“ MNCs are taking advantage of the down market conditions to wipe up up the portions. There is nil lawfully incorrect in purchasing back portions, but it should be by paying a just monetary value to minority stockholders ”
– Kirit Somaiya, President, Investor Grievance Forum [ 1 ] .
The Buyback Option
In October 2000, Royal Philips Electronics of Netherlands ( Philips ) , the Dutch parent of Philips India Limited, announced its first offer to buyback the portions of its Indian subordinate. The unfastened offer was ab initio made for 23 % of the outstanding portions held by institutional investors, private organic structures [ 2 ] A and the general populace. The offer was made at Rs.105, a premium of 46 % over the so predominating stock market monetary value. With this, Philips became one of the first multinational ( MNCs ) companies in India to offer redemption option to its shareholders.A
Soon after, the redemption option was offered by several transnational companies ( MNCs ) to increase their interest in their Indian ventures. Some of these companies were Cadbury India, Otis Elevators, Carrier Aircon, Reckitt Benkiser etc. Fund directors which held these companies ‘ stocks felt that leting redemption of portions was one of most favourable developments in the Indian stock markets. It provided a much needed issue option for stockholders in down market conditions. Redemption by the company normally indicated that the direction felt that its stock was undervalued.
This resulted in an addition in the monetary value, conveying it closer to the intrinsic value and supplying investors with a higher monetary value for their investing in the company.
However, critics of the redemption option claimed that big multinationals had utilized the redemption option to buy back the full drifting stock from the market with the aim of delisting [ 3 ] A from the stock exchange and extinguishing an investing chance for investors. Furthermore, most MNCs that offered redemption option reported a steep diminution in the trading volumes of the portions of their Indian ventures. The worsening liquidness of these portions prompted critics to state that the Government of India ‘s effort to revive capital markets by leting redemption of portions had failed.
1 ] A ‘Multinationals Leave Indian Investors Stranded, ‘ Raju Bist, Asia Times, June 5, 2002. The Investor Grievance Forum is a Mumbai based investor protection organic structure.
2 ] A Private organic structures refer to abroad corporate organic structures every bit good as private companies puting in portions.
3 ] A Delisting is a procedure by which a company ‘s portions are removed from the stock exchange. Harmonizing to the listing understanding, if the general public shareholding falls to less than 10 % , the company has the option to delist.
The Buyback Act
The redemption regulation was introduced by the Government of India ( GOI ) on October 31, 1998. The major aim of the redemption regulation was to resuscitate the capital markets and protect companies from hostile coup d’etat commands. [ 4 ] A The bargain back of portions was governed by the Securities and Exchange Board of India ‘s ( SEBI ) [ 5 ] A Buy Back of Securities Regulation, 1998, and Securities and Exchange Board of India ‘s ( SEBI ) Substantial Acquisition of Shares and Takeover Regulations, 1997.A
The regulation was issued along with a set of conditions [ 6 ] A intended to forestall its abuse by companies and protect the involvements of investors. Harmonizing to guidelines issued under SEBI ‘s Buy Back of Securities Regulation, 1998, a company could buyback its portions from bing stockholders on a proportionate footing [ 7 ] : Through stamp offer.A
aˆ? From the unfastened market, through the book edifice procedure [ 8 ] A or the stock exchange.
aˆ? From uneven batch holders [ 9 ] .
The regulation allowed companies to purchase back portions to the extent of 25 per cent of their paid up capital and free militias in a fiscal twelvemonth. The redemption had to be financed merely out of the company ‘s free militias, securities premium history, or returns of any earlier issue specifically made with the intent of purchasing back portions. The regulation besides prevented a company that had defaulted in the refund of sedimentations, salvation of unsecured bonds or penchant portions, and refund to fiscal establishments from purchasing back its portions. Furthermore, a company was non allowed to purchase back its portions from any individual through a negotiated trade, whether through a stock exchange, topographic point minutess, [ 10 ] A or any private agreement.
