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  1. 1. Workshop on Mergers & Acquisitions February 17, 2005 presented by BABASAB PATIL
  2. 2. Why M&A? <ul><li>Underlying Principle for </li></ul><ul><li>M&A Transactions </li></ul><ul><li>2 + 2 ≠ 4 </li></ul><ul><li>Additional Value of “ Synergy ” </li></ul>
  3. 3. Why M&A? <ul><li>Market Intensification: </li></ul><ul><ul><ul><li>Horizontal Integration – Buying a competitor </li></ul></ul></ul><ul><ul><ul><ul><li>Acquisition of equity stake in IBP by IOC </li></ul></ul></ul></ul><ul><ul><ul><ul><li>AT&T merger into SBC enables the latter to access the corporate customer base and exploit the predictable cash flows typical of this telephony section </li></ul></ul></ul></ul><ul><ul><ul><li>Market Extensions – New markets for Present products </li></ul></ul></ul><ul><ul><ul><ul><li>Maersk – Pipavav : strategic objective of investing in a container terminal in the west coast </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Bharat Forge’s acquisition of CDP (Germany) </li></ul></ul></ul></ul><ul><ul><ul><ul><li>S&P’s proposed acquisition of CRISIL </li></ul></ul></ul></ul>
  4. 4. Why M&A? <ul><li>Vertical Integration : Internalization of crucial forward or backward activities </li></ul><ul><ul><li>Vertical Forward Integration – Buying a customer </li></ul></ul><ul><ul><ul><ul><li>Indian Rayon’s acquisition of Madura Garments along with brand rights </li></ul></ul></ul></ul><ul><ul><li>Vertical Backward Integration – Buying a supplier </li></ul></ul><ul><ul><ul><ul><li>IBM’s acquisition of Daksh </li></ul></ul></ul></ul>
  5. 5. Why M&A? <ul><li>Diversification: Overcome Barriers to Entry </li></ul><ul><ul><li>Product Extension : New product in Present territory </li></ul></ul><ul><ul><ul><ul><li>P&G acquires Gillette to expand its product offering in the household sector and smooth out fluctuations in earning </li></ul></ul></ul></ul><ul><ul><li>Free-form Diversification : New product & New territories </li></ul></ul><ul><ul><ul><ul><li>Flight Centre’s proposed acquisition of Friends Globe </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Indian Rayon’s acquisition of PSI Data Systems </li></ul></ul></ul></ul>
  6. 6. Why M&A? <ul><ul><li>Advantages: </li></ul></ul><ul><ul><ul><li>Greater Economic Clout: </li></ul></ul></ul><ul><ul><ul><ul><li>Proposed merger of Petroleum PSUs </li></ul></ul></ul></ul><ul><ul><ul><ul><li>P&G merger with Gillette expected to correct balance of power between suppliers and retailers. </li></ul></ul></ul></ul><ul><ul><ul><li>Economies of scale and Sharing Overheads: Size really does matter </li></ul></ul></ul><ul><ul><ul><ul><li>IOC & IBP </li></ul></ul></ul></ul><ul><ul><ul><li>Synthesized capabilities </li></ul></ul></ul><ul><ul><ul><ul><li>Proposed merger of nationalized banks </li></ul></ul></ul></ul>
  7. 7. M&A Different Perspectives <ul><li>Acquirer </li></ul><ul><ul><li>Majority/ Strategic Partner </li></ul></ul><ul><ul><li>Minority/ Private Equity Investor </li></ul></ul><ul><li>Target Company </li></ul>
  8. 8. M&A TRANSACTION ISSUES: TARGET <ul><li>Due Diligence – Full Disclosures </li></ul><ul><ul><li>Linked with Reps & Warranties </li></ul></ul><ul><ul><li>Reps should be negative </li></ul></ul><ul><ul><li>DD in case of Listed Company </li></ul></ul><ul><ul><li>Post Closing Adjustment </li></ul></ul><ul><li>Condition Precedents – Definitive </li></ul><ul><ul><li>Include as Exhibits </li></ul></ul><ul><li>Survival of Reps for limited period </li></ul>
