Author: Cherian Varghese

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Editorial

The Delisting Failure of Vedanta Ltd

Vedanta Limited is one of the leading mining companies based in India. It operates iron ore, gold, and aluminum mines in the states of Goa, Rajasthan, and Odisha. As you may have noticed, the company has been all over the news since May. They had announced plans of delisting its shares. But now, after almost 5 months, its delisting offer has failed. Let us understand what the process of delisting is, and why Vedanta Ltd may be investigated by the regulators on this matter. 

Index

  1. What is Delisting?
  2. Why did Vedanta decide to Delist?
  3. How does a company delist?
  4. What happened after the failure?

What is Delisting?

In simple terms, delisting refers to the permanent removal of a company’s shares from the stock exchange platform. When a company goes public, its shares get listed on the stock exchanges. Retail investors like you and I are able to buy or sell these shares. At some point in time, the company may decide to become private again. Generally, this decision is made when the company has plans to expand and restructure, or if the promoters want to raise their stake in the company. This is one type of delisting which can be categorized as voluntary delisting. Thus, they will have to delist its shares from the stock exchanges. The company’s shares will no longer be traded in the NSE or the BSE. 

The second type of delisting is involuntary delisting (or compulsory delisting). This happens when a company does not follow the rules set by the regulatory authorities such as SEBI. For example, when a company does not pay the annual listing fees to the stock exchanges, it can get delisted as a form of punishment. Involuntary delisting can also happen if a company is completely unable to pay its outstanding debts, ie, when it goes bankrupt.

In this particular case of Vedanta Ltd, the company has decided (by itself) to delist its shares from being traded in the stock exchanges.

Why did Vedanta decide to Delist?

Now, you may wonder why a company listed on the stock exchanges decides to just remove its shares from being traded. In the case of Vedanta Ltd, the share price had been around Rs 130-140 per share at the beginning of the year. In May 2020, the promoter group of Vedanta Ltd held 50.14% in the firm. Around the same time, stock prices had been trading at very low levels, as the Covid-19 pandemic had affected their production activities. The promoters decided that it was time to buy out the rest of the company. They have stated that “corporate simplification” is the main motive for delisting. Corporate simplification means that the company is planning to change its overall structure into a more efficient and organized system, which would help them to reduce costs. Experts say that this move would bring improvements to the operational and financial flexibility for this capital-intensive business. The mining industry always requires large amounts of investment to produce goods and needs a high level of plant and machinery.

It has also been reported that its parent company, Vedanta Resources, has a high debt of $ 6.7 billion (~Rs 49,186 crore), out of which $1.4 (~ Rs 10,277 crore) billion is due to be paid in the current financial year.

How does a company delist?

  1. Firstly, a Board Meeting of the promoters and directors of the company would be held, to decide whether to delist its shares or not. 
  2. If they agree to go ahead, the company informs the stock exchanges about their decision. Then, the floor price is calculated. The floor price is the minimum price at which the promoters are willing to buy shares from the public shareholders. 
  3. Once the floor price has been set, they seek approval from the shareholders. This is a very important step, as a special resolution has to be passed by the shareholders.
  4. The Board of Directors then appoints a merchant banker, who is in charge of seeking approval from the stock exchange.
  5. The promoters advertise the offer, and sends a letter detailing the floor price to all the public shareholders.
  6. If there is a majority approval by the shareholders, the Reverse Book-Building (RBB) process will be initiated. In this process, the shareholders of the company quote a price (or make bids) at which they are willing to sell their shares. Shareholders will be able to do this through an online bidding system on the stock exchanges, which will be open for a total of 5 days. A final price (also known as the discovered price) is announced on the last day of the reverse book building after all the bids have been taken into consideration.
  7. Delisting will be successful, only if the promoters buy out these shares from the shareholders, and reaches a 90% ownership in the company. Thus, the company can become private again.
  8. The company will make a final payment to the shareholders.

