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Mumbai: Mergers and acquisitions (M&As) may have become a viable tool for Indian firms that seek growth by gaining access to newer markets and clients, adding complementary products or service lines, or acquiring proprietary technology or operating processes but the strategy poses many challenges too, said panellists at an Aon Hewitt-Mint roundtable on 12 June.

During the roundtable, The Alchemy of M&A—Making Gold In 2013, the panellists said some of the biggest execution hurdles revolved around cultural integration issues, knowledge of local laws, regulations and governance issues besides retaining the target company’s management.

M&A deals, they said, are being directly impacted by economic growth and investment sentiment, which have taken a beating. In the first five months of this year, M&A deals fell 65% to 96 transactions worth $11.5 billion, compared with 120 deals worth $19 billion a year ago.

The panellists, however, believe the lull is temporary and that M&A transactions will increase in the next 12-24 months. They cautioned against post-transaction integration issues that are impacting the success of these deals.

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Panellists at the Aon Hewitt-Mint roundtable.

At home, exits by private equity investors will lead to brisk M&A activity, said Praveen Chakravarty, chief executive, investment banking, Anand Rathi.

Among the biggest hurdles in the way of M&A deals is the reluctance of Indian promoters to say that they are ready to sell an asset or a company, he said.

“It’s not easy to execute deals, and it is not just from a valuation perspective. How do we run an M&A process, when promoters demand the best price but don’t want anyone to know they are up for sale?" Chakravarty said.

Pervez Workingboxwalla, corporate senior vice-president, risk management and audit at WNS Global Services Pvt. Ltd, said for companies such as business process outsourcing or BPO firms like WNS, M&A transactions will be driven by the needs of clients and what they want from them.

“We will not acquire for scale," he said. “We will purely acquire for capability mismatches that we may have—between what we have and where our clients want us to be. So we won’t see any big bang acquisitions—we will see small, niche tuck ins."

Exits are the single most important issue confronting private equity investors, said Darius Pandole, partner, New Silk Route Advisors Pvt. Ltd.

“Unfortunately, the initial public offering (IPO) exit route has been more shut than open in the last few years. What is encouraging is that on the strategic side there is a substantial interest," he said, especially from Japanese investors.

Malay Mukherjee, executive director, Central Bank of India, cautioned against M&A decisions being taken in a hurry, leading to valuations being worked out in a rush and the cost of debt being too high.

Valuation expectations, the panellists said, remain a challenge for transactions in the country. There have been some very large transactions in the past in the pharmaceutical space and most promoters tend to believe they can get the same multiples, said Ramesh Swaminathan, president, finance and planning at Lupin Ltd.

Some of the risks faced by organizations include economic slowdown and slow recovery, regulatory and legislative changes, damage to reputation/brand and failure to attract or retain top talent. According to an Aon Hewitt study, high risk maturity rating organizations enjoy up to 50% lower stock volatility than organizations scoring at the low end of the scale. Between 2011 and 2012, when markets were volatile, organizations with the two highest ratings closed the year with a positive return while lower-rated organizations ended the year with a 17-30% loss.

Human resource issues, meanwhile, are gaining more prominence, according to the panellists. For Workingboxwalla of WNS, holding on to the promoters of the target firms is important. They run the company and they have the local knowledge of the market and the economy, he said. “It is very important for us to retain those individuals. Any little gap in communication can mess things up," he said.

Among the major operational and transactional risks faced by the companies involved in an M&A deal, human capital risk remains the most important one.

It’s crucial to estimate the cost of human capital embedded in a transaction, said Dinyar Jivaasha, group head, insurance and risk management, Essar Group.

“There are times when the cost of human capital is so very high that one needs to think why are we getting into this transaction in the first place?" Jivaasha said. Laws pertaining to environmental and employee benefits are very stringent in the US and Canada and more care needs to be taken with outbound transactions, he said. It is important to decide whether the management of the company should be retained while making acquisitions, agreed Manu Parpia, managing director and chief executive of Geometric Ltd.

“People risk can translate into customer risk as the people in an organization may be dealing with the customers regularly. Loss of people can lead to loss of customers which the acquiring company may be seeking to buy through the transaction," Parpia said. Among the various tools that can come in handy for executing a successful deal, understanding the culture is gaining importance.

“Culture is in people, how spending is done, how you maintain books, how you flout compliance and how you deal with customers and shareholders. If people do not have zeal to work together and if integration issues come at people level, the battle is already lost. You will not win it," said Hanuman Tripathi, group managing director, Infrasoft Technologies Ltd.

Legal experts pointed out that risks could also arise due to a company’s unwillingness to engage professional help for transactions and due to a “can do it myself" attitude.

“If an adviser is appointed and is paid only after the deal is done, he will ensure that the deal is struck even if it is not the right thing to do. An adviser should be paid for saying that this deal should not be done," said Somasekhar Sundaresan, partner at J. Sagar Associates.

Another challenge is gathering information about the counter-party within a limited time period and getting insurance cover for a big transaction. “It important to understand the chemistry between the companies. Even if everything is good on the financials, it is not necessary that the chemistry work," said Yugesh Goutam, executive director, human resources, infrastructure sector at RPG Enterprises.

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