  9. 9. M&A TRANSACTION ISSUES: ACQUIRER <ul><li>Due Diligence – Risk Matrix and Value Depletor </li></ul><ul><ul><li>Material Contracts </li></ul></ul><ul><ul><ul><li>Any subsisting contracts granting similar or superior rights to other investors </li></ul></ul></ul><ul><ul><ul><li>Termination rights of major customers </li></ul></ul></ul><ul><ul><ul><li>Approval rights of financiers </li></ul></ul></ul><ul><ul><li>Title to Properties & Assets: esp. where main business is situated </li></ul></ul><ul><ul><li>Statutory Dues </li></ul></ul><ul><ul><li>Litigation : Contingent Liabilities </li></ul></ul><ul><ul><li>IPR protection </li></ul></ul><ul><ul><li>Tax Compliance (Settlement Commission) </li></ul></ul>
  10. 10. M&A TRANSACTION ISSUES: ACQUIRER <ul><li>Mode of Acquisition </li></ul><ul><ul><li>Pure Equity (Existing or New); Equity & Preference; Special Class (Differential voting rights, dividends or otherwise) </li></ul></ul><ul><ul><li>Leveraged Acquisitions </li></ul></ul><ul><li>Corporate Governance </li></ul><ul><ul><li>Related Party Transactions (past & going forward) </li></ul></ul><ul><li>Board Representation </li></ul><ul><ul><li>Quorum (Inclusive) </li></ul></ul><ul><ul><li>Fiduciary Responsibility of Board v. Shareholders </li></ul></ul>
  11. 11. M&A TRANSACTION ISSUES: ACQUIRER <ul><li>Deadlock Resolution </li></ul><ul><ul><li>Majority/ Strategic Partner </li></ul></ul><ul><ul><li>Lenders </li></ul></ul><ul><li>Return on Investment </li></ul><ul><ul><li>Cap on dividends to preference shares </li></ul></ul><ul><ul><li>Liquidation Preference </li></ul></ul><ul><li>Lock - in of Promoters </li></ul><ul><ul><li>Enforceability of transferability restrictions </li></ul></ul>
  12. 12. M&A TRANSACTION ISSUES: ACQUIRER <ul><li>Non - Compete/ Non - Solicitation </li></ul><ul><ul><li>Payment for Goodwill to exiting partner </li></ul></ul><ul><li>Exclusivity </li></ul><ul><li>Enforceability against Company </li></ul><ul><ul><li>Company as party to SHA </li></ul></ul><ul><li>Exit Options </li></ul><ul><ul><li>Listing (Private Equity) </li></ul></ul><ul><ul><li>Call/ Put Option </li></ul></ul>
  13. 13. M&A TRANSACTION ISSUES: GENERAL <ul><li>Effectiveness of SHA and SPA </li></ul><ul><li>Indemnity </li></ul><ul><ul><li>Aggregate Liability Cap </li></ul></ul><ul><ul><li>De Minimis </li></ul></ul><ul><ul><li>Threshold </li></ul></ul><ul><li>Participative Rights v. Protective Rights </li></ul><ul><ul><li>Strategic Partner : Participative Rights </li></ul></ul><ul><ul><ul><li>Control on Board </li></ul></ul></ul><ul><ul><ul><li>Sharing Control </li></ul></ul></ul><ul><ul><li>Private Equity : Protective Rights </li></ul></ul>
  14. 14. M&A TRANSACTION ISSUES: GENERAL <ul><li>Special Rights </li></ul><ul><ul><li>Tag – Along Rights: minority partner/ private equity </li></ul></ul><ul><ul><li>Drag - Along Rights: majority partner </li></ul></ul><ul><ul><li>Right to share the upside on revised valuation of Target eg: on Merger; Listing at higher valuation </li></ul></ul><ul><ul><li>Right of First Refusal </li></ul></ul><ul><li>Earn-out Structure </li></ul><ul><ul><li>Favorable Business Projections </li></ul></ul>
  15. 15. M&A TRANSACTION ISSUES: GENERAL <ul><li>FCPA </li></ul><ul><li>Arbitration v. Litigation: Effective Remedy </li></ul><ul><ul><li>Proper Law of Arbitration </li></ul></ul><ul><ul><li>ICC v. UNICITRAL </li></ul></ul><ul><ul><li>Group Companies Doctrine </li></ul></ul><ul><ul><li>Place of Arbitration </li></ul></ul><ul><ul><li>Cost Effective </li></ul></ul>
  16. 16. M&A REGULATORY FRAMEWORK <ul><li>TRANSACTION STRUCTURE </li></ul><ul><li>Companies Act </li></ul><ul><li>Income Tax Act </li></ul><ul><li>Stamp Acts </li></ul><ul><li>Competition Act </li></ul><ul><li>TRANS-BORDER TRANSACTIONS </li></ul><ul><li>Foreign Exchange Management Act </li></ul><ul><li>LISTED COMPANIES </li></ul><ul><li>SEBI Regulations </li></ul><ul><li>Stock Exchange – Listing Agreement </li></ul>
