1. BASIC CONCEPTS OF CORPORATE
RESTRUCTURING

2. What is Corporate Restructuring?
Any change in a company’s:
1. Capital structure,
2. Operations, or
3. Ownership
that is outside its ordinary course of
business.

3. Why Engage in
Corporate Restructuring?
•
•
•
•
•
•
•
•
Sales enhancement and operating economies
Improved management
Information effect
Wealth transfers
Tax reasons
Leverage gains
Hubris hypothesis
Management’s personal agenda

4. Operational
restructuring
Workforce
reduction
Joint venture /
Strategic alliance
Merger/
Consolidation
Takeover
Acquisition of
stock
Acquisition of
assets
Corporate
restructuring
Leveraged
Recapitalization
Recapitalization
Dual Class
Recapitalization
Share repurchase
Exchange Offer
Financial
restructuring
Inside Bankruptcy
Reorganization
/Liquidation
Going Private /
Leveraged Buyout
Outside
Bankruptcy
Divestiture/ spin
off/ Carve out

5. Varieties of Takeovers
Takeover: transfer of
control over a firm from
one group of shareholders
to another
Merger
Acquisition
Takeovers
Acquisition of Stock
Proxy Contest
Acquisition of Assets
Going Private
(LBO)

6. Forms of Acquisitions
• Merger or consolidation
– Merger: absorption of one firm by another; the
acquiring firm retains its name and identity
– Consolidation: creation of an entirely new firm
• Acquisition of stock
– Purchase of the firm’s voting stock in exchange for
cash or shares (e.g. by means of a tender offer)
• Acquisition of assets
– Buying all of the target’s assets, which requires a
formal vote of the shareholders of the selling firm

7. Classifications Mergers and
Acquisitions
1.
Horizontal
•
•
2.
Vertical
•
•
3.
A merger in which one firm acquires a supplier or another firm that
is closer to its existing customers.
Often in an attempt to control supply or distribution channels.
Conglomerate
•
•
4.
A merger in which two firms in the same industry combine.
Often in an attempt to achieve economies of scale and/or scope.
A merger in which two firms in unrelated businesses combine.
Purpose is often to ‘diversify’ the company by combining
uncorrelated assets and income streams
Cross-border (International) M&As
•
A merger or acquisition involving a local and a foreign firm - either
the acquiring or target company.
15 - 7

8. Divestiture/ Spin off/ Carve out
• Divestiture: the sale of a segment of a company to a third
party
• Spin-offs—a pro-rata distribution by a company of all its
shares in a subsidiary to all its own shareholders
• Equity carve-outs—some of a subsidiary' shares are offered
for sale to the general public
• Split-offs—some, but not all, parent-company shareholders
receive the subsidiary's shares in return for which they
must relinquish their shares in the parent company
• Split-ups—all of the parent company's subsidiaries are spun
off and the parent company ceases to exist
• Tracking Stock—special stock issued as dividend: pays a
dividend based on the performance of a wholly-owned
division

9. Strategic Alliance
• Strategic Alliance -- An agreement between
two or more independent firms to cooperate
in order to achieve some specific commercial
objective.
• Strategic alliances usually occur between (1)
suppliers and their customers, (2) competitors
in the same business, (3) non-competitors
with complementary strengths.

10. Strategic Alliance
• Strategic alliance (or teaming agreement):
parties work together on a single project for a
finite period of time
– Do not exchange equity
– Do not create permanent entity to mark
relationship
– Written memorandum of understanding (MOU):
memorializes strategic alliance and sets forth how
parties plan to work together

11. Joint Venture
• A joint venture is a business jointly owned and
controlled by two or more independent firms.
Each venture partner continues to exist as a
separate firm, and the joint venture
represents a new business enterprise.

