Scholarly article on topic 'Farmers Fox Theory: Does a country's weak regulatory system benefit both the acquirer and the target firm? Evidence from Vodafone-Hutchison deal'

Farmers Fox Theory: Does a country's weak regulatory system benefit both the acquirer and the target firm? Evidence from Vodafone-Hutchison deal Academic research paper on "Law"

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{"Cross-border mergers and acquisitions" / "Foreign direct investment" / Internationalization / "Corporate governance" / "Emerging economies" / "Liability of foreignness" / "Institutional and regulatory framework"}

Abstract of research paper on Law, author of scientific article — Kotapati Srinivasa Reddy, Vinay Kumar Nangia, Rajat Agrawal

Abstract The extensive research on cross-border mergers and acquisitions performed in different institutional settings shows that legal and regulatory infrastructure, level of investor protection, and key macroeconomic factors are the most important determinants. With this in mind, we analyze and discuss the telecommunications market leader Vodafone's cross-border acquisition of Hutchison equity stake in CGP Investments, which had long-time delayed (litigated) in an Asian emerging market-India-in the view of corporate gains tax. Regarding theory testing and development, we test six theories propounded in management-related literature. Further, based on limitations of the existing theories we develop new theory-Farmers Fox Theory-and offer lawful propositions for future research that would advance the current international business and institutional knowledge. We therefore conclude that a given country's weak regulatory system benefits both the acquirer and the target firm; simultaneously, this behavior would adversely affect on economic/fiscal income of a nation.

Academic research paper on topic "Farmers Fox Theory: Does a country's weak regulatory system benefit both the acquirer and the target firm? Evidence from Vodafone-Hutchison deal"



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Farmers Fox Theory: Does a country's weak regulatory system benefit both the acquirer and the target firm? Evidence from Vodafone-Hutchison deal

Kotapati Srinivasa Reddy*, Vinay Kumar Nangia, Rajat Agrawal

Indian Institute of Technology (IIT) Roorkee, Department of Management Studies, Roorkee 247667, Uttarakhand, India



Article history:

Received 13 August 13

Received in revised form 10 October 13

Accepted 11 0ctober2013


Cross-border mergers and acquisitions

Foreign direct investment


Corporate governance

Emerging economies

Liability of foreignness

Institutional and regulatory framework

The extensive research on cross-border mergers and acquisitions performed in different institutional settings shows that legal and regulatory infrastructure, level of investor protection, and key macroeconomic factors are the most important determinants. With this in mind, we analyze and discuss the telecommunications market leader Vodafone's cross-border acquisition of Hutchison equity stake in CGP Investments, which had long-time delayed (litigated) in an Asian emerging market-India-in the view of corporate gains tax. Regarding theory testing and development, we test six theories propounded in management-related literature. Further, based on limitations of the existing theories we develop new theory-Farmers Fox Theory-and offer lawful propositions for future research that would advance the current international business and institutional knowledge. We therefore conclude that a given country's weak regulatory system benefits both the acquirer and the target firm; simultaneously, this behavior would adversely affect on economic/fiscal income of a nation.

© 2014 Holy Spirit University of Kaslik. Hosting by Elsevier B.V. Openaccessunder CCBY-NC-ND license.

1. Introduction

Mergers and acquisitions are possibly the most aggressive strategic organizational response to resource dependence [1]. Indeed, foreign merger or acquisition is a potential mode of entry into a global market. Further, an acquisition involves transfer of an asset between two owners of different countries who are taxed differently. By and large, a great amount of overseas investment crop up in the outward appearance of acquisitions [2]. For example, number of world foreign mergers or

acquisitions has been increased from 23% of total volume in 1998 to 45% in 2007 [3]. In particular, number of deals (deal value) of word economy cross-border mergers and acquisitions (hereinafter, CB-M&As) has increased from 1,582 (US$21.09 billion) in 1991 to 7,018 (US$1,022.72 billion) in 2007 at a massive growth rate 344% (4,748%), and thereafter sharply declined to 5,769 (US$525.88 billion) in 2011 because of recent

* Corresponding author. Tel.: +91-9886693942. E-mail address:

Peer review under responsibility of Holy Spirit University of Kaslik.

2306-7748 © 2014 Holy Spirit University of Kaslik. Hosting by Elsevier B.V. Open access under CC BY-NC-ND license.

global financial crisis.1 The main drivers of these CB-M&A waves are being globalization, technological innovation, bull financial market, deregulation, and privatization [9].

A country's governance system, constitutional framework, legal environment, trust and relationship, and culture play a key role in international negations, and their ex-ante and ex-post accounting earnings [10,11,12]. For example, in [10,13,14,15,16,17,18,19,20] the authors show that legal framework, level of investor protection, cross-culture, corporate governance system, financial markets environment and quality of accounting standards are important factors while making deals triumphant, and the same factors could affect firm's value and profitability. In addition, a country's macroeconomic factors, such as, gross domestic product (GDP), tax system and tax incentives, exchange rate, and inflation rate likely to be influenced the border-crossing mergers or acquisitions [21,22,23,24,25]. More importantly, local political events could affect foreign direct investments for both the inbound and outbound flows [26,27,28]. In some instances, physical distance also plays a role in international investments [29].

However, many emerging markets (EMs) have failed to show a good governance system in several international trade activities, especially foreign direct investments (FDIs) and cross-border acquisitions. For instance, Indian government has been utterly failed to take an appropriate action in FDI proposals (e.g. retail market, telecom sector), and CB-M&A deals.2 For example, Vodafone and other multinational giants in different sectors from different nations were badly experienced to the put forth of regulatory authorities' peculiar guidelines. In fact, it is being a "stranger in a strange land" [30].

With this in mind, we outline our objective, and contribution to the international business (IB) literature. We thus emphasize on tax litigation in cross-border deals that is attached with Indian government. In particular, we show India's CB-M&A market during 2000-2011, case background, and case analysis and discussions. Regarding theory testing and development, we test six theories propounded in management-related literature (theory of foreign direct investment, eclectic paradigm, Uppsala theory of firm internationalization, liability of foreignness, institutional theory, and information asymmetry theory). Based on limitations of existing theories, we develop a theory in light of regulatory framework -Farmers Fox Theory - that would advance existing IB knowledge; also offer some important propositions for new research. The selection of words 'Farmers' and 'Fox' are stubborn, hence they are purposeful that similar to Dunning's view [31].

