This article has been written by Shivani Ratour, pursuing a Diploma in M&A, Institutional Finance, and Investment Laws (PE and VC transactions) from LawSikho.
Table of Contents
Introduction
Merging with another corporation and acting as a single legal entity is a corporate strategy. The ventures that agree on essences usually have the same size and size. The words “merger” and “acquisition” are commonly confused and interchangeably employed by corporate and financial managers. In the end, there can be little difference, as the ultimate effect is often the same: two (or more) organisations with distinct ownership now work under the same roof to reach some strategic or financial goals. However, depending on how the transaction is structured, the strategic, financial, fiscal, and even cultural effects of the purchase might vary greatly. A merger is a company that joins two firms (typically through an equity exchange). An acquisition occurs if a company, the buyer, buys assets or shares of a different company, the salesman, pays for the seller in cash, inventory or other valuable assets.
Types of mergers
Merging with another firm is a tremendous business achievement and an important event, which means you must execute it in the right way. In addition, you have to know all the relevant phrases and concepts well in advance. There are many kinds of mergers – Congeneric, conglomerate, market extension horizontal and vertical – to only name a few.
1. Congeneric/product extension
Such mergers take place in the same market between companies. The merger leads to a new product being added to a single company’s existing product range. Under the union, businesses can access and enhance their market share by accessing a bigger client base.
2.Conglomerate merger
A conglomerate merger is the coming together of companies that are engaged in an unrelated activity. The merger will only take place if it boosts shareholder wealth.
3. Market extension merger
In order to access a broader market and a larger client base, companies operating in various markets but offering the same products join.
4. Horizontal merger
Companies with fewer such companies merge to get a broader market. A horizontal merger is a kind of merger of companies that sell goods or services. This leads to the removal of competition and thus to economies of scale.
5. Vertical merger
When businesses operate in the same industry but at separate levels in the supply chain, a vertical merger occurs. Synergy, supply chain control, and efficiency are increased by these mergers.
6.Triangular merger
The purchaser creates a completely owned subsidiary through the triangular merger, which in turn merges with the selling company. Then the selling company winds up. The purchaser is the subsidiary’s only remaining stakeholder. A triangular merger can lessen the effort necessary to secure shareholder approval for an acquisition, depending on the nature of the agreement.
This article will discuss more triangular mergers: forward triangular and reverse triangular mergers. Here we’ll learn the key pros and cons of triangular mergers. Learn about the steps, benefits, and limitations of each in this article.
Types of triangular merger
Forward triangular merger
The goal and subsidiary combine in a forward triangular merger, with the subsidiary remaining and the target vanishing. The goal becomes a wholly-owned subsidiary of the acquirer as a result of the sale. The acquirer would not assume the liabilities of the target since the merger was between the target and the subsidiary. If the acquirer had directly combined with the target, the acquirer would have accrued the target’s liabilities by operation of law. The key reason for a forward triangular merger is to enable the acquiring party to purchase the target without taking on the target’s liabilities.
Steps for a forward triangular merger
It helps prevent the acquiring business from absorbing the liabilities of the target company (unlike a forward, or direct, merger). The reason a corporation wants to do so is that the shareholder shares of the target will not be taxable when these mergers are financed by at least 50 percent of shares. If more than 50 percent cash were funded, the offer would be taxed. The reverse triangular merger tax is where things get a bit complicated. In contrast to the very straight path of forward merging, a forward triangular merger involves additional phases whether it is a taxable transaction or not, there are also a series of laws, including Section 368, one of the Federal Tax Codes, to apply for the cash and share ratio.
Forward triangular mergers: pros and cons
Doing the merger through a subsidiary protects the buyer from issues with the target company’s liabilities. Furthermore, compared to a reverse triangular merger, a forward triangular merger gives the buyer much more flexibility in terms of buying the target company’s stock. The buyer will pay the target company’s shareholders half of the total consideration in cash or other non-stock options. A forward triangular merger, on the other hand, maybe troublesome in terms of corporate continuity since the target entity no longer exists. Contracts, permits, and authorizations held by the target organisation can need to be reviewed.
