CONTEMPORARY ISSUE ON SEMINAR

A STUDY ON

”AMALGAMATION”

MBA

Presented at

Submitted By: Submitted To:

Shilpa Sharma Dr. Pramod Gupta

MBA II Sem.

Alwar Institute of Management & Technology

M.I.A., Alwar (Raj.)

2011-2012

Acknowledgement

I express my sincere thanks to my project guide Dr. Pramod Gupta,

Department of management studies, AIET Alwar, for guiding me right from

the inception till the successful completion of the project. I sincerely

acknowledge her for extending their valuable guidance, support for

literature, critical reviews of project and the report and above all the moral

support they had provided to me with all stages of this project.

I would also like to thanks Dr. Pramod Gupta and supporting staff faculty

members of Department of Management Studies, AIET, Alwar for their help

and cooperation throughout our project.

Shilpa Sharma

Accounting for Amalgamations

Contents

1.Introduction

2.Definitions

3.Explanation

4.Types of Amalgamations

5.Methods of Accounting for Amalgamations

-The Pooling of Interests Method

-The Purchase Method

6.Consideration

7.Treatment of Reserves on Amalgamation

8.Treatment of Goodwill Arising on Amalgamation

9.Balance of Profit and Loss Account

10.Treatment of Reserves Specified in A Scheme of Amalgamation

11.Disclosure

12.Amalgamation after the Balance Sheet Date

13.Accounting Standard

14.Common Procedures

Case Study:-

-Introduction to ICICI Bank

-Introduction to Madura Bank

- Merger of ICICI Bank with Bank of Madura

Accounting for Amalgamations

The following is the text of Accounting Standard (AS) 14, ‘Accounting for

Amalgamations’, issued by the Council of the Institute of Chartered Accountants of

India.

This standard will come into effect in respect of accounting periods commencing on or

after 1.4.1995 and will be mandatory in nature.2 The Guidance Note on Accounting

Treatment of Reserves in Amalgamations issued by the Institute in 1983 will stand

withdrawn from the aforesaid date.

Introduction

This statement deals with accounting for amalgamations and the treatment of any

resultant goodwill or reserves. This statement is directed principally to companies

although some of its requirements also apply to financial statements of other

enterprises.

This statement does not deal with cases of acquisitions which arise when there is a

purchase by one company (referred to as the acquiring company) of the whole or part of

the shares, or the whole or part of the assets, of another company (referred to as the

acquired company) in consideration for payment in cash or by issue of shares or other

securities in the acquiring company or partly in one form and partly in the other. The

distinguishing feature of an acquisition is that the acquired company is not dissolved

and its separate entity continues to exist.

Definitions

The following terms are used in this statement with the meanings specified:

(a) Amalgamation means an amalgamation pursuant to the provisions of the

Companies Act, 1956 or any other statute which may be applicable to companies.

(b) Transferor company means the company which is amalgamated into another

company.

(c) Transferee company means the company into which a transferor company is

amalgamated.

(d) Reserve means the portion of earnings, receipts or other surplus of an enterprise

(whether capital or revenue) appropriated by the management for a general or a specific

purpose other than a provision for depreciation or diminution in the value of assets or

for a known liability.

(e) Amalgamation in the nature of merger is an amalgamation which satisfies all the

following conditions:-

(i) All the assets and liabilities of the transferor company become, after

amalgamation, the assets and liabilities of the transferee company.

(ii) Shareholders holding not less than 90%of the face value of the equity shares of

the transferor company (other than the equity shares already held therein, immediately

before the amalgamation, by the transferee company or its subsidiaries or their

nominees) become equity shareholders of the transferee company by virtue of the

amalgamation.

(iii) The consideration for the amalgamation receivable by those equity

shareholders of the transferor company who agree to become equity shareholders of

the transferee company is discharged by the transferee company wholly by the issue of

equity shares in the transferee company, except that cash may be paid in respect of any

fractional shares.

(iv) The business of the transferor company is intended to be carried on, after

the amalgamation, by the transferee company.

(v) No adjustment is intended to be made to the book values of the assets and

liabilities of the transferor company when they are incorporated in the financial

statements of the transferee company except to ensure uniformity of accounting

policies.

