The advantages of a larger company weigh against the culture clash between L&T and Mindtree, especially given that IT is a people-centric business. (Mint)
The advantages of a larger company weigh against the culture clash between L&T and Mindtree, especially given that IT is a people-centric business. (Mint)

What the L&T-Mindtree hostile takeover bid means for mutual fund investors

  • Mutual funds choosing to sell their Mindtree shares would be taking the view that share price may not go up after acquisition by L&T
  • Mutual funds choosing to hold on to their stakes would be taking a highly optimistic view of the hostile takeover

Mutual funds in India collectively own a stake worth 1,298 crore (about 8.4% of market cap) in Mindtree Ltd, a mid-sized IT services company. UTI AMC has the largest exposure to Mindtree followed by L&T Mutual Fund and Franklin Templeton AMC. On a scheme level, mutual funds on an average have just a 1.25% exposure to Mindtree but the exposure is higher in select funds.

On 18 March 2019, L&T announced that it had entered into an agreement to purchase a 20.32% stake in Mindtree for 3,269 crore from V.G. Siddartha, an entrepreneur.

L&T also announced its intention to buy a 15% stake in Mindtree from the market and launch an open offer for another 31% as required by the Securities and Exchange Board of India (Sebi) takeover code. The open offer is slated to commence on 14 May 2019.

These three purchases would give L&T a 66.32% share in Mindtree. The acquisition has been opposed by the promoters of Mindtree, setting the stage for a corporate battle in which mutual funds are caught in the middle. The situation of the AMCs involved is further complicated as they must act in fiduciary capacity for their unit holders.

We explain the options available to the mutual funds concerned, what they might do and its likely impact.

What’s happening?

L&T has an IT subsidiary, L&T Infotech Ltd, and it is this business vertical that is expected to get a boost with L&T's acquisition of Mindtree. Arguments against the acquisition rest primarily on the ground that the two companies have very different employee cultures.

Vineet Bolinjkar, head (research) at Ventura Securities, maintained that the integration should be gradual for the acquisition to add value. “L&T has said the two companies will be kept separate. If it keeps its word for 3-4 years, gradually bringing the companies towards merger, the acquisition should be net positive," he said.

Shriram Subramanian, managing director of InGovern Research Services, a leading corporate governance advisory firm, highlighted the advantages of size that the acquisition will bring.

“Mid-tier firms do not compete on many Requests for Proposals (RFPs) or clients that Tier 1 IT services companies like IBM, TCS and Infosys bid for. This may become possible once the combined capabilities are presented to clients," he said.

AMC exposure

On a scheme specific level, the highest exposure to Mindtree is with Aditya Birla Sun Life Digital India Fund, an IT sector fund, with 6.21% of its assets in the company. This is followed by BOI Axa Arbitrage Fund with a 4.48% stake.

Technology sector funds are relatively more exposed. SBI Technology Opportunities Fund has a 2.72% exposure and Franklin India Technology Fund has a 2.1% exposure. Altogether, 68 schemes in 22 AMCs have stakes in Mindtree.

As the holding in the Mindtree stock for most mutual fund schemes is a small portion of their portfolio, the impact on the NAV of any movement in the price of the stock won’t be significant.

Options for AMCs

The board of Mindtree has decided against launching a share buyback to counter the hostile takeover bid by L&T. It has decided to constitute a committee of all the independent directors to evaluate the L&T offer and make a recommendation on it in the interest of the stakeholders. The mutual funds involved will have to take this into account, given the fiduciary nature of their holdings in the company. They have the following options:

1. Accept the open offer made by L&T to all shareholders, including the mutual funds, to sell their shares to L&T at 980 per share.

2. Sell shares in the open market as prices may go up since L&T is looking to buy Mindtree’s shares from the stock market, too, to increase its holding.

3. Wait out the open offer for a better price as L&T may have to increase the price if enough investors do not accept the offer.

4. Continue holding the shares and not sell if they believe that the fortunes of Mindtree will not be negatively affected.

Mutual funds choosing the first three options, i.e. selling the shares, would be taking the view that the price of the share may not go up in the short- and medium-term, and the fund managers would like to wait and evaluate the impact of the acquisition on the company’s performance before they consider re-entering.

“In the short term, 980 per share is a good valuation although investors may be offered an even higher amount given that it is a hostile acquisition," said Bolinjkar.

Mutual funds might also start selling their shares even before L&T begins its purchases. People familiar with the developments suggest that they are already doing so. Mutual funds choosing the last option would be taking a highly optimistic view of the acquisition.

What will AMCs do?

There is no clear answer to this question. However, a fund manager that Mint spoke to on condition of anonymity indicated a wait-and-watch stance.

The proposed open offer valuation of 980 is seen as attractive but there is also a strong expectation of it being revised higher. Hence, a combination of options one, two and three may be followed as the post-acquisition scenario looks uncertain.

The advantages of a larger company (coming into the top league of Infosys, Wipro, TCS, HCL Tech and Tech Mahindra) weigh against the culture clash between the companies, especially given that IT is a people-centric business.

Whether this will benefit unit holders in the long run, only time will tell, but prospect of the two opposing camps trying to influence the AMCs in question cannot be ruled out. Investors should watch this space.

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