The remainder of the paper is set up as follows. Section 2 outlines the extensive literature on CB-M&As. Section 3 explains the method. Section 4 shows India's CB-M&As market and regulatory framework. Section 5 presents case information. Section 6 discusses point and counterpoint of the given case. In Section 7, we test various business theories, and propose a new theory and offer lawful propositions. Section 8 concludes the paper.

1 See [4,5,6].

2 For instance, in [7], authors show a delayed oil and petroleum deal between Vedanta and UK's Cairn Energy; on the other hand, a broken telecom deal between India's Bharti Airtel and South Africa's MTN [8].

2. Review of related literature on CB-M&As: A law and governance perspective

Given the outstanding backdrop to the study, we have reviewed the studies that ranging from a macroeconomic determinant to a firm-specific determinant of CB-M&As. We therefore outline the review of literature in two schools. First, it presents the extensive contributions on various factors, which determine foreign investments and cross-country acquisitions. Second, it draws a set of synopsis from the most relevant determinant of taxation in foreign mergers.

2.1. Review of studies related to foreign investment and M&A deals

Corporate structures create superior value to the firm when it has multinationalized [32]. Thus, a global expansion strategy is likely to be appealed by two essential channels, namely foreign direct investments (FDIs) and M&As. It is evidenced that these channels influence [favourable/unfavourable] by numerous economic, political, legal and so forth of institutional factors. For instance, regarding the effect of political events on FDIs in Germany and Japan, German firms invest in less advanced-economies; conversely, internal political conflicts in the host countries of the less advanced-world adversely affect foreign investments. On the other hand, intergovernmental networks or relationships, and relative weight of economic environment are important key factors in determining border-crossing investments by Japanese firms [27,28].

In [33] authors argue that strength (weakness) of a legal framework would influence international investments. In other words, mergers or acquisitions (volume) may increase and target firms improve their efficiency after merging with a company established in countries where a stronger investor protection offers [20]. In fact, target firm usually adopts the accounting standards, disclosure practices, and governance structures of the acquiring firm [13]. Further, it describes that when there is no formal change of the domestic legal system, firms in a country may adopt different levels of investor protection, depending on the firms they merge. Furthermore, acquiring firms pay a higher premium for targets from countries with a weak regulatory setting or less institutional environment because of significant asymmetric information and agency issues [12,19,34].

In [15] the author finds that financial variables and other institutional factors play a crucial job in both inbound and outbound capital flows. Thus, size of financial markets is one of the determinants when a domestic enterprise invests or acquires a firm abroad. The author estimations indicate that a 1% rise of the stock market to GDP ratio is associated with a 0.955% increase in CB-M&As activity. In case of U.S. foreign acquisitions, bidding firms benefit from mergers or acquisitions take place in economies with a worse or weak financial markets regulatory setting [17]. In other words, it states that stronger the financial regulatory system, and therefore bidder firm shareholders should experience positive returns, or else, weak (negative) [12]. More recently, a study shows that bidder firms of targets based in civil-law nations have outperformed to the deals based in common-law nations. It also suggests that buying a firm in economies where higher restrictions on capital mobility could add premium to the acquiring firm shareholders' wealth [10]. Similarly, geography or territory, quality of accounting

disclosure and bilateral trade determinants raise the likelihood of M&As between two economies. Further, valuation is one of the key motives of foreign mergers, for instance, firms in countries whose capital market in terms of value and currency have augmented, and that has a significant market-to-book value tend to be acquirers, and targets otherwise [3].

In a related study, authors investigate the impact of country's legal, cultural, and business environment factors, industry factors as well as deal specific factors on the intensity of cross-border joint ventures. They suggest that U.S. firms are more likely to form joint ventures with firms from countries that have weak legal and regulatory setting [18]. For banking mergers, acquirers are typically from countries with lesser regulations, stronger guidelines for foreign bank entry, lesser restrictions on bank activities, and with established deposit insurance schemes. It observes that severe laws of the banking sector in the target economy likely cause a decline in the number of foreign mergers or acquisitions [35].

In addition, physical distance could increase the cost of merger or combination [29 In 3]. In other words, CB-M&A activities of Latin American region are positively affected by the economic freedom and business conditions in target country [23]. Likewise, a country's GDP, exchange rate, and interest rate are likely to influence a local enterprise while buying a firm in other economies [25]. More specifically, a study explores a link between exchange rates and FDIs. It develops a model where the assets acquired in an acquisition are easily moveable within the firm, thus able to produce returns in any currency [11 In 22]. Indeed, a currency movements is one the important determinants of foreign M&As [3]. In [22] author shows that exchange rate is one of the key determinants for inbound-FDI to the U.S. economy but not for inbound-FDI to other developed markets. On the other hand, culture is one of the determinants of border-crossing investments or acquisitions. In the merger of Telia-Telenor failure case, it observes that historical sentiments, feelings, and emotions are some of the significant variables that would damage cross-cultural business models (if ignored) [16]. Likewise, cultural distance between two countries and political uncertainty has linked inversely with cross-border acquisitions [14].

In sum, we argue that a nation's macroeconomic factors, for instance, GDP, exchange rate, bilateral trade relations and interest rate; and financial system and regulatory setting issues, for example, level of investor protection and quality of accounting standards -would influence border-crossing mergers or acquisitions. We also realize that political events and governmental relationships play a vital job in FDI inflows (outflows).

2.2. Review of studies related to Taxation as a determinant in overseas M&A deals

Taxation is likely a motive for merger waves, in which the author suggests a model of shareholder behaviour under the principles of double taxation [36]. In addition to the case of political stability, the established tax system is one of the key factors that make a nation investment friendly or hostile [26]. Indeed, some school of scholars explains that 'tax advantage' is one of the major motives behind these deals. By contrast, a country's financial markets legal infrastructure, banking guidelines, taxation issues and political events would adversely affect these deals, especially global direct investments and

foreign acquisitions [3,13,20,23,27,28).

