Thursday, June 7, 2012

Sundaram Clayton Demerger - Not so Sundar?

Sundaram Clayton is going through a demerger. The scheme, which can be found here recently received shareholder approval.

Now all of us have certain impression about various promoter groups; about their ability, about their integrity, about the way they treat the minority. So if I say Essar Group, you will probably say bhaago! You wont say that if I mention the TVS Group (corrected), right? They have been generally known for their integrity. However, the current demerger in Sundaram Clayton (promoter holding 80%) may change one's impression/opinion about the Group. Lets take a look at what is happening here..

The Demerger

The entire scheme of amalgamation & demerger is as follows:

1) Anusha Investments Ltd (AIL), a wholly owned subsidiary of Sundaram Clayton Ltd (SCL) will be amalgamated with SCL. (So, no dilution, no change in shareholding)
2) The 'non-automotive business' of SCL will be demerged and put into Sundaram Investments Ltd (SIL), which is currently a wholly owned subsidiary of SCL.
3) SCL's entire existing equity capital will be cancelled. For every 2 shares you hold in SCL, you will get 1 equity share of SCL and 1 equity share of SIL or 1 redeemable preference share of SIL, depending upon what the shareholder chooses. (Everything of same face value). In effect, the number of equity shares of SCL will become half. % shareholding of all parties will remain same in both companies.
4) The resulting company, SIL, will not be listed. Instead, an exit option will be provided to both the equity as well as preference shareholders of SIL. Equity as well as preference shareholders will be given an exit at Rs.48 per share of SIL. Exit will be given by Sundaram Engineering Products Services Ltd (SEPSL), another group company.

There are some weird things here, sure. But there are a couple of things which I found disturbing. Lets see what these issues are..

Issue 1: Delisting without Reverse Book Building

Shareholders of SIL (the resulting company) will be given an exit option. Now, they will have to take this option, since the shares are not going to be listed. So effectively, the result will be that there will be no non-promoter shareholders in SIL. There are 2 points which one might find objectionable here..
1) The entire non-automotive business is effectively getting delisted, without any reverse book building process. (Since this is being done through an approved scheme).
2) This will happen at a pre-decided price of Rs.48 per share. Now, the question is, whether this is a fair price? This is based on an independent valuation report, which has not been shared with the shareholders. But the point is that the minority shareholders have no say in the matter, which is against the basic funda of delisting.
Now the other side of the coin.. One can say that, anyway, holding companies such as what SIL will become, do not get proper discounting and valuation in the market. They quote at very very low valuations, as low as 5-10% of the value of their holdings. So, by giving an exit at a price which is at least higher than this, the management is actually doing minority shareholders a favour! Depends on what point of view you have!

Issue 2: Who pays for the exit (delisting)

When a company is delisted, the promoters pay the minority shareholders to acquire their share and have full control over the company. Logically, in case of the resulting company SIL, when the exit is being provided to the minority investors (who will hold 20%), it is the promoters who should be paying for this exit out of their own pockets. However, in this case, SEPSL will be paying the minority for the exit. Lets see who owns SEPSL.

Click to enlarge

So in effect,
1) SEPSL is indirectly held fully by SCL. So at the group level, its SCL who is paying the minority for their exit from SIL. Sooo after the exit, 80% of SIL will be held by the promoters, while 20% will be held indirectly by SCL, in which promoters hold 80% anyways.
2) So effectively, promoters are getting 100% control of the non-automotive business of SCL, without paying a single rupee from their own pocket. Illegal? nope.. Ethical? I wont say so!

To conclude.. although in this post, I have not discussed whether there is a money making opportunity in SCL currently (i will keep that to myself!!), what disturbed me is that a group like TVS (corrected) is doing something questionable, in a totally opaque sort of way. Not a very good sign at all. Just goes to prove that due diligence is a must, irrespective of the overall reputation and impression of the management in question. (A little part of me honestly hopes and wishes that i am wrong about this..such things are not expected from the TVS Group (corrected))

Cheers and happy investing!!


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22 comments:

JK said...

How do you check promoter & management quality while investing for long term or while participating in special situations?

Neeraj Marathe said...

JK,
There is no point-wise list which i can make or i am aware of. I study the past and present actions of the management and their open or hidden implications.
Neeraj

sameer said...

Hi Neeraj,
I think, that is how KKR(Kohlberg Kravis Roberts) works where they raise debt to purchase shares/cos and then use cash on book to pay debt
RIGHT???????
So it KKR also unethical group

Regards
Sameer

sameer said...

Hi Neeraj,
I think, that is how KKR(Kohlberg Kravis Roberts) works where they raise debt to purchase shares/cos and then use cash on book to pay debt
RIGHT???????
So it KKR also unethical group

Regards
Sameer

Neeraj Marathe said...

Sameer,
I have no idea what you are talking about? I dont understand how are the two situations related..KKR and what i have written about..kindly educate me.
Neeraj

Dnyanesh said...

