Hind Beverages
Hind Beverages Inc., the leading soft drink and drinking water company in the private sector, has acquired Himalayan Water Co., in a deal worth $8.6 billion in 2007 to further expand its market share. A financial decision of this magnitude has significant implicitness for both Hind Beverages Inc and Himalayan Water as well as their employees and shareholders.
Hind Beverages Inc. raised a debt of over $8 billion to finance the transaction. This financing decision affected the capital structure of the acquirer.
What will be the net effect on the acquirer company's capital structure after the acquisition?
Answer & explanation
Correct answer: option 1
The correct answer is Option (1) → Financial risk will increase
Option (1) Financial risk will increase — Correct. Hind Beverages raised a debt of over $8 billion to pay for the deal. More debt means larger fixed payments of interest and principal. Financial risk is the chance that the company fails to meet these payments, so it rises with the debt.
Option (2) Financial risk will decrease — Incorrect. Financial risk would fall only if the company used less debt. Here it has taken on much more.
Option (3) Operating risk will increase — Incorrect. Operating risk comes from the fixed operating costs of running the business, such as rent and salaries. It is not changed by the way the purchase was financed.
Option (4) Operating risk will decrease — Incorrect. For the same reason, the choice of debt does not reduce operating risk.
Note 1: The passage is the NCERT case study ‘When Tata Steel Acquired Corus’, which has been reproduced by NTA in the exam with the names of the companies changed. Note 2: It seems that there is a mistake in the original NTA paper, which prints “significant implicitness” in the passage when it should read “significant implications”. The slip is NCERT’s own: the NCERT case study prints the same word, and NTA copies lines from NCERT word for word, even where the book is wrong. Read the word as “implications”, meaning effects.
NCERT (2026-27 Edition): “When Tata Steel Acquired Corus … Tata Steel raised this amount through debt or equity or a combination of both. Some amount came from internal accruals also. This financing decision affected the capital structure of the acquirer.” “Capital Structure … Debt is cheaper but is more risky for a business because the payment of interest and the return of principal is obligatory for the business. Any default in meeting these commitments may force the business to go into liquidation. There is no such compulsion in case of equity, which is therefore, considered riskless for the business. Higher use of debt increases the fixed financial charges of a business. As a result, increased use of debt increases the financial risk of a company.” “Financial risk is the chance that a firm would fail to meet its payment obligations.” |