  17. 17. M&A OVERVIEW <ul><li>Mergers Spin Offs Acquisitions </li></ul>DEMERGER OTHERS ASSETS SHARES CONTROL SLUMP SALE
  18. 18. ACQUISITIONS <ul><li>Acquisition </li></ul><ul><ul><li>Shares </li></ul></ul><ul><ul><li>Control </li></ul></ul><ul><li>Acquisition of Assets </li></ul><ul><ul><li>Slump Sale </li></ul></ul>
  19. 19. Acquisitions ISSUES: COMPANIES ACT <ul><li>Sections 108A to G : Central Government approval if in excess of threshold prescribed </li></ul><ul><ul><li>ambiguity as to ‘ classification of goods ’ </li></ul></ul><ul><li>Section 372A : Compliance by transferee company in acquisition of shares </li></ul><ul><li>Section 77A : Buy Back may be used as a defense to a hostile takeover </li></ul><ul><ul><li>Used in U.S.: PeopleSoft’s attempt to thwart Oracle </li></ul></ul>
  20. 20. Acquisitions ISSUES: FEMA <ul><li>Acquirer - Non-Resident: </li></ul><ul><li>No approval required for purchase of shares (including existing shares) </li></ul><ul><ul><li>From R </li></ul></ul><ul><ul><li>From NR </li></ul></ul><ul><li>Valuation prescribed in case of R-NR not less than </li></ul><ul><ul><li>Ruling Market Price - Listed Target Company </li></ul></ul><ul><ul><li>Fair valuation by a CA as per CCI guidelines - Unlisted Target Company </li></ul></ul><ul><li>Press Note 18 replaced by Press Note 1 of 2005 </li></ul><ul><li>Investment has to comply with FDI policy </li></ul>
  21. 21. Acquisitions ISSUES: FEMA <ul><li>Target Company is a Non-Resident </li></ul><ul><ul><li>Direct investment in JV/ WOS outside India (other than financial services) requires no approval subject to conditions including inter alia </li></ul></ul><ul><ul><ul><li>Financial commitment < or = 100% networth </li></ul></ul></ul><ul><ul><ul><li>Investment by way of remittance only if valuation </li></ul></ul></ul><ul><ul><ul><ul><li>If > 5 million USD: by Merchant Banker/ Investment Banker registered with SEBI/ appropriate authorities </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Other cases: by CA/ CPA </li></ul></ul></ul></ul><ul><ul><ul><li>Investment by share swap: valuation by Merchant Banker/ Investment Banker registered with SEBI/ appropriate authorities </li></ul></ul></ul>
  22. 22. Acquisitions ISSUES: TAKEOVER CODE <ul><li>Definition of “Control” - Inclusive </li></ul><ul><ul><li>Ambiguous: </li></ul></ul><ul><ul><ul><li>TATA Sellout in ACC. </li></ul></ul></ul><ul><ul><li>Negative control? </li></ul></ul><ul><li>S. 25(2) prohibits public offers after 21 days of the public announcement of first public offer </li></ul><ul><li>In case of indirect acquisition, foreign acquirer has three months from completion of transaction to make open offer. Therefore, foreign transactions can be concluded prior to open offer in India. </li></ul>
  23. 23. Acquisitions RECENT CHANGES : TAKEOVER CODE <ul><li>New thresholds of 54% and 74% in Regulation 7 </li></ul><ul><li>55% shares cannot be allotted by preferential allotment or market purchase – consolidation by public offer only </li></ul><ul><li>Acquisition by public offer under 11(2) can be for only so many shares as will keep float above listing requirements. </li></ul><ul><li>Where any acquisition reduces public float below Listing Agreement requirements, acquisition to comply with delisting guidelines </li></ul><ul><li>Where Code is triggered by a global deal, if the public offer will lower float to below the listing requirement, then acquirer has 12 months to raise float either by fresh issue or by disinvestment. </li></ul>
  24. 24. Acquisitions ISSUES: MISC <ul><li>Stamp Duty </li></ul><ul><ul><li>No stamp duty if transferred shares are dematerialized </li></ul></ul><ul><li>Industrial Disputes Act (s. 25FF) </li></ul><ul><ul><li>Workmen employed by transferor company entitled to retrenchment benefits unless retained in employment on same terms. </li></ul></ul>
