India is not famous for many hostile takeovers. But in 2019, we saw one such story unfurling. Today marketfeed brings you the story of one such rare takeover which took place last year.
L&T founded a lot of excess cash on their books by the end of FY19. When a company has extra cash, they generally have three options to use that cash. Firstly, roll out more dividends to make shareholders happy. Secondly, buyback shares from the open market to gain more control of the firm. This also gives a signal to the investors that the current market price of the company is lower when compared to its valuation. Thirdly, invest the extra cash to expand the company to fund future growth rate.
In June 2019, Larsen and Toubro Ltd (L&T) successfully completed India’s first hostile takeover of a software development company. L&T increased its stake to 60% in the Bengaluru-based company, Mindtree Ltd, to gain a controlling interest in the company.
Failed buyback and dividend approach
Larsen and Toubro Ltd (L&T) desired to buy back outstanding shares from the market. They went into the market with a bid of $1.5 billion. Their plans were disrupted by the regulator Securities and Exchanges Bureau of India (SEBI). They did not allow the buyback offer to go through because the debt to equity ratio of L&T would have crossed 2:1 after that. This would have violated the compliance norms laid down by SEBI.
To pay more dividends to the shareholders was also thought about. But that proposition was scrapped. In 2016, L&T gave out mind-boggling dividends. The value of dividend was almost 33% of the annual profit of the company that year. If they would have increased the dividend further, it would have set very high expectations among the shareholders. In future, if the market had contracted, it would become very hard for the company to pay out a high amount of dividend. So to control shareholder’s expectations, L&T decided not to go with this approach.
Why name it as a hostile takeover?
When the management of the target company doesn’t want the takeover to take place, it is referred to as a hostile takeover. How can a company be sold to another company against their wants? Well, running a corporate business is different from buying/selling of a random consumer product. Mindtree Ltd. is a listed company. Many individual investors and promoters held some percentage of the company’s total shares outstanding. After buying 60% of company’s total equity shares through different mediums, L&T completed this acquisition.
How did it happen?
VG Siddhartha (founder of the cafe chain Café Coffee Day) was the single-largest non-promotor shareholder in Mindtree. He had a 20.32% stake in Mindtree Ltd. L&T got in touch of him and convinced him to sell his stake at Rs 980 per share. This amassed to almost Rs 3,500 crore. Following this, they did an on-market purchase of around 15% capital shares.
L&T didn’t stop there and ventured forward to buy further stake in Mindtree from the open market. They offered to purchase 50.9 million shares of Mindtree from public shareholders for Rs 980. Large investors rushed to sell their holdings and the offer was subscribed 1.2 times. By spending Rs 4,988.82 crore more, L&T was able to buy the 31% additional stake in MindTree.
It was quite obvious that the promoters of Mindtree were completely against the imminent hostile takeover by L&T. They issued multiple public statements expressing their anger and concerns for the organisation and its shareholders. They even went on to dub the takeover as a grave threat to the company.
Promoters kept on unconditionally oppose the attempt by L&T by saying that it will lead to the destruction of the company which has been running successfully since last 20 years. They did not see any strategic advantage in the deal and feared that their long-term vision of the company will be broken if the takeover takes place. One of the statements from their promoters (Krishnakumar Natarajan, Subroto Bagchi, Parthasarathy N.S. and Rostow Ravanan) is as follows:
“A hostile takeover by Larsen and Toubro, unprecedented in our industry, could undo all of the progress we’ve made and immensely set our organisation back. We’ve also carefully created a differentiated corporate culture made up of our amazing Mindtree Minds. A hostile takeover by Larsen & Toubro, unprecedented in our industry, could undo all of the progress we’ve made and immensely set our organization back. We believe it’s in the best interests of our shareholders, Mindtree Minds, and our organization overall to continue opposing this takeover attempt.”
Benefits to LTI
Mindtree had a broad range of offerings and experience in layer and cloud services. The infotech arm of L&T, LTI (Larsen & Toubro Infotech), is a global technology consulting and digital solutions Company. It has a strong presence in banking, financial services and insurance (BFSI) verticals. Mindtree had a robust hold on media and retail and consumer verticals. The two entity had very little clients overlap. Thus, making the two work on a single page will overall benefit L&T. The portfolio of clients will widen and give more opportunities to the firm as a whole. So ultimately, the deal was done to strengthen LTI and its operations, although they have not been merged yet.
What could have saved Mindtree from this takeover?
As said before, a hostile takeover in India is not common. So how did Mindtree find itself in this position? It was because of their peculiar shareholding pattern. The promoters were said to hold only 13.32% of its shares. Generally, the promoters of a company hold almost 50% of the organisation’s shares.
The promoters should have followed the strategy of declaring DVR (Differential Voting Rights) shares. (To know more about Differential Voting Rights Shares, click here). These DVR shares aids promoters to ward off hostile takeovers by issuing shares with fractional voting rights. These type of shares allows the promoters to raise capital without diluting control of the company.
Mindtree’s shareholding pattern did not allow the promoters to exercise their voting powers as they were in minority. L&T approached other investors and bought their shares to complete the hostile takeover against the wants of original promoters. Had there been DVR Shares in place rather than normal common equity shares, Mindtree would have still been operating as a different organisation.
Krishnakumar Natarajan is one of the founders of Mindtree. Last week, he and his family have sold over 42 lakh shares of Mindtree. After this sale, their combined shareholding has reduced to only 2.29%. Earlier it stood at nearly 5%. The stake of Krishnakumar is now merely 1.96%. This transaction has been carried out in multiple tranches between April 30 and September 14.
Usually, promoters and founders have a high stake in their company. But since the hostile takeover of the company last year, Mindtree’s major decision takers are continuously leaving the company. Selling of shares by the promoters or the founders of the company usually gives a negative hint to the investors. But on the day that this stake sale was announced publicly, share prices jumped. It happened because the founders of the company exiting means that the new board appointed by L&T can work more easily. See you next time, with another interesting story.