In [2] the authors suggest that tax subsidies or exemption schemes are constructive if ownership advantage is a public good within the foreign MNE. As of Nigeria case, it ascertains that multiple tax schemes reduce incentives to pay tax or for voluntary compliance; in an adverse manner, the current Nigerian system does not motivate taxpayers while inducing voluntary compliance [26].

However, when we look over different countries taxation structures there are two types of tax systems, such as, single taxation and double taxation. For instance, double taxation comes in the form of non-resident dividend withholding taxes, and parent country corporate income' taxation of repatriated dividends. It also suggests that foreign country tax schemes greatly influence the outcome of border-crossing acquisitions [37]. In other words, the parent-subsidiary investment establishing a firm supported by foreign acquisition is greatly affected by the double taxation. Similarly, location decisions of M&A investments have less influenced to differences in tax rates compared to location decisions of Greenfield investments [21].

On the other hand, tax evasions would adversely affect fiscal or government revenue that obstructs the timely implementation of economic policies and programs. More notably, it has been noticed that larger differences in corporate income tax rates attract foreign investment [3]. In [38], the authors find the mean rate of tax evasion is about 16%, which infers that the incentives for tax evasion do not reduce when the firms are publicly listed.

In sum, we draw a fact that 'a country's tax policies, tax structure, and tax incentives and schemes' play a major role in border-crossing merger or acquisition deals. By contrast, we strongly contend that tax evasion would be more where there is a book law of double taxation or high international tax rates.

3. Method: Case study research

Qualitative research allows the researcher to discover new variables and relationships, to reveal and understand complex processes, and to illustrate the influence of the social context [39:1824]. It is a powerful tool for management researchers, which provides a great deal of merits beyond what traditional survey methods can provide [39:1830]. For example, theory testing is a great deal of contribution that improves the quality of a given field [40:39]. Given the purpose and the type of synopsis of our study, we have chosen a well-established qualitative method "Case Study Research" (CSR). Professor Yin defines that "a case study is an empirical inquiry that investigates a contemporary phenomenon within its real life context, especially when the boundaries between phenomenon and context are not clear evident, and it relies on multiple sources of evidence" [41:13]. In fact, the biggest contributions come from bold, novel theory-building efforts that push the research frontiers by fully utilizing the theoretically unique context of IB [42:543]. In particular, a study designs a typology of theorizing that suggests four forms, namely contextualized explanation, inductive theory-building, interpretive sense-making and natural experiment [43]. More recently, an author proposes that when the emphasis on theory development is strong and the emphasis on contextualization is weak there would be stronger "theory building and testing" [44].

Thus, our paper falls into three categories, namely testing the existing theories, developing a theory, and offering propositions. To do

so, we have chosen single case study, and compare and discuss the similarities of this case with other two cases that have associated with the given economic setting. In fact, CSR can be used on single case or multiple cases that varies from researcher to researcher, because it depends on the purpose of research whether theory is testing or theory is developing [41]. Hence, single case is suitable when it satisfy all the guidelines for theory(ies) testing, or developing a new theory [45].

Regarding data, we have chosen a method of archival data. Thus, archival data can be used independently as well, particularly when attempting to understand historical incidents, or economic/social systems [39:1829]. The sources of our data are as follows. The deal information is collected from India's registered national finance dailies, namely The Economic Times, The Hindu Business Line, Business Standard and The Financial Express, and finance and legal consultants like BMR Advisors, Deloitte, and KPMG. More importantly, we accumulate the essence of the given case, and business profile and financial information from the respective 'Company Annual Reports'.

4. India's CB-M&As market and regulatory framework

4.1. India's CB-M&A market during 2000-11

We provide some highlights of India's foreign acquisition transactions in terms of purchases and sales for the period 2000-11 (see Figure 1). Thus, foreign acquisitions in terms of sales (number of deals and deal value) have been increased significantly compared to purchases (same as aforesaid). In fact, one can also observe that the year 2007 has shown a great amount of investment-flow, for example, purchases are appreciably higher than sales. From this finding, we infer that both Indian local companies and MNEs have internationalized their operations through foreign mergers or acquisitions since 2005. At the same time, DMNEs have been taken-over local firms majorly through FDIs and substantial acquisition of shares. In this regard, we argue that "this is possible because the Indian government had amended many regulations including FDI norms during 2005-2006". The other important findings are as follows: total number of deals (deal value) for purchases and sales has reached 1,122 (US$47.97 billion), and 1,052 (US$88.93 billion), respectively. Conversely, averages likely show for purchases (number of deals 87.67; deal value US$7,410 million), and sales (same as aforesaid, 93.5; US$4,000 million). Therefore, this noteworthy finding infers that most domestic firms have preferred merger or acquisition as one of their corporate strategies both for internationalizing their trade and for gaining ownership advantages. Similarly, outbound acquisitions average growth rate is significantly higher than inbound acquisitions. For instance, we have seen ample of rise in purchases (number of deals 38%; deal value 1030%) compared to sales (same as aforesaid, 16%; 80%). More importantly, we observe similar findings when Indian share is measured as a percentage of world economy. In other words, purchases in terms of number of deals as a percentage of world economy are notably higher than sales for the period 2005-2008 and 2010. Indeed, we have not found significant difference between purchases and sales. However, purchases in terms of deal value as a percentage of world economy is higher than sales (1.40 > 0.87).

35 000 30 000 Sales (Value of deals) k-. " 200 ISO 160

25 000 Purchases (Value of deals) , —*— Sales (Number of deals) i/ 140

1 "J r 20 000 15 000 Purchases (Number of deals) .y 1 120 f 100 1 80 §-

10 000 5 000 - «0

A-: V/ "àr....... i 40 20

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Fig. 1 - India's cross-border mergers and acquisitions during 2000-11.

Source: Authors plot a graph based on data extracted from the UNCTAD Statistics refer to worldwide foreign direct investments, and cross-border mergers and acquisitions.

