India economic update
Milind S. KothariManaging Partner
M & A tracker
Rajesh ThakkarPartner & Leader/ Transaction Tax
Samir ShethPartner and Head
Deal Advisory Services
With a month to go before the year 2020 draws to a close, the world seems to be in a tearing hurry to bid farewell to a time that caused an upheaval of epic proportions to everyone, everywhere. Like the different seasons of the year, the mood swings have been many; a fearful summer, followed by a despondent monsoon, and finally the festive season, that brought some cheer with the welcome news that a vaccine may soon alleviate the misery of self-imposed isolation.
On the fiscal front, in India, the second quarter (July-September) GDP numbers released in the last week of November reported a contraction of 7.5% of GDP compared to the previous quarter's dismal 23.90%. With two successive quarters of negative growth, the economy has officially descended into a recession. What is redeeming though, is that four sectors - agriculture, manufacturing, electricity, and construction fared better, providing a reason for cautious optimism. Overall, the results were much better than expected, compelling most experts to revise the GDP estimates upward for the year ending March 2021. The manufacturing activity has shown a strong rebound in October that mirrored in the Goods and Services tax collection that inched past USD 13.30 billion - a benchmark, in itself! Further, the increased foreign exchange inflow, pumped by robust foreign direct investment, has provided India a comfort cushion with exchange reserves at an all-time high of USD 573 billion.
Earlier in the month (delivering on an overdue expectation), the Finance Minister, Ms. Nirmala Sitharaman, announced stimulus 3.0 of nearly USD 35 billion. Notable is a USD 19.50 billion allocation to a Production-Linked Incentive (PLI) scheme covering ten sectors. The core purpose of the rollout of a PLI is to allow domestic manufacturing to be both competitive and efficient. The manufacturing sector needs to achieve economies of scale and establish India as a part of the global supply chain, which in turn would attract investment in core manufacturing and cutting-edge technology. This incentive's significant outlay for automobile and auto components is USD 7.6 billion, and an allocation of USD 2.40 billion for battery manufacturing, which is expected to boost electric vehicle manufacturing. Under the scheme, a cash subsidy will be provided to companies as a percentage of incremental sales from the base year, and the quantum would be dependent on the difficulties faced by the sector. However, the stimulant is only expected to have a marginal effect on the economy.
Shifting focus to healthcare; as the first vaccines become available, the inevitable attention will turn to the daunting task of distribution and administration across one of the largest populations on the planet. The pandemic has woefully exposed the inadequate spending on health care in India - less than 1% of the GDP, whereas the developed countries spend upward of 10% of the GDP. Also, if one were to measure in finite terms, the spending per capita is a fraction of the comparable spend by other nations. The case for re-prioritising public outlay on health care will soon be a compelling case for the central and the state governments in India.
In early November, nearly 15 Asia-pacific countries signed the Regional Comprehensive Economic Partnership (RCEP) which is the largest free trade agreement, covering almost 30% of the world's GDP. In a significant development, India opted out, as negotiations failed to address its core concern that it would be coerced into a flood of imports from China (with which it has a massive trade deficit). Such an agreement would work directly against the agenda of Atmanirbhar (self-reliance). Many sectors had expressed serious apprehensions on RCEP, citing that the dominance of cheap foreign goods would dampen their businesses. So not being part of the agreement would strengthen domestic industries.
On a positive note, this year has seen the introduction of three path-breaking reforms. The long-overdue labour law reforms were introduced in August, followed by three new statutes to channel the marketing of agricultural produce, streamline the role of contract farming and unshackle controls on transportation, storage, prices, and distribution. The collective impact of these reforms could be transformative for the agricultural sector. Although not in the limelight, equally significant is the reform in the education sector with the launch of the National Education Policy 2020. The Government has also introduced a new legislation under which the National Medical Commission will finally replace the ineffective, Medical Council of India. The Government has also passed similar laws governing education in Indian medicine systems and laid down new regulatory architecture in medical education.
In the twilight of this momentous year, one wishes that India will soon economically recover and realise its dream of a heady GDP growth of 8-9% as it steps into the new year with hope, courage and renewed vigour.
