Monday, September 10, 2012

An interesting observation on open offers..

This post is a result of an over-a-cup-of-tea-discussion with Mr.Niren Parekh. Niren is a very good friend and an excellent investor. Also, he is too lazy to start a blog! The post is a result of an observation made originally by him and so I cannot claim this to be my own brain-work.

Open offers are excellent special situation cases. Although the absolute return in such offers is typically not very large, if done properly, they can offer excellent short-term returns with relatively less risk. Annualised returns in most cases will be in the high teens.

The amount of open offers have increased in the recent past due to increasing M&A activity and also due to low valuations, leading to promoters wanting to increase their stakes. This has led to some interesting opportunities for astute investors..

The Basics

Open offers get triggered for a variety of reasons. It could be as a result of change in ownership control of a company (e.g. ESAB) or it may be completely voluntary (e.g. Tata Sponge).
In an open offer, an existing or a new promoter (or a third party) makes an offer to acquire the shares of the non-promoter shareholders at a certain price, as mandated by law.
After following the entire legal procedure, the promoter opens this offer and the non-promoters shareholders tender their shares in the open offer.

The Acceptance Ratio

Lets suppose that ABC Ltd has a total share capital consisting of 500 equity shares. Current promoter holds 200 shares, making his holding 40%. Non-promoter shareholders hold 300 shares, making their holding 60%. Now, to increase his stake, the promoter makes an open offer for an additional 20% (100 shares).
The non-promoter shareholders will tender their shares in the open offer. Total non-promoter shares are 300, out of which the promoter wants only 100, making the acceptance ratio 33%. Which means, out of every 3 shares tendered by non-promoter shareholders, only 1 will be accepted by the promoter and money will be paid for it. The remaining 2 shares will be returned back to the shareholders.
Now, this entire calculation is based on the assumption that all non-promoter shareholders will tender. What if some of the non-promoter shareholders are not interested in tendering? Then, with respect to those who do tender, the promoter will accept more than 33%. (Finally, he wants 100 shares. From whom and how much they come, doesnt matter!)
So, the theoretical acceptance ratio we calculate before the open offer begins and the actual acceptance ratio we see after the offer ends can be vastly different. This happens because some shareholders are not interested in tendering. Some others do not know what tendering means and completely miss the open offer! So, for those who do tender, the acceptance ratio becomes higher! This is where an astute special situations investor can make money.
Let us look at a few open offers in the recent past.

Now what we see is a HUGE difference between the theoretical and actual acceptance. This tells us that there is a high proportion of investors who have not been tendering in the open offers, investors who can also be referred to as brain-dead investors in a lighter vein! Even in the case of Akzo and Thomas Cook, the acceptance ratio has been phenomenally high. Specially in the case of Akzo, it was 100% for the small shareholder category. Any special situations investor who would have participated in these offers would have made a LOT of money. (I have not shown the annualised returns in these open offers here, since thats not the topic of this post.)

Of course the question can one profit from this observation? Can we make some educated guess as to how much will the actual acceptance ratio be, so that positions can be taken accordingly?
I have been tinkering with various factors like the extent of 'retail' and small shareholders, % of shares in physical form, etc. But so far, I have been unable to figure out a way in which the actual acceptance ratio can be predicted with fair certainty..well, the search continues!
I eagerly look forward to the open offers of Shanthi Gears and Future Capital. Lets see if this trend continues.
Till then..
Cheers and happy investing!!

P.S. This post is only to point out the extent to which the 'brain-dead investors' exist in open offers. Therefore, no discussion has been done on the returns in these offers, taxation implication, time and legal risks etc.

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sameer said...

Hi Neeraj,
Tata Sponge(19%, 60%).
I purchased 100 shares and I got money for 60 shares and 40 shares I sold in market.
1)What interesting fact did u share?? This is straight fwd.
2)Can u tell us how people would have made money in Tata Sponge?


Neeraj Marathe said...

Hello sameer,
I found the acceptance ratio observation pretty interesting and so I wrote bout it.
Ya I agree that astute investors like u might have found it straight forward and uninteresting. In this case, plz ignore the post. :) Sorry to have wasted ur time!

Anonymous said...

May be a dumb question., but I don't know how to submit the share we hold for these open offers. Suppose I hold 100 shares of Shanti gears., how can I submit these shares to them to consider them for open offer. Thanks in advance.

Harsha Hegde said...

Hello Neeraj,
This post was educational. For the sake of completeness, an explanation on how shareholders can profit from open offers, is needed. And you did mention that you will be taking it up in a future post. We will wait for it.
Would a similar "acceptance ratio observation" apply for share buybacks as well?


Joseph said...

Maybe it was just a case of blog-icitis....the itch to blog :-)

Joseph said...
This comment has been removed by the author.
Prashanth said...

yes, even i think a similar ratio would apply to share buybacks that are through the tender offer. open market buy is a different game altogether.
and yes, even i hope some way to predict the acceptance %age would help!
here, the annualized returns take a hit when less than 100% shares are accepted as the share price tanks after the offer period.
but, we could take solace from the fact that market sometimes acts irrationally in judging the probability that the deal will be through
for instance, Kokuyo announced that they would buy a stake in Camlin

camlin was trading at 70 before announcement and at 82 after the announcement.. the acquisition price is at 110..
so if the probability of the deal going through is p, then
p(110-82) +(1-p)(70-82)=0
that is p = 0.3.. which "seems to be low".. ie the market is "irrationally" reacting to the deal..

Raja said...

Hi Neeraj,

I too had similar experience in the past about acceptance ratio.

