fall 2007 - the deal · fall 2007 the growth must go on ... booming indian economy, ... 22 million...
TRANSCRIPT
A supplement of
Fall 2007
The Growth Must Go On India’s continued economic boom shows no sign of slowdown.
Investing in India Khaled Al-Muhairy explains why he chose to invest in India.
India Inc. Goes Shopping Dr. Anurag Sharma speaks on what is fueling the surge of Indian deals.
Doing Business in India: The Practical Legal Issues Practical Law Company presents a rundown of India’s legal issues.
Bucking a Global Slowdown? Harsh Vardhan addresses why India should sidestep the global credit crunch.
Deal Flow by the Numbers Graphical data breaking down India’s investments and GDP growth.
C O N T E N T S
The Growth Must Go OnThe continued economic boom shows no sign of slowdown, stoking
an already red-hot market for M&A and private equity investment in
India.
Investing in IndiaAs the sponsor of the first ever India focused fund of funds,
Evolvence Capital’s CEO Khaled Al-Muhairy explains why he chose to
invest in India long before private equity invaded the country.
India Inc. Goes ShoppingDr. Anurag Sharma, who heads India coverage for Chicago-based
William Blair & Co.’s international operation in London, speaks
on what is fueling the surge of Indian M&A and cross-border
transactions.
Doing Business in India: The Practical Legal Issues Sara Catley, an analyst at Practical Law Company, presents a
rundown of the legal issues foreign investors face when doing
business in India.
Bucking a Global Slowdown?Mumbai-based Partner and Managing Director at The Boston
Consulting Group Harsh Vardhan addresses why India should
sidestep the global credit crunch and the coming peak in private
equity dealmaking to maintain its torrid M&A pace.
Deal Flow by the NumbersGraphical data showing a sector breakdown of both M&A and PE
investments through the first half of 2007, plus GDP figures and
forecasts that underpin India’s continuing growth story.
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VP Publisher, International & Custom Media: Lisa Balter SaacksEuropean Sales: Graeme McQueen, Managing DirectorEditor & Writer: Rob GarretsonEditor & Project Manager: Marielena SantanaDesign & Production: Paul Colin, Cezanne StudioFor more information on The Deal’s custom media supplements and reports, contact Lisa Balter Saacks at +1.212.313.9326 or email [email protected]
Publisher’s Letter
Eyes on World Markets: India is a sponsored supplement produced by the Custom Media division of The Deal LLC.
105 Madison Avenue, New York, NY 10016107– 111 Fleet Street, London England EC4A 2AB
www.TheDeal.com
Dear Readers,
As India’s domestic markets surge—rivaled only by China’s growth among large economies—the subcontinent has emerged as a defi ning force in global markets.
This edition of The Deal’s Eyes on World Markets: India examines the deal fl ow, both in and out of this South Asian powerhouse, and where the opportunities and challenges remain for investors.
We start the report with an overview of what’s driving M&A and private equity investments in the booming Indian economy, along with an examination of some of the challenges associated with dealmaking in India. Our second article looks at Indian PE from the perspective of Evolvence Capital, a Dubai-headquartered alternative investments fi rm which was among the fi rst PE investors to recognize that Indian companies have the highest return on equity in Asia.
In the interview that follows, Dr. Anurag Sharma, who heads India coverage out of London for Chicago-based William Blair & Co., offers his perspective on the rise in cross-border M&A and which sectors will continue to attract M&A and PE in the years ahead.
Next, Sara Catley, an analyst at Practical Law Company, presents a detailed rundown of the legal issues foreign investors face when doing business in India. She inspects India’s main practical legal issues including details on setting up shop in India, dealing with India’s voluminous tax code, anti-trust issues, intellectual property and data protection.
Another insightful interview follows, this one with Harsh Vardhan, a Mumbai-based partner and managing director at The Boston Consulting Group (BCG), which in August released one of the largest-ever studies of global M&A, based on a detailed analysis of more than 4,000 completed deals between 1992 and 2006. Among other things, the study forecast a slight cool down in the torrid pace of dealmaking in the wake of credit market tightening and an impending peak in private equity activity, but Vardhan makes a compelling case why India should buck the global trends.
Finally, we look at Indian deal fl ow by the numbers, with three pages of graphical data that gives the sector breakdown of both M&A and PE investments through the fi rst half of 2007, plus the GDP fi gures and forecasts that underpin India’s continuing growth story.
As always, we hope this report will help dealmakers worldwide profi t from opportunities in India, some of which will require increasing diligence and foresight to discover value as the markets continue to surge to new heights. I am grateful to all our expert contributors who helped make this a thorough and detailed guide to dealmaking in a region that’s becoming increasingly integral to the global economy.
Sincerely,
Lisa Balter SaacksVP Publisher, International & Custom Media
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India’s familiar growth story started a new chapter last year. Long a destination for outsourcing and foreign
investment into its booming economy, the global aspirations of increasingly powerful Indian companies came to the fore and dominated M&A activity last year and even more so through the first eight months of 2007.
Outbound cross-border deals—Indian companies acquiring businesses overseas—more than doubled in value from $4.3 billion in 2005 to nearly $10 billion last year, but hit $30.8 billion in only the first eight months of this year, according to figures compiled by the global consultancy Grant Thornton. Inbound cross-border transactions, which at $5.1 billion eclipsed outbound deals in 2005, are also growing at a healthy clip, but now they amount to only half the outbound deal flow at nearly $15.2 billion for 2007 through August.
By contrast, domestic M&A deals are increasing in number—151 in 2005, 214 in 2006 and 223 through August this year—but declining in aggregate value, from $6.8 billion in 2005 to $4.5 billion last year to only $2.45 billion in the first eight months of 2007, as industry consolidations run their course and individual deal sizes shrink.