(f) Amalgamation in the nature of purchase is an amalgamation which does not satisfy

any one or more of the conditions specified in sub-paragraph (e) above.

(g) Consideration for the amalgamation means the aggregate of the shares and other

securities issued and the payment made in the form of cash or other assets by the

transferee company to the shareholders of the transferor company.

(h) Fair value is the amount for which an asset could be exchanged between a

knowledgeable, willing buyer and a knowledgeable, willing seller in an arm’s length

transaction.

(i) Pooling of interests is a method of accounting for amalgamations the object of which

is to account for the amalgamation as if the separate businesses of the amalgamating

companies were intended to be continued by the transferee company. Accordingly, only

minimal changes are made in aggregating the individual financial statements of the

amalgamating companies.

Types of Amalgamations

Generally speaking, amalgamations fall into two broad categories. In the first

category are those amalgamations where there is a genuine pooling not merely of the

assets and liabilities of the amalgamating companies but also of the shareholders’

interests and of the businesses of these companies. Such amalgamations are

amalgamations which are in the nature of ‘merger’ and the accounting treatment of such

amalgamations should ensure that the resultant figures of assets, liabilities, capital and

reserves more or less represent the sum of the relevant figures of the amalgamating

companies. In the second category are those amalgamations which are in effect a mode

by which one company acquires another company and, as a consequence, the

shareholders of the company which is acquired normally do not continue to have a

proportionate share in the equity of the combined company, or the business of the

company which is acquired is not intended to be continued. Such amalgamations are

amalgamations in the nature of ‘purchase’.

An amalgamation is classified as an ‘amalgamation in the nature of merger’ when all

the conditions listed in paragraph (e) are satisfied. There are, however, differing views

regarding the nature of any further conditions that may apply. Some believe that, in

addition to an exchange of equity shares, it is necessary that the shareholders of the

transferor company obtain a substantial share in the transferee company even to the

extent that it should not be possible to identify any one party as dominant therein. This

belief is based in part on the view that the exchange of control of one company for an

insignificant share in a larger company does not amount to a mutual sharing of risks and

benefits.

Others believe that the substance of an amalgamation in the nature of merger is

evidenced by meeting certain criteria regarding the relationship of the parties, such as

the former independence of the amalgamating companies, the manner of their

amalgamation, the absence of planned transactions that would undermine the effect of

the amalgamation, and the continuing participation by the management of the transferor

company in the management of the transferee company after the amalgamation.

Methods of Accounting for Amalgamations

There are two main methods of accounting for amalgamations:

(a) the pooling of interests method; and

(b) the purchase method.

The use of the pooling of interests method is confined to circumstances which meet

the criteria referred to in paragraph 3(e) for an amalgamation in the nature of merger.

The object of the purchase method is to account for the amalgamation by applying

the same principles as are applied in the normal purchase of assets. This method is

used in accounting for amalgamations in the nature of purchase.

The Pooling of Interests Method

Under the pooling of interests method, the assets, liabilities and reserves of the

transferor company are recorded by the transferee company at their existing carrying

amounts.

If, at the time of the amalgamation, the transferor and the transferee companies

have conflicting accounting policies, a uniform set of accounting policies is adopted

following the amalgamation. The effects on the financial statements of any changes in

accounting policies are reported in accordance with Accounting Standard (AS) 5, ‘Prior

Period and Extraordinary Items and Changes in Accounting Policies’.3

The Purchase Method

Under the purchase method, the transferee company accounts for the

amalgamation either by incorporating the assets and liabilities at their existing carrying

amounts or by allocating the consideration to individual identifiable assets and liabilities

of the transferor company on the basis of their fair values at the date of amalgamation.

The identifiable assets and liabilities may include assets and liabilities not recorded in

the financial statements of the transferor company.

Consideration

The consideration for the amalgamation may consist of securities, cash or other

assets. In determining the value of the consideration, an assessment is made of the fair

value of its elements. A variety of techniques is applied in arriving at fair value. For

example, when the consideration includes securities, the value fixed by the statutory

authorities may be taken to be the fair value. In case of other assets, the fair value may

be determined by reference to the market value of the assets given up. Where the

market value of the assets given up cannot be reliably assessed, such assets may be

valued at their respective net book values.

