This article is written by Priya, pursuing a Diploma in M&A, Institutional Finance and Investment Laws (PE and VC transactions) from LawSikho.
Under Mergers and Acquisitions (“M&A”), the term takeover refers to the acquisition of one company by another. A takeover becomes hostile when the acquisition of the target company is opposed by its management. In such a situation, instead of backing off, the acquiring company directly approaches the target company’s shareholders for the purpose of acquisition which either takes place through a tender offer or a proxy fight. There are various defense strategies that can be employed by the target company like buyback, white knight, pacman, et cetera. Recently, in 2019, the Indian IT sector witnessed its first ever hostile takeover where Mindtree Limited (“Mindtree”), was acquired by Larsen and Toubro Limited (“L&T”). In this article, I try to unpack this acquisition and the reasons for the acquisition turning hostile. Furthermore, I also explain in detail the concept of hostile takeovers, its strategies, and defenses.
What is a Hostile Takeover?
Friendly takeovers, that take place by mutual agreement of the target and acquiring company, after the overall assessment of the transaction, have been fairly predominant in the Indian M&A landscape. Contrary to such takeovers, there is disagreement on part of the management of the target company in the case of hostile takeovers i.e., the target company does not want to be acquired. Despite this disagreement, the acquiring company, by continuing to pursue the transaction makes it hostile. Various reasons like killing competition, an undervalued target, et cetera, motivate a hostile takeover. In order to pursue the transaction, the acquiring company can employ strategies like a tender offer or a proxy fight.
In a tender offer, the acquiring company makes an offer to buy the shares of the shareholders at a premium price i.e., a fixed price that is more than the current market price, within a particular window time. This gives the shareholders an incentive to sell their shares to the acquiring company. In a proxy fight, however, the right of shareholders to vote on matters is assigned to another person i.e., a proxy. These proxy votes are then used by the acquiring company to discharge the management that opposed the takeover and install a new and friendly management. In order to get the proxy votes, the acquiring company may highlight alleged shortcomings of the target company’s management and have its own candidates installed on the board, thus making the management more friendly and in agreement with the takeover.
Understanding the L&T and Mindtree Hostile Takeover
The acquiring company, Larsen & Toubro Limited is an Indian public listed company which is a part of the L&T group, a major technology, engineering, construction, manufacturing, and financial services conglomerate with international operations. On the other hand, the target company, Mindtree Limited is a public listed company headquartered in Bangalore. It is a software service company founded in 1999 by a group of ten IT professionals which went public in the year 2007 and was acquired by L&T through a hostile takeover in the year 2019.
Offers and Negotiations
V. G. Siddhartha, the non-executive director of Mindtree and the founder-promoter of Coffee Day Enterprises (“CDE”) held individually and through his companies, 20 % shares in Mindtree, whereas the promoters of the target company collectively held only 13.32 % shares in the company. Since Siddhartha and his company were burdened with debt and urgently needed to liquidate his holdings in Mindtree, Siddhartha asked L&T to acquire their shares. By acquiring Siddhartha’s shares in 2019 at the rate of Rs. 981/- per share, L&T’s shareholding in the target company far exceeded that of the promoters. L&T then made an open offer for the purchase of 31% shares. However, under Reg. 6 (1) of the Securities and Exchange Board of India (“SEBI”) Substantial Acquisition of Shares and Takeover (“SAST”), Regulations (2011) which is more widely referred to as the Takeover Code, a voluntary open offer could only be made by persons holding 25% – 75% voting rights in the company. When the matter was under consideration by SEBI, L&T managed to acquire shares from the secondary market via open market purchases through which its stake reached 28.9% and eventually it received SEBI’s approval.
