India: Anatomy Of A Failed Acquisition

Last Updated: 12 January 1999

Suggested Remedies

Consolidation at the group and industrial level through Mergers and Acquisitions ("M&A" hereinafter) and various other tools of strategic alliances are rapidly transforming the ownership profile and competitive structure of the Indian Industry. An era of hyper competitive capitalism, technological changes and increasingly intense competition for the optimum allocation of our scarce resources is now upon us. Under these circumstances, M&A has stirred the imagination of the Indian entrepreneurs as it creates and offers the much needed efficiency, lower costs, and reduced prices.

Cross-border M&A frequently leads to disputes between the parties and require very careful advance planning. The initial phase of the acquisition process involves evaluation of the advantages and disadvantages of various alternatives. Similarly, the parameters of the merger operation and solution to problems that may subsequently arise are carefully analyzed during the negotiation phase. Lack of planning leads to confusion and consequent failures. Against this backdrop, in order to better understand the do's and don'ts in any M&A, we examine and analyze below a case that was reported, sometime back, in one of the leading newspapers in India.


Mannesman Group of Germany

Fichtel and Sachs, (F&S) later renamed as Mannesman and Sachs (M&S), a subsidiary of Mannesman Group, the largest manufacturer of shock absorbers in the world, was approached by Sirmour Sudberg Auto (SSA), an ailing Indian auto-ancillary company, for a Joint Venture to manufacture shock absorbers. SSA was a Himachal Pradesh based auto ancillary company involved in the manufacture of shock absorbers for the Indian market. Its main clientele included Indian business giants like the Bajaj Auto and LML, manufacturer of two-wheelers with over 50% market share in the country.

In the year 1993, SSA ran into heavy losses and came under the purview of the Board of Industrial and Financial Restructuring (BIFR) (similar to corporate reorganization under the U.S. Bankruptcy laws). The scope of BIFR extends to all those companies which go sick and can not, on their own, recover back to the state of normalcy. In such cases, the BIFR usually assigns the responsibility to some public financial institution to reorganize the existing structure of the sick company and to get it back on its feet. In this case, the Industrial Credit and Investment Corporation of India (ICICI) was handed over the responsibility to reorganize SSA. In 1994, SSA showed a marginal profit of Rs. 2 lakh (approximately US$ 5,000.00) and its stock reached the peak price of Rs. 120/- (approximately US$ 3.00). At this juncture, SSA approached F&S for a joint venture. In 1996, after a lot of deliberation, F&S appointed KPMG to carry out the due diligence of SSA. KPMG did not find any major problem against the format on of the joint venture and gave a green signal to the proposal even while forecasting a loss of about Rs. 4 crore (approximately US$ 1.0 million) by the end of the year. In May of 1997, the BIFR agreed to the financial package in which F&S agreed to provide technology and pick up 51% stake in SSA by investing Rs. 16.05 crores (approximately US$ 4.0 millions).

F&S picked up 3,567,687 shares through a preferential allotment at a price of Rs. 45 (approximately US$ 1.0) per share. These shares were allotted in June of 1997 after F&S seemed to have cleared up the balance sheet of SSA by conservatively booking losses. The scrip was trading, at that time, lower than the German acquisition price at Rs. 14/- (approximately US$ 0.35).

According to F&S, KPMG completed the due diligence, but the final report had hundreds of qualifications. Some of them included disclaimers like - there were no confirmation of debtors, no correlation between payments and invoices, and that the correctness of the stock was not independently verified by KPMG. It was further learnt that the former Managing Director of SSA had given a certificate to KPMG stating that everything had been disclosed.

In the year 1997, after the joint venture was duly signed, SSA disclosed, in a Board meeting, a further loss of about Rs. 12 crores (approximately US$ 3.0 millions) being the debit notes dating back to 1987. At the same time, it further came to the knowledge of the German partner that the product manufactured by SSA was of a poor quality and that there was a very high rejection rate of the order of more than 50%. These rejections were never accounted for and the sales were thus inflated. However, these claims of F&S were vehemently disputed by its Indian partner. After this Board meeting, it was decided to extend SSA's year ending to June,1997 to clean up the accounts.

