L&T To Mindtree – Your Move Next
For a takeover bid that’s been brewing for months, the target company’s promoters seem unprepared and defenseless. Maybe that’s what they are going for in a bid to rally the troops around a classic David versus Goliath portrayal.
“If companies like you behave with extreme hostility to first generation entrepreneurs what message are you giving to all startups in the country,” Mindtree’s promoters carped, about acquirer Larsen & Toubro Ltd., also built by first generation entrepreneurs, and also the victim of two takeover attempts that it thwarted with cunning and strategy. And some government help.
L&T, on the other hand, is trying hard to look less barbarian at the gate and more gentleman lover. “What we are trying to do, is with, if I can use the word, ‘pyaar’ and we will continue to look at it as something we are doing from our ‘dil’, said SN Subrahmanyan, the company’s managing director and chief executive officer.
Meanwhile shareholders on both sides are wondering how this movie will end. Except that part of the script has yet to be written. Till then here are the plot points.
L&T has stated that it intends to acquire up to 66 percent of Mindtree.
- 20.3 percent in from exiting shareholder VG Siddhartha and related entities;
- Another 15 percent from the open market;
- And another 31 percent via an open offer to Mindtree’s shareholders.
What’s So Special About 66%?
That’s more than L&T needs to control Mindtree or even consolidate its earnings. Especially as L&T has stated that Mindtree will remain, at least for the short to medium term, an independent listed entity.
Then what explains this takeover bid for 66 percent?
Well, L&T has about Rs 15,000-16,000 crore in cash on its balance sheet invested in treasury products earning post tax returns of 5 percent. Last year it decided to return about Rs 9,000 crore to shareholders via a share repurchase program or buyback. But market regulator SEBI didn’t approve the proposal. That prompted the company to look at other ways to improve return on equity. The exit of Mindtree investor VG Siddhartha presented an acquisition opportunity. Since L&T had a budget of about Rs 10,000 crore to spend it estimated it could acquire up to 66 percent of the company with a market cap of just under Rs 16,000 crore.
Why A 3-Step Deal Structure?
The 20.3 percent stake is the first and most certain step as L&T has already signed a definitive share purchase agreement with Siddhartha to purchase his shareholding at Rs 980 per share.
Just that one Rs 3,269 crore purchase will make the engineering giant the single-largest shareholder of Mindtree, but without control. Even veto power over critical corporate actions requires 26 percent shareholding/voting rights.
To exercise de jure control L&T needs at least 51 percent.
The IT company’s promoters together own 13.32 percent and they have no intention of selling .
No large institutional shareholders have shown their cards as yet either in this takeover battle. Had L&T been able to convince any of them to sell that would have been part of the deal it disclosed in its stock exchange filing on Monday. But it wasn’t.
In fact, Mindtree told reporters that Nalanda India, with over 10 percent, has pledged to support its promoters.
An open offer to public shareholders for the remaining 31 percent could have sufficed to achieve control. Anyways, SEBI’s takeover regulations mandate a minimum 26 percent open offer in such situations.
But shareholder response to such offers has traditionally been low.
Hence L&T’s decision to acquire up to 15 percent from the open market at a price not more than Rs 980 per share – the same price its paying Siddhartha as well as offering shareholders in the open offer.
L&T needs both steps, open offer and market purchase, as neither outcome is certain.
The Rs 980 purchase price is at a small premium to Monday’s closing price of Rs 962 per share. To be sure, media reports of L&T’s interest in Mindtree, and that of other acquirers as well, have helped Mindtree’s share price rise over 10 percent in just one month. But it isn’t a premium that’s high enough to attract sellers in a market that can smell a fight.
Mindtree’s Buyback Defense
And a fight is what shareholders may very well get. On March 15, three days before L&T announced its bid for Mindtree, the IT company said its board would meet to consider a share buyback.
It’s a defense tactic that may have limited benefits.
First, Mindtree’s board has to approve the buyback. Independent directors will be obliged to think of the interest of all stakeholders and not just promoters averse to the takeover.
Since an open offer has been announced the buyback proposal, irrespective of size, will need shareholder approval via a special resolution ie; two thirds of the votes. Siddhartha’s agreement with L&T will require him to vote against the buyback.
Even if shareholders were to back it, the buyback size is limited to maximum 25 percent of the aggregate of the paid-up capital and free reserves held by the company. That amounts to less than 5 percent of Mindtree’s shares.
Remember Siddhartha’s 20.3 percent and the promoters’ 13.3 percent won’t be in play. So any buyback-led reduction in equity will enhance their shareholding, however marginally.
Yes, depending on the buyback size and price, Mindtree’s share price could move up. But that won’t hurt L&T’s purchase of Siddhartha’s shares as that price is not subject to escalation. Though it could prompt L&T to hike its open offer price in an effort to seek more shareholder participation.
L&T’s Size And Price Defense
The other defense available to Mindtree’s promoters is to find a white knight, i.e.: team up with a competing acquirer.
Media reports suggest a few large private equity players, such as KKR and Baring, had earlier expressed interest in Mindtree but at lower prices. They could very well re-emerge and turn this into a fight to the finish.
As per takeover regulations, a competing acquirer has up to 15 days—starting March 19—to make its offer to Mindtree’s public shareholders. And while a higher offer price, than L&T’s, might be viable, the size of the offer could be a minor hurdle.
That’s because the takeover code requires that the competing offer has to be at least equal to the holding of the acquirer who makes the first public offer plus the shares to be acquired via the first acquirer’s open offer and via any other agreement for sale of shares of the target company.
In simple English...
Existing shareholding of competing acquirer + shares to be acquired via competing open offer = Existing shareholding of first acquirer + shares proposed to be acquired via its open offer + shares to be acquired via any agreement signed by first acquirer.
So the more L&T acquires in Mindtree, via the agreement with Siddhartha, market purchases and open offer, the higher the size bar for the competing acquirer.
L&T has currently set that bar at 51 percent.
If a competing offer is made, then price will be the key ammunition for both sides. Having kept the offer price low right now might give L&T room for a fiercer fight later.
Beware Of White Knights
L&T has had close encounters of its own with white knights. In the late 80s, when takeover tycoon Manu Chhabria started acquiring L&T shares, then chairman Narottam Desai sought out Reliance Industries Ltd. founder Dhirubhai Ambani as a white knight. Fearing a takeover, political powers forced the Ambanis to the back seat despite a 12.5 percent stake. In 2001 they sold to the Aditya Birla Group that built on the shareholding. Eventually L&T had to sell its cement business to the Birla group in exchange for the return of its shares. Those shares were purchased by the L&T Employees Welfare Foundation that now serves to ring-fence the engineering company.
Menaka Doshi is Managing Editor at BloombergQuint.