  25. 25. Mergers <ul><li>Mergers </li></ul><ul><li>Spin-offs </li></ul><ul><ul><li>Demergers </li></ul></ul>
  26. 26. Mergers STRUCTURE 1 <ul><li>A = Amalgamating Company: Ceases to Exist </li></ul><ul><li>B = Amalgamated Company </li></ul><ul><li>B receives all of A’s assets and liabilities </li></ul><ul><li>Shareholders of A receive shares in B and maybe other benefits like debentures, cash </li></ul><ul><li>Transfer assets and liabilities </li></ul>A B
  27. 27. Mergers STRUCTURE 2 <ul><li>A, B and C = Amalgamating Companies: Cease to exist </li></ul><ul><li>D = Amalgamated Company: may or may not have existed before Merger </li></ul><ul><li>All assets and liabilities of A, B and C transferred to D </li></ul><ul><li>Shareholders in A,B and C get shares in D. </li></ul>A D B C
  28. 28. Spin-Offs STRUCTURE Y X Y Transfer of undertaking Y Company B Company A <ul><li>Consideration is usually shares of Company B but </li></ul><ul><li>maybe cash. </li></ul><ul><li>Process may or may not be Court sanctioned. </li></ul><ul><ul><li>Salora spinning off Panasonic to Matsushita under s. 391 Scheme. Consideration in cash. </li></ul></ul>Consideration in cash or issue of shares
  29. 29. Demergers STRUCTURE <ul><li>Demergers are one type of spin-offs: under s. 391 </li></ul><ul><li>A = Demerging Company </li></ul><ul><li>B = Resulting Company: may or may not have existed earlier </li></ul><ul><li>A transfers undertaking to B </li></ul><ul><li>B issues shares to shareholders of A </li></ul>X Y Y Company B Company A Transfers undertaking Y Shareholders of A Issues shares
  30. 30. Merger & Demerger PROCESS <ul><li>Phase- I </li></ul><ul><li>Draft Scheme </li></ul><ul><li>Notice to members of Board of both companies </li></ul><ul><li>Determine swap ratio based on valuation report </li></ul><ul><li>Board approval of both companies </li></ul><ul><li>Prior NoCs from secured creditors and shareholders for exemption from meeting: Reduce Time and Costs </li></ul><ul><ul><li>In ICICI Ltd. merger with ICICI Bank, meeting of preference shareholders of ICICI Ltd. was dispensed with since sole preference shareholder furnished an NOC </li></ul></ul><ul><li>Phase- II </li></ul><ul><li>Draft Application under s. 391(1) </li></ul><ul><li>Application to HCs in respective jurisdictions of both companies for sanction / direction to conduct meetings </li></ul><ul><ul><li>Moving registered office to one jurisdiction: Reduce Time and Costs </li></ul></ul>
  31. 31. Merger & Demerger PROCESS <ul><li>Phase- III </li></ul><ul><li>Notice of EGM to members with statement of terms of merger, interests of directors and proxy forms: 21 days </li></ul><ul><li>Advertisement </li></ul><ul><li>Notice in 2 newspapers: 21 days </li></ul><ul><li>Affidavit certifying compliance with HC’s directions in respect of notice/ advertisement </li></ul><ul><li>Meetings of creditors and/ or shareholders: agreed to by majority in number representing ¾ of value present and voting </li></ul><ul><li>Chairman of meetings to file report within 7 days of meeting </li></ul><ul><li>Resolutions and Explanatory Statements to be filed with RoC </li></ul>
  32. 32. Merger & Demerger PROCESS <ul><li>Phase- IV (Approval of the Scheme) </li></ul><ul><li>HC to be moved within 7 days of Chairman’s Report for second motion petition </li></ul><ul><li>10 days notice of hearing of petition in same newspapers </li></ul><ul><li>Notice to Central Govt. (Regional Director), and OL (if applicable): Submit reports </li></ul><ul><li>Objections raised in 391 proceedings </li></ul><ul><li>HC Sanction </li></ul><ul><li>Certified copy of HC Order to be filed with RoC within 30 days of order. </li></ul>