SSA's books showed no debtors pending over six months. There was no mention of bad debtors either. F&S was caught by surprise and only after a desperate marathon Board meeting, could it get some of the directors of the Board to resign. The German company was reported to be discovering fresh discrepancies in the accounts everyday. Underlying all these was also the unstated fact that the earlier partners still had about 15 % stake in the company and the Germans were not ready to increase the wealth of their unwanted partners.

The German company was under a state of shock, to say the least. A large chunk of the funds it had brought were used to pay off the financial institutions holding claims against SSA. At the last report, it was yet to decide the new financial restructuring and fresh business plans. It is quite possible that the Germans did come up with a viable turnaround plan, but this is definitely not the way to start a business anywhere in the world.


Buy Now Pay Later

In a corporate environment, buy now pay later, no doubt, is a very alien concept. However, this may be the only way a foreign investor would be able to protect its investment in India until all the formalities are complete and final and the foreign investor is absolutely sure of the safety of its investment.

The idea is not to have one party take advantage over the other. On the contrary, it is the intent of the Agreement to protect the interests of both the parties and to consummate the deal in a most amicable and straightforward manner. The author has been involved in several transactions of this nature. Each one of them has closed in time and to the complete satisfaction of all the parties involved in the transaction.

Had F&S not paid any or the total consideration at the very outset and waited for additional facts to reveal on their own, it would not have faced the problem it appears to have faced in the instant case. The solution lies in holding on to the payment until the very last. Granted, it is not a very easy deal, but it has been done and done successfully in many M&As to date.

Strict foreign exchange control regulations in India (like many other countries) do not permit foreign investors to repatriate its investment easily and freely out of the country without the prior approval of the Reserve Bank of India. Consequently, the concept of an escrow account for a foreign investor is, unlike the West, unknown in India. Once the investor parks its money in India, it is difficult for the investor to repatriate it back if, for some reason, the deal does not go through. The author recommends that the foreign investor not pay any or part of the consideration until all the formalities are complete. The transfer of money should take place long after the name changes and the new Board takes over the management and control of the newly acquired company, protecting thereby the interest of both the foreign buyer and the Indian seller.

This is a new concept borne out of necessity to protect the interests of foreign investors in India and the author has successfully used this concept in several M&As.

Equity Ownership

One of the trickiest part of corporate control, corporate management, future growth and expansion of a company in India lies with the share holding pattern of the company. While 51% equity stake does signal the majority and imparts the necessary psychological boost, 51% ownership may not be necessary in many a cases. As a matter of fact, most of the major Indian businesses are run by a handful of people with less than 25% share holding because of the peculiar spread and distribution of the shareholders. On the other hand, in many a cases, 51% equity holding may not be good enough and is, therefore, not recommended in such cases.

In general, in most foreign investment cases, it makes very little difference whether the foreign investor holds 51% or 74% stake in a company. Acquiring 51% may be good enough for establishing a foothold only in the country, but if the foreign investor is transferring technology and is also planning to take active part in the management of the company, then mere 51% would not allow it to operate and control the company according to its own way. For a foreign investor desirous of running a company, the focus of attention should be to acquire at least 76%, if not 100%.

Under the Indian Companies Act, 1956, Articles of Association which set out the Rules, Regulations, and the Governing Criteria for running a company cannot be changed without the consent of 75% or more of the shareholders of the company. Accordingly, an equity stake of 76% theoretically would allow the foreign investor complete control over the affairs of the company. Depending upon the facts and circumstances of the particular company, it may be beneficial for the foreign investor to allow the former owners, managers, or workers keep the remaining 24% as part of an incentive program to motivate them. However, this may also backfire at times. Under such circumstances, the best option would be to go for 100% ownership as it offers some distinct advantages and eliminates many of the other disadvantages.