Many amalgamations recognise that adjustments may have to be made to the

consideration in the light of one or more future events. When the additional payment is

probable and can reasonably be estimated at the date of amalgamation, it is included in

the calculation of the consideration. In all other cases, the adjustment is recognised as

soon as the amount is determinable [see Accounting Standard (AS) 4, Contingencies

and Events Occurring After the Balance Sheet Date].

Treatment of Reserves on Amalgamation

If the amalgamation is an ‘amalgamation in the nature of merger’, the identity of the

reserves is preserved and they appear in the financial statements of the transferee

company in the same form in which they appeared in the financial statements of the

transferor company. Thus, for

example, the General Reserve of the transferor company becomes the General

Reserve of the transferee company, the Capital Reserve of the transferor company

becomes the Capital Reserve of the transferee company and the Revaluation Reserve

of the transferor company becomes the Revaluation Reserve of the transferee

company. As a result of preserving the identity, reserves which are available for

distribution as dividend before the amalgamation would also be available for distribution

as dividend after the amalgamation. The difference between the amount recorded as

share capital issued (plus any additional consideration in the form of cash or other

assets) and the amount of share capital of the transferor company is adjusted in

reserves in the financial statements of the transferee company.

If the amalgamation is an ‘amalgamation in the nature of purchase’, the identity of

the reserves, other than the statutory reserves dealt with in is not preserved. The

amount of the consideration is deducted from the value of the net assets of the

transferor company acquired by the transferee company. If the result of the computation

is negative, the difference is debited to goodwill arising on amalgamation. If the result of

the computation is positive, the difference is credited to Capital Reserve.

Certain reserves may have been created by the transferor company pursuant to the

requirements of, or to avail of the benefits under, the Income tax Act, 1961; for example,

Development Allowance Reserve, or Investment Allowance Reserve. The Act requires

that the identity of the reserves should be preserved for a specified period. Likewise,

certain other reserves may have been created in the financial statements of the

transferor company in terms of the requirements of other statutes. Though, normally, in

an amalgamation in the nature of purchase, the identity of reserves is not preserved, an

exception is made in respect of reserves of the aforesaid nature (referred to hereinafter

as ‘statutory reserves’) and such reserves retain their identity in the financial statements

of the transferee company in the same form in which they appeared in the financial

statements of the transferor company, so long as their identity is required to be

maintained to comply with the relevant statute. This exception is made only in those

amalgamations where the requirements of the relevant statute for recording the

statutory reserves in the books of the transferee company are complied with. In such

cases the statutory reserves are recorded in the financial statements of the transferee

company by a corresponding debit to a suitable account head (e.g., ‘Amalgamation

Adjustment Account’) which is disclosed as a part of ‘miscellaneous expenditure’ or

other similar category in the balance sheet. When the identity of the statutory reserves

is no longer required to be maintained, both the reserves and the aforesaid account are

reversed.

Treatment of Goodwill Arising on Amalgamation

Goodwill arising on amalgamation represents a payment made in anticipation of

future income and it is appropriate to treat it as an asset to be amortised to income on a

systematic basis over its useful life. Due to the nature of goodwill, it is frequently difficult

to estimate its useful life with reasonable certainty. Such estimation is, therefore, made

on a prudent basis. Accordingly, it is considered appropriate to amortise goodwill over a

period not exceeding five years unless a somewhat longer period can be justified.

Factors which may be considered in estimating the useful life of goodwill arising on

amalgamation include:

• the foreseeable life of the business or industry;

• the effects of product obsolescence, changes in demand and other economic

factors;

• the service life expectancies of key individuals or groups of employees;

• expected actions by competitors or potential competitors; and

• legal, regulatory or contractual provisions affecting the useful life.

Balance of Profit and Loss Account

In the case of an ‘amalgamation in the nature of merger’, the balance of the Profit

and Loss Account appearing in the financial statements of the transferor company is

aggregated with the corresponding balance appearing in the financial statements of the

transferee company. Alternatively, it is transferred to the General Reserve, if any.