4.2. The M&As regulatory framework

The India's M&A regulatory framework comprises five government authorities, namely the Registrar of Companies (Companies Act, 1956), the Securities and Exchange Board of India (SEBI - SAS&T Regulations, 1997), the Competition Commission of India (CCI - Competition Act, 2002), the Reserve Bank of India (RBI), and the Department of Revenue (Income Tax Act, 1961).3 In particular, RBI plays a key role in banking and finance related mergers, alliances or combinations. Apart from the above controllers, the Foreign Investment Promotion Board (FIPB) performs an important role in FDI approvals and foreign trade transactions. There are some other acts, which perform directly and indirectly related to both domestic and foreign deals that include Foreign Exchange Management Act, 1999; Indian Stamp Act, 1899; Registration Act, 1908; Transfer of Property Act, 1882; Wealth Tax Act, 1957; and Customs Act, 1962. Hence, most of these regulations are exercised by the Department of Revenue under the Ministry of Finance.

5. Case information

5.1. Profile of Vodafone Group Plc

Vodafone Group is the UK-based multinational telecom enterprise, which offers a range of communications' products and services include voice, messaging, data and fixed-line solutions, and instruments [46]. According to the Financial Times Global 500 ranking for the year 2012, it has ranked 36th declined from 30th in 2011. Further, it is next to China's China Mobile in the worldwide telecommunications industry.4 It operates in three geographic markets, namely Europe, Africa and Central Europe, Asia Pacific and the Middle East. By and large, the company's global presence in terms of number of markets (number of mobile customers) has increased dramatically at three-fold (35-fold) from 12 (5.8 million) in 1998 to 38 (206.4 million) in 2007, and thereafter, augmented to 40 (370.9 million) in 2011 [48,49,50]. It is listed primarily on the London

3 To conserve space, we do not present all regulations in detailed, however they are available upon request.

4 Source: [47].

Stock Exchange (LSE) in 1988 and the second listing on NASDAQ. As of May 16, 2011, it has a market capitalization approximately £86.4 billion making is the second largest listing in the Financial Times Stock Exchange (FTSE) 100 index, and the 28th largest MNE in the world [50:134]. In 2000, it has acquired Germany's Mannesmann for US$231 billion, which was the biggest deal in Vodafone's corporate history [51]. In the light of financials, it has shown impressive results during 20082012. For instance, total revenue (profit) has improved (recovered) appreciably from £26.68 billion (£6.52 billion) in 2005 to £29.35 billion (-£21.82 billion) in 2006, £31.1 billion (-£5.3 billion) in 2007, £45.9 billion (£7.87 billion) in 2011, and £46.47 billion (£7 billion) in 2012 [46,48,49,50].

Regarding Indian operations, Vodafone has acquired an additional 22% equity stake in Vodafone India Limited5 (VIL) from its joint venture partner 'Essar Group' for £2.6 billion on July 1, 2011 [50:56]. Further, Essar Group has sold their remaining 11% equity interest in VIL to Piramal Healthcare for £767 million during the financial year 2011-2012. As of March 31, 2012, Vodafone has a 64.4% interest in VIL through its wholly owned subsidiaries, and a further 20.1% indirect holding giving an aggregate 84.5% equity interest [50:118].

5.2. Profile of Hutchison Whampoa Limited

The Hong Kong based and the Hong Kong Stock Exchange listed MNE' Hutchison Whampoa Limited (HWL) is a conglomerate and an investment holding group. According to the Financial Times Global 500 ranking, it has ranked 150th for the year 2011, and then down to 167 in 2012; further, it ranks fifth in sector ranking of 'General Industrials'.6 The multinational business entrepreneur - Li Ka-shing's Cheung Kong Holdings has 49.9% equity interest in HWL; in fact, he solely chairs both the firms [52]. HWL business operations include property and hotels, ports and related services, energy, infrastructure, retail, finance and investments, and telecommunications, as well. In addition, it is also a container terminal operator. In the light of financials, the HWL results are worth mentioning during 2002-2011. For example, total revenue (profit, total assets) has boosted substantially from HK$75.24 billion (HK$11.77 billion, HK$498.44 billion) in 2002 to HK$218.68 billion (HK$33.35 billion, HK$790.34 billion) in 2007, and HK$233.7 billion (HK$56 billion, HK$720.54 billion(|)) in 2011 [53].

The HWL's subsidiary-firm Hutchison Telecommunications International Limited (HTIL) was floated in 2004 to carry out a set of fixed-wire and mobile assets in eight countries, namely Hong Kong, India, Israel, Macau, Sri Lanka, Ghana, Paraguay, and Thailand [52:20]. Nevertheless, it appears that HTIL reported profits of almost HK$67 billion in 2007 although this is primarily due to the sale of company's operations in India to Vodafone for HK$69.3 billion [52:29]. It is worth noting that HTIL has invested roughly US$2.6 billion in India since 1995 [51]. In this regard, one can estimate that Li Ka-shing has outstandingly gained about US$8.3 billion for the period of stay 1995 through 2006.

While, the Indian-listed entity, Hutch-Essar Limited (HEL) is a joint venture between CGP Investments (Holdings) Limited, which is

indirectly owned by the HTIL and the Indian conglomerate firm Essar Group. In 1995, the Hutchison was launched its mobile operations; subsequently, the acquisitions of other mobile operators gained the territory market advantage of Hutchison Max. In January 2006, it had acquired BPL Mobile Cellular then the network expanded to 23 circles [52:23-24].

5.3. Time-line of the Vodafone-Hutchison deal

Vodafone-Hutchison cross-country telecom deal is one of the world's longtime-delayed cross-border M&As (see Figure 2 and Box 1). As far as the case is concerned, Vodafone Group has an offshore subsidiary unit Vodafone International Holdings B.V (VIH) located in the Netherlands. On the other hand, HWL has an on-shore Asian subsidiary firm HTIL headquartered in Hong Kong; thus, HTIL has 100% equity holdings in CGP Investments (Holdings) Limited located in Cayman Islands. Indeed, both MNEs have significant equity interest in their respective subsidiaries. The case is that "CGP owns a 51.95% indirect shareholding in HEL, an Indian-listed entity [49]. The crux of the case is that "Vodafone had agreed (completed) on February 11 (May 8), 2007 to buy a HTIL's 100% holdings in CGP Investments through its subsidiary firm VIH for US$10.9 billion [49,54]. Certainly, there was some debt amount approximately US$2 billion that included in the deal amount [51]. Then, the acquisition has resulted in Vodafone's control over CGP and its subsidiaries including HEL [55]. Surprisingly, the Indian tax authorities had issued a notice to Vodafone, inducing it as an assesse-in-default for failure to withhold taxes on gains arising out of HTILs transfer of shares of CGP Investments [55]. Subsequently, the issue had litigated for longtime before the BHC and the SC [56]. Finally, on January 20, 2012, SC has given a landmark judgment in favor of Vodafone, stating that the deal had no connection with territory of the country, and therefore, tax authorities have no right to impose any capital gains tax [57].