12. Joint Venture
• Joint venture: parties work together for lengthy
or indeterminate period of time
– Form new, third entity
– Divide ownership and control of new
entity, determine who will contribute what resources
– Advantage: two entities can remain focused on their
core businesses while letting joint venture pursue the
new opportunity
– Downside: governance issues and economic fairness
issues create friction and eventual disbandment

13. Going Private
• A public corporation is transformed into a
privately held firm
• The entire equity in the corporation is
purchased by management, or management
plus a small group of investors
• Can be done in several ways:
– "Squeeze-out"—controlling shareholders of the firm buy up the
stockholding of the minority public shareholders
– Management Buy-Out—management buys out a division or
subsidiary, or even the entire company, from the public shareholders
– Leveraged Buy-Out (LBO)

14. Going Private
• Going Private -- Making a public company
private through the repurchase of stock by
current management and/or outside private
investors.
• The most common transaction is paying
shareholders cash and merging the company
into a shell corporation owned by a private
investor management group.
• Treated as an asset sale rather than a merger.

15. Motivation for Going Private
Motivations:
• Elimination of costs associated with being a publicly held firm
(e.g., registration, servicing of shareholders, and legal and
administrative costs related to SEC regulations and reports).
• Reduces the focus of management on short-term numbers to
long-term wealth building.
• Allows the realignment and improvement of management
incentives to enhance wealth building by directly linking
compensation to performance without having to answer to the
public.

16. Motivation for Going Private
Motivations (Offsetting Arguments):
• Large transaction costs to investment bankers.
• Little liquidity to its owners.
• A large portion of management wealth is tied up in
a single investment.

17. Leverage Buyout (LBO)
LBO is a transaction in which an investor group acquires a
company by taking on an extraordinary amount of
debt, with plans to repay the debt with funds generated
from the company or with revenue earned by selling off the
newly acquired company's assets
• Leveraged buy-out seeks to force realization of the firm’
potential value by taking control (also done by proxy fights)
• Leveraging-up the purchase of the company is a
"temporary" structure pending realization of the value
• Leveraging method of financing the purchase permits
"democracy" in purchase of ownership and control--you
don't have to be a billionaire to do it; management can buy
their company.

18. Leverage Buyout (LBO)
• Leverage Buyout (LBO) -- A primarily debt
financed purchase of all the stock or assets of a
company, subsidiary, or division by an investor
group.
• The debt is secured by the assets of the
enterprise involved. Thus, this method is
generally used with capital-intensive businesses.
• A management buyout is an LBO in which the
pre-buyout management ends up with a
substantial equity position.

19. Corporate Financial Restructuring
Why Restructure?
Proactive
Management acts to
preserve or
enhance
shareholder value
Defensive
Management acts to
protect
company, stakehold
ers and
management from
change in control
Distress
Lenders and
shareholders
lose, but try to work
out best way to
minimize loss

20. A Simple Framework
• A company is a “nexus of contracts” with
shareholders, creditors, managers, employees,
suppliers, etc.
• Restructuring is the process by which these
contracts are changed – to increase the value
of all claims.
• Applications:
– restructuring creditor claims;
– restructuring shareholder claims ;
– restructuring employee claims

21. Valuation is a Key to Unlock Value
•
•
•
•
Value with and without restructuring
Consider means and obstacles
Who gets what?
Minimum is liquidation value
Valuation
Going Concern
After Restructuring
Liquidation

22. Getting the Financing Right
Step 1: The Proportion of Equity &
Debt
Debt
Equity
Achieve lowest
weighted average
cost of capital
May also affect the
business side

23. Getting the Financing Right
Step 2: The Kind of Equity & Debt
Short term? Long term?
Baht? Dollar? Yen?
Debt
Equity
Bonds? Asset-backed?
Convertibles? Hybrids?
Debt/Equity Swaps?
Private? Public?
Strategic partner?
Domestic? ADRs?
Ownership & control?

24. Capital Structure: Optimal Range?
VALUE
OFTHE
FIRM
Optimal debt ratio?
DEBT
RATIO

25. Leveraged Recapitalization
• Strategy where a company takes on significant
additional debt with the purpose of paying a
large dividend (or repurchasing shares)
• Result is a far more leveraged company -usually in excess of the "optimal" debt
capacity
• After the large dividend has been paid, the
market value of the shares will drop.

26. Exchange Offers
• Give one or more classes of claimholders the
option to trade their holdings for a different
class of securities of the firm.
• Typical examples are allowing common
shareholders to exchange their shares for
bonds or preferred stock,
• Or vice-versa
• Motivations?