In the case of an ‘amalgamation in the nature of purchase’, the balance of the Profit

and Loss Account appearing in the financial statements of the transferor company,

whether debit or credit, loses its identity.

Treatment of Reserves Specified in A Scheme of

Amalgamation

The scheme of amalgamation sanctioned under the provisions of the Companies

Act, 1956 or any other statute may prescribe the treatment to be given to the reserves

of the transferor company after its amalgamation. Where the treatment is so prescribed,

the same is followed. In some cases, the scheme of amalgamation sanctioned under a

statute may prescribe a different treatment to be given to the reserves of the transferor

company after amalgamation as compared to the requirements of this Statement that

would have been followed had no treatment been prescribed by the scheme. In such

cases, the following disclosures are made in the first financial statements following the

amalgamation:

(a) A description of the accounting treatment given to the reserves and the reasons

for following the treatment different from that prescribed in this Statement.

(b) Deviations in the accounting treatment given to the reserves as

prescribed by the scheme of amalgamation sanctioned under the statute as compared

to the requirements of this Statement that would have been followed had no treatment

been prescribed by the scheme.

(c) The financial effect, if any, arising due to such deviation.

Disclosure

For all amalgamations, the following disclosures are considered appropriate in the

first financial statements following the amalgamation:

(a) names and general nature of business of the amalgamating companies;

(b) effective date of amalgamation for accounting purposes;

(c) the method of accounting used to reflect the amalgamation; and

(d) particulars of the scheme sanctioned under a statute.

For amalgamations accounted for under the pooling of interests method, the

following additional disclosures are considered appropriate in the first financial

statements following the amalgamation:

(a) description and number of shares issued, together with the percentage of each

company’s equity shares exchanged to effect the amalgamation;

(b) the amount of any difference between the consideration and the value of net

identifiable assets acquired, and the treatment thereof.

For amalgamations accounted for under the purchase method, the following

additional disclosures are considered appropriate in the first financial statements

following the amalgamation:

(a) consideration for the amalgamation and a description of the

consideration paid or contingently payable; and

(b) the amount of any difference between the consideration and the value of net

identifiable assets acquired, and the treatment thereof including the period of

amortisation of any goodwill arising on amalgamation.

Amalgamation after the Balance Sheet Date

When an amalgamation is effected after the balance sheet date but before the

issuance of the financial statements of either party to the amalgamation, disclosure is

made in accordance with AS 4 ‘Contingencies and Events Occurring After the Balance

Sheet Date’, but the amalgamation is not incorporated in the financial statements. In

certain circumstances, the amalgamation may also provide additional information

affecting the financial statements themselves, for instance, by allowing the going

concern assumption to be maintained.

Accounting Standard

An amalgamation may be either –

(a) an amalgamation in the nature of merger, or

(b) an amalgamation in the nature of purchase.

An amalgamation should be considered to be an amalgamation in the nature of merger

when all the following conditions are satisfied:

(i) All the assets and liabilities of the transferor company become, after amalgamation,

the assets and liabilities of the transferee company.

(ii) Shareholders holding not less than 90% of the face value of the equity shares of

the transferor company (other than the equity shares already held therein, immediately

before the amalgamation, by the transferee company or its subsidiaries or their

nominees) become equity shareholders of the transferee company by virtue of the

amalgamation.

(iii) The consideration for the amalgamation receivable by those equity shareholders of

the transferor company who agree to become equity shareholders of the transferee

company is discharged by the transferee company wholly by the issue of equity shares

in the transferee company, except that cash may be paid in respect of any fractional

shares.

(iv) The business of the transferor company is intended to be carried on, after the

amalgamation, by the transferee company.

(v) No adjustment is intended to be made to the book values of the assets and liabilities

of the transferor company when they are incorporated in the financial statements of the

transferee company except to ensure uniformity of accounting policies.

An amalgamation should be considered to be an amalgamation in the nature of

purchase, when any one or more of the conditions specified in above paragraph is not

satisfied.

