previous debt

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Conclusion

• Mergers Acquisitions
• Accounting for Mergers
• Reorganization
• Chapter 11
• Bankruptcy
• Chapter 7