In normal circumstances, if the shareholders and the Board of Directors agreed on the discovered price, the delisting process would take a minimum of 8-10 weeks (from the date of announcement of shareholder approval).

On the 18th of May, the Board of Directors of Vedanta Ltd held a meeting to decide whether Vedanta Ltd should be delisted or not. They had proposed a floor price of Rs 87.25 per share. This was a 9.9% premium over the closing market price of Rs 79.6, as of 11th May 2020. This was not the final offer price for the delisting. The final offer price is determined by the merchant banker, who was appointed to carry out the Reverse book building process. In June, 93% of all shareholders and 84.3% of public shareholders had given their approval to delist the shares of Vedanta Ltd. The RBB process began on October 5th and concluded on October 9th. 

Life Insurance Corporation of India (LIC), which held 6.37% in Vedanta, offered to sell all its shares at Rs 320 per share, which was a 267% premium over the floor price of Rs 87.5. What this meant was that, if the delisting was successful, promoters would have to delist the shares at Rs 320 per share. This development was obviously not good for the promoters, as they would have to purchase the shares at such a large amount of money. As reported by major publications, shareholders could bid at an average price of anywhere between Rs 140-300 per share.

What happened after the failure?

On 10th October, Vedanta Ltd became the third company in the past two years to have an unsuccessful delisting, after INEOS Styrolution and Linde India. In a regulatory filing to the Bombay Stock Exchange (BSE), the company stated the following: Out of the 134.1 crore shares that were required to successfully delist, only 125.47 crore bids were confirmed. This means that 12.31 crore shares were not confirmed. As 90% ownership had not been secured by the promoters, the delisting offer had failed. After this announcement broke out, shares of Vedanta saw a fall of 20.43% to Rs 96.95 on 12th October.

Now, the company has to release all the shares that had been tendered (offered) by the shareholders within 10 days, and promoters cannot acquire any of these shares. However, the promoters can make a counter-offer within two working days. A counter-offer is a fresh offer that is usually made when the discovered price is not accepted. As per SEBI delisting rules, the counter offer price cannot be less than the book value of the company. It should be noted that the management has not made any announcements of a counter offer within 2 days of the delisting failure.

The main reason for the failure of the delisting process of Vedanta Ltd is not clear. Reports have stated that a technical glitch in the bidding process could have caused a wrong result. On October 9th, the bidding process was supposed to close at the end of market hours, but the shareholders were facing certain technical problems. The Bombay Stock Exchange allowed the bidding to continue till 7 PM. At a given point, it had been reported that the 90% level had crossed. However, at around 7:35 PM, the BSE website showed that only 125.47 crore shares were confirmed. Other experts have questioned the fact as to why 12.31 crore shares were not confirmed, even though the shareholders had put in a bid for it. 

The non-confirmation of such a large number of bids makes us wonder what went wrong, and at which point everything went wrong. Did the shareholders not want the company to delist? Also, even if 90% of the shares were bid, wouldn’t the final discovered price be very high compared to the promoter’s floor price? Market regulator SEBI may initiate a probe into the matter, and let us wait and watch what the management decides to do next.

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Editorial

TCS: Tata Group’s Cash Cow

TCS has become one of the top IT companies in the world. Even though we have heard of the company, most of us are not really aware of the services that they provide, or the scale at which they operate. It is important to know certain relevant details and facts of a company, before investing in it. Here are some things you need to know about TCS:

Company Profile

Tata Consultancy Services (TCS) was established in 1968 as a division of Tata Sons Limited. It is a management and technology consultant, which means that they provide services to other firms (or even government agencies), and help them transform the way technology is used. The services include application development, business processing outsourcing (BPO), payment processing, and much more. These could be used to improve business processes or reduce costs. One of the first contracts that TCS received was the development of a punch card system for TISCO (now Tata Steel). In 1989, they started expansion of their services internationally. During that period, they developed a depository and trading system called SECOM for SIS SegaInterSettle, a Swiss Company. They also created System X for the Canadian Depository System. These systems are what make trading in stock markets very easy and efficient.

