Monday, 24 September 2018

Leveraged Finance: India delivers on LBO promises

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Leveraged finance bankers have long touted China and India as the next destinations for LBOs given the huge potential the two countries offer. But while China’s story has been jinxed with all but one of its LBOs getting done successfully, India is chugging along nicely and continues to deliver on its promise. Prakash Chakravarti reports.

Leveraged finance has been the buzzword in Asian financial circles for the best part the past five years with China and India considered critical for the financing activity’s growth in Asia. That dependence has increased further as traditionally strong LBO markets such as South Korea and Taiwan have slowed down, leaving Australia as the region's most active LBO market.

China’s LBO activity has sputtered in stops and starts, while India’s has been more consistent and steady largely because LBOs have taken place in outbound M&A deals. It is easier to structure financings supporting Indian companies when they are acquiring assets overseas rather than financings for foreign companies buying Indian assets.

To date there has been only one inbound LBO in India – the US$368m LBO for Software Development Systems (SDS) in September 2006 – dispelling doubts that the country's regulatory regime was unsuitable for LBOs. The deal's simple yet clever structure got around the regulations relating to dividend repatriation.

Since then there have been no LBOs involving foreign companies acquiring Indian assets largely because there have hardly been any inbound acquisitions. On the other hand, hardly a week goes by without an Indian company getting involved in an overseas acquisition, which has given rise to a steady flow of LBO financings.

Half a decade ago nobody would have imagined that India would be among the top three loan markets in Asia (ex-Japan, ex-Australasia) by volume. But that all changed in 2006 when almost US$30bn of loans were booked in India, mostly foreign currency loans, with a good portion of that coming through M&A financings. Not only have top-tier companies been in the limelight, but also second and mid-tier businesses too, highlighting how much things have changed.

“The SDS deal set the ball rolling for LBO activity from India with Tata Steel following in its footsteps a couple of months later. Tata Steel had the size and profile going for it and has created the platform for other deals to follow suit,” said one banker in Hong Kong.

Tata Steel’s transaction, featuring recourse and non-recourse debt, has truly been a landmark deal in many respects with the structure being replicated in subsequent financings. The financing enabled Tata Steel take over the UK's Corus Steel for nearly £6bn (US$11.76bn) in what was a transformational acquisition. The financing was big, well-structured and paved the way for other acquisition financings to take the LBO route.

Tata Tea’s US$677m acquisition of a 30% stake in US-based Energy Brands followed soon after and was financed through £284.3m four-tranche loan and a £269m non-recourse PIK loan. The most recent deal is the US$5.2bn dual-tranche loan for Hindalco Industries that will fund the company’s US$6bn acquisition of Canada’s Novelis. The deal features a US$2.8bn recourse tranche – the largest for an Indian company – and a US$2.4bn non-recourse tranche.

Second and mid-tier Indian corporates have also jumped on to the bandwagon proving that LBOs need not just be the preserve of the top-tier names. The best example is Havell’s India, a lighting and electrical equipment manufacturer, which has acquired European lighting systems company SLI Sylvania for €227.5m. Havell’s, which has a market capitalisation of US$547m, is tapping a €210m recourse and non-recourse financing that will launch shortly and provide a good test of lenders’ appetite for mid-tier Indian credits.

Also launching soon is a £635m recourse and non-recourse financing for United Breweries Group, which will finance its acquisition of Scottish spirits maker Whyte & Mackay for as much as £550m. Tata Power’s US$1.6bn acquisition of a 30% stake in Indonesian coalminer Bumi Resources could potentially see another M&A financing, but given the non-controlling stake Tata Power is getting, the chances of an LBO are pretty slim.

Outbound acquisitions are providing the bulk of LBO activity and this is likely to remain the case as Indian companies expand globally.

Although these deals at times involve multiple jurisdictions involving complex legal and taxation issues, they are still relatively easier to do than inbound Indian LBOs.

“Inbound M&A deals are still elusive because of high valuations and expectations from potential sellers. Unfriendly regulations add another layer of hurdles to an M&A thus making LBOs in these situations difficult to come by,” said another banker in Singapore.

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