In pursuance of Reg. 3(1) of the Takeover Code, when an acquirer acquires 25% or more voting rights, they have to mandatorily make a public announcement of an open offer for acquiring shares of the public shareholders. This provides the public shareholders an exit opportunity as there is a significant change in the control, management, and the promoters of the company. Thus, in accordance with the regulation, L&T made a public announcement for an open offer of 31% of the total voting share capital of Mindtree. Briefly put, L&T acquired around 20% shares through direct acquisition form Siddhartha and his companies, around 9% shares were acquired through on-market purchase and finally 31% shares were acquired through the open offer through which L&T’s total shareholding reached 60% and they acquired control over the board and management of the target company.
Rationale of the Acquirer and the Target
In the letter of offer, that L&T filed with SEBI, L&T mentioned that L&T’s software services business under L&T Infotech would benefit from the acquisition as the aim was to deliver best IT services globally to the clients and take the company’s technology portfolio among the top tier IT companies. Furthermore, the acquiring company was sitting on huge cash reserves which it believed were enough to fund the takeover. In acquiring Mindtree, L&T saw synergies with L&T Infotech, its listed group company in the IT space. This acquisition is expected to expand its IT service business and increase value for L&T Infotech’s shareholders.
The Mindtree promoters, however, opposed the takeover and the fact that L&T pursued this transaction despite opposition from the promoters of the target company turned the deal hostile. Mindtree promoters released a press statement on 18th March 2019 opposing the Takeover bid of L&T stating that it would undo all the progress made since the past two decades. Furthermore, the management was also resistant from becoming a part of a company that was culturally different from Mindtree. Various reports suggest that it was a classic case of founders not being able to give up their emotional connect with the company.
Defense Strategies Employed
In order to avoid the takeover, the management provided a notice for considering the buyback of shares in pursuance to Reg. 29(1) (b) and 29(2) of SEBI Listing Obligations and Disclosure Requirements (LODR) Regulations, 2015. However, the board decided not to proceed with the plan to buy back its shares since the buyback would not have had the desired impact of acquiring sufficient stake to fend off the hostile acquisition.
A white knight is an individual or company that acquires the target company when it is on the verge of being taken over by the black knight i.e., hostile/unfriendly acquirer, thus, saving the target company from a hostile takeover. Unlike in the case of hostile takeover, there is no change of management when the target company is taken over by the white knight. In the present case, the promoters of Mindtree approached various private equity (“PE”) firms like, KKR & Co. Inc., Chrys Capital, et cetera. However, as the PE firms wanted a controlling stake in the company like L&T, none of them agreed to become the white knight and Mindtree’s defense of white knight failed.
Defenses that can be employed by the Target Company
Apart from the defense strategies like buyback and white knight mentioned above, various other strategies are available from which a few are explained below.
In pac-man, during the hostile takeover, the target company tries to save itself by reversing the roles i.e., the target company makes a counteroffer to the acquirer and begins acquiring shares of the acquiring company threatening to acquire the raider themselves. Thus, the raider becomes focused on saving itself which forces them to hammer out a truce.
In the strategy of golden parachute, substantial benefits are given to executive employees in case the company is taken over by another company and as a result of that their employment is terminated. The defense strategy is named golden parachute as it provides soft landing to employees who hold certain positions in the target company. Although this increases the cost to the acquiring company, the main aim is to protect the interest of the employees who put efforts to build the company.
Under this strategy, the target makes itself look less attractive to the acquirer by selling off its most valuable asset which might have attracted the acquirer in the first place. This strategy could be employed by the target along with white knight where the target company would demerge its valuable asset and sell it to a white knight from which it could be bought again later at a fixed price.
Hostile Takeovers under the Takeover Code, 2011
The Takeover Code of 2011 has made hostile takeovers difficult for raiders, according to press reports. Reg. 6 of the Takeover Code, 2011 has made voluntary open offers by outsiders almost impossible as only people with a minimum 25% shareholding in the company can make voluntary open offers. Furthermore, conditions like not acquiring shares for 52 weeks in the target company before, during, and 6 months after making a voluntary open offer further makes the process of a classic hostile takeover nearly impossible in the Indian context. The hostile takeover in the case of L&T and Mindtree could only go through as L&T acquired 20% of shares from Siddhartha and 9% from the market which triggered the mandatory open offer requirements.
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