27. Reorganization Processes
• Out-of-court negotiated settlement
– Firm continues
• Exchange: equity for debt
• Extension: pay later
• Composition: creditors agree to take less
– Firm ceases to exist: assignee liquidates assets and distibutes proceeds on a
pro-rate basis
• Merger into another firm (which assumes or pays off debt)
– Continues as subsidiary
– Absorbed into other operations
• Formal legal proceedings
– Firm continues: Ch 11, court supervises composition or modification of
claims
– Firm ceases to exist
• Statutory assignment: assignee liquidates assets under formal legal procedures
• Ch 7 liquidation: bankruptcy court supervises liquidation

28. When Default Threatens,
Value the Company
Highest Valuation of Company?
Merged Value
Sale to Strategic Buyer
Going Concern Value
Auction
Voluntary Reorganization
Existing Management
Ch 11 Reorganization
New Management
Liquidation Value
Voluntary Liquidation
Ch 7

29. SHARE REPURCHASES
• Share repurchases are cash offers for
outstanding shares of common stock
• Share repurchases change the book capital
structure of the firm by reducing the amount
of common stock
• Leverage ratio increases because the amount of
common stock is reduced

30. SHARE REPURCHASES
• Management incentives
– Share repurchases increase the percentage ownership of the
firm for nonparticipants such as officers and directors
– Incentives of officers and directors to think as owners will be
strengthened
– Reduce agency problems
• Management responsibility
– Returning excess cash to shareholders may demonstrate that
officers and directors acted in the best interest of
shareholders
– Shareholders' trust in their officers and directors is
strengthened because excess funds were not used for
negative NPV investments

31. SHARE REPURCHASES
– Undervaluation signal
• Non-participation of officers and directors in buyback
programs may signal that stock price is undervalued
• Cash flows are likely to increase in the future
– Greater flexibility
• Market rewards a history of consistent increases in dividends
and punishes company that fails to do so
– Patterns of dividend behavior by individual firms are established
over time
– Earnings rise with fluctuations while dividends increase in a stair
step fashion with a lag behind growth in cash flows
• In share repurchases, the expectation is that cash will be
returned to shareholders when funds are available in excess
of needs to finance sound investment programs

32. SHARE REPURCHASES
• Takeover defenses
– Share repurchase price may be viewed more favorably
than takeover price
– Share repurchase may cause takeover bidders to offer a
higher premium
• When a firm tenders for 10% or 20% of its shares, shareholders
who offer their shares are those with the lowest reservation prices
• Shareholders who did not tender have the highest reservation
prices
• In order for takeover bidder to succeed, he must offer a higher
premium to the remaining higher reservation price shareholders
• Required higher premium may deter potential bidders

33. Fixed Price Tender Offers
• Tender offer
– Company sets number of shares it is offering to
purchase
– Company sets price at which it will repurchase
shares
– Company sets period of time offer will be open
– Officers and directors of repurchasing firm do
not participate in tender offer

34. • Tender price
– Average 20% over prevailing market price
– Tendering shareholders receive full tender offer
price
• Tendering shareholders pay no brokerage fees
• Company pays any transfer taxes levied
• Number of shares
– Offer specifies maximum number of shares the
firm will buy

35. – If oversubscription
• Company may buy pro rata basis from all tendering
shareholders up to a maximum
• Company may buy all tendered shares
– If undersubscription
• Company buys all shares tendered
• Company may cancel offer if it includes a minimum
acceptance clause
• Company may extend offer period
• Company purchases shares offered during extension
period either pro rata or on basis of order in which
shares are offered

36. Dutch Auction Repurchases (DARs)
• Implementation
– Firm specifies number of shares and range of
prices for share repurchase
– Shareholders can tender shares at any price
within stated range
– Firm puts together shareholder responses into
supply schedule curve for the stock

37. – Firm repurchases shares at lowest price
(purchase price) that allows it to buy number of
shares it sought in offer
– Purchase price is paid to all shareholders who
tendered at or below purchase price
– If oversubscribed — firm purchases shares
tendered on pro rata basis