M&A in India
Between October 2020 to November 2020, around 114 M&A deals were announced of which 65 M&A deals were completed. The aggregate value of deals announced is USD 3,886.27 million; dominated by domestic deals (76) followed by cross border deals (38)
In terms of sectors (considering only closed deals), the Materials sector saw the maximum deal value, with deals worth USD 494.95 million followed by the Information Technology sector with deals worth USD 187.3 million and the Industrials sector with deals worth USD 138.22 million.
Significant Deals completed between October 2020 to November 2020
Target Company: Huntsman Advanced Materials Solutions Private Limited
Acquiring Company: Pidilite Industries Limited
Deal Value (in Mn USD): 284.05
- Pidilite Industries Limited acquired Huntsman Advanced Materials Solutions Private Limited from Huntsman Corp. for USD 284.05 million (INR 21 billion)
- The consideration amount excludes customary working capital and other adjustments and was subject to certain preconditions being met prior to the closing of the transaction
- As a part of the transaction, Pidilite has paid 90% of the consideration on deal closure and the balance as an earnout payment within 18 months
- In addition to the Indian subcontinent business, the acquisition includes a trademark licence for the Middle East, Africa and ASEAN countries
- With this acquisition, Araldite – an adhesive brand of Huntsman Corp. would add to the portfolio of Pidilite's adhesive and sealant brands and will complement its retail portfolio. It would also create significant shareholder value through strong revenue and cost synergies
- Post transaction, Huntsman Advanced Materials Solutions Private Limited would operate as a subsidiary of Pidilite Industries Limited
Target Company: Asian Colour Coated Ispat Limited
Acquiring Company: JSW Steel Coated Products Limited
Deal Value (in Mn USD): 210.90 Sector: Materials
- JSW Steel Coated Products Limited acquired Asian Colour Coated Ispat Limited for USD 210.90 million (INR 15.50 billion)
- On 19 October 2020, the Delhi Bench of National Company Law Tribunal approved the resolution plan submitted by JSW Steel for the acquisition of Asian Colour Coated Ispat Limited
- As a part of the transaction, JSW Steel Coated Products Limited has infused USD 210.90 million (INR 15.50 billion) into its wholly owned subsidiary Hasaud Steel Limited through a mix of equity/quasi-equity/debt instruments as per the Resolution Plan. Hasaud Steel Limited has paid ~ USD 200.97 million (INR 14.77 billion) to certain financial creditors of Asian Colour Coated Ispat Limited, towards the assignment of their loans, and has infused ~ USD 9.94 million (INR 730.60 million) into Asian Colour Coated Ispat Limited in the form of a loan, for onward payments to operational creditors, workmen/employees, and other financial creditors of Asian Colour Coated Ispat Limited, in full discharge of JSW Steel Coated Products Limited's obligations under the Resolution Plan
- Hasaud Steel Limited has been issued equity shares of Asian Colour Coated Ispat Limited by way of conversion of the above-mentioned loan of ~USD 9.94 million (INR 730.60 million ) infused by it, as per the provisions of the Resolution Plan. Simultaneously, as provided in the Resolution Plan, the existing issued equity share capital of Asian Colour Coated Ispat Limited comprising of 880,776,270 equity shares of face value INR 10 each held by the existing shareholders are cancelled and extinguished without any payment to the shareholders
- With this acquisition, JSW Group has now acquired three stressed assets through bankruptcy court
- Post transaction, Asian Colour Coated Ispat Limited operates as a wholly owned subsidiary (through Hasaud Steel Limited) of JSW Steel Coated Products Limited
Target Company: Chettinad Group, Port Business
Acquiring Company: JSW Infrastructure Limited
Deal Value (in Mn USD): 136.26
- JSW Infrastructure Limited acquired the port business of Chettinad Group for USD 136.26 million (INR 10 billion)
- The acquisition allows JSW Infrastructure, the ownership and operational control of a deep draft international coal terminal and a bulk terminal at Kamarajar Port as well as coal and bulk commodity terminal at New Mangalore Port Trust (‘NMPT’)
- The newly acquired terminals are strategic assets for JSW Infrastructure as their addition enables it to service a higher volume of third-party customer cargo. JSW Infrastructure would modernize these port assets which have a combined cargo handling capacity of 17 million tonnes per annum