Reverse triangular merger
A reverse triangular merger (also known as a reverse subsidiary merger) is an acquisition arrangement in which one corporation buys another using one of its subsidiaries. The target company survives a reverse triangular merger in which a merger division of the acquiring company merges with and into the target company. The acquired business continues to operate as a separate corporation, albeit as a wholly-owned subsidiary of the purchasing company, which is somewhat counterintuitive. As a result, this arrangement achieves the same result as if the acquiring company bought all of the acquired company’s stock. The forward triangular merger, in which the purchased business ceases to exist, is in contrast to the reverse triangular merger. The subsidiary merges into the aim in a reverse triangular merger, with the target remaining and the subsidiary vanishing. All of the target’s ownership rights are transferred to the acquirer, and the target becomes a wholly-owned subsidiary of the acquirer. Both the purchasing and purchased businesses continue to operate, and the acquirer does not take on the liabilities of the target. A reverse triangular merger is similar to a triangular merger, except that the acquirer’s subsidiary merges with the selling entity and then liquidates, leaving the selling entity as the remaining entity and the acquirer’s subsidiary.
The reverse triangular merger is much more common than the triangular merger because it keeps the seller entity and any business contracts it may have. It is also useful when there are a large number of shareholders and acquiring their shares via a Type “A” acquisition would be too difficult. Furthermore, because the acquirer’s subsidiary has only one shareholder, management is straightforward. Other benefits of the reverse triangular merger include the fact that the target’s assets do not need to be moved to another company because they remain with the target. This is significant because anti-assignment clauses in contracts to which the target is a party can prohibit the transfer of the contract’s rights. In most states, the question of whether a reverse triangular statute is an assignment by operation of law is debatable, but recent Delaware precedent has determined that it is not.
Steps for a reverse triangular merger
In contrast to a forward triangular merger, there is an additional phase prior to the contract in a reverse triangular merger This complicates things far more than a standard forward merger. In this situation, a new company will be set up as a subsidiary of the purchaser and the newly established business will be the legal buyer of the target company.
Depending on the form of the acquisition, a reverse triangular merger may be taxable or not taxable. If the buyer acquires at least 80 percent of the target firm stock, it can be regarded as non-taxable. At least 50 percent of the payment in a reverse triangular merger is the purchasing company’s share and the firm gets all assets (and liabilities also) of the target company — separating it from a triangle forward merger.
Reverse triangular mergers: pros and cons
Reverse triangular mergers, like forward triangular mergers, will benefit the buyer by isolating the target company’s liabilities to a subsidiary. Furthermore, since the target business survives the merger, it can comfortably continue operations without signing new contracts or obtaining new licences and authorisations.
However, in order to execute a tax-free reverse triangular merger, the buyer must purchase at least 80% of the target company’s stock with company stock. As a result, the transaction’s payment options are restricted.
Conclusion
Triangular mergers are necessary because some shareholders may be opposing and refusing to participate in a possible merger. If this is the case, the majority of the purchases include the decision to stay with minority shareholders, to claim evaluation rights, and to vote against the deal in the shareholder vote. In addition, it can be very difficult to get their votes in contact with many shareholders of a public company. The problems with minority owners, as well as the sheer amount of shareholders in a public business, are avoidable through a merger agreement rather than an acquisition transaction. If the board of directors of the seller supports the transaction, all shareholders shall accept the price offered by the acquirer. Forward triangular mergers and reverse triangular mergers are similar procedures, the substantially different state of which is the target firm following the closure of the merger transaction. The reverse triangular merger is far more popular on the basis that it offers continuity–after the closure of the transaction the target firm and its contractual commitments and eventually, its brand name value are all retained.
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