Business Accounting -Mergers and Acquisitions - Assignment Example

Acquisitions

Part A

Workings

Beta Company shares purchased = 100 million shares

Exchange of shares: Three shares in Alpha Company for every two shares acquired in Beta Company.

Share ratio=3/2 =1.5. It implies that 1.5 shares in Alpha Company is equivalent to 1 share acquired in Beta Company.

1 share= 1.5 shares

100 million shares = (100 million * 1.5/1) shares=150 million shares

The market value of share in Alpha Company = £20

150 million shares * £20 = £3,000 million

150 million shares*£27 = £4,050 million

Difference in the market value of shares amongst the two companies = £27 £20=£7

Additional payment on the purchase of shares =£2.42*100 million shares = £242 million

The fair value of net identifiable assets of Beta Company is £2,400 million. The goodwill is £200 million.

The non-controlling interest =25% of £2,400 million =£600 million.

Alpha Company will pass the following journal entry in order to recorded business combination.

Dr (£ million) Cr (£ million)

Goodwill 1,292.6

Assets 2,400

Liabilities 92.6

Cash 3,000

Non-controlling interest 600

Goodwill = (Consideration paid + Fair value of non-controlling interest) – (Assets acquired – Liabilities assumed)

Customer relationships value = £200 million

Employee expertise = £80 million.

Research and development cost =£10 million

Legal and professional fees =£2.4 million-£400,000=£2.0 million

The cost of issuing shares =£400,000

Cost of the duration for the acquisition = £200,000

Liabilities = £80 million + £10 million +2.0 million + £0.4 million + £0.2 million = £92.6 million

Alpha Company must recognise goodwill as an asset as of the date of acquisition. Therefore, it must recognise goodwill as an asset on 1 April 2012.

According to the International Financial Reporting Standards, goodwill is computed as follows.

Goodwill = (Consideration paid + Fair value of non-controlling interest) – (Assets acquired – Liabilities assumed)

Goodwill = £3,000 million + £600 million - (£2,400 million - £92.6 million)

=£3,600 million – £2,307.4 million = £1,292.6 million

The goodwill on consolidation of Beta Company that will appear in the consolidated statement of financial position of Alpha Company at 31 March 2013 is £1,292.6 million.

The goodwill is an asset that is generated from the acquisition of Beta Company by Alpha Company (Cooper, 2010, p. 17). Goodwill is the difference between the consideration paid by Alpha Company for the business and the amount of that consideration or price that cannot be assigned to any of the individually identified assets and liabilities of Beta Company acquired in the business transaction (Wood & Sangster, 2005, p. 25). Alpha Company acquired Beta Company to become bigger in that the acquisition would help it increase in size and overcome their competitors in the marketplace. Alpha Company can reduce its tax bill through acquisition of Beta Company. Moreover, it has the ability to enjoy synergies and economies of scale and attain domination in their sector. The synergies took place when Alpha Company and Beta Company consolidate.

Part B

Workings

Depreciation amount = £2,771,110/15 = £184,740.67

The present value of the bond =£600,000/(1+0.12)20 = £600,000/1.1220 = £62,200.06 = £62,200

Decrease in cash = £780,000-£127,000=£653,000

Increase in inventories = £908,000-£380,000=£528,000

The P Company declared and paid dividends of £20,000 and the S company declared and paid dividends of £10,000. This implies that the dividends paid were £30,000. Total dividends paid =£20,000 + £10,000=£30,000.

Total dividends received = £20,000-£10,000 = £10,000

Bonds payable at 31 December 2012 is £1,200,000 and the bonds issued is £600,000. Therefore, the proceeds from the issue of bonds is £600,000 (£1,200,000-£600,000)

Indirect Method

Consolidated Statement of cash flows for P Company and its subsidiary S Company

for the year ended 31 December 2012

£ £

Cash flows from operating activities

Pre-tax profit 311,777

Adjustments for: Depreciation 184,741

Investment income (62,200)

Interest expense 146,110

580,428

Decrease in cash 653,000

Increase in inventories (528,000)

Increase in bond payable 800,000

Decrease in accrued payables (78,000)

Cash generated from operations 1,427,428

Interest paid (120,000)

Income taxes paid (93,533)

Net cash from operating activities 1,213,895

Cash flows from investing activities

Acquisition of subsidiary S net of cash acquired (1,200,000)

Interest received 12,176

Dividends received 10,000

Net cash used in investing activities (1,177,824)

Cash flows from financing activities

Proceeds from issue of bonds 600,000

Dividends paid (30,000)

Net cash used in financing activities 570,000

Net decrease in cash (653,000)

Cash at beginning of period 780,000

Cash at end of period 127,000

The purchase of a 90% interest in S Company by P Company has great impact on its capital structure and financial position. For example, the P Company’s capital structure changed and it relied on how they designed the acquisition deal. Although, the cash deal considerably depleted P Company’s cash holdings, it was financed by the company’s cash and cash equivalents. Most companies’ cash deals are financed through debt that increases that companies’ indebtedness (Stolowy & Lebas, 2006, p. 11). The shareholders of the Beta Company have the opportunity to cash out at a considerable premium particularly since all the transaction was an all-cash deal.

