Challenging times ahead
The United Nations department of economic and social affairs has re-estimated the best- and worst-case scenarios for 2020’s global output growth on 1 April 2020 at 1.2% and -0.9%, respectively. This is estimated to plunge even further if restrictions on movements and economic activities extend beyond the second quarter of 2020.
From an India perspective, the outbreak of the coronavirus pandemic has severely impacted the economy, which was already witnessing a slowdown in 2019-20 due to various macro-economic reasons. This fiscal year is expected to record India’s worst growth performance since 1991 i.e. the start of its economic liberalization process. Government of India has ably responded to the crisis by launching one of the world’s largest economic stimulus packages, aptly named as ‘Atmanirbhar Bharat’ or ‘self-reliant India’, which is worth `20 trillion (approximately $260 billion) i.e. almost 10% of India’s GDP to address the impeding economic crisis. The Government is also trying to convert the threat into an opportunity and bring about radical reforms in agriculture, industry, labour and land regulations.
Covid-19 has evidently not spared the Indian M&A playground. According to Grant Thornton India’s April 2020 edition of Dealtracker, aggregate M&A and PE deal volumes reported a 37% and 22% fall respectively compared to deal volumes in April 2019 and March 2020. Low volumes reflect how the market participants have been restrained due to covid-19 crisis.
Hidden in this crisis are also opportunities for companies to tap.
Make in India: Promoting M&A
The Indian economic landscape is experiencing significant changes and multiple incentives for various sectors are being rolled out. For instance, the recently announced lower corporate tax regime with effective rate of 17.16% for manufacturing companies, coupled with several production-linked incentive schemes such as the Scheme for Promotion of manufacturing of Electronic Components and Semiconductors (SPECS) are likely to improve the domestic supply chain and invite a share of global manufacturing to India.
These changes have made India an attractive destination for foreign investment. In particular, M&A is a good tool that provides promoters the means to safeguard business continuity and investors the opportunity to leverage on relatively realistic valuations. The possibility of being among the lowest corporate tax rates in the world (if certain conditions are met) is the icing on the cake.
Cost reduction, winding up and tax optimization
It is time for businesses to evaluate their group structures and assess the need for restructuring through mergers, demergers, business sale. Streamlining the group structure would, among others:
· reduce compliance and management costs of the Group;
· wind up non-operative companies;
· set off tax losses and utilize GST and other credits of the Group optimally.
Corporations in India have also been given an opportunity to clear backlog of tax disputes through the recently introduced Direct and Indirect tax dispute resolution schemes. These schemes provide for payment of the disputed amount or a part of it with waiver of additional levies such as interest and penalty. Using these schemes, corporations can aim to reduce costs and uncertainty surrounding tax disputes in India. This can also lead to smoothening the winding up process.
This would include merger of companies with high debt leverage into healthy group companies. Restoration of the dividend withholding tax regime (dividend distribution tax was abolished with effect from 1 April 2020) has made cash repatriations more efficient, especially for foreign investors. Apart from plain vanilla dividend repatriation, companies can explore other cash repatriation and cash utilisation strategies such as acquisition of fellow subsidiaries’ shares to fund the parent company immediately, acquisitions in neighbouring markets through Indian subsidiary etc. Such acquisitions can be tax-efficient where the original investment is protected through a grandfathering clause in tax treaties with India such as Singapore and Mauritius, subject to the facts of each case.
Promoters of stand-alone companies which are on the brink of insolvency, can consider consolidation to safeguard business continuity. Stand-alone companies operating in the same domain can consider merging horizontally with other market players, thereby creating a consolidated entity that can achieve greater economies of scale. Vertical consolidation across the value chain offers higher returns on investment and cost efficiency, which can also be evaluated. These deals can be part-cash and part-shares, giving the promoters the flexibility to exit at an appropriate time.
Economic downturns offer investors exciting valuations making it a promising time for investors to conclude aggregation. It is certainly a good time to implement consolidation strategies that common investors across symbiotic businesses can explore.
Minority investors and promoters also get a favourable exit. The recently notified squeeze-out provisions of the Indian corporate law allows majority shareholders to acquire minority shareholding up to 25%, thereby securing complete control of the company.
The current market situation can possibly be the right time for listed corporations to consider delisting from stock exchanges, thereby reducing cost of compliance and for promoters to take full control.
It is also time for predatory acquisitions. In this regard, the government’s pre-emptive steps to curb aggressive takeovers by corporates/nationals of countries sharing land border with India, directly or indirectly, is a welcome move. Such acquisitions now require prior approval of the government.
Conglomerates can consider segmenting their businesses to project better value. Common methods to achieve this include demergers, asset transfers and spin-offs. This exercise results in improved valuation of the segmented businesses and consequently, opens avenues to better fund raising models for the organization as a whole based on new valuations.
While governments are juggling with multiple strategies to contain rapid spread of covid-19 and businesses are exploring various options to tackle the consequential economic crisis through lockdowns and slow growth, this state of play also offers opportunities for investors/businesses to take a long term view and explore futuristic opportunities. There are numerous M&A opportunities that can be capitalized during this phase and desired results can be achieved through several permutations and combinations. Every M&A deal requires judicious planning and robust analysis for it to succeed and there is no better time to do this than now. So was also advised by Winston Churchill, when he said “never waste a good crisis".
Sridhar R and Bhavesh Kumar contributed to this article.
Vikas Vasal is national leader-tax at Grant Thornton India LLP.