Sure, the cross-border numbers are skewed by a handful of mega-deals: most notably Tata Steel’s $12.2 billion acquisition of U.K. giant steel manufacturer Corus, and Hindalco’s buyout of Canadian aluminum maker Novelis Inc. for $6 billion on
the outbound side; and from U.K. inbound, Vodafone’s $10.8 billion pickup of a majority stake in Indian telecom provider Hutchisson Essar. However, cross-border M&A deals are growing in both size and number across the board. Through the first eight months of the year, seven deals topped $1 billion and at least 11 were greater than $500 million, according to Grant Thornton.
“Some of them are very large-ticket deals, but I would say it would still be the pure domestic M&A that [generates] the high numbers of deals,” says Harsh Vardhan, a Mumbai-based partner and managing director at Boston Consulting Group. “But many of them are really very small, say $10 million, $15 million, $20 million deals. And what happens
is that one or two multibillion dollar deals—or $6 billion deals—tends to skew the averages.”
Other members of this year’s growing $1 billion club—all outbound deals—include Suzlon Energy, which took a nearly 34 percent stake in German wind turbine manufacturer RE Power for $1.7 billion; Essar Steel, with its $1.58 billion acquisition of Canada’s Algoma Steel Inc.; United Spirit, which bought Scottish whisky distiller
Whyte & Mackay for $1.11 billion; and Tata Power with its $1.1 billion acquisition of 30 percent stake in PT Kaltim Prima Coal, Indonesia’s largest coal exporter.
In August alone, “India Inc.” struck an average of two M&A transactions per day. A total of 62 M&A deals valued at nearly $3.4 billion were announced in August, compared to 59 deals worth about $940 million in July.
“If you look at the M&A activity in India, 75 to 80 percent of transactions are cross-border,” notes Harish Hassan Visweswara, a partner and head of corporate advisory services in Grant Thornton’s South India office in Bangalore. “The bulk of it is outbound, but there are some good inbound deals also.”
None better, in terms of valuation, than Vodafone acquisition of a controlling interest in Hutchison Essar, one of India’s largest mobile operators with more than 22 million subscribers. At $11.1 billion, Vodafone’s purchase of 67 percent of Hutchinson Essar from Hong Kong-based shipping and real estate tycoon
Li Ka-Shing is the largest foreign investment in India to date and valued the company at nearly $19 billion, including debt. That was about twice what the initial bidders in January were willing to pay.
How Hot is Too Hot?
The deal, which some observers saw as a sign that the telecom market in India was overheating, was announced in February just a few weeks before the Aditya Birla group’s Idea Cellular—
The Growth Must Go OnThe continued economic boom shows no sign of slowdown, stoking an already red-hot market for M&A and private equity investment in India.
By Rob Garretson
“Right now it’s an overpriced market in terms of P/E multiples, in terms of stock prices, etc. You’re obviously paying a premium coming in, and if you’re paying a premium you need to be sure of what you’re getting.”
– Akil Hirani, Majmudar & Co.
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another large mobile phone service provider with more than 18 million subscribers—raised about $600 million from investors in its March IPO, which media reports pegged as oversubscribed by more than 50 times. Idea Cellular, controlled by billionaire Kumar Birla, subsequently dropped plans to merge with another Indian mobile phone company, Spice, reportedly because its valuation had grown too rich.
Telecom is just one of many sectors in India’s surging economy boasting rich valuations, including airlines, pharmaceuticals, information technology, as well as traditional “old economy” industries such as automotive components, textiles, energy, steel, cement, aluminum and other metals. Indian companies in all of them are on a collective acquisition binge in Asia but particularly in the Americas and Europe.
What’s driving the wave of overseas Indian acquisitions? A study by global consulting firm Accenture, on the imperatives driving Indian globalization, found access to new markets and the search for new products, capabilities and other assets as the driving forces behind the surge in Indian cross-border mergers and acquisitions. “India’s current success in overseas acquisitions is fueled by a new class of business leaders,” states the Accenture report. “The confidence within the Indian business community, combined with its natural entrepreneurial zeal and intuitive ease with global business models, creates a formidable force.”
“Cross border deals are driven by A) global ambitions, B) the interest by Indian companies in getting closer to customers and C) the ability to leverage the Indian valuations to get what I call a valuation kicker,” agrees Grant Thronton’s Visweswara. In addition to the surging Indian stock markets—the Bombay Stock
Exchange’s benchmark Sensex Index delivered a nearly 50 percent return last year—the strong Indian rupee, which has appreciated 15 to 20 percent this year alone, is boosting the buying power of Indian companies overseas. Plus, Indian companies are typically able to get good value for their acquisitions abroad by cutting costs at the overseas companies, using Indian labor and Indian processes, he adds.
Overblown Fears
India’s economic liberalization that began in the early 1990s and accelerated in recent years touched off fear that the world’s second most populous country would be overrun by foreign multinationals. Yet, not only have Indian companies managed to fight off foreign competitors in their burgeoning home markets, they also have taken the financial battle abroad. Overseas M&As have helped Indian companies emerge as global powerhouses, including six that have made the Fortune Global 500 list of the biggest companies in the world: Indian Oil, Reliance Industries, Bharat Petroleum, Hindustan Petroleum, Oil & Natural Gas, and the State Bank of India.
Also, more than just energy companies and big banks are prospering from India’s prolonged economic boom, which has seen India’s GDP growth average 8.5 percent for four years running, according to the International Monetary Fund, making it one of the world’s fastest growing large economies, trailing only China.
The booming economy has filled the coffers of Indian companies with cash, while the Indian government’s recent relaxation of regulations on overseas capital movements and other provisions allow easier access to debt financing from international banks, providing the leverage needed to close multibillion dollar acquisitions.
The liberalization has also spurred a
rise of private equity investments in India, which nearly doubled from $1.1 billion invested in 60 deals in 2004 to $2 billion in 124 deals in 2005, then mushroomed to $7.9 billion in 302 deals last year, according to Grant Thornton. Private equity is on pace to top last year’s totals with 200 PE deals worth $6.8 billion announced through the first six months of 2007. The average PE investment size is also growing to $34 million during first six months of 2007, compared with the $26 million average in 2006.