Indeed, in most of the cases, the balance of convenience is heavily weighed in favor of acquiring 100% stake. The obvious reasoning behind such strategy is to eliminate any and all interference from the Sellers who continue to hold immense interest in the running the company their way, especially since they were the ones who had taken all the pains to make the company worthy of acquisition by the foreign partner. In the within case, the old guards of SSA were still holding 15% equity in the JVC. It would have been wise for F&S to ensure that this was also eliminated at the time of the acquisition. This is because the Indian Companies Act, 1956 (u/s 397 to 399) bestows some important inalienable minority rights which may adversely affect the interests of the foreign majority shareholder. A mere 10% equity holding, whether individually or collectively, would constitute minority share holding.

Debt - Personal Guarantee

The facts do state that the former MD had disclosed all the debts to KPMG and given it a certificate to that effect. But, this is not good enough. F&S should have demanded and received personal guarantees from the former directors of SSA against any and all sorts of debts, liability, misrepresentation, and/or concealment. The scope of agreement must include all known or unknown, past or present, latent or patent defects, debts and liabilities outstanding against SSA. A comprehensive personal guarantee executed by the relevant officers and directors of SSA would have cushioned the debit notes of Rs. 12 crores which F&S had to flush out to absorb SSA's prior liabilities.

A "Limited Guaranty And Indemnity Agreement", executed by each one of the directors, offers the buyer very valuable protection in this regard. It binds the officers of the selling company in guaranteeing certain obligations and disclosures or non-disclosures severally, jointly, unconditionally and irrevocably. It also indemnifies and holds the buyer harmless in case of failure by the seller to uphold and discharge any provisions under any agreement entered into between the seller and any third party before the buyer came into the picture.

Due Diligence

There is a trend and tendency, in many due diligence cases, to accept the facts and figures proffered by the former partners, owners, and/or directors of the selling company. This particular trend or tendency has botched up many a joint venture and acquisition and must be strictly avoided.

The author does not recommend or advocate distrust of the future partners in case of less than 100% acquisitions. However, there is nothing like independent verification of facts, figures, and numbers and this is essential for an effective "meeting of the minds" of the parties to the transaction.

Had KPMG independently verified the correctness of the stock and not relied on the certificate of the former Managing Director of SSA about full and complete disclosure, the results could have been different in this case.

What's in a Name?

The object of every M&A, where a foreign investor is involved, should be to popularize and spread the name of the foreign buyer in the host country unless circumstances dictate otherwise. One of the possible ways recommended would be to prefix the name of the foreign investor before the name of the local partner. Otherwise, very valuable trademark and name may be lost forever.

In case of "Maruti Suzuki", the now famous automobile company, it was Suzuki who brought to India all the technical know-how and expertise. However, Maruti is now known universally, while hardly anybody, excepting the diehards, has any idea about Suzuki. It so happened because Maruti's name came prior to that of Suzuki. The efforts of Suzuki have helped Maruti-Suzuki get to where it is today, yet, the name "Suzuki" is not a household word in India.

Similarly, in case of "DCM-Daewoo", the foreign partner, Daewoo of Korea, is not that widely known in India. However, in case of "Ford Escort", Ford Motor Company was wise enough to realize the importance of the Ford name and opted for 100% wholly-owned subsidiary. PepsiCo realized the importance of the "name-game" a little later and thereafter deleted the word "Lehar" from the Joint Venture of "Lehar Pepsi". It is a known fact that the name which comes first is more easily remembered or referred to than the one following it. Also, compromising on the position of the name may later lead to a corresponding compromise in the installation and acceptance of the representative management.

Based on the same theory, we find F&S changed its name to Mannesman and Sachs to associate itself with a world class name. But, there are a few exceptions to this rule also. Foreign investors must give due importance to the local recognition and fame of the Joint Venture company. When the goodwill of the other party is locally very impressive, it is best, in the interest of both the parties, to let the local name precede as in "Tata Mercedes". Mercedes has got an international recognition but in India, Tata has a better reputation and wider name-recognition. The name "Tata" therefore precedes "Mercedes".