38. Transferable Put Rights (TPRs)
• Implementation
– Firm issues put options to shareholders in
proportion to number of shares owned
– If firm wishes to repurchase 10% of outstanding
shares, it gives shareholders 1 TPR per 10 shares
owned
– Each TPR gives shareholder right to sell one share
back to firm at fixed price within specified period

39. – All shares put back to firm are repurchased —
no prorationing occurs
– Shareholders that do not wish to sell shares
back to firm can sell their TPRs in open market
– If significant premium of put price over
prevailing market price
• TPRs have value
• Trading in TPRs will take place
• TPR trading can discover market clearing
price of shares company seeks to repurchase

40. BUSINESS COMBINATIONS

41. BUSINESS COMBINATIONS
• Mergers and Consolidations:
– Two firms join and integrate operations
• Acquisitions:
– One firm buys a controlling interest in another
firm with the intent to make the other firm a
subsidiary of the acquiring firm.
• Hostile Takeovers:
– Acquisition bid is unsolicited.
– Generally results in incumbent management
being removed.

42. Forms of Business Combinations
AA Company
AA Company
BB Company
(a) Statutory Merger
AA Company
CC Company
BB Company
(b) Statutory Consolidation
AA Company
AA Company
BB Company
BB Company
(c) Stock Acquisition

43. Forms of Business Combinations
Statutory Merger
• A statutory merger is a combination of two or
more firms in which all but one cease to exist
legally; the combined organization continues
under the original name of the surviving firm.
• The operations of the previously separate
companies are carried on in a single legal
entity

44. Forms of Business Combinations
Statutory Merger
• In a typical merger, shareholders of the target
firm—after voting to approve the merger—
exchange their shares for those of the
acquiring firm.
• Those not voting in favor (minority
shareholders) are required to accept the
merger and exchange their shares for those of
the acquirer.

45. Forms of Business Combinations
Statutory Consolidation
• In a statutory consolidation, all entities that are
consolidated are dissolved during the formation
of the new company, which usually has a new
name.
– In a merger, either the acquirer or the target survives.
• The assets and liabilities of the combining
companies are transferred to a newly created
corporation
• Combination of Daimler Benz and Chrysler to
form DaimlerChrysler in 1999

46. Forms of Business Combinations
Stock Acquisition
• One company acquires the voting shares of another
company and the two companies continue to
operate as separate, but related, legal entities.
• The acquiring company accounts for its ownership
interest in the other company as an investment.
• Parent–subsidiary relationship
• For general-purpose financial reporting, a parent
company and its subsidiaries present consolidated
financial statements that appear largely as if the
companies had actually merged into one.

47. Determining the Type of Business
Combination
AA Company invests in BB Company
Acquires net
assets
Acquires stock
Yes
Acquired company
liquidated?
No
Record as statutory
merger or statutory
consolidation
Record as stock
acquisition and
operate as subsidiary

48. Forms of Business Combinations
• Statutory mergers and acquisitions may be
effected through acquisition of stock as well as
through acquisition of net assets.
• To complete a statutory merger or
consolidation following an acquisition of
stock, the acquired company is liquidated and
only the acquiring company or a newly
created company remains in existence.

49. Methods of Effecting Business
Combinations
• Friendly- managements of companies involved come
to agreement on the terms of the combination and
recommend approval by the stockholders.
– A single transaction involving exchange of assets or voting
shares
• Hostile takeover- managements of the companies
involved are unable to agree on the terms of a
combination and the management of one of the
companies makes a tender offer directly to the
shareholders of the other company to “tender” their
shares for securities or the assets of the acquiring
company.

50. Obtaining Control
A business combination can be effected by one
company acquiring either the assets or the
voting stock of another company:
• Purchase assets of an existing company
– May assume liabilities as well
• Purchase > 50% of outstanding voting stock of
another company
– Parent/subsidiary relationship

51. Accounting for Control
• Purchase of “net assets”
– Acquiring company records assets/liabilities purchased
in its own ledger.
– Selling company distributes to its shareholders the
assets or securities received in combination from the
acquiring company and liquidates, leaving only the
acquiring company as the surviving legal entity.
• Acquisition of stock
– Acquiring company (parent) records a single
“investment” account
– Parent and subsidiary remain separate legal entities
– Parent/subsidiary financial statements are combined
(consolidated).

