Amity Business School MBA Class of 2010, Semester IV Strategic Financial Management Prof Akhil Swami/Anuj Srivastava
Corporate restructuring FOR Corporate India, it is earnings season once again. The focus inevitably turns on whether the company in question has done better or worse than the previous period. Therein lies the rub.
Restructuring is the corporate management term for the act of reorganizing the legal, ownership, operational, or other structures of a company for the purpose of making it more profitable, or better organized for its present needs. Alternate reasons for restructuring include a change of ownership or ownership structure, demerger, or a response to a crisis or major change in the business such as bankruptcy, repositioning, or buyout. Restructuring may also be described as corporate restructuring, debt restructuring and financial restructuring. The basic nature of restructuring is a zero sum game. Strategic restructuring reduces financial losses, simultaneously reducing tensions between debt and equity holders to facilitate a prompt resolution of a distressed situation.
ensure the company has enough liquidity to operate during implementation of a complete restructuring
produce accurate working capital forecasts
provide open and clear lines of communication with creditors who mostly control the company's ability to raise financing
update detailed business plan and considerations.
Corporate restructuring : Restructuring is the corporate management term for the act of partially dismantling and reorganizing a company for the purpose of making it more efficient and therefore more profitable. It generally involves selling off portions of the company and making severe staff reductions. Restructuring is often done as part of a bankruptcy or of a takeover by another firm, particularly a leveraged buyout by a private equity firm. It may also be done by a new CEO hired specifically to make the difficult and controversial decisions required to save or reposition the company.
Characteristics The selling of portions of the company, such as a division that is no longer profitable or which has distracted management from its core business, can greatly improve the company's balance sheet. Staff reductions are often accomplished partly through the selling or closing of unprofitable portions of the company and partly by consolidating or outsourcing parts of the company that perform redundant functions (such as payroll, human resources, and training) left over from old acquisitions that were never fully integrated into the parent organization. Other characteristics of restructuring can include: ·
· Changes in corporate management (usually with golden parachutes) · Retention of corporate management sometimes "stay bonus" payments or equity grants · Sale of underutilized assets, such as patents or brands · Outsourcing of operations such as payroll and technical support to a more efficient third party · Moving of operations such as manufacturing to lower-cost locations · Reorganization of functions such as Renegotiation of labor contracts to reduce overhead · Refinancing of corporate debt to reduce interest payments · A major public relations campaign to reposition the company with consumers · Forfeiture of all or part of the ownership share by pre restructuring stock holders
Disclosure in Merger/restructuring
If the company has shed some businesses or merged itself with another during the reporting period, how does one say that the company has shown improvement in performance over an earlier period?
The adequacy of disclosures in financial statements is a never-ending debate, and one that has traditionally seen the companies and the securities regulator ranged against one another. The former seeks to conform to the letter of the law and if that means disseminating the least possible information, so be it, they seem to say.
On the other hand, the market regulator would wish for greater transparency and quality of disclosures in financial statements to common investors on an ongoing basis so that spirit triumphs over form.
There is no disputing the fact that there has been a vast improvement in the quality of disclosures over the years. However, there remain certain areas where improvements have been slow in manifesting themselves. One such area is disclosures arising from "corporate restructuring".
In the tough economic environment of the past few years, there has been a flurry of restructuring with companies engaging in mergers and acquisitions, demerger/divestiture of units and this wave of restructuring has spawned a peculiar breed of inconsistencies as far as financial disclosures are concerned. Business Line attempted to examine the quality of financial disclosures in the quarterly and yearly earnings performance for around 200 companies for 2002-03 vis-à-vis the previous year. r discontinuance of operations.
The outstanding example of active restructuring which instantly comes to mind is Hindustan Lever. For the past three years, in every single year, in order to stay competitive, the company has put through a string of amalgamations, sales of businesses, discontinuance of operations, integration and delinking of subsidiaries.
Similarly, ICICI Bank has also stated that its results for the year ended March 31, 2003 are not comparable with the previous year because it includes the results of erstwhile ICICI and its subsidiaries ICICI Personal Finance and ICICI Capital Services with effect from March 30, 2002.
Discontinued/demerged operations : For the year ended December 31, 2002, Gillette India stated that its earnings performance was not comparable to the previous year on account of the discontinuation of operations at the Duracell Manufacturing Plant at the beginning of the year and divestiture of the Geep battery business, leading to a one-time impact on revenue and expenses.
HDFC/HDFC Bank : Unlike the ICICI group, these two entities have opted to remain separate companies. But as home financing has become a commodity, with banks becoming big players, the raison d'etre for HDFC to continue as a separate entity gets weaker by the day; it does enjoy tax benefits but it can trade them for the flexibility to source funds at lower rates. This may make more sense now as the interest-rate-decline story seems to have ended.
A combined entity may command even greater strength; it would have a market cap of about Rs 40,000 crore, the cleanest balance-sheet in the financial sector and an unmatched record of healthy growth on a big base. HDFC Bank could buy out HDFC in a share swap.
The top management maintains that a merger is not on the drawing board. But the factors that favour integration are likely to prevail. Foreign investors own about 70 per cent of the equity in HDFC and HDFC Bank. And the FIIs may be favourably inclined towards a merger. The small-cap GRUH Finance could be an integral part of such a restructuring as HDFC holds a 60 per cent stake in it. Regulatory constraints may impose costs that could strain earnings for a year or two. But that may not deter investor fancy.
What is Corporate Restructuring?
• Actions taken to expand or contract a firm’s
basic operations or fundamentally change in its
asset or financial structure.
Activities are broad, range from reorganizing
business units from product lines to divisions to
takeovers or joint ventures etc.
• May involve taking the company private, selling
attractive assets, undertaking a major acquisition, or even liquidating the company
– Outright or partial sale of companies or product lines
or to downsize by closing unprofitable or non-strategic
– Also known as divestiture
– Remove non-core assets
– Becoming more focused on core activities
• Financial (or debt) restructuring
– Actions by the firm to change its total debt and equity
structure, i.e, share repurchase, adding debt or lower
overall cost of capital.
Value Creation Process
Common Features of LBO and MBO
• Preexisting shareholders receive a large one-time
disgorgement of cash value from their investment in the
• The cash payment is financed by a dramatic leveraging
of the company
• The restructuring is accompanied by a dramatic
rearrangement of incentive compensation for
• Management retains operational control of the firm
• The restructuring is usually followed by significant
operational tightening to increase operating cash flow.
MBO leads to private companies while LBO leaves the
company publicly traded with shareholders receiving “stub”
equity in addition to cash payout.
• Under the MBO, the company saves on public reporting costs,
but its equity shares remain illiquid securities. LBO preserves
equity liquidity but exploits no (or few) savings on reporting.
• Under the MBO, owners are insiders. In LBO, equity investors
• Under MBO, control of the firm changes. In LBO, control may
not necessarily change since the stub equity remains in the
hands of public shareholders.
• The MBO creates strong conflict of interests, requiring the
board to actively represent shareholders in the buyout
negotiations. In LBO, ordinary business judgment rules