It besides allowed the boosters of a company to do an unfastened offer [ 11 ] A ( similar to an acquisition of portions ) to buy the portions of its subordinate. This allowed foreign boosters to use their excess financess and do an unfastened offer to get a 100 % interest in their Indian subordinates.
4 ] A A hostile coup d’etat involves the acquisition of a certain block of equity portions of a company giving the acquirer a greater interest in the company than the booster. This enables the acquirer to exert control over the personal businesss of the companyA
5 ] A SEBI was established by an act of Parliament in 1992 to protect the involvements of little investors and to advance the development of and modulate the securities market in India.
6 ] A Harmonizing to SEBI ‘s Buy Back of Securities Regulation, 1998, Chapter II, Conditions of Buyback.
7 ] A The redemption had to be based on the proportion of portions held by an investor in instance the redemption was oversubscribed.
8 ] A The procedure of procuring the optimal monetary value for a company ‘s portion. The publishing company decides the monetary value of the security by inquiring investors how many portions and at what monetary value they would be interested in paying.
9 ] A Odd batch holders refer to investors keeping an uneven multiple of portions less than 100 or 10. Odd tonss are besides called broken lot/uneven batch. An uneven or broken batch might be caused by the issue of rights portions or transition of unsecured bonds and warrants.
10 ] A A topographic point dealing involves a purchase or sale of a security with an immediate bringing for hard currency.
11 ] A An unfastened offer refers to an offer made by a party ( the foreign booster ) to get portions of a company ( Indian subordinate ) at a peculiar monetary value. It is done with the aim of increasing the boosters ‘ interest in a company.
The redemption of portions was allowed merely if the Articles of Association [ 12 ] A of the company permitted it to make so. The regulation besides required the company to go through a particular declaration at a general meeting and obtain the stockholders ‘ blessing for the redemption. In add-on, companies were non allowed to do a populace or rights issue of equity portions within a period of 24 months from the twenty-four hours of finishing the redemption, except by manner of fillip issues and transition of warrants, penchant portions or unsecured bonds.
The regulation did non take to increased redemption activity by transnational companies. In the fiscal twelvemonth 1999-2000, merely six MNCs came out with redemption offers, and in the twelvemonth 2000-2001, merely eight more companies offered to buyback portions. Harmonizing to the analysts, the low degree of redemption activity in 1999 and 2000 could be attributed to the fact that redemption ordinances were really luxuriant and demoralized companies from doing usage of redemption option ( Refer Exhibit I for the redemption procedure and Exhibit II for methods of redemption ) . The deficiency of involvement in the redemption option could besides be the consequence of SEBI ‘s restrictive ordinances.
Some companies complained that the procedure of redemption was delayed because the jurisprudence required them to obtain stockholder blessing for offering a redemption. SEBI guidelines prevented companies from raising fresh equity to finance their undertakings. It besides prohibited any subsequent redemption offer by the same company once it had made one for a period of two old ages. These ailments and the demand to resuscitate the stock markets after the September 11, 2001 terrorists ‘ onslaughts in the US forced the authorities to do amendments to the redemption regulation.
The authorities made amendments to the redemption regulation in October 2001, loosen uping the redemption norms. The new amendments allowed the boosters of a transnational company to do an unfastened offer to buy up to 10 % of its equity without doing a public proclamation. This purchase merely required a mere blessing from the board of managers. However, a public proclamation and stockholder blessing were necessary for any offer above 10 % . The amendments besides reduced the clip bound for publishing fresh portions from 24 months to 6 months. These two alterations were incorporated into the redemption regulation, which was passed by the authorities in December 2001 ( and later became the Buyback Act ) . The amendments in the redemption regulation coupled with down stock market conditions saw an addition in redemption activity. MNCs ( through the unfastened offer path ) regarded the redemption option as an chance to raise their equity interest in their Indian ventures.
12 ] A The Articles of Association contain the regulations and ordinances for the direction of the internal personal businesss of a company.