Do you have any idea why this whole thing is still done in pen&paper mode ? I mean the sending of the forms, submitting it back etc... i guess if they automate this whole thing and allow ppl to tender directly from their online a/c's the process could be much smoother and tender ratio could increase their by reducing the acceptance ration or bringing it closer to theoretical ration.

Lot of the "brain dead" investor might not be participating because of the hassle related to this whole process.

Anonymous said...

Sir I was your student at SIMS and ardently follow your post they have been very beneficial in terms of knowledge and insight about the market. Sir i have a query about BHEL with levels of 195 and strong valuations is it good for a long term view or do you think it might dip a little more, i have been contemplating a lot but cannot reach a conclusion a little insight from you would be very beneficial
Pls reply ...
Harsh chopra

Anonymous said...

Dear sir,
I was your student at SIMS i am a regular follower of your blog which has been very beneficial in terms of knowledge and insight about the market. Sir i have a query i have been contemplating to invest in BHEL and with levels of 195.40 seems higly lucrative but still due to "COAL-GATE" scams and coal linkages issues i have not been able to decide a little insight from you will be highly beneficial
Pls reply...
Harsh Chopra

KKR said...

Neeraj ji,
I understand from your post that Practical acceptance ratio is always higher. So it also tells me that most of the open offers are still form filling submit kind of stuff which most people will not do ( online stuff can improve). As long as Open offer price is attractive than market price, people will go for it. Then why it is always ahppens that Open offer price is less than CMP


Neeraj Marathe said...

Hello Anon,
if you are holding the shares of the company, then the form to tender the shares will be sent to you by post by the company.

Hello Harsha,
Thnx for ur feedback..point noted..and yes, it would apply to buybacks too, if it is thru the tender route.

Hello Joseph,
'itch to blog'...ok..

Hello Prashanth,
Excellent input man..thnx..

Hi Raja,
Ya, the physical process can b a bit cumbersome..but tell me how many people in india would be doing things 'online'? so it cant b said dat online thing will yield better results, u know..

Hi Harsh,
Nice to hear from u man..well, i dont track Bhel, so wont b able to comment, but i read some not-so-good news about it in todays newspapers..suggest that u take a look at that too..

I do not understand why u say that open offer price is always less than fact, in most cases, its the other way round..


Anonymous said...

Thanks for the info Neeraj

Hemant said...

There are many reasons for not offering shares in open offers.Main reason is taxation.If one is holding shares for more then 1 year,if he sells in open market there will be no tax,whereas in open offers /buybacks etc since it is off mkt transaction,one has to pay tax(even it is long term)like in shanthi Gear if one is holding bonus shares,then it is advisable for him to sell in mkt.Even in short term profit one has to pay double tax(Assuming one under higher tax bracket)then one sells in mkt & pay only 15./.

Neeraj Marathe said...

Hi Anon,
You are most welcome..

Hi Hemant,
Yes i totally agree. Since STT is not paid if one tenders in open offer, the taxation would be different. But in certain cases, even the post tax returns are excellent, since actual acceptance ratio is pretty high..


Manish said...


Reading your blog after a hiatus. But, for slow learner and knowledge hungry creatures like me, i would request that you continue writing such posts more often...

I found the info useful, and will definitely read the kiran's link as well.. Thanks again.

Neeraj Marathe said...

Most welcome Manish..glad you found it helpful.
Kiran's post is a very well explained post.

Ravi said...

Hi Neeraj,

I have been reading your post and I like the clean thought process of yours. This being an old post, I am not sure if you would read this comment and reply. I am hopeful because there is moderation of comment which would mean you will review. I have a basic question on tendering the shares. I have ICICI direct account and not in a position to receive physical forms and tender. Generally what are the options available for individual investor to tender shares? Do we receive some form from the company which we need to use and send it back to registrar or there are some electronic/online options as well? You reply in this regards would be much appreciated.


Neeraj Marathe said...

Hi Ravi,
The usual procedure is that the company will send you the form. You have to fill up a TIFD slip in the name of the designated account and submit it at the center mentioned in the form.
In case you are out of station, etc and are not in a position to receive the form, i suggest you call up the CS or the registrar to the issue. They will guide you. Usually, they are quite cooperative. Sometimes, even an application on a normal paper is accepted as valid. But it is always better to talk with the company and get this confirmed to avoid chaos later.
Hope this helped.

Naveen Kumar Joshi said...

Hey Neeraj,

I apologize for the last one to the party but i was just doing some research on the acceptance ratio and chanced upon this blog-post which i think is very well written.

I have a few questions though and it would be great if you could shed some light on the same:

1. So according to the blogpost: the acceptance ratio is for the non-promoter holding. if the total buyback size is say Rs. 100 and the buy back price is Rs. 10 which means that the company is going to buy back 10 shares (please correct me here if i am wrong)
2. For the astute investor, how does one know about how much has been tendered to the company. Is this something that the company has to inform the stock exchanges on a timely basis
3. If there are tax implications both long term and short term should that be something that the investor be ready to shell out in this case and only then arrive at net receivables
4. Lastly, the share price should go higher only if the acceptance ratio is high taken into consideration the premium being paid by the company. Also, the pop should generally be sold into as the prices would have to come back to current levels as the premium is something that the company is paying out the reserves and that affects shareholder wealth right? (just thinking out of the box here)

Neeraj Marathe said...

Hi Naveen,

1. Yes, thats right

2. You dont come to know, since record date is much before the actual application etc. Its a judgement call.

3. Normal IT provisions will apply.

4. Actually, company is not paying out anything. In fact, if the rights price is at a premium, it would increase the reserves.