  33. 33. Merger & Demerger ISSUES: COMPANIES ACT <ul><li>s 391 - 394 : “Complete Code”, “Single Window Clearance” </li></ul><ul><ul><li>Reduction of capital- Position unclear, Predominance of judicial view: substantial compliance with s. 100- 102 required. </li></ul></ul><ul><li>Transnational Mergers : 391 - 394 mechanism operates only where amalgamated company is Indian. E.g. of transnational merger concluded under 391 route - Bank of Muscat merging into Centurion Bank by order of Karnataka HC </li></ul><ul><li>Alternative Mechanism: S. 494 </li></ul><ul><ul><li>Through Liquidation Process </li></ul></ul><ul><ul><li>Liquidator transfers assets to foreign company for shares </li></ul></ul><ul><ul><li>Process has to be “altogether voluntary” </li></ul></ul><ul><ul><li>Tax benefits are unavailable under this route </li></ul></ul>
  34. 34. Other Spin-Offs ISSUES: COMPANIES ACT <ul><li>Where spin-offs are outside the 391 mechanism, the following compliances need to be ensured </li></ul><ul><ul><li>293(1)(a) resolution </li></ul></ul><ul><ul><li>Voting has to be by postal ballot in a public listed company </li></ul></ul>
  35. 35. Mergers and Demergers ISSUES: INCOME TAX <ul><li>Transfer of capital assets by amalgamating company to amalgamated company is exempt from Capital Gains Tax provided amalgamated company is an Indian company </li></ul><ul><li>Capital Gains Exemption in respect of shares issued to members of amalgamating/ demerging company- s. 47 </li></ul><ul><li>Exemption may not be available if members of amalgamating company receive anything besides shares in the amalgamated company like debentures or cash- Gujarat HC in Gautam Sarabhai v. CIT , 173 ITR 216. </li></ul>
  36. 36. Mergers and Demergers ISSUES: INCOME TAX <ul><li>In case of fraction shares, issue to trustee who liquidates these and distributes money to shareholders of amalgamating company. </li></ul><ul><li>Carry forward of losses and unabsorbed depreciation provided the amalgamated company carry on the business of the amalgamating company for at least 5 years – s. 72A </li></ul><ul><ul><li>Use of Reverse merger to meet above condition </li></ul></ul><ul><li>Spin-off receives tax benefits under Income Tax Act only if it is a demerger </li></ul>
  37. 37. Slump Sale ISSUES: TAXATION <ul><li>Slump Sale = Transfer of undertaking without itemizing individual assets and liabilities- s.2(42C) Income Tax Act </li></ul><ul><li>Treated as capital gains </li></ul><ul><li>If undertaking is older than 3 years, long term capital gains rates apply even if individual assets are new </li></ul><ul><li>Carry forward of losses and unabsorbed depreciation unavailable </li></ul>
  38. 38. Merger & Demergers ISSUES: SALES TAX <ul><li>No Sales tax on Amalgamation or demerger. </li></ul><ul><li>Where effective date is retrospective, any transfers between amalgamating company and amalgamated company retrospectively cease to be liable to sales tax- Mad HC Castrol Oil v. State of TN , 114 STC 468 </li></ul><ul><li>Some Sales Tax enactments contain specific provisions to tax such transactions eg. S.33C, Bombay Sales Tax Act. No such provision in Central Sales Tax Act. </li></ul>
  39. 39. Merger ISSUES: STAMP DUTY <ul><li>Divergences between states: Shopping for beneficial rates usually pointless </li></ul><ul><li>Duty to be imposed on value of shares transferred not on individual assets transferred: Bom HC in Li Taka AIR 1997 Bom 7 </li></ul><ul><li>States with Specific entries: Maharashtra, Karnataka, Rajasthan and Gujarat </li></ul>
