In today's globalised economy, mergers and acquisitions are being increasingly used in the world over for improving competitiveness, of companies through gaining greater market share, broadening the portfolio to reduce business risk and for entering new markets and geographies and achieving economies of scale.
The Purpose of the research paper is to examine the reason why a firm is more likely to be a foreign target than a domestic target with respect to India. This paper examines the characteristics of a firm like technology, market share, size etc which make it attractive to foreign investors or domestic investors. The paper directly compares the characteristics of the cross border targets and domestic targets Indian firms over the period 2000-2006.
The economic liberalization and reforms initiated in 1991 have served to trigger corporate restructuring through M&A. The increased competition prompted the Indian companies to opt for mergers and acquisitions as a strategic corporate choice. The trends of mergers and acquisitions in india have changed over years. Favourable government policy, additional liquidity in the corporate sector, optimism in the economic growth and dynamic and motivated attitudes of Indian entrepreneurs are the key factors behind the changing trends in the pattern of mergers and acquisitions in India. Also, the effects of mergers and acquisitions have been diverse across various sectors of the Indian economy.
Among the different Indian sectors that have resorted to mergers and acquisitions in recent times- Telecom, FMCG,finance automobile industry, and steel industry and real estate are worth mentioning. India is now one of the leading nations in the world in terms of mergers and acquisitions.
Characteristics of firms that become potential M&A targets
Risks and opportunities associated with domestic M&A
Risks and opportunities associated with cross-border M&A
Firm's objectives guiding domestic or cross-border M&A
Domestic M&A vis a vis Cross border M&A in being able to fulfil a firms desired objectives
The premerger and post merger performance of acquirer firms: Domestic and Foreign
Mergers and acquisitions as a subject has been a topic of interest amongst the circles of financial research. In recent history numerous literature and papers have been researched on the impact of M&A on corporate consolidation and several theories have been proposed to understand the empirical evaluation of such impacts. USA and Several European markets were researched by several researchers to evaluate the corporate performance of the organizations followed by mergers and acquisitions. Several such researchers have showed that the main reason for the better performance of the acquiring firms have been due to several operational and technical synergies between the acquiring firm and the acquired firm.
Hall(1988), stated that higher the R&D expenditures, greater is the probability of being acquired with respect to U.S firms.
According to Jensen(1983), and acquirers motives have been classified into four categories:
Gain market power
Eliminate inefificient Target Management(acquiring firms intent)
Lubatkin(1983) has identified three possible sources of strategic relation between the target firms and the acquiring firms , that could be treated as motives for mergers
Pecuniary economies (achieved through dictating prices i.e lower prices for inputs in large quantities by exerting market power)
technical economies (scale economies through improving process efficiencies)
diversification economies (improving a firm's performance by managing the existing portfolio of business).
Palepu (1986) employs logit analysis to investigate the usefulness of six acquisition hypothesis in predicting targets likely to be acquired and found clear support for size hypothesis. The six dimensions were growth resource imbalance,inefficient management, asset undervaluation, price earning ratio and industry distuyance size
3.1Research on Post merger performance in India
India has been a breeding ground for many deals in M&A since the liberlasation in 1991.However the studies on M&A activity in India have been so far limited.
Beena(2004) observed the pre merger and post merger performance of a sample of 115 acquiring firms in the manufacturing sector in India between 1995-2000 using a set of financial ratios and t test. There was no improvement analysed in the financial ratios after the mergers.
Kaur(2002) compared the pre merger and the post merger performance of 20 firms between 1997-2000 by making use of a set of eight financial ratios during a three year period before and after the merger, usint the t-test. It was observed that both the efficiency and profitability of the targeted companies declined in the post merger period and there was no change in the post - takeover performance.
Reasons of Indian companies entering into domestic M&A activity-
There are companies with sick subsidiaries and the only way out is to merge the sick unit with the parent company(Kumar and Rajib 2007)
There are companies who seek to consolidate their core business activities to attain balance sheet size and net worth, in order to mount strategic takeovers of companies in similar business activities.
Achieve synergy on theory operations(Kumar and Rajib 2007)
Reasons of Foreign companies investing in India via M&A-
India is an emerging economy with booming population and growing middle class.
The MNC's are ready to pay a premium to acquire existing businesses instead of setting up new companies. Thus, gaining quick access to Indian market. (Kumar and Rajib 2007)
Market entry strategy by getting access to local knowledge and using local means to create and deliver the products and services.
