Is iGate taking on too much?

Is iGate taking on too much?
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First Published: Wed, Dec 01 2010. 10 38 PM IST
Updated: Wed, Dec 01 2010. 10 38 PM IST
According to news reports, iGate Corp. is likely to make a bid for Patni Computer Systems Ltd, a company which is about 2.5 times its own size. Naturally, this begs the question, “Is iGate biting off more than it can chew?” The company’s investors seem to have found the development difficult to digest—the company’s shares were hammered down by 20% in Tuesday’s trade on the Nasdaq.
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IGate reported revenue of $199.6 million (Rs912 crore today) in the nine-month period till September, while Patni’s revenue for the same period stood at $518.6 million. The former’s pre-tax profit stood at $40.4 million, while Patni’s comparable profit figure was 2.8 times higher at $113.8 million. Apart from the fact that Patni is much larger in size, investors may also be concerned about news reports that iGate has initiated a credit line of $700 million from Deutsche Bank. IGate’s total balance sheet size stands at $287 million currently.
But does the possibility of an iGate-Patni deal warrant as much concern from the former’s shareholders? It must be noted here that iGate is also in the process of raising equity funds by issuing 10 million shares at a proposed maximum offering price of $18.26 per share. This should enable the company raise around $182 million. News reports suggest that these shares may be picked by private equity fund Apax Partners, which is likely to partner the company in its bid to acquire Patni. Besides, iGate has a cash balance of around $100 million. So there would be a meaningful equity contribution of about $280 million in the deal as well.
Assuming the deal involves buying Patni’s promoter shareholders, General Atlantic’s 17% stake as well as making the mandatory 20% open offer for minority shareholders, the deal size would be close to $1.2 billion, or Rs5,428 crore to be precise. This is based on the reported deal price of Rs500 per Patni share.
If the equity funding is close to $300 million, the firm would have to raise $900 million worth debt funds to close the deal. If the open offer doesn’t receive any response from minority shareholders, which may be likely considering that the reported deal price is close to the current traded price, the funds required will be $300 million lower, or around $600 million. Now, Patni has an annualized earnings before interest, tax, depreciation and amortization of about $150 million, which should be more than sufficient to service the debt.
Besides, the deal makes business sense for iGate. Historically, small and midsize IT companies have lost market share to larger firms. One of the reasons, of course, is that scale matters to large customers. Besides, many customers have moved towards consolidating their vendor base, preferring large service providers in the process. If iGate manages to acquire Patni, its size would jump by about 3.6 times—from an annual run rate of about $270 million to $960 million, or very close to the $1 billion mark. This would help it compete with some large service providers in bagging deals. Of course, much depends on the integration of the two firms, and it’s no guarantee that the deal would work in the favour of shareholders.
But even if the deal with Patni shouldn’t be of concern, iGate’s shareholders should be worried about the price at which the company is issuing equity shares. According to the prospectus filed with the US Securities and Exchange Commission, the issuance would happen at a proposed maximum offering price of $18.26 per share. Prior to the 20% drop in the company’s shares, the shares traded way higher at $24.83 per share. This suggests that the traded prices in the market were inflated and the correction looks warranted.
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First Published: Wed, Dec 01 2010. 10 38 PM IST