 Case study:- Mergers in the Banking Sector

ICICI Bank

INTRODUCTION

ICICI Bank (formerly Industrial Credit and Investment Corporation of India) is

India' s   l a r g e s t   p r i v a t e   b a n k .   I C I C I   B a n k   h a s   t o t a l   a s s e t s  

o f   a b o u t Rs.20.05bn (end-Mar 2005), a network of over 550 branches and offices,

and about 1900

atms.  I C I C I   B a n k   o f f e r s   a   w i d e   r a n g e   o f   b a n k i n g   p r o d u c t s   a n d  

f i n a n c i a l services to corporate and retail customers through a variety of

delivery channels and through its specialized subsidiaries and affiliates in the

areas of investment banking, life and non-life insurance, venture capital

and asset management.

ICICIB a n k ' s   e q u i t y   s h a r e s   a r e   l i s t e d   i n   I n d i a   o n   s t o c k  

e x c h a n g e s   a t Kolkata and Vadodara, the Stock Exchange, Mumbai and the

National Stock Exchange of India Limited and its adrs are listed on the New

York Stock Exchange (NYSE). During the year 2005 IC ICI bank was invo lved

as a de fendant in cases o f a l leged c r im ina l practices in its debt

collection operations and alleged fraudulent tactics to sell its products.

The industrial Credit and Investment Corporation of India Limited now known as ICICI

Ltd. Was founded b the World bank, the Government of India and representatives of

private industry on January 5, 1955.

The objective was to encourage and assist industrial development and investment

in India. Over the years, ICICI has evolved into a diversified financial institution. ICICI’s

principal business activities include:

Project Finance

Infrastructure Finance

Corporate Finance

Securitization

Leasing

Deferred Credit

Consultancy services

Custodial services

T h e   I C I C I   G r o u p s   d r a w s   i t s   s t r e n g t h   f r o m   t h e   c o r e  

c o m p e t e n c i e s   o f   i t s ind iv idua l compan ies . Today , top Ind ian

Corpora te look towers IC ICI as a bus iness  partner for providing

solutions to their varied financial requirements. The Group also offers a gamut

of personal finance solutions to individuals. To lead the financial services into the new

millennium, the Group is now truly positioned as a Virtual Universal Bank. The

liberalization of the Indian economy in the 1990s offered ICICI an opportunity

to provide a wide range of financial services. For regulatory and strategic reasons, ICICI

setup specialized subsidiaries in the areas of commercial banking, investment banking,

non- banking finance, investor servicing brooking, venture capital financing

and state level infrastructure financing.

IC ICI p lans to focus on i t s re ta i l f i nance bus iness and expec t the

same to contribute upto 15-20 % of its turnover in the next five years. It is

trying to change the perception that it is a corporate oriented bank. The bank hard

selling its image as a retail segment bank has fo r the f i r s t t ime come up

w i th an adver t i sement tha t addresses i t s  products at the individual. This is to

drive home the point that the bank has product and services catering to all

individuals. For this purpose the network of ICICI Bank shall come into use.

The parent plants to sell its products and also raise retail funds through the banking

subsidiary.

THE ICICI GROUP COMPRISES OF:

ICICI Bank Limited,

ICICI Securities and Finance Company Limited (ICICI Securities),

ICICI Credit Corporation Limited ( ICICI Credit),

 ICICI Investors Services Limited (ICICI Services),

 ICICI Venture Funds Management Limited (ICICI Venture),

ICICI international Limited, 

ICICI -KINFRA Limited (I-KIN),

Mr. K.V. Kamath, CEO of ICICI Limited, has recently voiced the intentions

of ICICI Limited towards banking and ICICI Bank. ICICI Limited is endeavoring to forge

a closer relationship with ICICI bank. Mr. K V Kamath recently quoted in a leading daily

“Bank ing i s dead . Un iversa l bank ing i s in o f fe r ing w i th a who le range

o f f i nanc ia l  products and services. The basic idea is for banks to do

business along with “banking”. Bankers will have to emerge as businessmen.”

ICICI Bank is a focused banking company coping with the changing times of

the bank ing indus t ry . So i t can be a luc ra t i ve ta rge t fo r o ther p layer

in the same l ine o f  operations. However, when merged with ICICI Limited the

attraction is reduced manifold considering the magnitude of operations of the

ICICI limited.