Average skewing deals of note included Carlyle Group’s $650 million investment in Housing Development Finance Corporation Limited (HDFC), India’s leading housing finance company; Avenue Capital’s $500 million infusion into SKIL Infrastructure, a real estate and infrastructure management firm; and D.E. Shaw’s $400 million investment, along with another $200 million from Lehman Brothers, in DLF Limited, also in the real estate and infrastructure management sector.
Family Values
Of course, all emerging markets pose challenges and risks. Extra attention to due diligence is paramount for M&A investors in India, local practitioners say, as the allure of the Indian growth story—with its middle class estimated at 400 million strong and growing—and India’s typically family-owned companies can make accurate valuations difficult.
“You get taken in by the hospitality and by the numbers that are thrown at you in terms of GDP and the buying power of the Indian population and you can loose focus on the core business,” says Akil Hirani, a managing partner with law firm Majmudar & Co. in Mumbai. “And we’ve seen that in a few deals.”
Many of the Indian companies doing M&A are family-owned businesses that have grown large over the last
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two or three decades but remain controlled by a family or a small circle of three or four individuals. “And the actual numbers may not be what they look like on the balance sheet,” Hirani notes. “Right now it’s an overpriced market in terms of P/E multiples, in terms of stock prices, etc. You’re obviously paying a premium coming in, and if you’re paying a premium you need to be sure of what you’re getting.”
By most yardsticks valuations of Indian companies are high enough to give investors pause. About half of the roughly 80 companies that went public last year—raising $5.4 billion—were trading at break-even or below their initial IPO price at the start of the year, according to Delhi-based Prime Database, which tracks Indian IPO activity.
“Indian valuations seem high based
on their historical averages,” says Matthew Peterson, a portfolio manager in charge of risk management at Newgate Capital Management LLC, in Greenwich, Conn. “But we’re very impressed with the insulation of the Indian economy and its apparent strength independent of exports to the U.S.”
“Domestic markets have been very buoyant and we have a pretty robust regulatory and supervisory structure in the domestic capital markets,” says Vardhan at Boston Consulting Group. “For all its criticism from various
corners, the SEBI [India’s equivalent of the SEC] has done a pretty good job of creating a very vibrant, well regulated and disciplined capital market in India.”
That’s not to say that more regulatory reforms aren’t needed to help keep India’s economic momentum on track. “All the easy stuff has been
done. The more difficult stuff remains,” Vardhan asserts. Further privatization of some core industries—like banking and energy, still dominated by state-owned businesses—and reform of India’s very complex and restrictive labor laws are two items on the political agenda that would help keep the current
economic expansion and globalization thrust alive, he adds. “And those are being talked about, but as you can imagine, they’re difficult changes. You need to build political consensus around them. It’s not easy.” n
“For all its criticism from various corners, the SEBI [India’s equivalent of the SEC] has done a pretty good job of creating a very vibrant, well regulated and disciplined capital market in India.”
– Harsh Vardhan, Boston Consulting Group
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By Khaled Al-Muhairy
Evolvence India is a platform promoted by Evolvence Capital, a Dubai-headquartered alternative investments firm with assets of over $1.5 billion under management. With its creative approach to investments, it has become one of the leading innovators of alternative investment products and structures targeted at India.
In June 2005, Evolvence India launched the Evolvence India Fund (EIF), a fund of funds focused on private equity, real estate development and infrastructure in India. The $250 million fund provides investors access to a well-diversified portfolio of Indian funds and companies. The Fund is also an active co-investor alongside underlying managers, offering additional co-investment opportunities to its investors.
As the sponsor of the first ever India focused fund of funds, Evolvence Capital’s CEO Khaled Al-Muhairy explains why he chose to invest in India long before private equity invaded the country.
India’s attractiveness is not merely its sizzling economy. Indian companies also have the highest return on equity in Asia. The country’s strength is its intellectual capital.
Evolvence Capital was one of the first companies to recognize the value of Indian capabilities, long before other private equity players began sniffing around the country. Harnessing Indian brainpower will fill a big projected shortfall in skilled labor in the West as baby boomers retire.
It’s not just the traditional IT and telecom sectors that are attractive in India—areas like life sciences, retail, real estate and travel have exciting growth potential. There are significant opportunities in India that cannot be ignored. With the country’s rising consumerism, impressive growth in gross domestic product and a hot stock market, private equity deals are hitting record levels. Money is pouring into companies on the growth curve, those that are about to gain access to the capital markets, and even onto those listed companies looking to expand.
According to the rising GDP growth within the last 10 years, investing in India has proven to be a successful choice. Nonetheless, even if the growth has been around 7 or 8 percent annually, what seems to be more significant is the quality of growth. Ten years ago, the agricultural sector was still the main driver of growth; nowadays 55 percent of India’s growth comes out of the service industry. With regard to the foreign exchange situation, given the fact that India possesses about $250 billion in foreign reserves, India can deal much more comfortably and limit the currency risk consequently. This was not the case 10 years ago and this is why there is room for independent Indian fund-of-funds.
Today, a significant amount of private equity money has been raised on the India story during the past two years. Global private equity firms have invested $3.8 billion in India over the first eight months of the year—50 percent more than during the same period in 2006, according to
data compiled by Dealogic. The pace of dealmaking is furious. The size of deals is growing too, from around $8 million four years ago, to an average of $25 million today.
At Evolvence Capital, we strongly believe that the area offering the most interesting prospects lies in growth capital. When you consider growing Indian exports as well as the internal growing demand, it seems that companies are not that interesting for buyouts. On the contrary, companies will continue to grow and reinforce their market position in the next three or four years to be eligible for buyouts. We should see growing deal flow in the buyout space coming in the next years. As for the venture side, we can see the emergence of little activity, but again it will take some time.
As India’s economy continues to open up, private equity investors are starting to diversify away from telecommunications and outsourcing. Healthcare, food, real estate and travel are becoming hot sectors of interest.