Generally, the key benefits of acquisitions include the enhanced availability of quality staff or additional skills. An industry needs knowledge and intelligence which upon merger and acquisition is greatly boosted. Secondly, merger and acquisition helps the companies involved to easily access funds or valuable assets for the newly initiated development. Lastly, merger and acquisition paves way for the improvement and assessment of wider customer base. Merging companies’ business target upon the whole process may have an improvement in their distribution channels and the systems of which they can use for their own officers.

In addition, acquisition also has a number of potential effects on the future growth of the companies and market reaction. For example, The Beta Company’s shares are likely to rise to a level that is close to that of the Alpha Company’s offer assuming that the offer represents a significant premium to the Beta Company previous stock price. This is particularly attributed to the fact that The Beta Company shares can trade over the offer price when the perception is either that Alpha Company has low balled the offer for Beta Company and may be forced to increase it (Tilt, 2009, p. 16).

Alpha Company future growth prospects and profitability is enhanced by the acquisitions it made. There is an increase in revenues and operating margins after the acquisitions that may lead to future growth prospects.

There is a decrease in the retained earnings as at 31 December 2012 as compared to 31 December 2011. This indicates that consolidation has led to reduction in investment that can be achieved through retained earnings. The cash flows from investing activities indicates that the new entity is largely involved in investment activities since it has a net cash utilised in investing g activities of -£1,177,824. This implies that the dividends received and the interest received was much less than the net cash used in acquiring the subsidiary S Company (Tilt, 2009, p. 20). There was a large decrease in cash after the acquisition. It implies that the new entity used a lot of cash in business operations in 2012.

According to the disciplinary mergers and acquisitions theory, M & As often target firms’ management teams who purely pursue objectives and organizational goals rather than mere profit maximization. Managers who do not aim at pure profit maximization would aim at achieving their goals in the long-run. The second M & A theory is the synergistic mergers theory. This theory puts into existence the affectivity and efficiency of mergers and acquisition. The theory holds that managers achieve efficiency gains by combining efficient targets with their business; and then improving the targets performance.

Part C

Workings

Gain on disposal of non-current assets by Green Company = £60,000 - £40,000 = £20,000

Depreciation amount = 20% of £60,000*6/12=£6,000

The Blue Company acquired 60% of the shares of Green Company on 1 April 2012.

Ordinary shares of Blue Company=125,000 shares and the ordinary shares of Green Company =75,000 shares.

60% of 75,000 shares = 45,000 shares

Total ordinary shares after the acquisition = 125,000 shares + 45,000 shares = 170,000 shares

Green company shares after the acquisition = (75,000-45,000) shares = 30,000 shares.

The minority interest profit and loss = 5% of £12,000 = £600

Non-current Assets

Tangible Assets of Blue Company

Tangible Assets of Green Company

Investment in Green Company

TOTAL

COST

£123,000

£75,000

£60,000

£258,000

ACCUMULATED DEPRECIATION

(£18,450)

(£11,250)

(£6,000)

(£35,700)

NBV

£104,550

£63,750

£54,000

£222,300

Depreciation:

Tangible assets of Blue Company=20% of £123,000*9/12 = £18,450

Tangible assets of Green Company=20% of £75,000*9/12 = £11,250

Investment in Green Company = 20%*60,000*6/12 = £6,000

Statements of changes in equity

Ordinary share capital

£

Retained Earnings

£

Total

£

Reserves b/f

£

Non-controlling interest

£

Total

Shareholder’s

Funds

£

Share capital

Profit for the year

170,000

123,000

80,000

330,500

80,000

39,000

40,000

409,500

80,000

Total (Balance b/d)

170,000

203,000

410,500

39,000

40,000

489,000

Blue Company and its subsidiary

Consolidated Statement of Comprehensive Income

For the period ended 31 December 2012

Blue Company

Green Company

Post acquisition Green Company

CONSOLIDATED

£

£

£

£

£

£

£

£

Sales

Less: Cost of sales

Gross profit

Other incomes

Less: Operating Expenses

Administrative expenses

Profit before taxation

Tax

Profit after taxation

Profit attributable to MI

Profit attributable to shareholders

35,000

240,000

(120,000)

120,000

-

(35,000)

85,000

(17,000)

68,000

_

68,000

22,500

115,000

(55,000)

60,000

20,000

(22,500)

57,500

(11,500)