Of course, one would still need a bank to open letters of credit, offer

guarantees, hand le documenta t ion , and ma in ta in cur ren t accoun t

fac i l i t i es e tc . So banks w i l l no t superfluous. But nobody needs so many

of them anymore.

Second ly , bes ides c red i t , a cus tomer may a lso want f rom a bank

e f f i c ien t cash management, advisory services and market research on his product.

Thus the importance of fee based is increasing in comparison with the fund-based

income.

The pre--merger status of ICICI Bank is as follows: it had liabilities of Rs.12,073 crore,

equity market capitalization of Rs.2,466 crore and equity volatility of 0.748.

Working through options reasoning, we find that this share price and volatility are

consistent with assets worth Rs.13,249 crore with volatility 0.15. Thus, ICICI bank had

assets which are9.7% ahead of liabilities, which is roughly consistent with the spirit of

the Basle Accord, and has leverage of 5.37 times.

History of ICICI Bank 

The World bank the Government of India and representatives of Indian industry form

ICICI Limited as a development finance institution to provide medium-term

and long-term project financing to Indian businesses in 1955

.

•1994 ICICI establishes ICICI Bank as a subsidiary.

•1999 IC ICI becomes the f i r s t Ind ian company and the f i r s t bank o r

f i nanc ia l institution from non-Japan Asia to list on the NYSE.

 • 2001 ICICI acquired Bank of Madura (est. 1943). Bank of Madura was a

Chettiar   bank, and had acquired Chettinad Mercantile Bank (est.1933) a n d

Illanji Bank  (established 1904) in the1960s.

• 2002The Boards o f D i rec to rs o f IC ICI and IC ICI Bank approve the

merger o f   ICICI, IC ICI  Persona l  F inanc ia l  Serv ices  L im i ted and ICICI 

Capital Services Limited,  w i th   IC ICI  Bank .  A f te r   rece iv ing  a l l   necessary  

regu la to ry  approva ls , ICICI integrates the group's financing and banking

operations, both wholesale and retail, into a single

 

INTRODUCTION OF BANK OF MADURA

T h e p r e - - m e r g e r s t a t u s o f B a n k o f M a d u r a i s a s f o l l o w s : i t h a d

l i a b i l i t i e s o f   Rs.4,444 crore, equity market capitalization of Rs.100 crore and

equity volatility of 0.69.Working through options reasoning, we may say that the

stock market thinks that its assets are worth Rs.4, 095 crore with a volatility

of 0.02. Hence, bom is bankrupt (with assets which are Rs.350 crore behind

liabilities) and has a leverage of 41 times. If we needed to bring bom up to a

point where its assets were 10% ahead of liabilities, which is broadly consistent with the

Basle Accord, this would require an infusion of Rs.800 crore of equity capital.

How do we combine these to th ink o f the merged en t i t y? Asse ts and

l i ab i l i t i es a re additive, so the total assets of the merged entity would prove

to be roughly Rs.17,345 crore and the liabilities would prove to be Rs.16,517

crore. The merged entity would hence need roughly Rs.800 crore of fresh

equity capital in order to come up to a point where assets were at least 10%

ahead of liabilities.

How can we estimate the market capitalization of the merged entity? The value

of equity is the value of a call option on the assets of the merged entity.

Pricing the call requires an estimate of the volatility of the merged assets, i.e.

It requires knowledge of the extent to which the assets of the two banks are

uncorrelated. We find that using values of the cor re la t ion coe f f i c ien t rang ing

f rom 80% to 95%, the vo la t i l i t y o f asse ts o f the merged entity proves to be

around 0.12. In this case, the valuation of the call option, i.e. An es t imate o f the

marke t cap i ta l i za t ion o f the merged en t i t y , p roves to be

rough lyRs.2,500 crore.