Investing in India
Al-Muhary, Evolvence Capital
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In fact, as a testament to our faith in the Indian private equity marketplace and in the growing life sciences industry, Evolvence Capital has started the Evolvence India Life Sciences Fund and Evolvence India Holdings plc.
The Evolvence India Life Sciences Fund (EILSF) is a private equity fund established to make equity and equity related investments in pharmaceutical and biotechnology companies based in India. Recognized as to be the only private equity fund focused solely on the life sciences sector in India, EILSF is seeking to raise $150 million with an initial closing of $50 million. The Fund invests in small to mid-sized ($50-$250 million in revenue) pharmaceutical, biotechnology, and contract research and manufacturing businesses, which are either located in India or which derive significant
competitive advantage from operations located in India.
Over time, EILSF will also attempt to build a portfolio of businesses in the life sciences sector with special capabilities (e.g., lowest cost process for active pharmaceutical ingredients manufacture, new drug delivery systems, advanced drug discovery platform, contract research and/or manufacturing).
Evolvence India Holdings plc (EIH) is an Isle of Man incorporated and AIM listed, private equity fund of funds holding company focused on India. EIH gives investors access to a diversified Indian private equity portfolio while mitigating issues usually associated with private equity investments, such as lack of liquidity and relatively large minimum investment size.
Indian companies themselves are also assuming an important role on the global private equity stage, both as consumers of the ever-increasing capital allocation for India, and as one of the most willing trade buyers of private equity assets managed by funds outside India. The whole world of corporate ownership is undergoing dramatic changes and private equity is at the centre of that change. Private equity has added value to Indian companies, both in terms of their brand equity and financial discipline. Today, a mid-market company with a private equity investor commands a premium in the stock market, at listing and afterwards.
No Asian market has embraced private equity in such an encompassing fashion, as has India. n
provides local knowledge of the globe’s most burgeoning markets while reaching dealmakers worldwide. With access to an audience of highly qualified decision makers throughout the world, the Eyes on World Markets series provides the prime opportunity to demonstrate your company’s international expertise and thought-leadership.
Focus on the new realities, dynamics and dealmakers shaping and shifting our international economy with these upcoming dedicated dialogues:
China Publish Date: December 17, 2007 Reservations Close: November 16, 2007
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Eyes on World Markets SeriesThe Deal’s
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India is on track to nearly double last year’s record pace of M&A transactions this year, and nearly half the deals
and an even higher percentage of aggregate deal value comes from cross-border transactions. We spoke with Dr. Anurag Sharma, a medical doctor turned investment banker, who heads India coverage for Chicago-based William Blair & Company’s international operation in London, about what’s fueling India Inc.’s shopping spree.
The Deal: What do you see as the key drivers of this cross-border dealmaking?
Dr. Anurag Sharma: This year has witnessed the continuing momentum of India Inc., and corporate India has emerged as one of the most aggressive and acquisitive forces in the global M&A arena. There are a number of key drivers behind this increased M&A activity, particularly in relation to cross-border transactions.
First, access to global markets is seen as a key strategic initiative for Indian companies, many of which have witnessed phenomenal growth in recent years by focusing solely on their large domestic market. Within the Indian corporate community there is a strong feeling that they need to play catch-up in the global arena, as they have been focused too long on the domestic market, where they have enjoyed protection from international competitors due to the government’s “India First” policy. Although China—India’s natural competitor—has not witnessed anywhere near the amount of cross-border activity as India (particularly from an outbound perspective), they have a history of having an international outlook through
their export-oriented economy.
Cross-border acquisitions provide Indian companies with an attractive ready-made customer base and market share in mature, competitive markets that would be difficult for them to penetrate on an organic basis. In addition, acquisitions provide Indian companies with new capabilities and service/product diversification that they can leverage both domestically and internationally.
By virtue of their strong balance sheets, bolstered by very strong growth in recent years, Indian companies currently have a wide range of funding alternatives available to them and easy access to capital to finance their acquisition war chests. Plus, corporate governance in India is very robust with strong legal and accounting frameworks in place. Other key drivers include ongoing government reforms that are making it a lot less onerous for Indian companies to make investments overseas than it was as recently as a few years ago—including the ability to borrow offshore specifically for cross-border investments and without government approval.
Finally, there is also the snowball effect as the growing number of cross-border transactions—particularly with the increasingly audacious and larger deal values this year—gives greater confidence to other Indian companies. That’s why I believe we are going to continue to see strong growth in cross-border M&A, particularly in the middle market.
The Deal: Among all cross-border deals, outbound transactions are outpacing inbound deals by about 2-to-1, while outbound deal values dwarf the inbound activity. What explains the imbalance?
Dr. Anurag Sharma: Indian companies have traditionally been focused on the domestic markets as a result of the market protection they have enjoyed through various government policies and the fact that the Indian market itself is very large and growing at very attractive rates. However, access to international markets and customers is viewed as a priority for much of corporate India for the reasons I just mentioned, and the current corporate mindset is internationally focused. Many Indian companies have strong global ambitions.
In addition, the opportunities for further consolidation of the domestic market are diminishing, and valuations in India are at a premium compared to what we see in other M&A markets. So it is often far cheaper for Indian companies to acquire abroad.
Another factor is the limited stock of acquisition candidates in India as many companies are family-owned, and the cultural tradition of passing
ownership down from one generation to the next (as opposed to a one-time exit event) remains strong.
Finally, the Indian public equity markets are very robust and liquid, and companies tend to trade at very
India Inc. Goes ShoppingIndian M&A continues to surge as big-ticket cross-border transactions lend confidence to the mid-market. By Rob Garretson
Sharma, William Blair & Co.
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attractive multiples. That makes the domestic public markets one of the main competitors to M&A, from the perspective of a private company owner seeking an exit opportunity. And completing an Indian public-to-private transaction is not for the faint-hearted.