46,000

46,000

9,000

46,000

(22,000)

24,000

(9,000)

15,000

(3,000)

12,000

_

12,000

44,000

286,000

(142,000)

144,000

(44,000)

100,000

(20,000)

80,000

600

79,400

80,000

Blue Company and its subsidiary

Consolidated Statement of financial position as at 31 December 2012

£ £

Non-current Assets

Tangible Assets and investment in Green Company 222,300

Current Assets

Inventories68,000

Receivables 45,000

Others26,000 165,000

TOTAL ASSETS 387,300

Equity and Liabilities

Ordinary share capital 125,000

Retained earnings 73,500

Profit and loss account 80,000

Reserves 30,600

Minority interest 30,700 339,000

Current Liabilities

Payables 27,500

Tax due 20,000 47,500

TOTAL EQUITY AND LIABILITIES 387,300

The Blue Company acquired sixty percent of the Green Company shares because the shares can be selling at a price on the market that is below the fair value per share of the net assets. The Blue Company can thus obtain the control over the assets at a reduced price as compared to the negotiation for the assets themselves. The purchase of shares was appropriate for Blue Company since the shares are more easily saleable (Bonham, 2008, p. 33). Blue Company may have preferred to retain the freshly acquired business as a separate entity for business, legal and tax reasons in that it might have intended to reduce taxes and conformed to the legal matters pertaining to the acquisition (Ahmed et al., 2013, p. 1345). The Green Company business liabilities were directly assumed by Blue Company and there was no interruption of the business affiliations that was built up by the Green Company.

The purchase of 60% shares of Green Company by the Blue Company had income tax impacts in that it benefit the Blue Company since the gain on the sale of the shares is taxed as a capital gain. The Green Company had a great tax loss carry forwards due to the purchase of its shares (Ahmed et al., 2013, p. 1360).

Part D

Acquisitions made by Norvatis Group in 2010

The Swiss pharmaceutical company Norvatis AG finished its exertion to acquire for 12.9 billion dollars the remaining 23 percent of the U.S listed eye care group Alcon Incorporated that it did not already own in December 2010. The company paid $39.3 billion to fully acquire Alcon Incorporation.

1. The reasons for the success or failure of acquisitions in general

Success of Acquisitions

There are a number of potential reasons for the success of acquisitions some of which may include effective management, proper workforce engagement and open communication strategy among others.

• Effective Management

The success of acquisitions can be realised through effective management of the combined company (Balouziyeh, 2013, p. 91). The management needs to ensure effective running of the company operations through employing skilled workers and proper management of financial resources. Similarly, the successes of acquisitions also depend on how the administrative arrangements, culture, mission and objective of the company is realigned to accommodate the new company. This ensures a smooth transition and effective management of culture in the company.

• Workforce Engagement

Acquisitions become successful through careful combining the workforces’ engagement with the multifaceted plan that is built around communication. The company has the ability to buck the trend of the acquisition with proper communication and integrating the employee involvement with the multilayered strategy (Galpin, 2014, p. 23).

In addition, there is the need to keep the workers engaged since when they are completely immersed in the transformations, they will have the ability to gain knowledge and skills that can enable them to lead the integrated company in the fresh direction, contribute to its mission and strive to attain its objectives. Furthermore, it could possibly serve as an advocate for the fresh company internally. Finally, engaging the workforce and other stakeholders of the company on the importance of achievement of organizational goals is critical for the success of an acquisition as it ensure everyone understands his or her role.

• Clear and Open Communication Strategy

There is the need for companies have a clear business objectives and measurable targets when making strategic plan to acquire one another to be successful. The plan should be accompanied by a clear and open communication strategy that has the capability to address the fears of the stakeholders such as the employees, customers and shareholders who would be most directly affected by the acquisition (Balouziyeh, 2013, p. 92). The company should implement the plan with speed to make sure that the momentum is upheld and that the business and operations of the fresh entity is not interrupted and the attention is not distracted by the uncertainties.

• Due Diligence

The intending acquirers need to perform a thorough due diligence exercise of the target after it has identified the target company. This should cover its strategies, financial statements, resources, operations and business plans of the entity to guarantee the compatibility of the target company and the evaluation of any risks related to the deal. The intended acquirers need to assess the business links of the principals and the political risks in making the acquisition particularly if it is a cross-border acquisition in the less developed economies (Galpin, 2014, p. 28). Additionally, the due diligence exercise need to cover the target company leadership models, culture, leadership models, compensation plans, performance management systems, structure of the organisation and career development approaches for the proper strategic planning to be made to deal with the issues and to evaluate the actual costs of integration.