  40. 40. Merger ISSUES: STAMP DUTY <ul><li>States without specific entries: Unclear if duty leviable. </li></ul><ul><ul><li>Cal HC in Madhu Intra Ltd. v. ROC, 2004 (3) CHN 607 - 394 Order is not an instrument chargeable to duty </li></ul></ul><ul><ul><li>Supreme Court in Ruby Sales v . State of Maharashtra (1994) 1 SCC 531 - specific inclusion of civil court decrees in Bombay Stamp Act only abundant caution </li></ul></ul><ul><li>1937 Notification under Indian Stamp Act, 1899 remits duty when merger is of a 90% subsidiary: Remission not available in states with own legislations eg. Kerala, Karnataka, Maharashtra, Gujarat and Rajasthan </li></ul><ul><li>Gujarat and Maharashtra have limits on stamp duty for mergers and demergers at Rs.10 crore and Rs. 25 crore. </li></ul>
  41. 41. Merger ISSUES: SEBI <ul><li>Acquisition of shares pursuant to a scheme of arrangement or reconstruction under any law, Indian or foreign – exempt from SEBI Takeover Code. </li></ul><ul><ul><li>Exemption claimed unsuccessfully by Luxottica in the acquisition of Ray Ban Sun Optics India </li></ul></ul><ul><li>Listing Agreement: </li></ul><ul><ul><li>Scheme before the Court/ Tribunal must not violate, override or circumscribe the securities laws or stock exchange requirements </li></ul></ul><ul><ul><li>Disclosure required </li></ul></ul>
  42. 42. Merger ISSUES: SEBI <ul><li>Shares allotted by unlisted transferee company to shareholders of listed transferor company under a HC sanctioned scheme – can be listed without an IPO subject to conditions (DIP). </li></ul><ul><ul><li>Eg. Dabur Pharmaceuticals </li></ul></ul><ul><li>Constitutes ‘Price Sensitive Information’ in terms of Insider Trading Regulations. </li></ul><ul><li>Compliance with Delisting Guidelines if public shareholding below prescribed limit. </li></ul>
  43. 43. Mergers MISCELLANEOUS ISSUES <ul><li>Foreign Exchange Management Act, 1999 </li></ul><ul><ul><li>Where the amalgamated company is Indian, non resident shareholders of the foreign amalgamating company require RBI approval to receive shares. </li></ul></ul><ul><ul><li>Where the amalgamated company is foreign, the issue of its shares to Indian shareholders requires RBI approval. </li></ul></ul><ul><ul><li>Automatic route available where non residents have to be issued shares in a merger of Indian companies. </li></ul></ul>
  44. 44. Mergers MISCELLANEOUS ISSUES <ul><li>Human Resources </li></ul><ul><ul><li>Workmen entitled to retrenchment benefits unless retained in employment on same terms. </li></ul></ul><ul><ul><li>Adjustments of pay scale needs to be resolved. </li></ul></ul><ul><ul><ul><li>Global Trust employees were retained on same terms in OBC. Pay packages of former GTB staff could be altered only after 3 years. OBC management had to contend with GTB’s complex salary structure. </li></ul></ul></ul>
  45. 45. Mergers & Acquisitions COMPETITION LAW <ul><li>Monopolistic and Restrictive Trade Practices Act, 1969 </li></ul><ul><ul><li>Status: Repealing provision in Competition Act, 2002 not notified. </li></ul></ul><ul><ul><li>No Central Government approval required for a merger or acquisition under the MRTPA </li></ul></ul><ul><ul><li>Act attracted only if amalgamated company discovered to be monopolistic in its working not at stage of amalgamation- Hindustan Lever, 1995 Supp (1) SCC 499 </li></ul></ul>
  46. 46. Mergers & Acquisitions COMPETITION LAW <ul><li>Competition Act, 2002 (Partially notified) </li></ul><ul><ul><li>Merger or Acquisition = “Combination” if stipulated thresholds respecting aggregate asset or turnover are exceeded </li></ul></ul><ul><ul><li>Prior approval of combination is not mandatory </li></ul></ul><ul><ul><li>Test – “ Cause or likely to cause an appreciable adverse effect on competition within the relevant market ” </li></ul></ul>