A merger, in which two or more companies combine to form a new, independent entity, is often referred to as an amalgamation. Unlike traditional mergers where one company absorbs the other, an amalgamation results in the dissolution of both parent companies. The assets and liabilities of these companies are then integrated into the newly formed entity, creating a distinct legal and operational structure.
Let us now understand the amalgamation meaning in greater detail, how it works, its benefits, and more.
What is the meaning of amalgamation?
The first concept to understand is what is the meaning of amalgamation. In simple terms, it is a process through which two or more businesses combine to form a completely different entity. Here, the assets and liabilities of each company are combined, while the companies amalgamating cease to exist as legal entities after the process.
The employees of the companies taking part in the amalgamation process can hold their positions in the new company, and the same goes for the shareholders. Investors and shareholders can retain their holdings in the newly formed entity.
Usually, companies in the same industry amalgamate to beat or reduce competition and expand their market offerings. It is often observed that a stronger company amalgamates with its relatively weaker peer(s), and the resources are shared along with the liabilities. In India, SEBI and the High Court must approve the amalgamation proposal submitted by the companies.
Example of amalgamation
Let us understand the amalgamation meaning with the help of an example.
Let us assume two companies operate in the manufacturing industry: ABC Ltd. and XYZ Ltd.
Due to tough competition in the manufacturing sector, both companies are facing a slowdown in the business, even though ABC Ltd. has a better market capitalisation. So, both companies decide to combine via the process of amalgamation. The new entity that is formed is named ABCXYZ Ltd.
This new entity has all the assets and liabilities of both companies, and ABC Ltd. and XYZ Ltd. cease to exist as legal entities.
How does Amalgamations work?
Amalgamation, a corporate restructuring strategy, involves the merging of two or more companies to form a single entity. Typically, this occurs when companies share similar business operations or can benefit from economies of scale. The process involves a larger company, the transferee, absorbing one or more smaller companies, the transferors.
The amalgamation terms are negotiated by the involved companies' boards of directors and submitted to regulatory bodies for approval. In India, this includes the High Court and the Securities and Exchange Board of India (SEBI). Indian tax law defines amalgamation as the merger of one or more companies into another or the formation of a new company through the merger of two or more companies. The merging companies are referred to as the amalgamating companies, while the resulting company is the amalgamated company
Types of amalgamation
- Amalgamation in the nature of merger: In this type of amalgamation, the stronger company (transferee) takes over the smaller or weaker company (transferor) by pooling all the assets and liabilities of both businesses. The shareholders of both companies can continue to hold their shares provided they meet the minimum requirements set by the new entity formed.
- Amalgamation in the nature of purchase: What if the shareholders in the companies amalgamating fail to meet the minimum requirements? This is when the amalgamation is done as a purchase by the stronger entity. Only the shareholders of the stronger company continue to hold stakes in the new company.
Reasons for amalgamation
The main reasons behind the amalgamation of companies include:
- Accessing new markets: As preferences and demands of the market change with time, new markets or new geographies open for exploration. However, due to a shortage of resources or other factors, businesses may not be able to explore them. Through amalgamation, two or more companies can fill the gaps and explore the new markets as a new entity.
- Cost reduction: When companies combine, they can use their assets, and thus, they may not have to build new assets, which they would have otherwise required to expand their business. This helps cut down costs and optimise profitability.
- Elimination of competition: Often, stronger companies try to take over weaker ones to reduce competition.
Pros and cons of amalgamations
By now, you must have an idea of what amalgamation is, so let us see its pros and cons.
Pros
- It helps the entities survive in the market when competition increases.
- It may help in reducing taxes by offering certain tax benefits.
- It helps in increasing the economy of scale.
- The stakeholder's value increases as the business expands and explores new horizons.
- Amalgamation helps in diversifying the business arenas.
Cons
While there are many positives of the process, there are a few drawbacks too:
- It can create a monopolistic market as the competition reduces.
- It can lead to job cuts for the employees of the companies involved.
- It may also increase the debt of the newly formed entity.
What is the objective of Amalgamation?
The primary objective of an amalgamation is to create a new, unified entity that possesses enhanced competitive capabilities and operational efficiencies. By combining resources and operations, amalgamations often facilitate economies of scale, leading to cost reductions and improved market positioning. This strategy aligns with broader corporate growth objectives and can be considered a strategic alternative to acquisitions or other forms of business expansion.
Methods of accounting for amalgamation
Two main methods of accounting are used for amalgamation.
- Pooling of interest: The transferee company records the assets, liabilities, and transferor company’s reserves at the existing carrying amounts. If both companies have distinct accounting policies, a uniform policy is set, and the same is adopted by the newly formed entity following the amalgamation process.
- Purchase method: In this method, the assets and liabilities are considered as per their fair values, and the transferee company can determine them. Also, the transferee can make changes and create provisions for different costs.
What is an amalgamation reserve in accounting
Any amount left after the amalgamation procedure is treated as amalgamation reserve only if it is positive. If it is negative, it is recorded as goodwill in the books of the new entity.
Amalgamation vs acquisition
Amalgamation and acquisition are different. However, sometimes, people use these words interchangeably by mistake.
As stated above, amalgamation leads to the formation of an entirely new legal entity, and the companies that amalgamate no longer exist after the process. On the other hand, in an acquisition, a company purchases another company by buying a significant portion of its stake, but no new entity is formed in this process.
Wrapping up
Amalgamation is common in the business sphere, especially when a company becomes weaker but has relevant assets to be used for growth and expansion. While this process helps businesses expand their horizons, it can lead to an undesirable, monopolistic economy.