Buyback Offer by MNCs
In the fiscal twelvemonth 2001-2002, twenty MNCs made redemption offers. Some of the well-known MNCs which offered to purchase back their portions were Philips India Limited ( Philips ) , Cadbury India Limited ( Cadbury ) , Britannia Industries Limited ( Britannia ) , Carrier Aircon ( Carrier ) and Otis Elevators ( Otis ) . All these companies made unfastened offers for the non-promoter shareholding in their Indian subordinates. To purchase back portions, Cadbury paid Rs 9 billion, Philips Rs 2 billion, and Carrier, Otis and Reckitt Benkiser all paid over Rs 1 billion ( Refer Table I for MNC redemptions ) .A
Harmonizing to analysts, the increased redemption activity by MNCs was due to three grounds. They felt that the portion monetary values of most MNCs were under priced and did non reflect the true value of the company. Furthermore, the redemption of portions allowed MNCs to change over their Indian ventures into entirely owned subordinates ( WOS ) . [ 13 ] A It besides allowed them to delist the portions of these ventures from the stock markets and therefore protect them from the volatility of the stock markets ( caused by cozenages and other market uses ) . [ 14 ]
Analysts besides felt that MNCs had used the redemption of portions as a method for administering excess hard currency [ 15 ] A to their stockholders. Buyback besides acted as a tool for making wealth for the stockholders. The redemption of portions improved a company ‘s return on equity ( ROE ) , [ 16 ] A and this betterment would finally be reflected in a higher monetary value gaining ratio. [ 17 ] A Buyback by the company normally indicated that the direction felt that the stock was undervalued. It resulted in an addition in stock monetary value, conveying it closer to the intrinsic value. For illustration, when Philips announced its first redemption offer at a maximal monetary value of Rs.105 in October 2000, its portions were merchandising at around Rs 60. The redemption proclamation resulted in an addition in the portion monetary value to Rs 90 even before the redemption offer opened on November 13, 2000. Hence, the redemption offer gave stockholders an issue option that paid them a premium over the pre-buyback portion monetary value. However, in malice of the benefits of redemption, a subdivision of analysts and investors felt that it was being misused by MNCs.
13 ] A A company in which 100 % of the vote stock is owned by the keeping company. In India, one time the booster holds more than 90 % of the vote stock, he/she can delist the company from a stock exchange.
14 ] A Manipulations include the unreal addition in the volume of portions traded through trading within the group companies or dumping of portions by Foreign Institutional Investors. Such uses made the portion monetary value volatile.
15 ] A Financial theory provinces that if a company does non hold any investing chances where the internal rate of return ( IRR ) of the investing is at least equal to the company ‘s cost of capital, it is more prudent for the company to use the excess hard currency to purchase back its ain portions.
16 ] A Return on equity is the ratio between the Net Net income and Net worth of the company.
17 ] A It is the ratio between the market monetary value of the portion and the earning per portion.
Analysts felt that the redemption option may be misused by MNCs to increase their equity bets in their Indian ventures, escape public examination and answerability and forestall them from the Indian regulative environment. Furthermore, the option to change over their Indian ventures into entirely owned subordinates and delist their portions from the stock markets provided MNCs with complete control over their Indian ventures, allowed them to repatriate net incomes and do more independent investing determinations.
A subdivision of investors felt that authorities ordinances must hold provided them with a pick. However, minority stockholders claimed that they had no option and were forced to sell their portions one time MNCs bought back portions from the bulk stockholders. For illustration, because Life Insurance Corporation ( LIC ) and the General Insurance Corporation ( GIC ) , who together held a 21 % interest in Philips, surrendered their portions when Philips made its first redemption offer, the minority stockholders were forced to give up the staying portions when Philips made a 2nd offer in November 2001 ( Refer Table II ) .
Reportedly, investors feared losing an issue option in instance the portions get delisted. Furthermore, during the 2nd offer, the trading volume of portions fell to less than ( on an norm ) 500 portions per twenty-four hours since December 2001.