With experience from these international contracts, TCS, in 1992 built the core trading platform for our very own National Stock Exchange (NSE). The company is responsible for completely changing the system by which capital markets worked in India. 

The rapid growth of the company was only possible through the leadership of its first CEO, F.C. Kohli. Often referred to as the Father of the Indian Software Industry, his vision for the company was very well-defined. He encouraged research and development initiatives, and laid the foundations for progressive changes in the industry. N. Chandrasekaran, who is currently the Chairman of the Board of Tata Sons, had a 30-year business career with TCS. Under his leadership, the company became India’s largest private-sector employer and the country’s most valuable company.

TCS became a publicly listed company on 25th August 2004. The company had the largest private-sector Initial Public Offering (IPO) in the Indian market during that time. It was priced at Rs 850 per share, and was oversubscribed 7.7 times. This means that the company had received more applications to purchase their shares, as compared to the number of shares that they had issued. 

Fast forward to 2013, TCS was at the 10th position in a league of top global IT service companies. The company had excelled in providing its expert services to banks, retail businesses, media companies, and much more. A great example of this could be the company’s collaboration with the Government, to set up 88 Passport Seva Kendras in 63 cities. In 2014, it became the first company in India to reach a market capitalization of Rs 5 lakh crore. Market capitalization is calculated by multiplying the total number of shares with the present share price. As of 8th October 2020, TCS has surpassed its rival company, Accenture, to become the most valuable IT company in the world, at Rs 10.6 trillion.

It is important that we understand another important feature of the company. TCS is known for how well it takes care of its employees. Their employee training and development programmes have been recognized as one of the best in the world. On 7th October, TCS announced a salary hike for all employees (it has over 4.54 lakh employees), effective from October 1. It has hired more than 16,000 in July-September, during a time when the world is seeing a huge increase in unemployment rates. 

Financial Performance

TCS contributes about 75% to the total profit of the Tata Group of companies. The Group always relies on TCS to provide support towards its loss-making firms such as Tata Motors and Tata Steel.

Over the last 10 years, its stock price has seen a Compounded Annual Growth Rate (CAGR) of 20%. It is also a virtually debt-free company. It has about 72.04% promoter shareholding, as of September 2020. Over the last 5 years, revenue has grown at a yearly rate of 10.43%, whereas the IT industry average was at 9.83%.

TCS’s Return on Capital Employed (ROCE) is the highest amongst its competitors in the IT sector, at 47.8%. This means that for every Rs 100 worth of capital employed, TCS earns Rs 48 on it. The company has been maintaining a healthy dividend payout of 52.46%, which means that the company is giving out 52.46% of its profit as dividends to investors. They have shown consistent dividend payouts in the last 10 years.

As per its Q2 Results that have just come out, the revenue of the company saw a 4.73% growth from Rs 38,322 crore in the last quarter, to Rs 40,135 crore. This is a very huge result, as TCS has become the most profitable company in India, even more than Reliance.

The net profit has dropped 7.05% to Rs 7,475 crore year-on-year in the September quarter. The net profit was at Rs 8,042 crore during the same period last year. Profit has been impacted, as the company had set aside an amount of Rs 1,218 crore to pay for a lawsuit filed against them by Epic Systems in the US. Also, due to the Covid-19 pandemic, operating costs of almost all IT companies went up as the shift to work-from-home trend happened.

As these results came out on 7th October, TCS shares had a gain of 5.2% to hit an all-time high of Rs 2,877/share. 

According to the company, the recovery of Q1 results (problems faced due to Covid-19) was expected to happen in Q3, but it has already happened in Q2. This shows that the company has been able to address the core issues of global recession and increasing unemployment.

Infosys vs TCS

When we speak about the IT sector in India, we immediately think of Infosys and N.R. Narayana Murthy, its former CEO and Chairman. However, the question that arises here is- why doesn’t TCS come to our mind first?