52. Basic Issues in Combinations
(continued)
• Purchase versus pooling
– Purchase is group asset acquisition at
market values
– Pooling was merging of accounts at
book value

53. Purchase Method - Valuation
• All assets and liabilities are recorded at Fair
Market Value.
– First identify and value tangible assets
– Next identify and value intangible assets
• Goodwill - Price paid in excess of Fair Market
value of the net assets.

54. Basic Purchase: Example with
Goodwill
Acquisitions Company purchases net assets of
Johnson Company:
• Net assets (per books) = Rs.148,000
• Purchase price = Rs.350,000 cash
• Direct acquisition costs = Rs.10,000
• Fair value (current appraisal) of net assets =
Rs.297,000
• Goodwill = Rs.63,000
– Cost Rs.360,000 less Rs.297,000 fair value

55. Example: Johnson Company
Net Asset Values
Assets
Book Value
Fair Value
28,000
40,000
10,000
40,000
20,000
15,000
Accounts receivable
Inventory
Land
Buildings (net)
Equipment (net)
Patent
Copyright
Goodwill
Total Assets
20,000
173,000
28,000
45,000
50,000
80,000
50,000
30,000
40,000
0
323,000
Liabilities & Equity
Current liabilities
Bonds payable
Total liabilities
5,000
20,000
25,000
5,000
21,000
26,000
148,000
297,000
Net assets
-

56. Entry to Record Purchase
Accounts Receivable
Inventory (fair value)
Land (fair value)
Building (fair value)
Equipment
Patent
Copyright
Goodwill (based on current price)
Current liabilities
Bonds payable
Bonds payable premium (to fair value)
Cash
28,000
45,000
50,000
80,000
50,000
30,000
40,000
63,000
5,000
20,000
1,000
360,000

57. Basic Purchase: Example with Goodwill
Purchased with Stock
• Assume same facts as in prior example.
• Acquisitions Company issues Rs.1 par value
common stock for the Rs.350,000 purchase
price.
Calculation of shares required:
Fair value of shares = Rs.50
Shares required = 7,000 (Rs.350,000 / Rs.50)

58. Entry to Record Purchase
Accounts Receivable
Inventory (fair value)
Land (fair value)
Building (fair value)
Equipment
Patent
Copyright
Goodwill (based on current price)
Current liabilities
Bonds payable
Bonds payable premium (to fair value)
Cash
Common Stock (7,000 x Rs.1)
Paid-in Capital in Excess of Par
28,000
45,000
50,000
80,000
50,000
30,000
40,000
63,000
5,000
20,000
1,000
10,000
7,000
343,000

59. Entry for Johnson, Inc. (Seller)
Investment in Acquisitions Company Stock 350,000
Current liabilities
5,000
Bonds payable
20,000
Accounts receivable
28,000
Inventory
40,000
Land
10,000
Buildings
40,000
Equipment
20,000
Patent
15,000
Goodwill
20,000
Gain on Sale of Business
202,000

60. COMMON MOTIVATIONS FOR
MERGERS AND ACQUISITIONS

61. 1) Synergy
• Synergy is the notion that the combination of
two businesses creates greater shareholder
value than if they are operated separately.
– Operating Synergy
• Economies of Scale
• Economies of Scope
– Financial Synergy – lowering the cost of capital

62. Operating Synergy
• Economies of scale refer to the spreading of
fixed costs over increasing production levels.
• Economies of scope refer to using a specific
set of skills or an asset currently employed in
producing a specific product or service to
produce related products or services,
– cheaper to combine multiple product lines in one
firm than to produce them in separate firms.

63. Financial Synergy
• Reduction in the cost of capital of the acquiring
firm, or the newly formed firm, resulting from the
merger or acquisition.
• The cost of capital could be reduced if the
merged firms have cash flows that do not move
up and down in tandem (i.e., so-called
coinsurance), realize financial economies of scale
from lower securities issuance and transactions
costs, or result in a better matching of investment
opportunities with internally generated funds.