Similarly, when Cadbury made a redemption offer, public shareholding fell from 26.67 % to merely 7.32 % within six months after the bulk stockholders surrendered their portions ( Refer Table III ) .
Furthermore, in this instance, investors felt that the premium offered by Cadbury Schweppes, the UK based parent company of Cadbury, was low. The offer was priced at Rs 500, which represented a premium of 24 % on the mean high and low monetary values over the past 26 hebdomads prior to the offer. However, Cadbury ‘s stock had been merchandising at monetary values in surplus of Rs 500 in 1999 and 2000 ( Refer Table IV ) , with an mean P/E multiple of 60 in 1999 and 54 in March 2000. Furthermore, Cadbury ‘s 3rd one-fourth ( October to December 2001 ) gross revenues had increased by 11.2 % compared to the same period in 2000, while its net incomes had increased by 5.2 % . Hence, investors felt that the monetary value offered for the redemption had non taken into consideration the future possible net incomes of the company and was non attractive to stockholders who had been keeping their portions for a longer term.
As a consequence of down stock market conditions, investors ( in most instances ) received a low redemption monetary value. The monetary value at which the unfastened offers were made by MNCs caused great concern to both investors and regulators ( Refer Exhibit III for inside informations of pricing parametric quantities of unfastened offers ) .
In many instances, minority stockholders had expressed their resistance to the usage of prejudiced pricing by MNCs for purchasing back portions. For illustration, Otis Elevators bought back 23.9 % of the equity interest from the Mahindra group at Rs.375 per portion in October 1999, but made a redemption unfastened offer for merely Rs. 280 for the staying 31 % of the portions held by the Indian populace in May 2001.
Analysts besides felt that the redemption option was non good for little investors. Leting MNCs to delist their portions from the stock market would strip Indian stockholders of good investing chances. For illustration, in few companies including Philips, Carrier, Reckitt, Cadbury and Wartsila, the booster ‘s interest had about crossed 90 % ( Refer Table V ) . Though these companies had non delisted their portions from the stock markets, there was barely any trading in these companies ‘ stocks.
# Carrier Aircon has besides made its concluding offer to get the staying 8.84 % of its stock. The offer opened on September 9, 2002 and would shut on March 7, 2003.
* The foreign booster Reckitt Benkiser had acquired 87.27 % of Reckitt Benkiser India Limited portions by September 2002. It had already made an unfastened offer for the staying 12.73 % in August 2002.
Analysts argued that like China and Indonesia, India must return back to a system that prevented multinationals from delisting their portions from the stock exchange by ordering a minimal sum of drifting stock. The redemption by MNCs non merely affected the little stockholders, it besides had an impact on the stock exchanges. The redemption of drifting stock resulted in a diminution in the trading volumes. For illustration, the Delhi Stock Exchange was severely affected as MNCs accounted for more than 90 % of the volume traded and 85 % of the listing fees earned by the exchange before the redemption act was introduced. Given the negative impact of the Buyback Act, market perceivers felt that the act had failed to resuscitate the capital markets.
18 ] A Premium on the market monetary value predominating on the day of the month of proclamation of the redemption.
Buy or Not to Buyback?
The quandary that faced little investors in India was whether the redemption option, along with the SEBI guidelines, really protected their involvements and offered them an issue option at a just monetary value or was it a tool that provided them with no options leting big MNCs to derive complete control of their subsidiaries.A
Investors felt that the ordinances framed by SEBI did non hold commissariats for forestalling good stocks from delisting. Furthermore, the redemption monetary value, which was determined utilizing the parametric quantities specified in the SEBI Takeover Code, did non see the hereafter potency of the stock ( Refer Exhibit III for inside informations of pricing parametric quantities of unfastened offers ) . They felt that SEBI should hold looked at assorted fiscal parametric quantities such as future hard currency flows, value of trade names and the value of fixed assets to find a pricing expression for unfastened offers which ensured that investors who had been keeping the stock for several old ages received a just monetary value for their investing.