More MNCs consider open offers

Interest arbitrage opportunity, with India subsidiaries offering higher yields than cost of borrowing in the US, Europe

Ultra-low interest rates in the developed markets and better growth prospects in India are prompting multinational companies (MNCs) to raise holdings in their Indian arms.

The weighted average cost of capital for these foreign firms, mostly based out of the US, Europe or Japan, where interest rates are near record-low levels, is much lower than the earnings yield that their listed subsidiaries in India offer, making it a compelling arbitrage opportunity. A Business Standard analysis shows the average three-year earnings yield of the top Indian MNCs is about 4.5 per cent, while the cost of debt for their parents is about 1.5 per cent.

GlaxoSmithKline, Unilever and McGraw Hill have announced voluntary open offers for increasing their stake in their Indian arms to the permissible limit of 75 per cent in a listed company. The combined value of these open offers is a little more than $6.5 billion (almost Rs 37,000 crore at today's exchange rate).

"At a time when major global corporate giants are sitting on surplus cash and there is an apparent lack of investment opportunities for this surplus, India offers an attractive proposition. Many of these MNCs already have a good understanding of the Indian context and been performing well locally. So, an added accretion is quite in sight and attractive," said Sunil Sanghai, managing director and head of global banking (India) at HSBC, who has advised on the GSK Consumer and Hindustan Unilever open offers.

For instance, CRISIL offers an earnings yield of four per cent, based on its latest annual net profit and market capitalisation at the end of March this year. In comparison, the cost of debt for its US-based parent, McGraw Hill Financial, is just 1.9 per cent, shows Bloomberg data. McGraw Hill today announced a voluntary open offer worth $340 million to raise its stake in CRISIL to 75 per cent. Similarly, the cost of debt for Britain-based Unilever Plc is 1.5 per cent, while the earnings yield of Hindustan Unilever is 3.6 per cent. Unilever's mega $5.4-bn open offer for minority shareholders of its Indian arm will open later this month.

"Given record low interest rates and little scope for organic growth in their home country, foreign companies are raising money in North America and Europe and buying high-yielding assets in emerging markets. This helps them offer superior returns to their shareholders," said a head of global investment bank, requesting anonymity. "MNCs are paying a hefty premium, making it a win-win situation for both their shareholders as well as those of their Indian subsidiaries."

Experts noted that though a sure-shot opportunity from a short-term point of view, the risks involved include a rise in interest rates due to withdrawal of stimulus packages or a slump in financial performance of their Indian arms. A sharp depreciation in the rupee could also act as a dampener, they added. The stocks of most MNCs firms have already rallied in anticipation of more voluntary offers.

Nevertheless, the earnings yield in most cases is reasonably higher that the cost of funds, leaves enough room in the event of a rise in interest rates. More important, since India is a growing market with high long-term visibility, the Indian subsidiaries are likely to expand at a healthy pace, leading to higher earnings. Hence, acquiring higher control in them makes good sense for the MNC parents.

Just as the trend this year is voluntary open offers, MNC firms tried last year to delist their Indian arms through reverse book building offers. Examples were Saint-Gobain Sekurit India, Ricoh India, Alfa Laval India and Atlas Copco. While some offers succeeded, those of Saint-Gobain and Ricoh India failed to go through.