6. Systemic analysis of the case - point and counterpoint

We thus start our discussion from the basic Indian Contract Act, 1872 to the recent Competition Act, 2002 (see Figure 3). First, did any contract exhibit between Vodafone's VIH and Hutchison Whampoa's HTIL? Our straightforward answer is 'yes', because the contract titled 'share purchase agreement' had occurred within the nature of, for instance, Section 2(a), (b), (d), (e), (h) and Section 10 of the Indian Contract Act, 1872. Second, where did the contract register? According to Hutchison Whampoa and Vodafone' Annual Reports [49,54,58], the contract has registered outside the territory of India, namely Cayman Islands. To argue this observation, we then deeply study the relevant acts like Transfer of Property Act, 1882; Indian Stamp Act, 1899; Registration Act, 1908; Sections 390-394 of Companies Act, 1956; Wealth Tax Act, 1957; Customs Act, 1962; Foreign Exchange Management Act, 1999; Monopolies and Restrictive Trade Practices Act, 1969 (now, Competition Act, 2002); and other valid amendments occurred in 2006; nevertheless, we could not find any pertinent section or sub-section that explains the geographical or territory of India. In addition, we look into the SEBI (SAS&T) Regulations, 1997, although no section is relevant to examine this case.

5 On October 11, 2011, the firm name (VIL) has changed from a joint venture called Vodafone-Essar Limited (VEL).

6 Source: [47].

Fig. 2 - Structure of Vodafone-Hutchison deal.

Notes: (1) Hutchison Whampoa's HTIL has invested indirectly in Hutchison-Essar* while having 100% equity holding in CGP Investments, (2) Vodafone's Vodafone International Holdings has acquired HTIL's 100% equity holdings in CGP Investments, and (3) as a result of direct acquisition occurred in Cayman Islands, Vodafone become a joint venture partner in India's Hutchison-Essar. *After the deal, Hutchison Essar has been changed to 'Vodafone Essar', and thereafter, on October 11, 2011, it again referred to "Vodafone India Limited" [50].

With this in mind, we ask our third question. Was the method of 'transfer of shares' between Vodafone and HTIL a direct or an indirect? Prior to answer this question, we must acknowledge Vodafone-Hutchison (CGP Investments (Holdings) Limited) deal information (see, for instance, Figure 2). In this hypothetical picture, we show that the 'share transfer' has occurred between VIH and HTIL. In fact, both subsidiaries have no direct assessment or connection with India. As a result, the deal becomes India's offshore transaction in the view of 'indirect transfer of shares'. In line with discussion, we further check whether Indian Income Tax Act, 1961 has any section or provision to levy capital gain tax on such indirect transfers when the deal becomes offshore transaction. Here, our straightforward answer is 'no', but such taxes have been exempted in the existing act. In other words, section 47(vi) explains, "where there is a transfer of any capital asset in the scheme of amalgamation by an amalgamating company to the amalgamated company, such transfer will not regarded as a transfer for the purpose of capital gains tax provided the company amalgamated company to whom such assets have been transferred, is an Indian company" [59].

The Vodafone's counsel had argued that as per section 9(1)(i) of the Act, income deemed to accrue or arise in India from the transfer of a capital asset 'situated in India' should be taxed in India [56]. Conversely, it has mentioned that the assumption that the geographical location of investment matters for its productivity whereas corporate ownership structures do not [2]. Furthermore, "the nexus of a non-resident with the taxing jurisdiction arises where the source of income originates in the jurisdiction" [60]. While the case was ruling in BHC, we found a relevant study by [61:522-524] where the authors suggest that the 'implicit test of nationality or test of protectiveness' should have been considered and evaluated. Hence, the deal has not been attracted the two tests. They also presume, "in some advanced countries, withholding tax in case of nonresidents applies only when payments are made by residents to nonresidents". As a result, SC has given the judgment in favor Vodafone that tax authorities have no jurisdiction to impose capital gains taxes on

offshore deals or indirect transfer of shares.7 In particular, the court further observes that controlling interest is a contractual right and could not consider as property [62]. Further, it has terrifically pointed out that any judgment should be given with regard to existing law or book of law. Lastly, we strongly support the views and judgment given by the apex court of India. Four decades ago, Hymer argues that "MNEs, because of their size and international connections, have certain flexibility for escaping regulations imposed in one country" [63:447]. We thus support the views of Hymer in this particular aspect.

Fig. 3 - Systemic analysis of Vodafone-Hutchison deal.

Notes: VG - Vodafone Group Plc, UK; VIH - Vodafone International Holdings, The Netherlands; HW - Hutchison Whampoa Limited, Hong Kong; HTIL - Hutchison Telecommunications International Limited, Hong Kong; and CGP - CGP Investments (Holdings) Limited, Cayman Islands.

7. Theory testing, and theory development and lawful propositions

The outstanding part of this paper aims to test six theories that have propounded in management-related literature (see Table 1). Regarding theory development and lawful propositions, we establish a triangular association between systemic case analysis, relevant CB-M&A literature, and theory testing. We therefore define our theory as "Farmers Fox Theory". It reveals that

"a given country's weak (loopholes in) financial and tax regulatory system benefits both the acquirer and the target firm in cross-border mergers and acquisitions based on two assumptions: first, one must have some experience in the given economic and regulatory environment or some kind of alliance with a local firm; second, other one should new to the economy where the target firm registered or associated with. At the same time, this economic behaviour adversely affects its fiscal income or revenue".