The Deal: In August, deals were announced at a pace of more than two per day and values more than tripled, flying in the face of fears that ripple effects from the credit crunch abroad might slow down India and other emerging markets. How insolated is India from turmoil in global credit markets?
Dr. Anurag Sharma: We live in a global economy, so India is not completely insulated from the recent turmoil in the credit markets. Despite the likely slowdown in the U.S. market, the rest of the world can be the engine that pulls the global economy. And current economic data support this view. The SENSEX index continues to climb astonishingly, and Indian shares have risen more than 25 percent during 2007. These gains are likely to continue as foreign money continues to pour into India’s fast-growing economy. The U.S. subprime credit crisis should have only a minimal impact on India’s economy and should not be significant enough to overwhelm the positive economic momentum we are witnessing. India’s manufacturing exports may see a decline if the U.S. slows down, but this could be partly offset by services exports as U.S. firms feel greater pressure for cost reduction which leads to more outsourcing of services. From a cross-border M&A perspective, Indian companies could face higher costs of borrowing due to increasing credit market spreads, and firms might have to tap into the domestic credit market as an alternative, but this should have minimal impact in the middle market.
The Deal: Do you see any inhibitors to growth on the horizon?
Dr. Anurag Sha rma : T h e fundamentals behind the Indian economy remain very strong, and consistent double-digit growth year-on-year is not a far-reaching dream. The banking system has proved to be mature and robust, and, compared with its regional neighbors, India enjoys strong corporate governance and shareholder accountability. As long as domestic growth continues, companies become increasingly savvy from an M&A perspective, and the global ambitions remain strong, I do not foresee a slow down in cross-border M&A in the near term.
The Deal: M&A activity this year seems to be broadly based across a range of industries and sectors, from aviation, telecom and IT to traditional “old economy” industries such as oil and gas, steel, cement, aluminum and other metals. Where to you see the best opportunities in the near-term future?
Dr. Anurag Sharma: Outbound cross-border acquisition in the “old economies” will continue, and I believe that mega-deals will continue to be dominated by those sectors. For example, even though India is famous for the strength of its IT and BPO [business process outsourcing] sectors and companies operating within this arena have a very global outlook, we have yet to see significant cross-border acquisition activity within this space. Even the larger players have been able to grow at attractive rates on an organic basis, with very limited impact from the relatively small cross-border acquisitions they have completed to date.
I believe we are going to see significantly increased deal activity in the small to middle market as Indian companies gain more confidence on the strength of the larger, high-profile deals and as they continue to strengthen their balance sheets as a result of their ongoing growth. With the amount of private equity funding available in India, we will continue
to see the trend of Indian companies tying up with private equity backers to pursue international targets that are often much larger than they are.
I believe the sectors that will continue to see a lot of activity are healthcare—particularly pharmaceuticals and outsourced healthcare services—business and financial services, auto components, and consumer products. Within consumer products, we are likely to see an increase of brands-acquisition activity. Acquiring well-known brands in developed markets not only provides Indian companies with successful market penetration in one sweep, but also allows them to market these brands to the fast-growing and very sizeable middle class Indian consumer market, particularly as the government continues to relax import duties.
The Deal: The current wave of cross-border M&A was facilitated, in part, by financial and regulatory liberalization over the past five years, but as Indian companies continue to expand globally and transactions sizes grow, are there further reforms needed to sustain the current boom?
Dr. Anurag Sharma: The creation of a favorable political and economic environment has been essential—in conjunction with the very favorable domestic economic conditions—in opening up global acquisition opportunities for corporate India. It is certainly a lot more straightforward now for Indian companies to acquire abroad from a bureaucratic perspective. And improving financing conditions means that companies can more easily raise capital to fund these acquisitions—whether by debt or equity—either domestically or through international fund raising. Economic and regulatory reforms are ongoing, and this will continue to drive the growth in cross border M&A. n
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“The massive advantage of doing business in an essentially English-speaking country cannot be overstated,” says Anindita Chatterjee, corporate counsel with responsibility for India for MWH Global Inc. “But equally the cultural gap should never be underestimated.” Read on as we take a whirlwind tour of the practical legal issues for those doing business in India.
Setting Up
Foreign investment restrictions: Over the last fifteen years, India has gradually opened up its markets and reduced government controls on foreign trade and investment. However, some restrictions on foreign investment remain. Foreign equity investment beyond certain levels in sectors such as telecom and media requires approval from the Foreign Investment Promotion Board. Foreign equity investment in sensitive sectors such as atomic energy and gambling is prohibited. In addition, the Reserve Bank of India imposes exchange control restrictions on foreign currency transactions involving India.
Business vehicles: The most common form of business vehicle used by foreign companies is a local limited liability subsidiary or joint venture company, which can be public or private.
Local companies can carry out any activities specified in their memorandum of association, subject to the restrictions on foreign investment mentioned above and the general law. Shareholder liability is generally limited to the extent of equity participation, except where the shareholder has given a guarantee.
Registration formalities: Approval for the proposed company name must
be obtained from the Registrar of Companies and the designated forms must be filed providing specified information on the company and its officers. The process typically takes four to six weeks.
Shares: The minimum authorized paid up share capital of a company is INR100,000 (around $2,500). Shares can be issued for non-cash consideration including in exchange for assets or the transfer of technical expertise.
Companies can issue shares with differential rights, including in relation to dividends and voting. Restrictions on share rights must be set out in the company’s articles.
Management: Private companies have a single-tier board with at least two directors, one of whom must be an Indian resident. There is no restriction on foreign directors, but board meetings need to be held in person and written resolutions require various formalities.
Reporting: There are substantial ongoing reporting obligations in relation to accounts and exchange control. Companies whose securities are listed on Indian stock exchanges have additional disclosure obligations.
Other options: Foreign companies can also use liaison offices, branch offices and project offices. These tend to be less popular because the activities such offices can administer are fairly limited. Enterprises can also carry on business sole proprietorships or partnerships, but incorporation is usually preferable to limit liability.
