Mergers & Acquisitions (M&As) in India have been growing multi-fold each year with 2018 being the benchmark for the highest number of M&As with the total transaction value crossing the $125 billion mark (according to data compiled by market-tracker Thomson Reuters Deals Intelligence). However, the number of hostile acquisitions in such deals has been fairly limited. Although, this is not to imply that there haven't been sufficient attempts in the Indian M&A history for hostile takeovers. While these hostile acquisition attempts may not have reached Indian courts often enough for substantial jurisprudence, India has seen its fair share of hostile takeover attempts and acquisitions. For instance, there have been successful acquisitions like those of Raasi Cements by India Cements and Zandu Pharmaceuticals by Emami, to numerous attempted hostile takeovers over the years.
Indian entities are facing an increase in dilution of promoter shareholding, specifically in the distressed acquisitions context, given that promoters leverage their shareholding to lenders for debt undertaken by the target entity. While hostile takeovers are typically associated with tender offers being put in place, given the distressed acquisitions boom in India, there are a number of opportunities available for hostile acquisitions of such distressed entities.
The jurisprudence around hostile takeovers comes primarily from other jurisdictions, particularly the USA, given the evolved status of the law on the same. A highly celebrated rule in this regard, across the globe, is the Revlon rule. The Revlon rule, simply put, substantiates the need for the management of a company to focus on maximization of value for shareholders over preservation and long-term strategies of the company, in situations where a hostile takeover is impending and, in some cases, inevitable.
There is a lot of emphasis placed on value maximisation in the Indian corporate governance context. Accordingly, one may argue that the sale of shares of the target entity by the existing shareholders does not maximize value for them since the target entity may have recently capitalised its costs and would begin sharing higher returns with shareholders. Hence, value for shareholders is maximized by retention of their shares and not sale thereof. However, this is based on potential maximization of share value, a consideration that seems too far-fetched to be taken into account for the Revlon analysis.
On the other hand, a safe poison pill that target entities may employ to increase the share price is the declaration of dividends. Poison pills refer to strategies and actions undertaken by the management to ward off attempts of a hostile takeover or increase the price that would have to be offered by the hostile acquirer. Declaring dividends is usually effective as it tends to raise share prices making it more expensive for the acquirer to go through with the acquisition and depletes the cash reserves of the target entity, making the acquisition less valuable in itself.
This, being a safe choice in terms of attracting any adverse corporate governance scrutiny, is often one of the first resorts undertaken by target entities. However, attempts to raise share prices are not always successful if the increase in share price is not significant, and is largely dependent on market sentiment, as is evident from the dividend declaration by Mindtree, arguably, to ward off L&T's hostile bid. Mindtree's share price has not seen a significant rise post the declaration of dividend on 17 April, 2019.
Similarly, target entities may argue that absence of operational synergies between the target entity and the acquirer does not create the best value for shareholders or the target entity in the long run. Continuing the discussion on the current bid for Mindtree by L&T, Mindtree promoters have cited such lack of synergies for the potential acquisition. This is pertinent given L&T does not plan to merge Mindtree with its IT services arm for at least next two years, bringing the question of operational synergies into the spotlight.
Typical strategies deployed for warding off hostile takeovers include 'flip-in' and 'flip-over' strategies, which allow differential issue of shares of the target entity to existing shareholders except the hostile acquirer. However, this may attract oppression and mismanagement concerns in India, and hence may not be a viable strategy. These strategies may only work in situations when undertaken prior to the hostile acquirer having acquired any stake or having insignificant stake. They may also be incorporated in the charter documents of the target entity as a pre-emptive measure, with careful consideration to their enforceability.
While negotiating one's way out of a hostile bid is rare, and highly dependent on the individual considerations of the hostile acquirer in relation to the target entity, one of the negotiating strategies worth considering for diversified entities is the compromise of a non-core segment of their business in order to retain the larger umbrella entity. This strategy had been successfully exercised 20 years ago, ironically, by L&T, to ward off the Birlas by selling L&T's non-core business of cement to them.
Typically, a hostile takeover attempt follows an acquisition of a large stake by such hostile acquirers. Target entities may consider blocking such attempts from this stage itself. A pre-emptive measure that may be undertaken by companies, especially where shareholding is particularly scattered, is housing material assets of the potential target entity in another entity that cannot be subject to a hostile acquisition.
For instance, companies with an established brand may house the intellectual property in relation to the brand in another group entity and use such brand on a license basis. At the time of a hostile takeover, the brand not being available to the target entity on such hostile acquirer coming in may act as a poison pill for the hostile acquisition. This strategy, however, may attract increased corporate governance compliances and some tax concerns. The Tata Group has successfully implemented this strategy by housing its brand name in a private company - Tata Sons.
Another strategy worth considering is maintaining a 'white knight' entity, which could in itself be a promoter entity, for salvaging the target entity from such hostile takeovers, or at the least present potential poison pills for such hostile acquisitions. White knights are friendly investors, typically brought in by target entities' management that allow the current management to retain control while the white knight acquires stake in target entity, in place of the hostile acquirer. India is not unknown to such white knights, with certain instances in the past, including Reliance acting as white knight for EIH to ward off ITC's attempt of a hostile takeover.
Hostile acquisitions for entities in the insolvency resolution process have already become popular with many acquirers entering into bidding wars with external, promoter-backed entities. Even for the non-distressed sector, hostile acquisitions in India may gain momentum in light of the increasing M&A activity in India, especially before potential target entities become cognizant of possible pre-emptive measures that they may undertake to ward off such attempts.
Tanushree Bhuwalka (Principal Associate) and Kaushiki Agarwal (Associate) are lawyers with the corporate and M&A practice at Khaitan & Co. The views of the authors in this article are personal and do not constitute legal / professional advice of Khaitan & Co.
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