Unit 3: Payment methods and accounting
Mergers, Acquisitions and Corporate Restructuring notes · PTU syllabus (MBA 914-18)
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Unit summary
How a deal is paid for affects ownership, EPS, risk and shareholder wealth. This unit covers methods of payment and financing options, the impact on EPS, determinants of M&A financing decisions, accounting aspects and the impact on shareholder wealth.
After this unit you can
- Explain methods of payment and financing options
- Compute the impact of a merger on EPS
- Explain the determinants of financing decisions
- Explain accounting aspects and the impact on shareholder wealth
PTU syllabus topics
- Methods of payment and financing options
- impact on EPS
- determinants of M&A financing decisions
- accounting aspects
- impact on shareholder wealth
Exchange ratio
Shares offered per target share = target price / acquirer price
Post-merger EPS
(Combined earnings) / (acquirer shares + new shares issued)
Synergy
Value of combined firm − (value A + value B)
Acquisition premium
(Offer price − pre-bid price) / pre-bid price
Topic 1
Methods of payment
Ownership
Acquirer keeps full control
Target shareholders become shareholders of the combined firm
Risk sharing
Acquirer bears all post-merger risk
Risk shared with target shareholders
Funding
Needs cash or borrowing
No cash needed
Signal
Confidence that acquirer shares are not overvalued
May signal acquirer thinks its shares are overvalued
Tax for target holders
Capital gains immediately
Often deferred if tax-neutral
- Other forms: mixed offers, convertible securities, deferred consideration and earn-outs (part paid only if future performance targets are met).
Topic 2
Financing options
- Internal funds, debt (term loans, bonds, bridge loans, acquisition finance — subject to RBI rules for banks), equity (rights issue, QIP, preferential allotment), hybrid (convertibles, mezzanine), private equity co-investment, seller financing.
- Cross-border: external commercial borrowings, overseas bonds, overseas direct investment rules under FEMA.
Topic 3
Impact on EPS and share exchange ratios
- Valuation methods: DCF, comparable companies and transactions (EV/EBITDA, P/E), asset-based, synergy valuation.
- Forms of consideration: cash (certainty, no dilution, needs funding), share exchange (shares risk with target shareholders), mixed, earn-outs (contingent payments).
Exchange ratio
Price offered per target share ÷ Price of acquirer share
Post-merger EPS
(Earnings A + Earnings B + Synergy) ÷ (Shares A + New shares issued)
Maximum exchange ratio (no EPS dilution)
EPS of target ÷ EPS of acquirer (ignoring synergy)
Example
A: earnings ₹100 crore, 10 crore shares (EPS ₹10, price ₹150). B: earnings ₹30 crore, 5 crore shares (EPS ₹6, price ₹72). Offer 0.5 A share per B share → 2.5 crore new shares. Post-merger EPS = 130 ÷ 12.5 = ₹10.40 — accretive for A.
Post-merger market price
Post-merger EPS × expected P/E
Gain to target shareholders
Value received − pre-merger value of their shares
Topic 4
Determinants of M&A financing decisions
- Acquirer's valuation: if its shares are overvalued, paying in shares is attractive.
- Cash and debt capacity: liquidity, existing leverage, credit rating, covenants.
- Control considerations: promoters may avoid share issues that dilute control.
- Risk sharing and confidence in synergies.
- Tax effects for both sides; target shareholders' preferences; regulatory and market conditions; speed and certainty (cash offers close faster).
Topic 5
Accounting aspects of M&A
- Ind AS 103 (Business Combinations): the acquisition method — identify the acquirer, determine acquisition date, recognise identifiable assets and liabilities at fair value, recognise goodwill (or bargain purchase gain in OCI or capital reserve).
- Common control combinations (within a group): pooling of interests method — assets and liabilities at carrying amounts (Appendix C of Ind AS 103).
- AS 14 (for non-Ind AS companies): amalgamation in the nature of merger (pooling of interests) vs purchase (purchase method).
Goodwill
Consideration transferred + non-controlling interest + fair value of previously held interest − fair value of net identifiable assets
- Post-acquisition: goodwill tested annually for impairment (Ind AS 36), not amortised.
Topic 6
Impact on shareholder wealth
- Event studies measure abnormal returns around announcements.
- Evidence: target shareholders gain significant premiums; acquirers' returns are on average close to zero or negative, especially for large, stock-financed or diversifying deals; cash deals and focused deals perform better.
- Long-run: many acquirers underperform over 3–5 years (overpayment, integration failures).
Example
When a target's share rises 25% on announcement and the acquirer's falls 4%, the market judges that most gains go to the target's shareholders.
Key terms
- Earn-out
- Deferred payment linked to post-deal performance
- Exchange ratio
- Acquirer shares given per target share
- Acquisition method
- Ind AS 103 approach using fair values
- Goodwill
- Excess of consideration over fair value of net assets
- Abnormal return
- Return above the expected market-related return
Quick revision
- Cash vs shares; earn-outs; mixed offers.
- Financing: internal, debt, equity, hybrid, PE; cross-border rules.
- Exchange ratio; post-merger EPS; accretion vs dilution.
- Determinants of financing choice.
- Ind AS 103 acquisition method; common control; AS 14; goodwill; shareholder wealth evidence.
Important exam questions
Practice questions written to the PTU exam pattern for this unit's syllabus: short answers (Section A style) and long answers (Sections B and C style).
Short-answer questions
- Q1.State two advantages of a cash offer.
- Q2.What is an earn-out?
- Q3.Define the exchange ratio.
- Q4.When is a merger EPS-accretive?
- Q5.What is the acquisition method under Ind AS 103?
- Q6.How is goodwill computed?
Long-answer questions
- Q1.Explain methods of payment and financing options in M&A.
- Q2.Compute and explain the impact of a merger on EPS (numerical).
- Q3.Discuss the determinants of M&A financing decisions.
- Q4.Explain accounting for business combinations and the impact of M&A on shareholder wealth.
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