Incentives: Central and state governments in India often provide incentives to industry that are available to all investors. These include special tax and other provisions for
undertakings in free trade or “special economic” zones. There are also incentives for companies that establish subsidiaries that only export products or services—partly explaining the massive growth of business process outsourcing in India.
Tax
Until this year, India had the dubious distinction of having the longest tax code in the world, according to research conducted in connection with the World Bank’s Doing Business project in 2006. It has since been overtaken by the U.K., but remains formidable.
Resident companies: A company is tax resident in India if it is an Indian-incorporated company or wholly controlled and managed in India. Such companies are taxed on their worldwide income, subject to any applicable double tax treaty (India has a network of around 60 such treaties), at a rate of 33.99 percent. There is also a distribution tax of 16.99 percent on dividends, though such dividends are tax free in the hands of the recipient.
Subject to any applicable double tax treaty, interest paid to foreign companies is taxable at 21.12 percent (on foreign currency debt) and 42.23 percent on (on INR debt); royalties paid to foreign companies are taxable at 10.56 percent or, if the royalty is inextricably linked to a permanent Indian establishment of the foreign company, at 42.23 percent.
In addition, customs and excise duties are payable at various rates on the importation or production of goods. Central and state sales taxes, taxes on certain services, stamp duty, luxury tax, wealth tax and, in some states, property taxes, may also be relevant.
Non-resident companies: Subject
Doing Business in India The Practical Legal Issues By Sara Catley
13I N D I A
to any applicable double tax treaty, non-resident companies are taxed on income arising from any activity or business connection in India at a rate of 42.23 percent. In addition, income from tangible property situated in India and gains on capital assets situated in India are also taxable.
Transfer pricing: India’s transfer pricing rules are broadly in line with the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations 2001. This means that income and expenses relating to cross-border transactions must be calculated on the arm’s length standard, the agreed international standard governing cross-border transactions.
Directors and Managers
Duties and liability: Directors of Indian companies are required to act with reasonable diligence and care in the best interests of the company. Directors can be liable personally for, among other things, breach of their fiduciary duties and failure to act with due skill and care.
Immigration: Employment or business visas are required for foreign employees. Foreigners who enter India on employment or business visas that allow them to stay for more than 180 days are usually also required to register with the Foreigners Regional Registration Office.
Tax residence: Expatriate employees of foreign enterprises are not subject to tax in India if various conditions are met, including that the enterprise is not engaged in trade or business in India and the employee does not stay in India for more than 90 days. Otherwise, tax residence and ordinary residence in India is determined based on the number of days in which the employee is in India over a given period of time, starting at 60 days in one year. Different rules apply to Indian citizens and persons of Indian origin.
Taxation of non-resident employees: Non-resident employees are taxed, subject to any applicable double tax treaty, on all income received, deemed received, accrued or arising in India and all income accrued or arising outside India from businesses controlled or professions set up in India.
Other Employees
“Employment law is less over-regulated that one might expect,” says Chatterjee of MWH Global. Written contracts of employment are not required although in practice those at managerial levels will typically have one. In the absence of written contracts, statutory terms and conditions of employment apply.
There are various compulsory requirements relating to blue-collar workers concerning working conditions, pensions and other sensitive matters. There are also rules that govern periods of notice and compensation for dismissed or redundant individual employees. An undertaking employing more than 50 employees cannot let go of an employee without government consent.
Employees are not entitled to management representation or consultation in relation to corporate transactions though in practice management may choose to consult unions.
Anti-Trust
Anti-trust regulation in India is currently being modernized. The Monopolies and Trade Practice Act 1969 regulates restrictive trade practices that have, or may have, the effect of preventing, distorting or restricting competition and various monopolistic trade practices.
The new Competition Act 2002 is expected to come into force by the end of 2007 and provides for the regulation of anti-competitive agreements, abuse of dominance and business combinations.
IP and Data Protection
Protection exists under Indian law for various intellectual property rights. Information that is confidential in nature and communicated in circumstances importing an obligation of confidence may be protected by contractual agreement or in equity. There is no fixed term for protection, provided the information remains confidential.
Inventions can be protected by patent registration for 20 years from the filing date. Trademark protection, also by registration, lasts indefinitely, subject to renewal every 10 years. Designs can be protected for up to 15 years by registration.
Copyright of original literary, artistic and other works, including unregistered designs, arises automatically under statute but voluntary registration can give prima facie proof of title. Protection usually lasts 60 years from the death of the author or publication, as applicable.
Anti-Corruption
“One point that a lot of multinationals overlook is that western anti-corruption laws are actually less strict than those in developing countries,” notes Chatterjee. The U.S. Foreign Corrupt Practices Act, for example, permits “grease” payments to facilitate the obtaining of routine, non-discretionary tasks. “It would be wrong to assume that, because such payments are permitted under the FCPA, they are also permitted in India. In fact, they are often illegal and punishable by imprisonment,” Chatterjee concludes. n
This article is based on a chapter written by Shardul Shroff of Amarchand & Mangaldas & Suresh A Shroff & Co. taken from Practical Law Company’s (PLC) “Doing business in...” handbook available at: www.practicallaw.com/dbihandbook
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By Rob Garretson
In August The Boston Consulting Group (BCG) released one of the largest-ever studies of global M&A, based on a detailed
analysis of more than 4,000 completed deals between 1992 and 2006. Among other things, the study forecast a slight cool down in the torrid pace of dealmaking in the wake of credit market tightening and an impending peak in private equity activity. We spoke with Harsh Vardhan, a partner and managing director in BCG’s Mumbai-based office about how these trends are playing out in India and what opportunities and the challenges are on the horizon for investors.
The Deal: Your global study projects a mild slowdown in the rate of M&A growth worldwide, but you’re still seeing acceleration in India. What are the principal drivers?