Intellectual Property Rights (IPR)

In most M&As, an increasing number of IPR licensing transactions are utilized for major business objectives. Foreign investors are recommended to be sensitive to any licensing conflicts relating to IPR that may be created by any future transaction. Many a times, agreements are entered into by the foreign investors without adequately safeguarding their trademarks, patents, designs, etc. Conflicts arising in such instances may frustrate the principal purpose of transaction, especially in cases where a foreign investor has not taken over the local company in its entirety. A foreign investor has to be careful that the trademark it brings in the foreign country may become the IPR of the Joint Venture company as well. Agreements have to be strongly worded to protect its IPR.

Apart from strict construction of the agreements, one has also to be practical to conduct a thorough search to ensure that the IP brought by him is not already being used in the country.


To fortify the position of the foreign investor, the jurisdiction must be kept where it is most convenient for the foreign investor to go through litigation, if any. Other factors viz. how quickly the remedy is available and how much relief can it acquire, would also require marked consideration from the foreign investor. A jurisdiction clause suiting the foreign investor would act as a beachhead wherefrom it can launch all its attack and defensive tactics if the need so arises. In case the only jurisdiction available is India, it may take years before any concrete decision would come out. Litigation is an eternal process in India and relief, even if granted, would serve no purpose as sizable time would have passed by then. Investors may have to look at alternate jurisdictions for speedy and timely decisions.

Quite often a corporate restructuring is done without fully analyzing the possibilities that could arise in case of a dispute. When a proposed M&A involves more than one jurisdiction, the inconvenience caused due to cultural differences in the legal system and the costs involved in any of the jurisdictions in getting the dispute resolved may increase significantly. Parties entering into an agreement with a foreign company in a foreign land should be aware that its rights and duties may be greatly affected by the general legal environment of the foreign country. It is also logical to have documentation in the mother tongue of the country where the jurisdiction lies.

Communication & Negotiation

One of the greatest fallacies of doing business in India is the language which is spoken to conduct official business in India. Foreigners are comforted to know that their business associates will understand them easier because each speaks English. However, there lies the fallacy. Many a times, the English which is spoken in India is "Indian English" and carries Indian meanings. It is very essential to engage an expert, preferably a lawyer, who can understand and interpret the language in its true sense and spirit. In absence of an expert, there may not be proper meeting of the minds and the parties may end up signing an agreement which does not convey their true intentions.

It is unthinkable for an English speaking businessman to negotiate with his Chinese or Japanese counterpart without an expert interpreter and vice versa. However, that appears to be absolutely unnecessary when it comes to negotiation with an Indian businessman who speaks fluent English. But, there lies the problem. Many a times, the two "Englishes" carrying different meanings altogether may not only be comparable, they may lead to completely unexpected and unwanted results. We are not privy to the kind of negotiation that went on between F&S and SSA, but it surely seems they did not have the much needed "meeting of the minds" in this case.


With the rapid pace of liberalization, a new era of globalized economy has emerged in India paving the way for corporate expansion and restructuring in an unprecedented scale. Market realities are allowing the experienced entrepreneurs capitalize on all possible opportunities. Acquisition of undertakings, expansion of operations, diversification of product range and capturing of the uncovered segments of the market have become common place affairs in the country.

M&A brings businesses together, helps them gain access to larger markets and expand into more rapidly developing economies. Last but not the least, it helps capture and safeguard the intellectual property rights of the future generation. However, like any other business venture, M&A also carries along with it certain risks and are fraught with difficulties. The success and failure of any transaction will depend upon how well the parties understand the risks involved and how the risks are mitigated in the transaction. M&A can be successful with clear cut objective, adequate preparation and competent support. Proper evaluation of the proposed venture and advice of competent local professional can make M&A a financially rewarding investment. In short, careful counseling will encompass not only the structural and documentary aspect of a particular transaction, but also plans for systematically resolving the disputes which will likely occur over the life of the business transaction.

By Dr. Amitabha Sen, Amitabha Sen & Co., New Delhi, India.

The information contained in this article is for informational purposes only and should not be construed as Legal advise or opinion

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