Havells may have to take haircut on its investment in Sylvania

The company may not recover the funds invested to acquire and sustain Sylvania since 2007

The Street is abuzz with  news of Havells India planning to sell a majority stake in its European lighting business, housed under SLI Sylvania. While analysts approve the move, Havells’ shareholders might have take a haircut on their investment in Sylvania over the years.

Havells acquired Sylvania in 2007 for a total enterprise value of $300 million (Rs 2,000 crore at current exchange rate). Besides, Havells pumped in equity in Sylvania over the years to make up for the subsequent losses at its operations in Europe and Latin America.

In all, the company has pumped in Rs 1,000 crore as equity in the holding company that owns Sylvania in the past eight years. For example, in FY15, Havells India made fresh equity investment of Rs 129 crore in Havells Holdings, to compensate for the erosion in its net worth due to losses in Europe.

Havells might not be able to recover its full investment given sluggish growth in Europe and Latin America and continued losses. In FY15, Sylvania reported revenue of ^443.1 million, operating profit of ^20.7 million and net loss of ^11.5 million.

Anil Gupta, the company’s chairman and managing director, did not reply to a message sent on his mobile phone. The company spokesperson refused to confirm or deny the move. “All senior executives are travelling abroad and cannot comment on the matter right now,” said the Havells’ spokesperson when contacted by Business Standard.

“We believe this will be a positive for the company, as it will free up management bandwidth from international operations,” writes Rahul Gajare and Swarnim Maheshwari of Edelweiss Securities.

Others link it to Sylvania’s burden on Havells’ finances. “The investment in Sylvania never paid off and turned into a financial drain for Havells’ shareholders. Every year, the parent company used to top up Sylvania equity with fresh infusion. That money was better spent on growing its profitable domestic business or paying higher dividend to shareholders,” says an analyst with a brokerage house in Mumbai on condition of anonymity.

There is some merit in the argument. In the past five years, Havells India (on a stand-alone basis) distributed 27.2 per cent of its cumulative cash profit during the period as equity dividends. A relatively low pay-out ratio was largely due to the financial burden of Sylvania, as capex in India (investment in gross block) absorbed 31.7 per cent of the cumulative cash profit during the period. The rest went as equity infusion in Sylvania and repayment of loan tied to its acquisition.

“Havells is a cash-rich company and it could have paid much higher dividends if not for the financial burden of Sylvania. Hopefully, this will change now, leading to a re-rating of its valuation and the stock price,” says an analyst with another domestic brokerage.

Sylvania has reported net losses in four out of the past eight years and most of the Havells’ European and Latin American subsidiaries had negative net worth in FY15 - eight years after the acquisition. For example, Havells Sylvania Europe reported negative net worth of Rs 439.33 crore in FY15. The Brazilian subsidiary reported negative net worth of Rs 282.56 crore in FY15.

This would limit the valuation for Sylvania. Currently, pure play European lighting companies such as Osram Licht AG, Zumtobel Group and Fagerhult AB are valued at 0.7 to 1.0x their annual revenues and 15-17x their annual operating profits. Given this, Sylvania is potentially valued at €350-400 million (Rs 2,000 crore). However, unlike Sylvania, its peers are profitable and had a positive net worth in the last financial year. A potential buyer could thus ask for a significant discount to the peer group valuation, limiting gains to Havells’ shareholders from Sylvania divestment. In any case, the potential value is still lower than the total investment of about Rs 3,000 crore (acquisition cost plus fund infusions thereafter) by Havells in Sylvania.

In short, Havells will have to suffer lower valuations for a brighter future, wherein the company could utilise the funds more effectively leading to better performance going ahead.

Havells shares closed 3.3 per cent lower at Rs 282.6 apiece on Wednesday versus a 1.1 per cent decline in the Sensex.