The Hindu Business Line : India matures: A significant year

THE Indian M&A market showed signs of revival in the second half of 2003. While the total deal volume was by no means as large as in the boom periods of 2000 and first half 2002, the nature of the deals indicates a structural deepening of the M&A landscape.

This is the fifth year that India Advisory Partners conducted its INDATA survey of corporate finance deals in India and we believe that the deals in 2003, while smaller in value than some of the celebrated deals of the past, show trends that will sustain and broaden the level of M&A activity.

The broad numbers

The second half of 2003 saw 305 announced deals compared to 269 in the first half with a total deal value of Rs 118 billion. ($2.6 billion) compared to Rs 95 billion. ($2.1 billion) in the first half.

The total announced deal value of Rs 213 billion ($4.7 billion) in 2003 is lower than the Rs 392 billion ($8.7 billion) of 2002; however, 2002 was a year of a few large deals; 15 deals over Rs 5 billion ($111 million) were announced in 2002 compared to merely four such deals in 2003.

There was variety in the type of deals announced in 2003 in contrast to the more one-dimensional IT, dotcom and large privatisation deals of the past. 2003 also saw some interesting new developments. Private equity investors assumed management control of investee companies; there was considerable banking and telecom sector consolidation; and State governments (rather than the Central Government) energetically embraced privatisation. These are all trends that point to maturing M&A markets ahead.

Sectors, players, key deals

While IT was the dominant sector in 2003, contributing 16 per cent of total deal value, finance and cement were close behind, at 10 per cent of the market each.

Most key sectors contributed between 5 per cent and 10 per cent of the M&A market size by value.

The expectation of improved GDP growth was a key factor driving investment. GDP growth of over 7 per cent is expected for 2004, aided by public (road building) and private (housing) construction activity, low interest rates and the best monsoon in a decade.

Cement and Building Materials

(9 deals totalling R. 21 billion, $469 million)

The acquisition announced by Grasim (an Aditya Birla Group company), of a 38.5 per cent stake in Cemco, the to-be demerged cement business of Larsen & Toubro (L&T) was the biggest deal of 2003.

Worth Rs 16.4 billion. ($364.4 million), the deal sees Grasim initially acquiring 8.5 per cent stake in Cemco from L&T.

As a part of this composite scheme placed before the Bombay High Court for final approval, Grasim will then go forward with a tender offer for an additional 30 per cent stake in Cemco.

Grasim is also to sell its present 15.74 per cent stake in L&T to the Larsen & Toubro Employees Trust for Rs 4.69 billion. ($104.3 million), thereby bringing to an end the control battle for L&T's cement business that has been raging between the A. V. Birla group and L&T's management ever since Grasim acquired the Reliance Group's 10.05 per cent stake in L&T in 2001.

The deal could result in Grasim obtaining a 51.1 per cent stake in Cemco (depending on how many shares are tendered in the tender offer), while L&T is to continue with its core engineering and constructions business.

Banking and Finance

(63 deals totalling Rs 22 billion, $489 million)

As INDATA foresaw in the first half of 2003, banking sector consolidation is occurring rapidly in India. HSBC acquired a 14.71 per cent stake in UTI Bank from CDC Capital Partners for Rs 3.06 billion. ($68 million.).

HSBC and CDC have call and put options respectively for the further 5.37 per cent of UTI Bank that CDC owns. HSBC has also announced that it will make a tender offer for an additional 20 per cent stake in UTI Bank at the same price of Rs 90 ($2) per share.

The merger of Ashok Leyland Finance with IndusInd Bank — both Hinduja group companies — was advised on by Ambit Corporate Finance and valued at Rs 1.14 billion ($25.4 million).

This is a significant deal and a pointer to future action as it combines the retail reach of a non-banking finance company (Ashok Leyland Finance) with the benefit of lower cost of funds of a registered bank (IndusInd Bank).

The remaining non-banking finance companies (including a few housing finance companies) may be the next targets for large banks that are increasingly focussing on building retail assets such as housing, car and two-wheeler loans.

Pharmaceuticals and healthcare

(38 deals totalling Rs 16 billion, $362 million)

The pharmaceutical industry's export growth prospects saw private equity investors eager to invest. Newbridge Capital and Temasek Holdings acquired a combined 27.83 per cent stake (post the preferential allotment) in Matrix Laboratories for Rs 6.07 billion ($135 million). Aurobindo Pharma raised Rs 2.53 billion ($56.37 million) from investors including Merlion Funds (a Standard Chartered Private Equity and Temasek Holdings joint venture) and Citigroup.

Citibank was active again through group company CVC International when it acquired a 12.55 per cent stake in Lupin Laboratories for Rs 1.26 billion ($28 million).

Investment bankers say that more such pharmaceutical deals are in the pipeline and further activity is expected in 2004.

Telecom

(14 deals totalling Rs 19 billion, $432 million)

The mobile segment of the telecom sector saw the longstanding dispute between the GSM and CDMA operators in India being resolved by the Government's introduction of a Uniform Licensing scheme.

This has made the Reliance Group's entry into mobility services legal and is likely to set off a new round of M&A activity in the market as smaller GSM-based cellular players sell their operations to larger, national players like Bharti and Hutchison.

The second half of 2003 saw the first such deal, with Bharti announcing an agreement to acquire a 27.5 per cent stake in Hexacom, the GSM service provider in the Rajasthan, for Rs 1 billion ($22.4 million). The RPG Group finally sold its 79.24 per cent stake in its Chennai GSM operations to Aircel (the Sivasankaran Group), which bought the balance 20.76 per cent stake from Vodafone in the first half of 2003.

