Fortis Healthcare Ltd’s shareholders were playing a risky game by staying invested, even when there were enough signs of trouble all around. On Wednesday, the hospital firm’s shares fell by 13.4% after those hopes were dashed, as the company agreed to be acquired by Manipal Health Enterprises Pvt. Ltd in a complex all-stock deal.

Shareholders would have hoped for a clean acquisition, with an open offer to boot, and while some may have sold, some others would have looked forward to life under a new promoter. They may still hope that Malaysia’s IHH Healthcare Bhd, another rumoured suitor for Fortis Healthcare, decides to make a hostile bid. With negligible promoter shareholding, an open offer at a significant premium will be well received. The decline in Fortis Healthcare’s shares creates headroom for an attractive premium too.

If that does not happen, then minority shareholders will hope that institutional shareholders holding significant stakes will negotiate a better deal. There is probably more action left before this transaction becomes final.

The risks mentioned earlier continue, irrespective of which acquirer is in the fray. Fortis Healthcare is under investigation by regulators after auditors refused to give their opinion on its quarterly results. That’s one reason probably why the effective date of the transaction has been kept as 1 October, giving time for these matters to settle down. It could take up to a year for the transaction to complete, which is also a relatively long waiting period.

The current deal has been structured as a scheme of arrangement. Fortis Healthcare will hive off its hospitals business to Manipal Health, and its shareholders will get 10.83 shares for every 100 shares held in the new company as consideration. Manipal Health will also buy a 20% stake in Fortis Healthcare’s subsidiary SRL Diagnostics Ltd, from Fortis, for Rs720 crore.

The Fortis Healthcare business will get added to Manipal Health’s existing hospital business. In the nine months ended December 2017, Fortis Healthcare generated Rs3,727 crore in revenue to Manipal Health’s Rs1,503 crore, while its Ebitda (earnings before interest, tax, depreciation and amortization) margin was 13.5% compared to Manipal Health’s 16%. But Fortis Healthcare has to pay a fee to a business trust that owns a large part of its hospital assets. After that, its Ebitda drops to 6.4%. Also, the company’s operations in the current fiscal year got hit partly due to the issues pertaining to its owners.

That appears to have skewed valuations in favour of Manipal Health, despite Fortis Healthcare being the larger entity. Also, Fortis Healthcare has committed to pay about Rs4,650crore to RHT Trust to buy back the hospital assets. This transaction will see the new company take over that liability, for which the promoters have committed to infuse Rs3,900 crore worth of equity into Manipal Health. That commitment further dilutes the stake of Fortis Healthcare’s shareholders in the new company.

That’s why the Manipal Group promoters and TPG will together own a 58.6% stake in Manipal Health, while the public/others will own a 41.4%. The “others" mentioned here earlier owned a 19.4% stake in Manipal Health pre-transaction. Therefore the incremental stake is what can be attributed to Fortis Healthcare’s public shareholders. That’s all they get in the new entity.

The transaction reveals that Fortis Healthcare’s valuations have taken a hit due to the problems of its past owners. That was not reflecting in the price. At the same time, could a competing bid from IHH have valued Fortis Healthcare higher? The board appears to have gone ahead and signed definitive agreements but shareholders may have wanted to see what IHH Healthcare has to offer, before signing off on it.

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