• Strategic Planning

Acquisition success is achieved through developing a strong business strategy. The strategy should be clear and aligned to the business objectives of company. For the acquisition to be successful, the underlying business goal and the shareholders’ interests need to prevail (Balouziyeh, 2013, p. 93). The main criteria for the selection of the target company should be determined once the strategy has been laid. The consideration of the integration process necessitates the selection of a suitable process for success to be realised. For example, through strategic planning, Beta Company’s shares are likely to rise to a level that is close to that of the Alpha Company’s offer assuming that the offer represents a significant premium to the Beta Company previous stock price.

Failure of Acquisitions

Some of the key factors that lead to the failures of mergers and acquisitions include; flawed business logic and flawed integration management strategy. Acquisition and merger is imminently a high risk strategy. In addition, acquisitions may also fail due to integration of risk, culture of clash, overpayment, misgauging strategic fit, not communicating clearly, getting the structure of the deal or price incorrect and failure to focus adequately on the customers and the company sales (Balouziyeh, 2013, p. 94). For example, the integration of the operations of two companies is more difficult in practice in most cases. It can result in the combined company being incapable to attain the desired targets regarding saving cost from the synergies and economies of scale. The potentially accretive business transaction would thus become a dilutive business transaction. The corporate cultures of the potential partners in acquisitions are so different. This means that every partner in an acquisition has dissimilar cultures; thus, there is a culture clash that leads to failure of acquisitions.

The overpayment may occur when company X is unduly optimistic concerning company Y prospects and needs to prevent a potential bid for the company Y from a rival; thus it can provide a very substantial premium for the company Y. After company X has acquired company Y, the best scenario that X had projected may be unsuccessful to materialize (Galpin, 2014, p. 23). When the acquisition is too far beyond the parent company’s main competency, numerous things are not expected to function. The company that vends to its business clients mainly through internet sales and catalog should to be very careful regarding acquiring a company that depends on direct sales even when the products are in similar industry. There is the need to have an honest audit upfront plan and the company to wander off beyond its core competencies. It should ask whether the company targeted fits its strategy, operations and distribution channels.

The well intentioned deal structures that held back payments centered on imminent performance always ends up having unplanned consequences and making the deal unsuccessful (Balouziyeh, 2013, p. 96). Poor communication and absence of information lead to the failure of acquisition; thus, it is essential to have clear, honest and consistent communication.

2. The potential advantages of each of the acquisitions in 2010 for the Norvatis Group

The Norvatis Group strengthened its presence in growing eye care sector the acquisition of Alcon Incorporation. The Norvatis Group and Alcon Company had greatly complementary product portfolios that covered above seventy percent of the international vision care sector (Bonham, 2008, p. 55). The Alcon Incorporation eye care offered dynamic opportunities that are underpinned through great unmet needs of the current aging population.

The acquisition in 2010 enabled added value to the combined entity through removing redundancies and increasing total revenues. The acquisition made the Norvatis Group to take advantage of extra distribution channels that the company can leverage more efficiently with its own products and services (Tilt, 2009, p. 30). The company acquired the existing technologies and business processes that would otherwise be extremely costly to develop on its own. The Norvatis Group accessed the talented managers and workers without the necessity to engage in a widespread search, selection and hiring process. It obtained quality staff, extra skills and knowhow of its industry and other forms of business intelligence.

Norvatis group accessed an extensive client base and increased its market share. It led to the diversification of its products, services and long-term business prospects. There was shared marketing budget, increased buying power and lower costs that led to reduced costs and overheads (Balouziyeh, 2013, p. 95). Moreover, reduced competition since it was involved in buying up fresh products, services and intellectual properties from Alcon Incorporation.

3. Impact on the consolidated financial statements of these acquisitions including adjustments to subsidiary’s book values

The acquisitions have great impacts on the company’s consolidated financial statements and adjustments to the subsidiary book values. The company’s operations results are increasingly impacted by the charges for the amortisation of the intangible assets in addition to impairment charges and the other onetime costs that associated with the integration of the acquisitions (Elliott & Elliott, 2007, p. 51). Moreover, the other strategic transactions of the company have impacted its operations results. The assets and liabilities of Alcon Incorporation were recorded directly on the books of Norvatis Group.

4. My views about goodwill on each acquisition and subsequent goodwill impairment charges

Norvatis Group goodwill increased greatly from 22,370 million U.S dollars in 2009 to 64,923 million U.S dollars in 2010 due to the acquisitions. The acquisition of Alcon Company led to the great increase in the company’s goodwill. The goodwill arose owing to the business combination between Norvatis Group and Alcon Incorporation. The company’s goodwill was the excess of the consideration that is was transferred to acquire Alcon over the underlying fair value of the net identified assets that was acquired (Hoyle, 2014, p. 9). The goodwill was allocated to the cash generating units that are normally represented by the segments reported. It was tested for impairment in 2010 at the cash generated units level and the impairment charges were recorded under the other expense in the consolidated income statement.