The above reasons can very well be explained by Dunnings Eclectic Theory of Framerwork which distinguishes four types of FDI-
Resource seeking investment- relating to exploitation of cheap labour and mineral resources
Market seeking investment- made to promote new or defend the existing markets
Efficiency seeking investment- aims at rationalizing gains by optimizing intra division of laour and specialising existing portfolio of domestic and foreign assets
Stategic Asset seeking investment=Augment the exisiting assets via mergers and acquisitions.
According to Dunning: FDI =O+L+I
The Ownership Advantages explain that the firms go abroad mainly to exploit specific advantages which are internal to the firm and it allows the firms to overcome the transaction and production costs in a foreign location (Griffin and Pustay, n.d.)
The Location Advantages explain that MNE's choose the location by comparing each country's attractiveness in terms of cultural, economic and social advantages(Griffin and Pustay, n.d.)
The Internalization advantages explain the mode of entry of a firm in the foreign country. The MNE can either adopt licensing method or enter by having a wholly owned subsidiary and then determine how to successfully expand their operations over time (Griffin and Pustay,n.d.)
3.2 The characteristics of firms that make it an attractive M&A target:-
Apart from the firm specific characteristics that make it attractive, the fact that these firms are Indian- also plays a significant contributor to their being a coveted investment target. India being an attractive destination to invest in, lends profitability to the act of targeting Indian firms. (Georgopoulos,2008)
2-Market structure hypothesis
Market share-market share bears a positive effect in explaining the likelihood of foreign acquisition(Georgopoulos,2008)
Product differentiation- Non price competition through product differentiation based on advertising,attractive brand names and trademarks offers attractive opportunities to foreign players and thus cross border deals. Competitive industries with more homogeneous products report greater share of domestic acquisitions.
Concentration- In a highly concentrated industry, market entry is more likely to be via international acquisitions, whereas in industries with low concentration, entry would be more likely by domestic acquisition. (Georgopoulos,2008)
3- Technology transfer hypothesis
Technology transfer is regarded as a major motivation for foreign acquisitions (Harris and Ravenscraft(1991). Higher the R&D expenditures, greater the possibility of being acquired by a foreign company rather than a domestic company. Also, market knowledge and local knowledge embedded in the operations of a firm are very valuable resources that an acquiring firm wishes to obtain. (Georgopoulos,2008)
4- Export orientation of targets
Foreign investors search for export oriented targerts. Greenaway (1992) argued that dismantling of the non tariff barriers will stimulate FDI in specific locations elected to serve the foreign markets via exports. (Georgopoulos,2008)
5- Competitive nature of target
Foreign firms are more likely to go for targets having both high competitiveness in industry and division of labor. (Georgopoulos,2008)
6- Import penetration of industry
Foreign targets will penetrate in branches open international trade, showing high penetration index compared to domestic acquisitions. (Georgopoulos,2008)
7- Anti competition effects
They are probably greater for domestic M&A since there is more direct competition between merging firms. Since geographical proximity removes some barriers to trade, thus an incentive for anti competing measures. (Georgopoulos,2008)
India offers cheap skilled labour. This attracts foreign investments in India. (Georgopoulos,2008)
Apart from these general characteristics that guide acquisitions and investment , there are some very important theories that predominantly make a firm a potential acquisition target.
9-Inefficent management hypothesis-
Chances of acquisition of an inefficiently managed or an underperforming firm is directly a function of potential gain that will accrue to the acquirer once the inefficient management is replaced. (Kumar and Rajib 2007)
10-Growth Resources Mismatch Hypothesis-
Some firms have high growth, huge resources and low market valuation. This offers a golden opportunity to the acquiring firm who is correctly able to identify this mismatch. (Kumar and Rajib 2007)
11-Price earnings ratio
Firms having higher price earnings ratio will purchase a firm with low price earnings ratio. This will increase earnings per share post merger even though there has been no real increase in earnings of assets. . (Kumar and Rajib 2007)
12- Management Hypothesis
It states that the acquisitions will lead to improved performance if managers are able to maximize the value of corporate assets. i.e. the acquiring firms should have superior accounting and market performance compared to target firms. The yearly average stock returns are used as a basis of measuring the management performance. . (Kumar and Rajib 2007)
13- Size hypothesis-
Larger Firms are less likely to become a takeover target since there are larger costs associated with incorporating it in the acquirer firms organizational and managerial structure. . (Kumar and Rajib 2007)
14- Asset Undervaluation hypothesis-(most imp)
Merger motives can be attributed to the undervaluation of target companies. This hypothesis states that firms with low market to book ratio are undervalued and more likely to become takeover targets. Firms with low market-to-book ratios are viewed as undervalued and are potential takeover targets. The market-to book ratio is represented by P/B. . (Kumar and Rajib 2007)
The research on M&A activity in India has been limited. I will throw light on the driving forces behind international acquisitions and their interdependence with domestic acquisitions and the difference in the characteristics of a foreign and a domestic takeover target.I will also analyse the post merger performance of the Foreign and domestic acquirers and compare their post merger performance.