Infosys Ltd. and TCS have together made India into an IT superpower. Since the IT sector exports its services, a lot of foreign currency flows into our country. Most of the revenue generated by both companies come from the USA and Europe. Even though we see that TCS is the biggest IT company in India, Infosys comes at a close second. In fact, a lot of reports had come up stating that the valuation of Infosys would soon catch up with that of TCS’.

During the last financial year, Infosys posted a better growth result as compared to TCS. However, whistleblower complaints against the executives of Infosys allowed TCS to widen the gap again. The business model, size, and higher margins of TCS has led to the company having better share prices.

Share Buyback announcement

On 7th October, TCS announced a share buyback of 5.33 lakh crore equity shares for an amount of Rs 16,000 crore. This is about 1.42% of the total paid-up capital. The price has been fixed at Rs 3,000 per share. The dividend at Rs 12/share will be payable on 3rd November. The company has stated that this announcement is in line with its long term goals. This will be the third buyback in TCS’s history.

Normally, when a company announces share buyback, it indicates that shares of the company are undervalued, or the company wants to distribute its cash to shareholders in a tax-efficient way. As we now know, undervaluation is not an issue at all for TCS. Some reports have come up, saying that this buyback could be aimed at pumping money back to its parent company, Tata Sons. The reports also state that promoters of Tata are in need of funds, as they want to invest more money into Tata Motors, and buy out SP Group’s stake in Tata Sons. You can read more about why the SP group wanted to sell off their stake in Tata Sons here.

As the flag-bearer of Tata Group, it is clear that Tata Consultancy Services have time and again exceeded their targets, and are continuing their path as a global leader in the IT industry. It is definitely interesting to understand how this Indian company has made a huge impact in all corners of the world.

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Editorial

The GST Compensation Cess Issue – All you need to know.

On 5th October, all eyes were focused on the 42nd Goods and Services Tax (GST) Council meeting. An important decision had to be made with respect to the ‘compensation cess issue’. There always seems to be a lot of complicated terms and facts surrounding this topic. Let us understand with clarity, how this issue came about. When it comes to a matter of such great importance, why are the Central government and states facing difficulties in reaching an agreement?

What is the GST Compensation Cess?

Taxes collected by the Government can be divided into Direct Taxes and Indirect Taxes. The Goods and Services Tax (GST), which was introduced in India on 1st July 2017, has replaced the indirect tax structure for the entire country. It is based on the slogan ‘One Nation, One Tax, One Market’. One of the advantages of GST is that it integrates different taxes like Central Excise, Service Tax, Sales Tax, Luxury Tax etc. into one consolidated tax. It prevents multiple taxes being imposed on goods and services.

GST is further divided into three parts- Central GST, State GST, and Integrated GST. These are taxes that can be passed on to another entity or individual. For example, when a particular product is manufactured in Tamil Nadu but is consumed in Kerala, then the revenue from GST collection is given to Kerala (the state where the product was consumed). Due to this feature of GST, certain manufacturing states of India believed that they would suffer from losses in revenue. Thus, the GST Compensation Cess was launched by the Central Government to compensate for any revenue loss that would come up in these manufacturing states. Cess is nothing but a tax imposed on a tax amount. You may have seen GST Cess in the bills you get from the your petrol pump. Anyway, when this relief for states was introduced, the GST Bill stated that the cess would be imposed for a period of 5 years, ie, till 1st July 2022.

It might be interesting to know that GST Compensation Cess is applicable to certain specified products such as Pan Masala, Cigars, Tobacco, Cigarettes, Petrol, LPG, Motor Cars and Vehicles. These products can be categorized as luxury, sin, and demerit goods. So products which the governments think you should not use or use less or ones which are used only by the rich are included in these lists.

How is GST Compensation Cess amount calculated?

While calculating the amount for GST Compensation Cess, the growth rate of a state is assumed to be at 14% per year. Based on this information, a state’s projected revenue that they could have earned in absence of GST, is calculated. The total compensation cess payable to a state will be the difference between the projected revenue (for the financial year) and actual revenue collected by the state.