Harsh Vardhan: If you look at the last seven years, 2000 through the first half of 2007, the deal value of Indian M&A has grown at about 30 percent per year. Last year the total value was just $28 billion or so—actually by global standards still not very big. But this year just in the first half it’s already crossed $50 billion, and that’s because of a couple of big-ticket deals. It’s reflective of a few broader, underlying trends. One is that Indian companies’ aspirations are rising. So you see pretty bold, large-size overseas acquisitions taking place. Second, many businesses are truly globalizing, so it’s becoming very critical for some of these companies to have global
scale, to have global supply chains and so forth. And third, very importantly, access to capital is much easier for Indian companies. There have been a series of regulatory changes over the last four or five years, which have made access to capital internationally much, much easier than it was before. As a result, you see a lot of both domestic as well as international M&A. Private equity, for example, is playing a very active roll, even in the Indian domestic M&As. In other words, the Indian corporate scene is becoming like many advanced, developed economies in terms of the nature and extent of mergers and acquisitions.
The Deal: Indian M&A even seems to be outpacing China, an economy that’s growing even faster than India’s. Any particular reason?
Harsh Vardhan: The real reason is that India has had a longer history of private capital and private ownership, even before the early 1990s when we truly started opening up the economy, both internally and externally. In the ‘70s and ‘80s at the peak of the socialist, state-owned-enterprise-dominated economy, we had pretty vibrant private companies. And in fact, these companies also had business overseas, so I think, culturally, we were perhaps better prepared to deal with the liberalizing. As the regime started getting liberalized, people were prepared and ready to push forth with M&As, both locally and globally. I suspect China never had that. The pattern I see is that a lot of [Chinese] M&A is done by state-owned companies in the oil and commodities businesses. In India, 95 percent of all
M&A was private. In fact, there’s just one government energy company that does overseas M&A. Other than that, it’s almost 100 percent privately owned companies.
The Deal: Much of the boom in the economy as well as dealmaking is attributed to the financial and regulatory reforms of the 1990s that you mentioned, but what more needs to be done to maintain the momentum?
Harsh Vardhan: We’re still not a capital convertible country, meaning I can’t hold, legally, a dollar account. For a long time, until about 2000 or so, we would run every few years into a balance of payments crisis. We’d run out of our foreign currency reserves. But from the early 1990s there’s been a progressive liberalization of
the economy. First we started with allowing foreign institutional investors to invest in the Indian stock markets. We saw a lot of flow of portfolio investment, especially strong in the last three or four years, on the back of the buoyant market. We’ve also liberalized FDI, or foreign direct investments. As a result, our foreign exchange situation and balance of
Bucking a Global Slowdown?India should sidestep the global credit crunch and the coming peak in PE dealmaking to maintain its torrid M&A pace.
Vardhan, BCG
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payments has progressively improved. So now we have—I don’t know the latest numbers—maybe $250 billion in foreign exchange reserves. And that has led the monetary authority, the RBI [Reserve Bank of India] and the government to really actively encourage people to use this money.
However, the banking system in India—commercial banks—still can’t directly finance M&As. By banking regulation, they are basically prohibited from them. There are very limited ways they can finance them, and even if they can, many of them are unwilling to. So leveraged financing and leveraged buyouts basically don’t happen in India, because there’s nobody to provide the leverage. So the only way you can do that is create a private equity kind of leverage fund, but the banking system can not support them.
In many businesses, 100 percent foreign ownership is allowed, so a foreign company can come in and buy an Indian company, but it’s financing ability is very limited, because it can’t raise money locally. So the only way it can do that is on its own balance sheet. It can leverage itself overseas, but then, unlike in other parts of the world, you can not give that overseas [company] access to the Indian cash flow. There are complications around that. So banking, to me, is a major area where change needs to happen.
Then there are other, more institutional changes that we need. Courts play a very important role in the M&A, so all merger deals have to go through a court process. In most cases the deals go through, but sometimes you wonder why it is like that. The courts should be referees. They should not be arbitrators. But under our country’s law, it’s not a simple majority of shareholders who can approve a merger. Even after that you have to take it to a court. That’s
another reform that could perhaps take place. The legal process can be made easier.
That’s why in fact today it’s much easier, just in terms of the process, for Indian companies to do an acquisition overseas. Because you can do both, the leveraging overseas and you can also have a much easier [legal] process.
The Deal: What are the hottest sectors of the economy, in terms of M&A activity?
Harsh Vardhan: Judging from the deal size, if you look at last year, telecom was big because it was basically a couple of large overseas players coming in and buying Indian companies. Information technology and IT-enabled services is another, given India has such a strong presence and remains strong, so a lot of Indian IT companies are extremely cash rich. They are sitting on piles of money, so they have to buy companies overseas. And a lot of Indian manufacturing companies—auto components, pharma companies—are buying companies overseas. Domestic M&A is mostly driven by consolidation. We went through a wave of consolidation, for example, in cement. We had that a bit in non-ferrous metals—cooper and aluminum and others. We’ve seen a little bit of that in airlines, and we’d like to see more.
The one sector that’s not seen too much M&A—and should—is financial services. We have very fragmented banking markets. But there are huge regulatory constraints right now on free play M&A in banking. As a result, we haven’t seen much of that. But if and when those regulations change you could perhaps see heightened activity.
The Deal: Are there sectors poised to heat up on the horizon?
Harsh Vardhan: Financial services, if regulations change. And there’s
at least some current [movement in that direction]. In 2009 they’re going to open it up for M&A, so if [the government] sticks to its policy, you’ll see a very, very high level of activity, because it’s waiting to happen. Both in terms of foreign banks wanting to buy banks in India and Indian banks wanting to buy other Indian banks.
I’d expect some activity in aviation, meaning airlines. I would also see some rationalizing in the basic commodities, for example steel, along with further consolidation in cement. Pharma would, perhaps see more Indian companies buying overseas and maybe a little bit of private equity play in India focused on pharma companies. But I don’t see much of consolidation logic imminent in pharma.
The Deal: How about on the privatization front?
