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Why hostile takeovers may rise

While the tussle between RIL (Reliance Industries Ltd) and RNRL (Reliance Natural Resources Ltd) has attracted media attention, developments at another oil and gas company deserve note. Great Offshore Ltd, which provides services to upstream producers, carrying offshore explorations, is the target of a competitive open offer, with rivals Bharati Shipyard Ltd and ABG Shipyard Ltd keen to acquire a majority stake.

And while their battle continues, the shareholders of Great Offshore have a reason to celebrate. The script recently closed above Rs 532, three times to what it was trading last year. From the shareholders’ perspective, no one can question the increased value bids like this offer. But events like this do compel one to think why India hasn’t witnessed many unsolicited takeovers, especially if they enhance shareholder value.

By no means is one advocating them, but takeovers are the fastest way for companies to achieve expansion of product and customer base. They provide immediate access to additional production lines and markets and these factors must have been considered by the boards of Bharti and ABG while making their bids. But with a large number of stocks trading at a discount to the company’s underlying assets, one wonders if factors aside from business ethics prevent corporate India to take advantage of this route of inorganic growth.

A key reason has been the role of the local financial institutions, which have traditionally had ties with promoter families and have been stumbling blocks in takeover attempts in the past. However, times are changing. With a sizeable share of the Indian equity pie now with Foreign Institutional Investors (FIIs), can one expect FIIs to be driven by their fiduciary obligations to increase shareholder value through hostile takeover situations?

To prevent hostile takeovers, internationally, companies commonly adopt the “Poison Pill” or Shareholder Rights Plans, involving the issuance of low-priced preferential shares to existing shareholders if a purported hostile bid is consummated. Such new issuance results in diluting the shareholding of the raiders, thereby making the acquisition prohibitively expensive. “Green Mail” is another popular defence under which the target is forced to buy back its own security from the unfriendly blackmailer at a substantial premium.

In India, however, the above stated defences may not entirely be applicable, especially with the restrictions around buy-back of securities. And while the companies may be able to issue warrants, which trigger when an acquirer crosses certain shareholding thresholds, it is important to note that these warrants cannot be used to buy shares at a substantial discount.

Under the DIP (Disclosure and Investor Protection) Guidelines, the exercise price of the warrants must be the average of the weekly high and low of the closing price during the six months or two weeks preceding the date when the shareholder general meeting is held to consider the proposed issue. Additionally, the DIP Guidelines require 25 per cent of the price payable for the warrants to be made upront—the amount is forfeited if the option to acquire the shares is not exercised in 18 months.

The regulators have a tough balancing act—ensuring that they don’t overtly encourage hostile acquisitions, and also not act as “Killer Bees” to fend off hostile takeovers.

First Published in Business Today on October 04, 2009

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