This number is not far from the pre--merger market capitalization of ICICI

Bank, which was Rs.2,466 crore. Hence, we can say that on purely financial

arguments, the merger i s rough ly neu t ra l to IC ICI Bank shareho lders i f

BOM was merged in to IC ICI Bank for free. Indeed, if banking regulators

took their jobs more seriously, They would force the shareholders of bom to walk

into such a merger at a zero share price as a way of reducing

T h e n u m b e r o f b a n k r u p t b a n k s i n I n d i a b y o n e . S u c h a f o r c e d -

m e r g e r w o u l d b e a  politically easier alternative for the RBI when compared with

closing down BOM.

The shareholders of ICICI Bank have paid a non-zero fee for bom. This

reflects a hope that the products and processes of ICICI Bank will rapidly

improve the value of assets of bom in order to compensate. In addition, the merged

entity will have to rapidly raise roughly Rs.800 crore of equity capital to obtain a

10% buffer between assets and liabilities.

H e n c e ,   t h i s   p r o p o s e d   m e r g e r   i s   a   g o d s e n d   f o r   b o m ,   w h i c h   w a s  

o t h e r w i s e   a  bankrupt entity which was headed for closure given the low

probability that it would manage to raise Rs.800 crore of equity on a base of Rs.100

crore of market capitalization. I t i s u s e f u l t o o b s e r v e t h a t b o m p r o b a b l y

d i d n o t s e e t h i n g s i n t h i s w a y , g i v e n

t h e wi l l i ngness  o f   Ind ia ' s  bank ing   regu la to rs   to   in te rminab ly   to le ra te  

the  ex is tence  o f  bankrupt banks. Closure of bom would normally involve pain for

bom's shareholders and workers ; ins tead bo th g roups w i l l ge t an

ex t reme ly p leasan t r ide i f the merger goes through.

The proposed merger is a daunting problem for ICICI Bank. It will need to rapidly f i nd

rough ly Rs .800 c ro re in equ i t y . I f Ind ia ' s bank ing regu la to rs were

ser ious abou t capital adequacy, ICICI Bank should have to pay roughly

zero to merge with bom (it is doing a favour to bom and to India's banking

system); instead ICICI Bank has paid a positive price for bom. The key question

that will be answered in the next two/three years is: Will ICICI Bank's superior

knowledge of products and processes revitalize the assets and employees of bom, and

generate shareholder value in the merged entity? ICICI's top management clearly

thinks so, and it would be a very happy outcome if this did indeed happen.

The proposed merger is a good thing for India's economy, since the

headcount of bankrupt banks will go down by one, and there is a possibility of

obtaining higher value added out of the poorly utilized assets and employees of bom. If

the merger goes through, then it will reduce the say of the management team of bom in

India's resource allocation, which is a good thing.

Merger of ICICI Bank with Bank of Madura

 

T h e   p r o p o s e d   m e r g e r   b e t w e e n   I C I C I   B a n k   a n d   B a n k   o f   M a d u r a  

( b o m )   i s   a remarkab le  one .  The  p re - -merger  marke t   cap i ta l i za t ion  o f  

IC ICI  Bank  was   rough lyRs.2500 crore while bom was at roughly Rs.100

crore. Bom is known to have a poor  asset portfolio. What will the merged entity be

worth?

The key rationale underlying every merger is the question of synergy. Can

ICICI Bank's products and technology bring new life to the 263 branches of

bom? Will ICICI Bank (which has 1,700 employees) be able to overcome the

2,600 employees that bomcarries, given that Indian labour law makes it

troublesome and expensive to sack workers?

In applying these ideas to ICICI Bank and to bom, we need to believe that the

stock market effectively processes information to produce estimates of the price and

volatility of the shares of both these banks. This assumption is suspect,

because both securities have poor stock market liquidity. i n te rp re t ing   the

numbers shown here . There a re many o ther aspec ts in wh ich th is

reason ing leans on models, which are innately imperfect depictions of

reality. However, these models are powerful tools for understanding the basic

factors at work, and they probably convey the broad picture quite effectively.

The s tock o f IC ICI Bank may be in the l ime l igh t on the back o f the

p roposed acquisition of Bank of Madura.