In addition, we acknowledge some important limitations that should be checked by future scholars before testing this theory. In other words, one should receive impartial results in a given economic setting based on the assumptions of theory. First, a given study must be within

7 More importantly, the court held that both Vodafone and Hutchison Whampoa's HTIL were not "fly by night" operators or short-term investors; hence, they had contributed substantially Rs. 20,242 crore (US$3.76 billion) in the form of both direct and indirect taxes to the exchequer for the period 2003-2011 [64].

the foreign mergers or acquisitions. Second, the given sample should be delayed or broken, or both. Third, there should be a government or state involvement (or action) in that delayed or broken deal. Fourth, there should not be a conflict of interest between acquirer and target firm. Fifth, both the firms can be different each other in business nature. Sixth, either the firms can have prior alliance experience or not, which does not influence our theory. Seventh, this theory also supports, and in line with 'liability of foreignness' [65]. Eighth, our theory is not feasible to apply for domestic transactions; however, we endorse 'liability of localness' -when a given economy enterprises internationalize their operations or seeking to invest in other foreign nations [1]. Finally, the deal can be any form - that is either pre-merger negotiations, or during the merger process, but should not be a post-merger integration.

The following propositions would advance the current knowledge of foreign acquisitions or alliances.

Proposition 1. A given country's weak financial markets and tax regulatory system benefits both the acquirer and the target firm in cross-border investments or acquisitions.

Case testimony: Prior to provide case proofs, we define what a weak regulatory system is. In a given period, where a country's regulatory system does not advance in line with similar group of countries, or should not adopt or amend specific rules and guidelines for a public good, and when the system has corrupted by the given political instability and bureaucrats inefficiency, thus together leads to delay or break both public and business-purpose legal procedures - is called "weak regulatory system". More importantly, this weak system adversely affects government's fiscal income whist benefiting other stakeholders.

In this case, Vodafone has benefitted in the form of capital gains tax that the India's apex court has given its landmark judgment by stating that the existing tax guidelines do not allow tax authorities to impose capital gains tax on Vodafone in the current Vodafone-Hutchison deal. As a result, Vodafone has benefited approximately 20 per cent on a given deal amount (US$10.9 billion), which is equal to US$2.18 billion. On the other hand, Hutchison Whampoa benefited in the form of premium value that has paid by the Vodafone. In reality, HWL has invested approximately US$2.6 billion in India since 1995 and sold to Vodafone for US$10.9 billion, which benefited US$8.3 billion, per se. In the paradigm of international laws, it is said that only an acquirer is liable to pay tax and not the target firm. In sum, both the acquirer and the target firm are benefited because of loopholes in the given country's institutional setting.

Proposition 2. Acquirer or merged firm gains new knowledge, acquisition experience and other learning proposals while acquiring a target firm located in (or associated with) weak legal and regulatory framework.

Case testimony: As a result of long-time delay in judging the given case, Vodafone had acquired a great deal of knowledge on a given country's constitutional system, weakness of the regulatory setting, approaching public administration authorities and bureaucrats, linkage between politicians, bureaucrats, industry associations, jurisdictions, media and public, and knowing the given market potential for its survival. Thus, this acquisition is a kind of learning experience to DMNEs while entering negotiations or doing business in countries like India. If Vodafone could advance their deeper eyesight, therefore it would be head of other multinational giants in the world economy telecommunications-market.

Proposition 3-1. Foreign acquisition transactions get delay - when a given country adopts developed-economies legal guidelines without cause-benefit analysis, does not understand and define the actual purpose of the acts, does not perform regular amendments, or does amend or not amend without any explanation, and lazy public administration, thus together form a weak constitutional system, which damages public or social good. Proposition 3-2. In cross-country deals, acquiring firms acquisition cost increases coherently, for instance, communication cost, legal proceedings cost and other associated costs because of a given country's regulatory authorities exerts, behaviour and dealings.

Proposition 3-3. The increased acquisition cost (total acquisition cost -actual transaction value) would adversely affect acquiring firm's stock returns and accounting earnings.

Case testimony: To the best of our knowledge, it is one of the worst longtime delayed cross-country deals in the world economy, especially in telecommunications sector. The deal had initiated in December 2006, announced in the media in February 2007, completed in May 2007, tax authorities filed a petition in the given country's state jurisdiction [... ] and finally, SC given its judgment in January 2012 (see Box 1 for time line of the deal). In sum, number of months that the transaction has consumed in the account of Vodafone approximately 62. Hence, we could support some case proofs with the theory 'liability of foreignness' [65].

Conversely, we substantiate our proposition (3-1 to 3-3) from the recent foreign acquisition deals that associated with the given country. First, Bharti Airtel wanted to acquire or merge with South African-based MTN Group. Thus, this deal had delayed and then cancelled during three-round negotiations (2008-2009) because of regulatory hurdles, which should be authorized by the SEBI and the Ministry of Finance. For instance, the hurdles refer to dual listing norms and complex deal structure [8]. In fact, the reality of the case lies here "the given country's regulatory system does not define what dual listing is". In this regard, one should raise different blended questions, for instance, when a given country owns an Asia's oldest stock exchange (Bombay Stock Exchange established in 1875), becomes an independent country in 1947, implemented new economic policy in 1991, and most financial regulations have amended in 1994 and 2006; though, why this country's legal framework does not have guidelines for dual listing or any other specific acts. Second, this is an interesting deal between UK-based Vedanta Resources and UK-origin Cairn Energy. It looks similar to the current case. Thus, it had delayed in light of production sharing contracts and open offer issues, and then finally completed [7].

Therefore, the aforementioned propositions would help scholars while pursuing future research in cross-border deals, and assist policymakers and regulatory authorities while designing/amending international investment and tax laws.

