What is Proration in a Merger and Acquisition?

A proration is the act of dividing or distributing an item in a proportionate manner. In corporate governance, proration occurs during a takeover or acquisition, It is the proportional distribution of cash and stock of the company. Usually, an acquisition or takeover comprises of a combination of cash and equity of the acquiring company, the shareholders of the target company (the company being acquired) can elect to either receive cash or stock in the takeover over. Once the election is concluded, the leftover stock is prorated, that is, distributed proportionately amongst the shareholders.

How Does Proration Work?

A takeover deal is incomplete without proration, it is a process through which all the shareholders of a target company gets a fair share of the takeover deal. In an acquisition or takeover deal, the acquiring firm often offers a combination of cash and equity, from which the shareholders of the target firm can elect. All remaining stock after an election is made is prorated for fair distribution to be achieved. Proration ensures that all the investors of a company receive a proportionate reward in a takeover deal, even those that do not receive their initial election of shares or equity. Proration can also be done in a company in the event of bankruptcy or liquidation, this is where dividends and profits and fairly distributed among all investors. Other instances where proration can be used are during spinoffs, stock splits, and special dividends.

Proration and Additional Merger Considerations

There are special considerations for proration, especially when used in mergers. A merger occurs when two independent business comes together to form a single business entity, it entails the combination or fusion of both business operations. Oftentimes, mergers occur between two companies that have similar activities or are in the same line of business, although some mergers involve companies in different sectors or industries. Several reasons are responsible for the execution of mergers, such as the expansion of business, maximization of profits and reduction or operations costs, the unification of business goals and products, reaching a wider customer, among others. After every merger, it is expected that the shareholders of the original businesses are fairly rewarded, this entails a proportionate distribution of the shares of the newly created company. The type of merger also determines how a proration will occur. The three major types of the merger are horizontal merger, vertical merger, and congeneric merger.