- The acquisition of these port assets consolidates JSW Group's strategic presence across south, east and west coasts. It allows JSW Infrastructure, greater access to the hinterland trading hubs with promising growth potential
Significant deals announced between October 2020 to November 2020 but are not completed
Target Company: Vrindavan Tech Village Private Limited
Acquiring Company: Embassy Office Parks REIT
Deal Value (in Mn USD): 1,310.82
- Embassy Office Parks REIT (‘Embassy REIT’) is acquiring Vrindavan Tech Village Private Limited from Embassy Group and Blackstone for USD 1.31 billion (INR 97.82 billion)
- The acquisition comprises 6.1 million square feet of completed area, 3.1 million square feet of under-construction area, and two proposed 518-keys Hilton Hotels
- Embassy REIT proposes to fund the acquisition by issuing equity of around ~ USD 803.52 million (INR 60 billion) through a combination of institutional placement of about ~ USD 495.5 million (INR 37 billion) and a preferential issue of units to third-party selling shareholders of around ~ USD 308.01 million (INR 23 billion). Embassy REIT also plans to refinance existing Embassy Tech Village debt facilities of up to ~ USD 482.11 million (INR 36 billion) through a combination of equity and issuance of new coupon-bearing debt
- The acquisition will increase Embassy REIT’s commercial office portfolio by 28% to 42.4 million square feet. It further deepens Embassy REIT's presence in Bangalore and significantly enhances its scale and ability to deliver embedded growth
- The acquisition is subject to unitholders’ and regulatory approvals
Target Company: Natrol LLC
Acquiring Company:Jarrow Formulas Inc
Deal Value (in Mn USD): 550
Sector: Health Care
- Jarrow Formulas Inc. is based in Los Angeles, California, USA and is a formulator and supplier of superior nutritional supplement. It has entered into a definitive agreement to acquire Natrol LLC from Aurobindo Pharma USA Inc. for USD 550 million (INR 40.50 billion) in an all-cash deal
- As a part of the transaction, Natrol LLC will be combined with Jarrow Formulas Inc.
- The transaction is subject to customary closing conditions and regulatory approvals and is expected to close by January 2021
- Post transaction, Natrol LLC will be merged into Jarrow Formulas Inc.
Deal makers may have to let their old template go as Covid-19 changes the transaction playbook
The emerging themes in the post-pandemic play are disruptive tech models, sector consolidations, attractive valuations, liquidity pressures, PE investors reassessing their portfolio, growing distress etc.
The deal landscape in India is characterised by ‘Quality’ stocks in select sectors and in many cases rich valuations. We see improvement in the deals pipeline (and market valuations in listed space) driven by multiple factors : (1) Continued economic recovery assuming no resurgence in COVID-19 cases in India, (2) Soon to be expected COVID-19 vaccines, (3) Low domestic and global bond yields and (4) Possible earnings upgrades.
India has seen moderation in COVID-19 cases (except for the recent surge in the capital state-Delhi) with a sharp decline in the number of daily new confirmed cases and a steady recovery rate: ~93%). Most economic indicators are showing a rebound: (1) Recent PMI indicators above 50 for both manufacturing and services, (2) Improvement in GST collections, (3) Reducing unemployment and (4) Sustained momentum in digital transactions. However, some other indicators (like petrol consumption, mobility index etc.) remain below pre-COVID levels.
In the core BFSI sector, headline asset quality figures continued to improve in Q2FY21 as NPL (non-performing loan) additions were low due to asset classification (moratorium till August 2020 followed by a Supreme Court order in September). While collections and recoveries have restarted, the pace is yet to reach pre-COVID levels pushing NPL reductions forward. Most lenders indicated collections in recent months have been better than expected. The large corporate and retail book are witnessing negligible restructuring proposals currently. Nonetheless, the sharp change in outlook is a bit surprising considering normalcy is just returning. The uncertainty around the extent of restructuring, slippages in the medium term and expected provisions for bad loans will remain a deterrent to growth and lending. The loan repayment moratorium has temporarily masked the actual damage that restrictions can cause to the economy.
