The big win for HUL is that it’s a non-cash deal. It will issue 4.39 of its own shares for every share of GSK Consumer. The HUL share price used for the transaction discounts one-year forward earnings by about 54 times forward earnings, making it among the most expensive consumer goods stocks in the country.
For parent Unilever to be able to use the stock of its Indian subsidiary as currency is quite a luxury. Besides, this way, it avoids the rigmarole of an open offer for GSK Consumer’s shareholders, and the possibility of having two listed subsidiaries in India.
Not that GSK Consumer’s shareholders are complaining. Not only are they receiving a higher valuation multiple vis-à-vis the Complan deal, but the share swap structure is also more tax efficient. An outright buyout would have meant a large capital gains tax (LTCG tax), given that it would be a transaction conducted outside the stock exchanges. But the sale of HUL shares (received during the merger) in the stock markets will be taxed at a concessional rate.
Of course, settling for shares instead of cash means GSK Consumer’s promoters and minority shareholders have to live with the uncertainty of market fluctuations till the time the shares are available for sale.
Importantly, HUL can scale up its foods and refreshments business in India significantly through this deal. The contribution of foods businesses in HUL’s revenues will rise to 28% from the current 18%.
Although GSK Consumer Healthcare is more profitable at present, generating an Ebit (earnings before interest and tax) margin of 20% vis-à-vis HUL’s 17%, it has much scope for improvement. A limited product portfolio and lack of scale was a constraint for GSK Consumer in India. HUL can use its much larger distribution network to improve the reach of GSK Consumer’s products. Besides, merger synergies, such as the elimination of duplicate cost heads, will result in a bump in margins as well.
“Post acquisition, Hindustan Unilever will drive penetration (distribution network of less than 7.5 million versus GSK’s 1.8 million), upgrade and premiumize customers, unlock north and west markets where GSK was relatively weaker; apart from increasing innovation," analysts at Edelweiss Securities Ltd said in a note to clients.
Unilever said in a statement that after accounting for synergy benefits, the deal is valued at 20 times operating profit. Interestingly, the Heinz deal was valued at a similar multiple, albeit before accounting for any synergy benefits.
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That’s not all. Accretion of goodwill in HUL-GSK merger means Hindustan Unilever will see noticeable tax benefits, says Girish Vanvari, founder of Transaction Square, an advisory firm.
A moot question for GSK Consumer shareholders is if they should hold on to their shares and reap the expected benefits from the merger, or sell in the rally based on anticipation. As the saying goes, a bird in hand is worth two in the bush. Besides, given HUL’s loaded valuations, it may just make sense to make the most of the current euphoria surrounding the deal.