States vs the Centre

Now that we have an idea about GST and GST Compensation cess, let us know why there has been a ‘GST compensation row’ and why states are not happy with certain decisions.

As we all know, revenues of state governments have dried up due to the ongoing Covid-19 pandemic. The states have high expenses, and GST collections have gone down. As a relief measure, the Central Government assured that all states would be compensated, and that they will not face a shortage of tax money. The amount calculated as the total of GST revenue shortage and revenue shortage due to Covid-19 (these are separate estimates calculated by the Centre) was Rs 2.35 lakh crore. With this new estimate, the Centre established two options during the previous GST Council meeting, which was held on 27th August:

  1. In consultation with the Reserve Bank of India (RBI), the Centre would give states a special window to borrow Rs 97,000 crore, that could be paid back after 5 years. This amount was calculated as the GST revenue shortage.
  2. States could directly borrow Rs 2.35 lakh crore from the market, but this would come at a higher cost.

Things have been tense since this announcement took place. A majority of the states have already opted for the first option. However, ten states and union territories, which include Kerala, West Bengal, Delhi, Tamil Nadu, Punjab, and Chattisgarh have completely refused to accept both options and started protests. In both the cases, the states are responsible of borrowing and paying back this allocated ‘funds’. What these states have demanded is that the Centre should borrow the required funds, not the states, and that it should be allocated to them. 

What happened at the 42nd GST Council meeting?

After the 42nd GST Council Meeting on 5th October, the Centre and States governments have not yet reached an agreement on the compensation borrowing options. However, major new updates were given by Finance Minister Smt. Nirmala Sitharaman:

  • The borrowing limit has been increased to Rs 1.1 lakh crore, instead of the first option that was mentioned earlier. This would be the new amount for the GST revenue shortage.
  • The Centre would release a compensation of Rs 20,000 crore to all the States, which would help cover the revenue loss during 2020-2021.
  • Another amount of Rs 25,000 crore will be released for Integrated GST (or IGST). IGST is charged when there is movement of goods from one state to another.
  • The GST Compensation Cess would be applicable even after the specified 5 year period, ie, it would go beyond June 2022 to meet the revenue gap.
  • From 1st January, small businesesses whose annual turnover is less than Rs 5 crore will not have to file monthly tax returns, need to file it only quarterly. And payment of taxes can be made using a challan. This would give relief to a lot of small taxpayers

Since the beginning of this financial year, no compensation cess has been given to the states. An important factor we must understand is that states are now at the forefront of fighting Covid-19, and they need much more resources than the Centre. Finance Ministers of states have already asked the Government to reverse its decision of making the states borrow. But the Centre has suggested that they are not willing to change the options. The next GST Council meeting is scheduled for 12th October. 

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Look Before You Leap – The Case of GMM Pfaudler

As investors, we need to go through market news on a daily basis, as it would help us make important decisions. During the past few weeks, you might have read or heard about GMM Pfaudler. The company comes under India’s heavy engineering sector and is now under the scanner of regulatory authorities due to serious allegations of insider trading. Let us dive into the details of how the multibagger stock came into the spotlight, and how its latest offer for sale is too good to be true.

Company Profile

Firstly, we shall look into a brief history of the company, and how it has evolved over the years. GMM Pfaudler was established as a joint venture of Gujarat Machinery Manufacturers (GMM) and Pfaudler Inc. (an American multinational company that invented glass-coated steel). Ever since the technical collaboration began in 1987, the company has been a leading supplier of essential glass-lined and non-glass lined equipment for the pharmaceutical and chemical industries around the globe.

In 1999, US-based Pfaudler increased its stake in GMM to 51%, and it was at that point when the company was renamed GMM Pfaudler. Since the demand for their products is always high, the company has been showing great potential ever since its inception in the Indian market. It is notable that in 2015, Deutsche Beteiligungs AG (DBAG), a German equity company, acquired Pfaudler Inc.

