Reverse Merger in Indian

Banking Industry

By Vineet Saraff (82) FN3

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 DEFINITION
A technique used by private companies to go public
without registering an initial public offering (IPO). A
reverse merger occurs when a private company acquires
or merges with a public company that is little more than a
shell. That is, although the public company is listed on a
stock exchange, such as the NASDAQ, or trades in the
over-the-counter (OTC) market, its primary business has
failed and it has sold off most of its assets and
discontinued operations. Reverse mergers became
popular after the stock market bubble burst in 2000 and
the initial public offering market virtually shut down.
Also called a back-door listing.
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 What happens
shareholders of the private company purchase control
of the public shell company and then merge it with
the private company.
The publicly traded corporation is called a "shell"
since all that exists of the original company is its
organizational structure.
The private company shareholders receive a
substantial majority of the shares of the public
company and control of its board of directors

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 Cont…
1. The transaction involves the private and shell
company exchanging information on each other,
negotiating the merger terms, and signing a
share exchange agreement
2. the shell company issues a substantial majority
of its shares and board control to the
shareholders of the private company

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 Benefit
1. Public trading status include the possibility of
commanding a higher price for a later offering of the
company's securities.
2. Reverse takeover allows a privately held company to
become publicly held at a lesser cost
3. Lesser stock dilution than through an
initial public offering (IPO)
4. A reverse takeover is less susceptible to market
conditions

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 Drawbacks
1. A reverse takeover is less susceptible to market
conditions
2. These shells may sometimes come with angry or
deceitful shareholders who are anxious to "dump"
their stock at the first chance they get
3. Possibly the biggest caveat is that most ceo's are naive
and inexperienced in the world of publicly traded
companies
4. Such transactions only introduce liquidity to a
previously private stock if there is bona fide public
interest in the company
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Reverse Merger
of ICICI bank
With ICICI
Limited
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 On Jan. 26 2002 THE shareholders of ICICI Bank
Ltd have approved the scheme for
amalgamation of the bank with ICICI Ltd, ICICI
Capital Services Ltd and ICICI Personal
Financial Services Ltd.
The scheme was approved "by an overwhelming
majority" with 99 per cent of votes being cast in
favour

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 On October 26, 2001, the boards of ICICI and
ICICI Bank approved a share swap ratio of one
equity share of ICICI Bank for two equity shares
of ICICI, for the proposed reverse-merger. ADS
holders of ICICI were to get five ADS of ICICI
Bank in exchange for four ADS of ICICI.

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 After that merger, ICICI's holding in the bank
was diluted to 55.6 per cent from the pre-merger
level of 62.6 per cent.
As reported after the board approvals for
reverse-merger, ICICI had 46 per cent equity in
ICICI Bank, the stake assigned to be held in a
trust for the benefit of the merged entity and
divested through appropriate placement in fiscal
2003.

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 Alternatives with ICICI to raise
funds
ICICI Limited could have a game plan for the scenario
where it has to maintain the statutory reserves in the
first year itself. In that case it would require to raise an
estimated sum of Rs 18000 crs before March ’02. For
this is has following options available:

4. Reduction of loan portfolio - ICICI could reduce its

loan porfolio. This could be done by withholding the
proceeds from loan repayment or by way of
securitisation of loans. ICICI could offload some of its
good loans at discount to other players.
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 Alternatives with ICICI to raise
funds cont…
2. Through retail deposits of ICICI Bank – ICICI Bank
could raise part of the funds requirement through
retail deposits. This would bring down the burden on
ICICI Ltd and retail deposits could be a good low cost
option.
3. ICICI Ltd itself could go in for additional borrowing for
the funds requirement. This would of course be in
addition to the fund requirement in the normal course
of the business.

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 Negative impact post merger
Average cost of borrowing for ICICI ltd for FY01 was
11.71 per cent. Its Gross yield was 13.54 per cent for
the same period.
By bringing down its loan portfolio and diverting
these funds for the reserve requirement it would have
to forego some of the interest spread. CRR would gat
a return of 6.5 per cent and amount in SLR would
generate a return of about 9.5 per cent. Even in the
case of fresh funds the cost of borrowing would be
higher and the return on those funds would be less.

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 The Flip side for Icici

The assets quality of ICICI Bank, which has been

its biggest strength would be affected post
merger. ICICI Ltd has NPAs of 5.2 per cent for
FY01 as against ICICI Bank’s NPAs of 1.4 per
cent.
At present ICICI Ltd can claim a deduction of
upto 40 per cent of its profits from its long term
lending by transferring the amount to special
reserve. Post merger, this benefit would stand
withdrawn in the case of incremental loans.
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