Though the stock has gained sharply in the last two months after hitting a

recent low of Rs 110, some upside may be left as the bank could get re-rated

on account of the merger. Existing shareholders could hold their exposures in ICICI

Bank while investors with an appetite for risk could contemplate exposures despite the

impressive gains of the past few months. ICICI Bank continues to be one of the

better options in the banking sector at the moment and the possible merger with

ICICI may well be on the backburner.

The merger would pitchfork ICICI Bank as the leading private sector bank.

The merger may be v iewed favorab ly s ince Bank o f Madura has

focused s t reng ths and a reasonably good quality balance sheet. The board of

directors is to meet on December 11to consider the merger.

It is quite likely that the swap ratio may be fixed in a manner that holds out a good deal

for the shareholders of Bank of Madura. This may also be influenced by the fact that the

Bank of Madura stock has gained sharply by around 70 per cent in the past fortnight in

the homestretch to the deal.

As the acquisition is to be financed by issuance of stock, the rise in the

market capitalization of Bank of Madura may mean a higher degree of equity issuance

by ICICI Bank. But the price may well be worth paying as this is the only way

that ICICI Bank may be able to get control over banks with reasonable quality

balance sheets that could make a difference in the medium to long-term.

Bank of Madura has assets of Rs 3,988 crore and deposits of Rs 3,395 crore

asof M a r c h   2 0 0 0 .   T h e   f a c t   t h a t   t h e   b a n k   h a s   a   c a p i t a l  

a d e q u a c y   o f   1 5 . 8   p e r   c e n t   w i t h shareholder funds of Rs 263 crore may

mean that ICICI Bank (post-merger phase) will have more leeway to

pursue growth without expanding the equity base (other than paying for the acquisition).

S t rong  cap i ta l  adequacy ,  a  s t rong beachhead  on   the   In te rne t  a rena ,

a   revamped   ITa r c h i t e c t u r e ,   a   g r o w i n g   r e t a i l   c l i e n t   b a s e t h r o u g h  

a   b r i c k - a n d - c l i c k   s t r a t e g y ,   a n d improving asset quality and earnings growth

are positive features as far as ICICI Bank is concerned.

Despite these factors, the share had been on a downtrend from after touching a high of

Rs 271, eight months ago. The uptrend then was on the back of the announcement

of its ADR issue and new technology initiatives. The subsequent downtrend was

triggered by the possibility of the merger with its parent. There is continuing

concern on asset qua l i t y o f IC ICI . I t has been a s ta ted goa l o f the

IC ICI g roup to go in fo r un ive rsa l  banking. It is clear that once regulatory

hurdles are removed, such a possibility becomes distinctly feasible.

But Given the battering that bank stock took, ICICI may now hesitate to

pursue this path. A lso IC ICI Bank i s the mos t v i s ib le inves to r - f r iend ly

face fo r the g roup in te rms o f   r e t u r n s t o s h a r e h o l d e r s a n d i t m a y

w e l l b e m a i n t a i n e d a s a s e p a r a t e e n t i t y . I n t h i s  backdrop, the stock

may hold scope for improvement in the valuation of the stock.

Financial standing of ICICI Bank & Bank of Madura

Parameters ICICI Bank Bank of Madura

1998-1999 1999-2000 1998-1999 1999-2000

Net worth 308.33 1129.90 211.32 247.83

Total deposit 6072.94 9866.02 3013.00 3631.00

Advances 3377.60 5030.96 1393.92 1665.42

Net profit 63.75 105.43 30.13 45.58

Share capital 165.07 196.81 11.08 11.08

Capital

adequacy ratio

11.06% 19.64% 18.83% 14.25%

Gross

advances

4.72% 2.54% 8.13% 11.09%

Net advances 2.88% 1.53% 4.66% 6.23%

Source

Complied from Annual Report (March 2000) of ICICI Bank & Bank

of Madura

Crucial Parameters: - How they stand

Name of the bank Bank of Madura ICICI Bank

Book value of bank on the

day of merger

announcement

183.00 58.00

Market price on the day of

merger announcement

183.00 169.90

Earning per share

Dividend paid (in %)

P/E Ratio

38

55%

1.73

5.4

15%

78.3

REFERENCES

1.www.google.com

2.www.wikipedia.com

3.www.icai.org

4.www.icicibank.com