With the Central Government likely to permit intra-circle M&A deals in mobile telephony soon, the process of telecom sector consolidation should quicken in 2004.

Information Technology

(90 deals totalling Rs 34 billion, $762 million)

The IT sector's large contribution is mostly attributable to two deals. The tender offer announced by Hewlett Packard (HP) for its 50.44 per cent subsidiary Digital Globalsoft — worth Rs 12.24 billion ($272 million) — and managed by ICICI Securities is, however, expected by analysts to fail unless HP increases its price. INDATA will report on the developments in 2004, when the offer closes.

The other key IT deal was the buyout by Perot Systems of the HCL Group's 43 per cent stake in their joint venture HCL Perot Systems. Perot Systems paid $105.3 million for the stake.

Other than these two deals, there were a number of private equity investments in India's latest rage, the business process outsourcing sector including Sequoia Capital's $22-million. investment in 24/7 Customer.Most of the deals in the sector involved equity acquisitions in smaller software or business process outsourcing firms.

Privatisations/Divestments

(19 totalling Rs 11 billion, $245 million)

While previous years saw the Central government privatise and sell stakes in listed companies, this year saw State governments active in this area.

The Andhra Pradesh Government pursued privatisation vigorously. It sold its 25.88 per cent stake in Godavari Fertilisers, one of the largest makers of di-ammonium phosphate (DAP) in India, to Coromandel Fertilisers of the Murugappa group for Rs 1 billion ($22.44 million). It further sold seven of its co-operative sugar mills for cumulative Rs 1.39 billion ($31 million). The Orissa Government sold its 86.79 per cent stake in Idcol Cement to ACC Ltd. for Rs 1.76 billion ($39.20 million), and the Punjab Government sold its stake in Punjab Tractors to CDC (details in the next section).

While these sales are isolated instances of State Government disinvestment, INDATA expects rising fiscal pressures to force more States to follow the Andhra Pradesh example in the future.

Private Equity

(74 deals totalling Rs 33 billion, $737 million)

The second half of 2003 saw a rapid increase of activity as private equity investors sought to invest ahead of the rapidly rising stock market.

An interesting trend began with CDC Capital Partners acquiring the 23.49 per cent stake held by the Punjab Government in Punjab Tractors Ltd. CDC paid Rs 2.18 billion. ($48.53 million) for the stake, in the process taking management control of the company.

As India's tractor exports increase and domestic agricultural reforms, led by corporate farming and export growth, see higher demand for tractors, Punjab Tractors, with its strong presence in higher horse-power tractors, is likely to become a sought after acquisition target for a local or foreign player.

ICICI Ventures took management control of Tata Infomedia, the leading player in Yellow Pages in India. Following the acquisition of the 50 per cent stake of the Tata Group for Rs 1 billion ($22. 4 million), the further mandatory public tender offer for 20 per cent was fully subscribed.

These two deals are indicative of the comfort private equity investors now have in investing in India. Where they find businesses with good prospects but poorly managed, they have indicated their intention to acquire management control of the company.

While one export story, that of pharmaceuticals, attracted plenty of private equity investment in 2003, auto components — India's other emerging export story — did not. We expect this imbalance to be redressed in 2004 while continuing to see a flow of investment into the pharmaceutical and banking sectors.

Other characteristics of deals in 2003

Cash (particularly in the absence of big-ticket corporate restructuring deals like the Reliance Industries-Reliance Petroleum merger) was king when it came to mode of payment in 2003 with 85 per cent of the total (by value) being all cash transactions. In 2003, in the absence of any large privatisation or corporate restructuring deals, international acquirers (including Indian subsidiaries of International companies) contributed 50 per cent by value of the deals announced, a sharp increase from 2002 when they contributed only 38 per cent (by value).

Apart from public tender offers made for Digital Globalsoft and UTI Bank, the booming stock market in 2003 resulted in fewer and smaller tender offers — most international companies had already taken advantage of depressed prices to de-list their Indian subsidiaries. There were 88 tender offers in 2003 as compared to 118 in 2002.

Indian acquisitions overseas: India Inc. marches abroad

One of the key features of 2003 has been the trend of Indian companies acquiring overseas companies and assets.

Whether it is ONGC acquiring stakes in oil blocks to protect India from a volatile and uncertain West Asian situation, Reliance Infocomm's announced acquisition of the Flag Telecom Group (an acquisition that Flag's shareholders will have approve in the meeting scheduled for 12 January 2004), or Tata Motors overseas foray by acquiring Daewoo Commercial Vehicles. Indian companies acquiring overseas businesses and assets to:

Supplement domestic needs — ONGC's oil block acquisitions and the A. V. Birla group's acquisition of copper mines in Australia follow this trend.

Supply what can be made more cheaply in India — Tata Motors' acquisition of Daewoo Commercial Vehicles and the acquisition of Carl Dan Peddinghaus by Bharat Forge follow this trend.

Serve India better - Reliance acquired Flag primarily to enable it offer end-to-end voice and data services in India.

Enhance skills not available at present — IT companies acquire abroad to obtain domain expertise or to move into a value added segment. Cash-rich but conservative Infosys Technologies finally joined the IT overseas acquisition trend in 2003 by buying Expert Information Services of Australia.

The steep rise in overseas acquisitions (shown in the Table) is expected to continue into 2004 and beyond.

(India Advisory Partners is an independent advisory group providing corporate finance

advice on Indian deals to firms worldwide. Kai Taraporevala can be contacted at kvt@indiaadvisorypartners.com)

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