Over the past few months, the company’s stock was rising sharply and had outperformed the Nifty 500 index. Its earnings grew by 27.7% over the past year. There has been a 6-time increase in share price since March 2018 to a high of approximately Rs 6,900 per share in August 2020.

GMM Pfaudler manufacturing plant in Gujarat. (Picture sourced from the company website)

Recent Developments

The company’s low-float stock (these are stocks with a low number of shares and more institutional ownership) has shown a decline of 35.97% since August 2020 on the NSE. This specific period in time becomes very important, as the company makes a major announcement. GMM Pfaudler would buy a 54% majority stake in its parent company, the Pfaudler Group, for $27.43 million (~Rs 202 crore). This stake would be acquired directly, and through its subsidiary called Mavag AG, while 26% would go to Indian promoter Patel Family, and the rest 20% would remain with the German company DBAG. It is interesting that GMM Pfaudler is buying stake in the international Pfaudler group. To fund this acquisition, GMM Pfaudler and its subsidiary will use its own reserve of earnings up to Rs 75 crores ($10 million) and also take on a debt of Rs 130 crore ($17.4 million). The question that comes to mind is, was this a necessary transaction?

In September, another major development that took place was their new issue of an offer for sale (OFS). An OFS refers to a method by which the promoters of a company sell a part of their existing shares and get an exit.

It was on 22nd September that GMM Pfaudler announced an offer for sale at a floor price of Rs 3,500 per share. This was a 33% discount from the previous closing of Rs 5,241. What this means is a sale of a 17.6% total stake of the promoters at a very high discounted rate. This could actually be a strategy to bring in high-quality, long-term investors into the company.

Things have been quite chaotic since then. What happened just before this announcement is what potential investors are worried about. A lot of positions were taken in the Stock Lending and Borrowing Mechanism (SLB) in NSE. In simple terms, SLB is a method by which traders can borrow shares that they do not already own, or can lend stocks that they own. So, a lot of shares were borrowed using SLB, and shorted (sold) during the OFS. It is quite strange when we check the SLB data, as it shows that a lot of activity has taken place from 11 August to 25 September- a total of 87,283 shares were borrowed. Also, the management did not produce a caution statement when stock prices went through the roof with abnormally high valuations, as this would have helped new investors to think about investing at high prices. Promoters of GMM Pfaudler had been selling shares below Rs 3,845, which might imply that lower prices are reasonable for them. This is what led to the allegations of insider trading, as the ‘insiders’ did not buy shares themselves, and rather, were trying to sell them off.

In the days that followed, stocks of GMM Pfaudler started declining by a maximum daily limit of 10% to Rs 4,717. The lowest price touched by the stock during this period was at Rs 3,432 on 29 September, which was even below the OFS price. On that day, Plutus Wealth Management, a UK-based financial advisor, bought 1,65,000 shares of GMM Pfaudler at Rs. 3,528.75 per share from the open market. On the same day, stock prices were locked in a 5% upper circuit at Rs. 3,821. For further clarity, an upper circuit refers to the price of a stock that cannot be traded beyond a specified limit on a particular day. After this update of acquisition of shares by Plutus Wealth, what we saw the next day was a further 5% rise in share prices of GMM Pfaudler, to Rs 4,012.

The Managing Director, Tarak Patel has addressed these allegations, stating that the company would help or assist any regulator who would investigate the serious claims. It is noteworthy that GMM Pfaudler’s insiders (or promoters) DBAG, would own roughly 32% stake and the Patel family would have 22% even after the offer for sale. The MD also stated that the promoters would remain with the company for a minimum of 3 years, and are not presently cashing out their stake. SEBI or other regulatory bodies would investigate the matter, and check for any irregularities in the company’s records.

An important takeaway of this whole situation as explained by experts is the fact that investors need to be very careful, and be aware of the risks involved when investing in a company whose valuations are very high. And when huge discounts are given for an Offer for Sale (OFS), it means that even the promoters don’t believe in the current valuation of the company. The stock currently trades below Rs 3,800 (as of 6 October).