8. Conclusions

Many advanced economies' researchers, policy makers, and consultants suggest that a country's economic growth not only depends on its financial system and financial development, but also induces by its

constitutional and legal infrastructure.8 When we 'lookup' deeply through our 'lenses' in counties like India, there is a huge amount of disturbances, consequences, litigations, improper policy guidelines, arrogance of regulatory system, inefficient bureaucratic administration, unethical political power, a land for corruption, allegations, controversies, religion wars, and so forth of economic calamities within the system are folded, mixed, unbroken and detachable. Moreover, many of the terms used in various acts have not been interpreted carefully. For instance, a study mentions that "there should be a clear definition of the term "dominant position" under the Competition Act, 2002 [60:117]. Further, it is necessary to have extra-territorial application of competition law to regulate the anti-competitive activities of foreign firms taking place in the given country [60]. Therefore, government and policy makers should take an immediate call to rewrite and explain the terms that were left in various acts. To do so, there must be a high-level investor protection committee, which should comprise a group of knowledge and experience persons.

In this paper, we analyze and discuss the India's long-time delayed cross-border acquisition 'Vodafone-Hutchison deal' in the view of international taxation and litigation issues with Union of India since 2007. A novel finding of our study indicates that a given country's weak regulatory system benefits both the acquirer and the target firm; at the same time, this economic behaviour adversely affects its fiscal income or budget. Thus, this deal is a 'share purchase agreement' between buyer and seller that has occurred outside the country; in other words, it is an indirect transfer of shares. Therefore, we support apex court's final judgment in favour of Vodafone that the deal has no nexus with territory of India.

Yet, our study has few limitations [66]. We have carefully recorded the events of the case and arranged them in chronological order, and then it has systematically analyzed in retrospective manner. However, we admit the jeopardy that the investigation and discussions of the case might be inclined by untrue memories or falsification of data extracted from print media and electronic sources. We eventually suggest some areas that thirst future investigation, for instance, determinants of foreign acquisitions in emerging economies, interview-based case study research in pre-merger decision-making process and post-merger integration, and impact of policy reforms on corporate restructuring strategies. Conversely, our theory and propositions would advance the current IB and institutional knowledge.


Authors wish to thank Salloum Charbel and two anonymous reviewers for helpful comments and guidelines. The first author of this article (K.S. Reddy) is a Doctoral Scholar [in self-finance category] of Finance Research Group (FrG) thankful to his Ph.D. supervisors, V.K. Nangia and Rajat Agrawal, and colleagues who are working in General Management Group (GmG), Marketing Research Group (MarG), and Operations Research Group (OrG). Reddy is indebted to K.P. Kiran & Jones family, Ganesh, Satyanarayana, Suresh Reddy, Yogi Reddy, Sriyogi, Virendra Balon, Naveen Kumar, V. Koti Reddy and B. Harinarapa Reddy for their

8 In a study of 145 countries, the World Bank has found that the administrative cost of complying with regulations is three times higher for businesses in poor countries than for those in rich ones [67:50].

ad hoc financial assistance in his doctoral research. He is also grateful to Punjab National Bank (IITR branch) for providing short-term educational loan. This paper is produced from Reddy's doctoral work. The opinions expressed in this article are entirely those of the authors and do not necessarily represent the views of the authors affiliated institution located in India, i.e. Indian Institute of Technology (IIT) Roorkee. All remaining errors or omissions are the responsibility of the authors. The usual disclaimer applies.


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Box 1. Time-line of the Vodafone-Hutchison deal

Date Description

® 2006 December 23 Vodafone started negotiations for Hutchison stake in Hutch-Essar Limited (HEL) (a listed entity in India). Of course, Reliance Communications was in the bidding race during the same week.

2007 January 9 Vodafone initiated the due diligence work of Hutchison Whampoa and Hutch-Essar Limited to asses and propose its decision. However, by Feb 10, 2007, the bidding for Hutch was in process, and received proposals from various bidders, for example, Hinduja's with Qatar Telecom.

2007 February 11 Vodafone International Holdings (VIH), a Netherland-based subsidiary of Vodafone has acquired 100% equity stake of Hutchison Telecom International Limited (a wholly owned subsidiary of Hutchison Whampoa Limited) in CGP Investments (Holdings) Ltd, Caymon Islands. As a result, Vodafone has become the joint partner in Indian-based HEL, for US$11.2 billion (this value was printed in different print-media-news papers). Therefore, the new joint venture would be Vodafone-Essar Limited (now, Vodafone India Limited).

2007 March 15 Vodafone and Essar reached an agreement on jointly managing the HEL.

0 2007 May 5 Vodafone-Hutch deal gets approval from India's Finance Minister. In particular, between March 16, 2007 and Many 5, 2007, the deal was scrutinized by FIPB, and other regulated bodies.

iW 2008 December 3 Bombay High Court ((BHC), a state-level jurisdiction of Maharastra located in Mumbai) permitted the tax authorities to investigate whether the deal is liable for capital gains tax in India.

2010 May The tax authorities issued an order of holding that they had the necessary jurisdiction to proceed against Vodafone. Then, Vodafone filed a writ petition before the BHC objecting the tax authorities' action, and stating that the transaction had no nexus with the territory of India.

P 2010 September 8 BHC has dismissed the petition by stating that the diverse rights and entitlements acquired by Vodafone had sufficient connection with the territory of India.

k 2010 September-October Contending the BHC's judgment, Vodafone filed a writ petition in the apex court "Supreme Court of India" (SC).

2010 November 15 SC asked VIH to deposit Rs 2.5 billion; thus, the amount is merely to safeguard the interest of the tax department until the court makes the final judgment.

I 2010 - 2011 During this period, several rounds and discussions have been taken place between Vodafone and Union of India in the apex court.

ë 2012 January 12 Finally, SC has given its judgment in favour of Vodafone. Thus, SC has disagreed with the conclusions arrived at the BHC, and stating that "tax authorities has no territorial tax jurisdiction to tax the offshore transaction, and then directed the tax authorities to return the Rs 2.5 billion deposited by the Vodafone with 4 per cent interest within two months, and the bank guarantee of Rs 8.5 billion submitted at the SC registry within four weeks.

Source: Authors organized' based on information collected from authenticated sources [49,54,55,56,57,64,68,69].

Notes : We have no case description for the year 2009.

