IGate Corp., which owns over 80% of Patni Computer Systems Ltd, has decided to buy out the latter’s remaining minority shareholders. The price it will pay for these shares will be determined through a reverse book-building process, which is used to determine an exit price. Of course, iGate has the option of rejecting this price, if it feels shareholders are being too demanding. What is the purchase price it is likely to be comfortable with?
IGate has said that it proposes to arrange a debt facility of approximately $215 million, which is expected to serve as the source of funds to pay for the acquisition. At current exchange rates, this amounts to Rs 1,090 crore. Now, including the employee stock options that have already vested, or will vest by the time the delisting process is completed, the total number of outstanding shares with minority shareholders amounts to 26.7 million.
File photo of Patni Computer Systems Ltd. headquarters in Mumbai. Bloomberg
If iGate plans to dip only into this pool, the per share acquisition cost it will be comfortable with is Rs 408. The company also has some cash on its books, and even if it uses only part of it, it can manage a purchase price of up to Rs 450 per share. Expecting a price that’s higher seems like a stretch, not only from the point of view of what iGate can afford, given its debt position, but also keeping in mind Patni’s valuations. At Rs 450 per share, the company will fetch a rich valuation of 15 times one-year rolling forward earnings, based on the earnings estimates of Nomura Research. Nomura has a Rs 300 price target on the stock, using a 45% discount to the multiple it uses for valuing shares of Infosys Ltd.
Note here that Patni has been growing at an anaemic rate for years and the only case that can be made for higher valuations is that iGate will script a sharp turnaround in the company. But even if there is a turnaround, it’s another matter whether its benefits will be seen in the books of Patni.
Also See | Delisting Boost (PDF)
Sample this observation by Nomura after Patni’s June quarter results announcement: “The Patni management has indicated that for GE—a client common to iGgate and Patni—incremental revenue from all new projects would be booked under iGate. We see this as confirmation of our thesis that a combined common front-end would raise question marks on allocation of costs and revenue in a fair manner. These conflicts, in our view, could also play out in the manufacturing, retail, distribution and logistics vertical, where iGate has an overlap in terms of capabilities and presence. The management maintains that it has broad rules to avoid conflicts in such situations.”
If things play out in this fashion, there will be value erosion at Patni. In this backdrop, it’s best for investors to exit. And as pointed out earlier, 15 times one-year forward earnings is quite a rich valuation for the company. In fact, investors who bought their shares for less than Rs 230 can even sell at the current market price of Rs 428. Their net gain of Rs 198 per share will be the same as selling to iGate at Rs 450 and then paying 10% long-term capital gains tax on the profit.
Graphic by Naveen Kumar Saini/Mint
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