64. 2) Diversification
• Buying firms outside of a company’s current
primary lines of business is called
diversification
– Diversification may create financial synergy that
reduces the cost of capital, or
– it may allow a firm to shift its core product lines or
markets into ones that have higher growth
prospects, even ones that are unrelated to the
firm’s current products or markets.

65. 2) Diversification
Products Current
Markets
Current
Lower Growth /
Lower Risk
New
Higher
Growth/Higher
Risk (Related
Diversification)
New
Higher Growth/ Higher
Risk (Related
Diversification)
Highest Growth/
Highest Risk
(Unrelated
Diversification)

66. 3) Strategic Realignment
• Firms use M&As to make rapid adjustments to changes
in their external environments.
• Regulatory Change: Those industries that have been
subject to significant deregulation in recent yearsfinancial
services, healthcare, utilities, media, telecommunicatio
ns, -have been at the center of M&A activity, because
deregulation breaks down artificial barriers and
stimulates competition.
• Technological Change: Technological advances create
new products and industries.
– Large companies view M&A as a fast and sometimes less
expensive way to acquire new technology

67. 4) Hubris and the “Winner’s Curse”
• Acquirers may tend to overpay for targets,
having been overoptimistic when evaluating
synergies.
• Competition among bidders also is likely to
result in the winner overpaying because of
hubris, even if significant synergies are
present.

68. 5) Buying Undervalued Assets: The qRatio
• The q-ratio is the ratio of the market value of
the acquiring firm’s stock to the replacement
cost of its assets.
• Firms interested in expansion can choose to
invest in new plant and equipment or obtain
the assets by acquiring a company with a
market value less than what it would cost to
replace the assets (i.e., a market-to-book or qratio that is less than 1).

69. 6) Mismanagement
• Agency problems arise when there is a difference
between the interests of current managers and the
firm’s shareholders.
– These managers, who serve as agents of the
shareholder, may be more inclined to focus on their own
job security and lavish lifestyles than on maximizing
shareholder value.
– Mergers often take place to correct situations where there
is a separation between what managers and owners
(shareholders) want. Low stock prices put pressure on
managers to take actions to raise the share price or
become the target of acquirers, who perceive the stock to
be undervalued and who are usually intent on removing
the underperforming management of the target firm.
• Agency problems also contribute to managementinitiated buyouts, particularly when managers and
shareholders disagree over how excess cash flow

70. 7) Managerialism
• The managerialism motive for acquisitions
asserts that managers make acquisitions for
selfish reasons, be it to add to their
prestige, to build their spheres of influence, to
augment their compensation, or for selfpreservation.

71. 8) Tax Considerations
• Tax benefits, such as loss carry forwards and
investment tax credits, can be used to offset
the taxable income of firms that combine
through M&As.
• Acquirers of firms with accumulated losses
may use them to offset future profits
generated by the combined firms. Unused tax
credits held by target firms may also be used
to lower future tax liabilities.

72. 8) Tax Considerations
• Additional tax shelters (i.e., tax savings) are
created due to the purchase method of
accounting, which requires the book value of the
acquired assets to be revalued to their current
market value for purposes of recording the
acquisition on the books of the acquiring firm.
– The resulting depreciation of these generally higher
asset values reduces the amount of future taxable
income generated by the combined companies, as
depreciation expense is deducted from revenue in
calculating a firm’s taxable income.

73. 9) Market Power
• The market power theory suggests that firms
merge to improve their monopoly power to
set product prices at levels not sustainable in
a more competitive market

74. 10) Misvaluation
• In the absence of full information, investors may
periodically over- or undervalue a firm. Acquirers may
profit by buying undervalued targets for cash at a price
below their actual value or by using equity (even if the
target is overvalued), as long as the target is less
overvalued than the bidding firm’s stock.
• Overvalued shares enable the acquirer to purchase a
target firm in a share-for-share exchange by issuing
fewer shares, which reduces the probability of diluting
the ownership position of current acquirer
shareholders in the newly combined company.