While it has only been 2 months since the RBI issued the one-time debt recast guidelines, the response has been very muted. There is a possibility of banks & NBFCs viewing additional funding where possible, in conjunction with the ECLGS (Emergency Credit Line Guarantee Scheme) disbursements a better mode, rather than using the debt recast option. However, for cases where this is not possible and debt recast is also not an option, the end of moratorium period would mean borrowers have to resort to M&A as an option. This could be in various forms including hiving off non-core business, JVs/ partnership for core businesses, distress sale of entire business etc.
What does this imply for the Deals Market? It is expected that H2FY21 will see increased momentum in Private Equity buyouts, M&As on account of:
- Distressed businesses being available at attractive valuations
- Large-scale consolidation in various sectors led by technology and financial disruption
- Cash rich strategic players with ability to raise debt /PE buyers scouting for opportunities to increase their market share, build supply chain economies and consolidate pole positions
- Stressed situations
- Higher interest in MSMEs
- Manufacturing supply chain capabilities (especially inbound) etc.
- Funding to 53 Indian start-ups that have the potential to join the unicorn club by 2022 (Source: Inc42, 33 Unicorns as of now) with digital acceleration
- Increasing activity from family offices and serial entrepreneurs
Also, financial investors are accelerating their portfolio reassessment, and this could result in more deal opportunities. Unpredictability of demand, moratorium on loans, new valuation approach, emerging financing mechanisms, accelerated pace of technology disruption and risk balancing between the buyers & sellers’ market call for a new paradigm in the deals/ M&A segment.
Certainly, the ensuing quarters will be interesting to look forward to, from an M&A perspective.
2020 – The year the markets saw it all
What a year it has been and it’s not over yet! In the first 2 months, the year witnessed strong equity issuances mostly through Qualified Institutional Placements (QIPs), and companies raised ~USD 2.7 billion. A record-breaking start for the year and at that time we believed that the tone for the rest of the year was set.
It was not until end-February or early-March that the fear of COVID-19 started gripping global equity markets and Indian markets corrected ~40% from the top, in a little over 2 months. Indian markets saw FPIs’ net sales of ~USD 8.9 billion in March; considered to be one of the highest selling, that Indian markets ever witnessed in a month. One can argue that selling equals buying but do note that it is the FPIs who have traditionally set the trend in Indian markets.
Markets bottomed out fast and to everybody’s surprise post lockdown it started rising. As I write this, the upward journey of markets continue. Who would have imagined that we would see the shortest bear market in recent history? Corrections may still happen as it is the very nature of markets. We have, for once, crossed pre-COVID highs in indices and therefore, we should stop questioning the rally. November witnessed a net purchase of ~USD 8.6 billion (provisional), the highest ever FPI buying Indian markets have seen, in any month
Post correction, sectoral indices performed beyond expectations. FMCG held on with an initial dip, auto started performing early, pharma/specialty chemicals, power and energy continued to perform, IT initially lagged, but has caught up with time. Metals and finance now are in tandem with the rally. Realty is gradually recovering, and media may catch up soon.
Bankers and issuers have been very smart with their timing on tapping the markets. They have been receptive of the changing trends in the markets and sector rotation. In July, Rossari Biotech Ltd. IPO saw a total subscription of ~ 80x. Confidence on the market lacked but the sector was hot, and still is. From September onwards when most of the sectoral indices started performing, many IPOs across sectors closed successfully. In H2 CY20, against the collective size of ~ USD 1.9 billion the aggregate demand was ~USD 41.8 billion (~21x). Dark horses with an unprecedented demand were Happiest Minds Technologies Ltd. ~151x, Route Mobile Ltd. ~73x, Chemcon Speciality Chemicals Ltd. ~149x, Computer Age Management Services Ltd ~47x, Mazagon Dock Shipbuilders Limited ~157x; gave bumper listings in the range of 23%-115%.
We never know what lies ahead; would the rally stall or would it continue? Neither could we answer it in the beginning of 2020 nor can we answer it now. One thing 2020 has done is, thrown all the punditry and the analysis in the bin. Hence, the attempt to predict markets in 2021 is futile. All we can do is ride the wave, keep adjusting the sail without questioning the direction.
As famously said “It is not the strongest of the species that survive, nor the most intelligent. It is the one that is most adaptable to change.” We need to learn and adapt to changes in order to be able to survive. Who knows what 2021 holds for us; keeping fingers crossed and minds open, let’s wish the best to all of us for the next year.