Table 1. Theory testing and case illustrations

Theory and its description Theory testing/Case illustrations

Theory of Foreign Direct Investment [63,70,71; IMF; UNCTAD]. In Hymer's view, key motive behind FDI is to gain control over marketing facilities in order to facilitate the spread of their products [63:445]. More specifically, Caves indicates that there are two important economic features of FDI: (i) it ordinarily affects a net transfer of real capital from one country to another; and (ii) it represents entry into a national industry by a firm established in overseas market. According to IMF, "FDI enterprise is an enterprise (institutional unit) in the financial or non-financial corporate sectors of the economy in which a non-resident investor owns 10% or more of the voting power of an incorporated enterprise or has the equivalent ownership in an enterprise operating under another legal structure". Vodafone Group Plc has an offshore subsidiary 'VIH' located in the Netherlands. On the other hand, HWL has an on-shore Asian subsidiary firm 'HTIL' headquartered in Hong Kong; thus, HTIL has 100% equity stake in CGP Investments. The key point is that CGP owns a 51.95% indirect shareholding in HEL (an Indian-listed entity). According to FDI theory, Vodafone buys a HTIL's holdings in CGP Investments through its subsidiary firm VIH for US$10.9 billion. We therefore suggest that this equity acquisition has satisfied the views of Hymer and Caves and the IMF.

Eclectic Paradigm, OLI framework, or International Production Theory [31]. Dunning suggests that a firm must possess Ownership advantages, Location synergies, and Internalization (OLI) within its activities or structures while making it internationalization. For instance, the condition for international production is that it must be in the best interest of firms that possess ownership-specific advantages to transfer them across national boundaries within their own organizations rather than sell them [31: 3]. Because of acquisition, Vodafone has become the major partner by 51.95% equity holdings in the Indian-based joint venture Hutchison-Essar (HEL). Further, it has acquired an additional 22% equity stake from its joint venture partner Essar Group. From the post-acquisition decision, we strongly believe that Vodafone can experience the market scope with their service differentiation. Thus, it is an accomplishment of market seeking motive thus meets the criteria of Dunning's eclectic paradigm.

Uppsala Theory of Firm Internationalization [72,73,74]. Johanson and Wiedersheim-Paul presume that the firm first develops in the local markets and that the internationalization is the consequence of a series of incremental decisions [72:306]. Hence, obstacles such as knowledge and resources can be declined through incremental decision-making and learning about the overseas markets. While the revised model depicts dynamic, cumulative processes of learning, as well as trust and commitment building [74:1424]. Vodafone is not new in internationalizing their operations, for instance, the company's global presence in terms of number of markets has increased dramatically at three-fold from 12 in 1998 to 38 in 2007, and thereafter, augmented to 40 in 2011. According to theory, the company has entered across the developed and developing economies through incremental decision-making. As of the deal that would help the company for further diversification in other South Asian and East Asian countries.

Liability of Foreignness-LoF [63,65,70,71,75,76,77,78]. Originally, in his doctoral thesis [1960] at MIT, Hymer introduced this concept [71]. In his view, LOF is composed of three factors: exchange risk of operating businesses in foreign countries, local authorities' discrimination against foreign companies, and unfamiliarity with local business conditions [76:342]. He termed the same as 'costs of doing business abroad'. In fact, it has been pointed out in Coase's work that foreign firms experience greater transaction costs compared to local firms because of foreignness [75]. In the modern era, Zaheer argues that LOF could arise at least from four routes: [i] costs directly associated with spatial distance, [ii] specific costs based on a particular company's unfamiliarity (or, newness), [iii] costs resulting from the host country environment, and [iv] cost from the home country environment [65:343]. Unfortunately, most LOF studies examine MNEs and its subsidiaries performance during the post-setup of units in a given economy and compare those results with local firms. Unlike these studies, our case shows the legitimate evidence at the foreign market entry-level especially in developing economies. Thus, Vodafone has faced various government allegations at two jurisdictions, namely BHC (a state-level jurisdiction) and SC (apex court of a given country). During these five years (2007-2011, Vodafone might have spent at least two per cent of the deal amount, which is an additional transaction cost to the company. Briefly, we agree with the propositions of LOF suggested by Hymer, Coase, Caves and Zaheer.

Institutional Theory [79,80,81,82,83]. The action system is imbedded in an institutional matrix, in two forms: formal structure of delegation and control, and formal system and the social structure [79:25]. In [80:341-351], the authors suggest that firms that reflect institutional rules tend to buffer their formal structures from the uncertainties of technical activities [...]. Further, institutional rules may affect organizational structures and their implementation [...]; thus, relationships that compose and surround a given organization. Briefly, institutional isomorphism promotes the success and survival of organizations . [81:153]. In others view, for instance, organizations are said to be legitimate to the extent that its means and ends appear to conform to social norms, values, and expectations [82:177]. It also argues that institutionalization is a process that works through all three pillars—cognitive, normative, and regulative—and that this process can legitimize a host market for foreign investors [83]. While testing this theory, most previous studies do not reveal the conclusions or findings at foreign market entry level, especially cross-border mergers/acquisitions. In fact, previous scholars investigate the given sample from the 'firm's view-point', but not from the 'nation's perspective'. On the one hand, we agree that Indian institutional framework is rigid, complexity, controversy and frustrated bureaucratic capital and unethical political behaviour. However, this theory does not explain whether these institutional behaviours affect the given economy's fiscal revenue or budget. Thus, our theory (Farmers Fox) explains this important dichotomy that how a weak regulatory system benefits both the acquirer and target firm in the given economy international transactions, for instance, FDIs and CB-M&As.

Information Asymmetry Theory [84,85]. This theory reveals that at least one party (possibly, a buyer) has relevant or better information compared to other party (possibly, a seller) in transactions where one presumes to surrender and other presumes to receive. Further, it creates an act of imbalance in a given transaction, therefore it may go wrong, delay, or failure. It also suggests that social and private returns differ, and in some cases, governmental intervention may amplify the welfare of all parties, or private institutions may arise to take advantage of the potential increases in welfare that can accrue to all parties [84:488]. Vodafone (may be its M&A advisors) has better information on Indian constitutional and legal framework compared to government officials (revenue department and tax authorities). Thus, this information helps Vodafone to win against the counter arguments and penalties put forwarded by the tax officials. Finally, SC has delivered its judgment in favour of Vodafone stating that "existing book of law does not allow tax authorities to impose the capital gains tax on Vodafone-Hutchison deal".