ANALYSIS. A test case on activism

Maruti Suzuki’s postal ballot asking its public shareholders to approve the setting up and operation of its new Gujarat plant by a wholly owned arm of its parent was a test case on shareholder activism in India. And it has now proved to be a test case in which minority shareholders have shied away from any activism and put faith in the company’s claims.

As many as 89.75 per cent of the shareholders who voted on the deal have approved the transaction. (A 10 per cent dissent is quite normal for any ballot). This is one of the first related party transactions on which minority shareholders are being called to vote, after the new Companies Act made it mandatory for listed firms to seek such special approvals last year.

For and against Ever sinceMaruti Suzuki India proposed a related party transaction to transfer its much-awaited Gujarat project to a group firm in January 2014, strong arguments have been made both for and against the decision. Maruti’s own contention has been that, by allowing its parent to foot the ₹8,500-9,000 crore bill for this new 15-lakh car facility at Gujarat, it would be saving sizeable capital, which it can now deploy in doubling its sales outlets, expanding dealer networks, investing in R&D and marketing & promoting those additional cars.

As the cars would be sold to Maruti by the Suzuki arm on a ‘no profit, no loss’ basis, the company claims, its return on capital would also improve.

Proxy advisory firm Institutional Investor Advisory Services (IIAS) has been arguing passionately against the move on the grounds that it would transform the listed Maruti from a manufacturing powerhouse into a trading company. It would give the parent too much control over its fortunes and saddle it with unnecessary cash. All this could result in much lower valuations for the fancied Maruti stock.

Related party deals While IIAS’ arguments may seem quite subjective, the truth is that Indian shareholders have reason to view most related party transactions through the lens of suspicion. All related party deals carry conflict of interest and where there is a deal between a 56 per cent subsidiary of a promoter and a 100 per cent subsidiary, as there is in Maruti’s case, it does raise a warning flag.

It is through related party deals such as royalty payments, inter-corporate loans, and frequent exchanges of goods and services that the more suspect promoters of India Inc, often divert cash from publicly listed firms to their private coffers.

While the primary test of fairness of a related party deal is whether it is conducted on an arm’s length basis, this is difficult for a company’s public shareholders to verify this, they have to rely on the once a year declarations in the annual report. But in Maruti’s case, public shareholders will know very soon whether they were right to approve this deal in good faith.

Once the parent ramps up investments in the Gujarat plant over the next one year that should, by the company’s reckoning, translate into an expansion in sales, better profit margins, higher treasury income and a healthier return on capital for the listed Maruti Suzuki, as it commences sales of these outsourced vehicles. Those numbers will be in the public domain and easy to check. The veracity of these claims will tell Indian investors if they need to take a more activist role in the future ballots on related party transactions.

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