Kindly refrain from defaming the Sundaram group (Sundaram Finance etc)..when you mean the TVS GROUP. You may not be aware of the strict online IPR laws, maybe?

Neeraj Marathe said...

Agreed D.. my bad. The 2 are separate groups. I will correct it as soon as I am back in front of my lappy.
Cheers
Neeraj

JIGS said...

Neeraj,
Have been tracking south based Murugappa/TVS/Ramco/Bannari groups since starting my investment career 11 years back.
I see nothing wrong with the scheme let me explain why. Anusha Investments holds 48.56% stake in TVS Motors. Anusha Investments is 100% subsidiary of Sundram Clayton. However, In SCL general public holds 20%. What promoters in-effect doing here is paying exit premium to these 20% minority shareholders and take Anusha Investments private and changing its name to SIL. In any case this is inter-se promoter transfer which doesn't need open offer or RBB.
Total Dividend income of Anusha Investments is 17.55 Cr in FY11, so Dividend attributable to minority shareholders is 3.51 Cr. (20% of 17.55 Cr). Whereas In exit option they are paying Rs. 48 * 37.50 Lacs Shares = 18 CR Which is equal to next 5 years's dividend income receivables or say 5 PE. This is fair I feel for a pure holding company. You can ask valuation report by Deloitte for examination.
About payment coming from SEPSL. If you read the scheme they have mentioned - before merger of Anusha Investments with parent Anusha will subscribe to OFCD issue of
SEPSL and money will be paid to minority shareholders from this money received from Anusha. So net net exit premium is paid by Anusha which will be 100% promoter
owned entity eventually similar to how we see cancellation of shares bought in buyback. I hope I am making sense.
Money making opportunity I also don't want to discuss :-)

Neeraj Marathe said...

Hi Jigs,
I think you are on a totally wrong track here.
Anusha will be amalgamated with SCL and would remain with SCL. what's being demerged out of SCL is tvs investments ltd, which has nothing to do with anusha. Hope u get what I am saying.
Cheers
Neeraj

JIGS said...

Neeraj,
TVS Investments has holding in 4 subsidiaries and 2 step down subsidiaries engaged in hardware and finance/holding but its PBT for Fy11 is 1.13 CR which is hardly significant that is why I felt they are paying exit premium for getting 100% control of TVS Motors holding held by Anusha Investments.

Neeraj Marathe said...

Sirji,
Lemme try and explain what i think again..
1)Anusha, along with its TVS Motors stake will be amalgamated with Clayton and will remain with Clayton. It will not be demerged.
2) What will be demerged is TVS Investments Ltd..which has nothing to do with TVS Motors or its stake..
3)So there is no question of getting 100% control of TVS Motors' promoter holding by promoters or anybody else..hence no question of exit premium. there is no exit!!
i hope i have made it clear..
Cheers!
Neeraj

JIGS said...

My mistake Neeraj. You are right about Anusha not getting de-merged.

Neeraj Marathe said...

Arey no question of right/wrong yaar.
Glad I could get my point across.
Cheers
Neeraj

Anand Mohan said...

TVS Investments holds real estate assets plus investments in TVS Energy and TVS Electronics, which will not be available for Sundaram Clayton shareholders after the demerger...

But, Neerajji... I feel the valuation of Sundaram Clayton will zoom after the capital reduction due to increase in EPS, increase in dividend and increase in shareholding of TVS Motors... The balance sheet of TVS Motors will accrue directly to Sundaram Clayton from now on...

I feel a surprise might be delisting of Sundaram Clayton as well (just a guess), as stage is set for auto business alone in Sundaram Clayton and all non-core assets in other companies...

Anonymous said...

I wish to be next Neeraj Marathe in the field of vlaue investing. Really fond of you and your blog (pls dont tk me to b wrong)!!!

Sarang said...

has anybody been able to reconcile the adjustment in the equity part of the demerged company and the balance sheet of the resultant company, that is given on the last page of the document.

somehow the adjustments (reduction in equity) far surpass total equity of the non automotive parts.

Neeraj Marathe said...

Anand Mohanji,
Ya, i totally agree with the possibilities you have listed..however, since i wanted to put forth the corporate governance angle, i have not covered that part in the blog post..
cheers!
Neeraj

Neeraj Marathe said...

Hi Anon,
Aim higher yaar! :-)
Cheers!
Neeraj

Neeraj Marathe said...

Hi Sarang,
Very sorry, but i didnt get what you are referring to..
Cheers!
Neeraj

sameer said...

What they are doing indirectely is using cash on balance sheet to delist company???

Similarly KKR raises debt to purchase company(ofcourse not at restricted price as in this case) and then once company is acquired they put debt on balance sheet of acquired company which is not same but similar to buying back all unowned shares using companies balance sheet

Raman Gupta said...

I didn't exercsie to exit SIL shares and I have been allotted proportinate SIL shares. What to do now since its not listed? Will I get dividend if they declare?

Neeraj Marathe said...

Hello Raman,
Yes, if they declare dividend, then you will get it.
Neeraj