GlaxoSmithKline Plc wants to increase its stake in GlaxoSmithKline Consumer Healthcare Ltd from the present 43.16% to 75%, which is the maximum a promoter can own in a listed company. It has offered Rs.3,900 per share, a generous 28% premium to Friday’s closing price, but the share has already risen 20% on Monday. Shareholders may be hoping that GSK sweetens its offer price further.
But why is GSK making the offer? GSK Consumer has historically been an expensive consumer stock, and since 21 July (the date of its 52-week low of Rs.2,179), it has risen 40%. One reason for the offer could be that GSK does not own a 51% stake in the company, the minimum that most multinationals own in their Indian subsidiaries.
On paper, that exposes GSK Consumer to the threat of a takeover, though the chances of that happening are next to nil, given its high valuations and dependence on the parent from whom it licenses its main brands.
GSK came to own GSK Consumer after it acquired SmithKline Beecham Plc. The open offer will give it a higher stake, but will not affect its reported financials as GSK already consolidates GSK Consumer’s financials as a subsidiary on account of “dominant influence” under British company law. What it will do is increase the proportion of profits it can include, and the proportion of dividend that accrues to it.
The stake hike may also reflect India’s importance in GSK Consumer Healthcare’s emerging market portfolio. While its total revenue grew 5% in 2011, sales in India rose by 19%, in China by 22% and in Africa and the Middle East by 22%.
But GSK will also be spending a massive Rs.5,221 crore to acquire this incremental stake. That amount makes one wonder why it would spend so much, just to increase its controlling stake. Is GSK planning to delist GSK Consumer, and is this the first step in the process?
Shareholders will be more interested in knowing if the acquisition can make a material difference to GSK Consumer’s performance. GSK Consumer is a financially sound company, with cash of Rs.1,080 crore on its books, and has a cash flow from operations of Rs.570 crore.
One chink in its armour has been its dependence on the Horlicks malted food drink. Over the years, the company has been lowering this dependence by launching variants of the drink targeted at different consumers such as mothers and children, and by extending it to different categories such as biscuits and cereals.
One disappointment for shareholders was that the parent’s oral care roll-out in India was done through a wholly-owned subsidiary. If this stake hike leads to the parent merging the over-the-counter (OTC) and oral care operations into the listed company, that will be a big boost to investor sentiment, and possibly financials as well.
That brings us to the question as to whether shareholders should sell in the open offer, which appears a difficult question to answer based on the current available information. If GSK’s eventual goal is to delist, then holding on to these shares will be more rewarding. If its goal is to hike its stake, include OTC and oral care within GSK Consumer, even then holding on may be more rewarding in the longer run.
However, if GSK’s intention is to consolidate its stake, with no changes to either the portfolio or growth plans of the Indian company, then the latter’s valuations should drop back to normal levels after the open offer ends. An option could be to take advantage of the open offer in part as shareholders exit at a valuation of a rich 34 times GSK Consumer’s annualized 2012 earnings per share. By retaining a part of their holdings, if GSK’s end-game leads to richer pickings, shareholders will not lose out entirely on the upside.