Do cross border acquisitions of Indian target firms differ from that of domestic takeover targets?
Does post merger performace of foreign acquirer firms differ from that of domestic performance?
According to Nicholas Steneck," research is a systematic investigation including research development, testing and evaluation, designed to develop or contribute to generalizable knowledge." When a research is conducted, it involves processes like planning, examining, and implementing the objectives to derive results. (Ghauri & Gronhaug, 2005). A good research should have the apt logical reasoning and analysis in it. This wholly depends on the researcher. (Ghauri,2005). The methodology used in this thesis will explain the performance of the companies engaging in M&A under both domestic and cross border scenario. This section of the thesis will first explain the research approach and strategy and then move towards explaining the data collection methods.
Quantitative research encompasses measures to which a feature is present. It is often denoted by percentages, means, medians, standard deviations, chi square and other statistical figures. (Kirk and Miller 1986).
Identifying the target companies
Sample size - 130 companies will be taken for data analysis
Sampling units -Target companies: Cross Border Deals in India and domestic deals in India.
Sampling extent and time - the time frame is post 2000.
Sampling Classification- Since the size of Foreign and Domestic companies are substantially different , so to avoid the impact of their respective sizes on their post merger performance, a specific price range will be taken into account and only those samples which fall under this category from both foreign and domestic companies will be considered.
The research of this topic will be conducted using secondary data by quantitative method of research. Secondary data is a valuable source as it has a number of benefits. Primarily it saves both money and time, as well as it helps the researcher to better understand the research problem and broaden the basis for the conclusions.(Ghauri and Gronhaug 2002)
To meet the desired objectives of this research, an empirical approach will be adopted whereby the post M&A performance of firms both under domestic as well as cross border scenario will be analysed.
To capture the relevance of current times, the analysis will be based on domestic and cross border acquisition post the year 2000. Mergers and Acquisitions are a fairly recent trend in India and have been resorted by corporate only after the rationalisation of policy reforms post 1991. There is negligible amount of Data in the early 1990's and hence there is a dearth of a data in that time frame.
A representative sample of significant acquisitions will be taken from all the sectors of the Indian Economy. An equal number of cases will be taken from each sector under each scenario.Total number of samples assumed to be taken by the researcher are 130. The research is subjected to flexibility and with further research the samples might increase.
Having arrived at our sample set, an analysis of post acquisition will be conducted. The analysis will be based on the listed company's financial data available.
A comparative analysis of both scenarios will be done using paired t-test. Our null hypothesis will be a statement that there is no significant difference in post acquisition performance of domestic and cross border deals.
Financial Ratios will also be used to arrive at the objective-
Total liabilities to shareholders
Return on equity
Return on Assets
Torbin's Q ratio
Annual Growth to sales(GS)
Annual Growth on assets(GA)
OLCF- operating loss carry forward to total assets.
According to Altman (1968), financial ratios were used to identify financially distressed firms. These ratios were characterisitics of firms and established their relationship to important dimensions such as liquidity, profitability and size.
Harris, et al; (1982) examined two types of variables: financial and product, to capture the characteristics of a firm that determine whether the firm is being acquired or not and it was in the time period1974-1977. The study indicates that financial variables have statistical significance while product market variables have very little explanatory power. The study signifies that firms with lower price-earnings ratio and smaller size are more likely to be takeover targets.
The secondary data will be collected from magazines, newspapers, journals and databases like Prowess Databases of Centre for Monitoring Indian Economy(CMIE), web sites of Securities and Exchange Board of India and Capitaline.
SPSS Software will be used to analyze the results from the data collected which will also help sample set which is not the entire population.providing insight into the post merger performance of the acquirer firms.
As the obligation of a researcher, the data acquired shall not be tampered with.
There are issues of relevance and accuracy of secondary data. The research uses secondary data that has been collected at a different point in time with a different objective and level of accuracy.
The objectives, nature and methods used to collect secondary data may be subject to random errors.
The learnings from the research are a generalization from the trend observed via the
CONTRIBUTION TO KNOWLEDGE:
The research paper will provide invaluable insights into mergers and acquisition as a potent tool used by several firms to achieve their desired objectives. A comparative analysis of the domestic and cross border scenario will give us a consolidated view of their respective ability and potential to positively impact the engaging firms. A macro level picture based on generalization from a sample set will delineate a picture of India' s experience from domestic and cross-border M&A's. Thus, the research paper even within its limitations will be able to reflect past performance and in turn give lessons for future decision making.