Harsh Vardhan: I’m happy that you raised that. Oil refining and marketing; It’s a mixed thing, which means there are private players but it’s dominantly [government owned], as it is in banking. In banking, it’s about 70 percent or so state-owned banks, but so is oil. And there was a time when there was very serious talk about government privatizing oil; in 2003 and 2004 the government came pretty close to actually doing that, but then it lost the election. Currently it’s not on the agenda, and it doesn’t look imminent. But at some point in time in the next five or 10 years it has to happen. The two major areas, banking and energy, is where privatization–and along with that M&A–is needed. But that’s purely contingent on the political climate; meaning is there the political will to do that? Because, as you can imagine, there are pretty strong lobbies on either side. n
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100%
80%
60%
40%
20%
Others485811%
Others175 deals
51.8%
IT & ITeS1,024 2.3%
IT & ITeS75 deals 22.1%
Power & Energy3,526 8%
Power & Energy8 deals 2.4%Ores & Metals
1,092 2.5% Ores & Metals6 deals 1.8%
Pharma, Hlthcre & Biotech1,088 2.5%
Pharma, Hlthcre & Biotech34 deals 10%
FMCG, Food & Bevrages1,664 3.8%
FMCG, Food & Bevrages21 deals 6.2%
Steel15 deals 4.4%
Aluminium6,000 14%
Aluminium1 deal .3%
Telecom10,94624.8%
Steel13,89731.5%
Telecom4 deals 1.2%
TOTAL $44,091.6 339 deals
Deal Value% Total
Number of Deals% of Total
100%
80%
60%
40%
20%
Others558 9.2%
Others38 deals 21%
IT & ITeS498 7.3%
Hotel & Hosp187 2.8%
Hotel & Hosp3 deals 1.5%
IT & ITeS40 deals 20%
Pharma, Hlthcre & Biotech220.6 3.2%
Pharma, Hlthcre & Biotech19 deals 9.5%
Telecom170 2.5%
Textile & Apparel125.7 1.8%
Textile & Apparel11 deals 5.5%
Media & Entertainmnt
716 10.5%
Media & Entertainmnt19 deals 9.5%
Banking & Financial
215231.6%
Banking & Financial
34 deals17%
Real Estate2,190.232.1%
Real Estate27 deals13.5%
Telecom4 deals 1.2%
TOTAL $6818.5 200 deals
Deal Value% Total
Number of Deals% of Total
The rising Rupee, an overheated stock market and global pessi-mism have yet to put a damper on India’s growth story. The Indi-an economy continues to boom in a wide range of sectors. India’s GDP growth has averaged 8.5 percent for four years running, according to the International Monetary Fund, making it one of the world’s fastest growing economies.
Dealflow by the NumbersSector Breakdown of 1st Half 2007 M&A Transactions
Steel, telecom and aluminum attracted the biggest M&A deals in the first half of 2007, while banking and real estate dominated PE investing.All amounts in $US millions
Sector Breakdown of 1st Half 2007 PE Transactions
Source: Grant Thornton India
Source: Grant Thornton India
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5000
10000
15000
20000
10000
20000
30000
40000
50000
50
100
150
200
250
300
50
100
150
200
5000
10000
15000
20000
10000
20000
30000
40000
50000
50
100
150
200
250
300
50
100
150
200
5000
10000
15000
20000
10000
20000
30000
40000
50000
50
100
150
200
250
300
50
100
150
200
5000
10000
15000
20000
10000
20000
30000
40000
50000
50
100
150
200
250
300
50
100
150
200
2006Total: 20,305
Breakdown of Domestic & Cross-Border Deals
First half 2007Total: 44,092
2006Total: 480
First half 2007Total: 339
Domestic4,991
Value of Deals
Number of Deals
Inbound5,400
Outbound9,915
TotalCross-Border15,314
Domestic1,608
Inbound14,506
Outbound27,976
TotalCross-Border42,483
Domestic214
Inbound76
Outbound190
TotalCross-Border
266
Domestic167
Inbound51
Outbound121
TotalCross-Border
172
Source: Grant Thornton India
The lion’s share of the M&A deals are cross-border, with Indian companies outspending foreign investors 2-to-1.All amounts in $US millions
The Billion-Dollar ClubSeven deals crossed the $1 billion mark in value in the first half of 2007.
Source: Grant Thornton India
Acquirer Target Sector Price Type (in bil. US$)
Tata Steel Corus Steel 12.2 Acquisition
Vodafone Hutchison Essar Telecom 10.8 Majority Stake
Hindalco Industries Novelis Inc Aluminium 6.0 Acquisition
Suzlon Energy Ltd REpower Energy 1.7 Controlling Stake
Essar Steel Algoma Steel Inc. Steel 1.6 Acquisition
United Spirits Whyte & Mackay Distillers 1.1 Acquisition
Tata Power PT Kaltim Prima Coal Energy 1.1 “Significant” Stake
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Unabated Growth
2005 8.7%
2006 9.1%
2007* 8.4%
2008* 7.8%
0
2
4
6
8
10
12
China India U.S. Euro Area Germany Japan Africa World Output
2006 2007 2008
10.7
10.0
9.59.1
8.4
7.8
3.3
2.2
2.82.6
2.3 2.32.7
1.8 1.92.2 2.3
1.9
5.6
6.3
5.85.4
4.9 4.9
2005 8.7%
2006 9.1%
2007* 8.4%
2008* 7.8%
0
2
4
6
8
10
12
China India U.S. Euro Area Germany Japan Africa World Output
2006 2007 2008
10.7
10.0
9.59.1
8.4
7.8
3.3
2.2
2.82.6
2.3 2.32.7
1.8 1.92.2 2.3
1.9
5.6
6.3
5.85.4
4.9 4.9
India’s GDP Growth Continues …
India’s Real GDP Growth (year-on-year percent change)
* Latest projections
Sources: IMF databases; and staff estimates.
… Outpacing Most Major Markets Except China
World-Wide Real GDP Growth (year-on-year percent change)
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