BackM&A: Avoiding cheap leverage trap while executing cross-border transactions
A panel comprising M&A heads at Mint Dealmakers Forum discuss the things to watch for while planning, negotiating, and executing cross-border transactions
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Outbound buyers should take into account cultural issues and integration with the potential target and not necessarily fall for the cheap leverage trap. That was one of the key takeaways from a panel discussion on Planning, Negotiating, and Executing Cross-border Transactions at the Mint Dealmakers Forum on 22 September.
The panellists included Vikram Hosangady, partner and head (advisory practice), KPMG; Sunish Sharma, managing partner, Kedaara Capital Advisors; Dhanpal Jhaveri, managing partner (private equity), Everstone Capital; Sanjay Kukreja, managing director and partner, ChrysCapital Advisors; and Girish Deshpande, senior vice-president (M&A and private equity), IDBI Capital Markets and Securities Ltd. The panel discussion was moderated by Yogesh Singh, partner, Trilegal. Edited excerpts:
The year 2016 saw 158 outbound M&As totalling up to $10 billion which is almost a 160% increase in value terms. 2017 in the first quarter had already seen 41 deals. Most of the deals have been in the automobile, technology, pharmaceutical and natural resources space. Are these primarily aimed at bringing technology to India?
Hosangady: Technology continues to see a lot of activity. Protectionism is actually aiding us because today companies in India need to increase their presence in some of these markets, so we are seeing it as a driver of growth. We need to distinguish between emerging markets and developed markets. A lot of companies, especially in consumer and pharmaceutical space, are looking at a very similar market in India from a demographic standpoint. As far as technology is concerned, in automotive and industrials, a lot of activity is happening in countries like Germany and France where the whole rationale is either access to clients or technology. A fair amount of consolidation can be seen in some of the mature industries and that is driving the activity.
Let us talk about the deal structural changes that people are seeing. One trend that is not very difficult to understand is the impact of non-availability of leverage. So, what kind of leverage issues have you seen?
Jhaveri: Leverage is always an important factor if we look at mergers and acquisitions (M&A) globally. In the context of a lot more developed and mature economies like the US and European Union (EU) where the predictability of cash flow is reasonably high, this drives the ability to have leverage. You are also naturally competing in those markets not just with strategic buyers but also with financial buyers. So one should keep three things in mind, firstly one should make sure that they understand what they are buying and the cash flows of the business that you are buying should have reasonably high level of predictability. Secondly it’s a foreign currency loan and one shouldn’t think that these things don’t deflate or inflate as compared to the home currency, which is the rupee. So it’s important how cautiously one can price that risk and lastly one should make sure that they are ring-fencing that leverage to the target.
Kukreja: Indian companies do have a perception challenge particularly in a knowledge economy. Cultural issues have to be thought through for an M&A to happen. Many a times headquarters of the companies are based in India and it defeats the purpose if you are trying to transform your business by getting front-end access and one should realize that are they really getting back what they should by keeping the headquarters back home. So it depends on the aim of the acquisition.
Also, Indian IT has matured. Everybody realizes that the labour cost arbitrage model is over. We have seen very serious bets by Indian companies transforming themselves by acquiring overseas. Ten years ago global companies like Capgemini, Accenture were very small in India but today they are the largest having large back-ends. Indian companies need to substantially improve their front-ends. Also now when it comes to protectionism, Indian IT companies are building front-ends so they are very open to hiring Americans or Europeans led by regulatory reasons as well and therefore they are willing to make those investments now.
What are the perception issues Indian firms faces outside India?
Sharma: The challenge that I have seen is that when people have acquired a large asset bigger than their own size, then it leads to complications and here what I think is that the centre of gravity should shift. You run a business in India setting out of America or any other foreign country. That’s why a lot of challenges are coming especially when larger assets are being acquired. There are more cases of failure of larger assets than the successful ones. One should understand what they are buying. Just because it is cheap it is not necessarily good. Having leverage and making acquisitions also doesn’t help. The consumer goods companies are good examples who have done well by acquiring into emerging markets. Just because an aluminium or steel asset is cheaper, one shouldn’t acquire and run it like an Indian company because then that becomes a challenge. The biggest successful outbound M&A was Jaguar Land Rover, run by a British company.
Let’s talk about execution challenges. Increasing regulatory oversight, protectionism and labour unions are getting stronger. What kind of issues have you seen in execution where certain high level of focus has to be brought in than what it was probably in the past?
Deshpande: Protectionism comes into play where deal sizes are large and when there is a lot of media highlight on that. A lot of deals that Indian companies are doing are under the radar and therefore do not have to face protectionism. As far as protectionism is concerned, as long as deal size is manageable and it is not in media limelight, things are under control. For example, the Thyssenkrupp deal with Tata Steel, there is a push back from German unions. Planning beforehand right from a blue print stage till getting the transition on board is critical.
We have seen some of the biggest transactions falling apart purely because post-integration wasn’t well thought out or some of the synergies were over-estimated. How do people deal with that?
Kukreja: Ninety to 100% of our work force is linked to organic growth and we want inorganic growth as well. We go and acquire and later think that we aren’t prepared for this. You need to have a strong organization that is capable and equipped with bankers, operating people who can handle the integration.
Jhaveri: There should be a proper synergy as to who should drive the plan. Many a times, the team which is actually putting together the whole plan is not going to be the team which is going to take it forward.
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