Kamat Hotels (India) Ltd. (KHIL) – Open Offer – Analysis

Recently, an Open Offer was announced for KHIL at a price of Rs.135/-. The current market price is Rs.126/-. Bottomline, there is a 8% upside opportunity if all risks and numbers match up. This post tries to dig in to the numbers and risks. This is currently an academic exercise in that I don’t have a position (and I had discussed this with another investor, S, who may have a position already). I may/may not build it in the future.

Do go through this offer document before reading further. Summary being, Clearwater Capital (and Partners) (who are based out of Cyprus&Singapore) had approx. 23% stake in KHIL previously. KHIL had issued FCCBs worth $18 million in 2007 to fund their expansion plans (Mumbai Orchid and all that). Anyway, the conversion price back then (at the height of bull market) was set to Rs.225/-. After sanity prevailed, the conversion price was reset to Rs. 135/- in June 2010. Now, KHIL over the past 6 months or so has been converting FCCBs into equity at Rs.135/- (check various annoucements). Clearwater with a complete FCCB conversion will now hold approx. 33% of KHIL’s diluted equity. Once the percentage holding crossed 25%, Open Offer rules were triggered and ClearWater now has issued an announcement that they would like to buy 26% of the diluted equity at a price of Rs.135/-.

The first and foremost analysis in cases of Open Offer would be the subject of shareholding pattern.

Q2 results would indicate that the promoters hold around 65.63% and public holds the rest (34.37%). A little more digging would indicate that out of the Public holding of 34.37%, around 26.11% constitute Foreign holdings (and of this, 23% is held by Clearwater Capital). A pictorial representation would be better.

image

(there seems to be some weird calculation for Promoter holding of 65.63% (ClearWater partners has 24.5% holding. So, (57.6+(26.11-24.5)+.09+4.09) will give us 65%, but we will let that be).

After the FCCB conversion into equity, the number of additional shares would be 3463694 (bringing the total diluted equity of KHIL to be 19093394. Now re-calculating the percentage of shareholding on this diluted equity, we would arrive at a Promoter+Clearwater holding to about 83-85% (Promoter holding will be around 51% and Clearwater will have 32%).

Clearwater has declared an offer for 26% stake, which indicates that there will be a 100% acceptance (since public shareholding is less than 26% and assuming most of the promoter side won’t tender). Since there would be 100% acceptance and a 8% upside still available, should we go out and buy KHIL now?

Not so soon.

There are three risks that one needs to consider in an open offer – time risk, price risk, deal risk.

Time risk – This is probably the first time (atleast to my knowledge) that an Open Offer has been triggered due to FCCB conversion to equity. There might be a lot of to and fro regarding certain details, some court approvals needed and maybe some SEBI approvals too. It might take 2 months or it might take 10 months. The carrying cost (of remaining invested in this opportunity) is greater than the opportunity cost in this market and that too, for a 8% return.

Price risk – Rs.135/- seems to be capped in my opinion. Clearwater has converted most of its FCCB into equity at this price and I doubt if they would revise this price to something more (especially because the majority voting power will still rest with promoters at 51% even after the FCCB conversion). What is the downside? If the public doesn’t tender its shares at Rs.135/- and demands a higher price (and Clearwater is not ready to pay up extra), the open offer will fail and the price might decline to Rs. 90 levels.

Deal risk – The Open Offer has been triggered and is not voluntary. Can Clearwater back out of this Open Offer? Well, they can sell their positions to below 25%, but the probability is very low (they would not have converted at Rs.135/- otherwise). From a KHIL promoter standpoint, given its last 5 year revenues vis-a-vis interest payments, they would have heaved a sigh of relief that Clearwater decided to convert to equity. I don’t think they will do any keeda. Deal risk at this point remains at a minimum (again, since this is the first time in my knowledge that Open Offer got triggered due to FCCB conversion, I am not too sure how far the court/SEBI can put the spanner in the works).

So, net-net, 8% looks decent if we have definite timelines for completion of this deal (or atleast a hint). From my perspective, my hurdle rate in such special situation cases usually is 15%. So for now, it is a pass especially given the opportunity costs.

Another thought experiment to consider – should I tender the shares at all? Think about it. $18mn bonds get converted to equity. So, no interest payments to be made. Around 3-4 cr interest savings, which will bump up the profit. Equity share dilution is around 22%. Let’s say my investment price is around Rs.135/-. At that price, at what multiple would I be acquiring KHIL in FY13 figures? Is that cheap? Should I tender?

Views invited.

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  1. #1 by rajapanda on January 19, 2012 - 12:12 AM

    Very nice post, Looks like the time risk is now taken care of, as per today’s filing:

    Tentative Schedule of the Activities:

    Identified date* – February 21, 2012

    Date of Opening of the Tendering Period (TP) – March 06, 2012

    Date of Closure of the Tendering Period (TP) – March 20, 2012

    On the price risk and deal risk…
    1. As per my knowledge, this kind of open offer are not on/off kind of situation like delisting, right ? What i mean is there is no minimum number of shares or %tage which should get tendered by the public for this open offer to be successful. In the current scenario all tendered shares should get accepted by PAC? Please correct me if am wrong.

    2. Should we do more thinking on how big is the risk that the promoters would or wouldn’t participate in this offer ? Because that will alter the acceptance ratio seriously and spoil the party.

    3. Is there a scenario when this can become a delisting candidate ? May be the public holding going below 10% because only 5-7% tender their shares or something like that ? Or will the PAC be always considered as part of public and this can’t happen. Your thoughts ?

    4. One small note. Rs 9 profit on 126 comes to 7.1% without considering brokerage. Am i missing something ? But it’s still not bad if it’s risk free 🙂

  2. #2 by Kiran on January 19, 2012 - 2:53 AM

    Thanks Raj.
    1. Yep, there is no ‘fail’ in this type of Open Offer. They will accept as many shares as they can get as long as it doesn’t cross 26%. Min, can be any %.

    2. Good question, but I don’t have a complete answer/guarantee. Two pointers which indicate that promoters might not participate in this Open offer.
    a. Refer this interview – http://articles.economictimes.indiatimes.com/2011-11-21/news/30424945_1_fccb-conversion-open-offer-kamat-hotels-india. Key paragraph in that “At present the Kamat family is holding in excess of 62%. In case the entire FCCB is converted, they would still be holding 51% of the shareholding of Kamat Hotels. There is a merger process, which is underway. Once the merger process is completed, they will hold 58% of the shareholding after the FCCB conversion, so as far as control is concerned, it will always be with the Kamat family.” Assume the entire 12% public tenders. Now, the shareholding of Clearwater would be 45%. If any of the promoters tender their shares to the extent of 5% (we are still 17% of the 26% limit), control will switch to Clearwater, which the promoters don’t want to do.
    b. The OO DPS also speaks to lack of desire on the part of acquirer to take control of the company.

    3. Public shareholding will include Clearwater’s shareholding. So, in this case, delisting cannot happen. There is another angle of ‘less than 500 shareholders, then delist’. If you look at the shareholding pattern (look at the NRI junta figure), this delisting seems unlikely. Also, if you carefully read the DPS document, no delisting plans for the next 2 years due to this offer. So there.

    4. Yep, at Rs.126, it is 7.1%. When I started writing the post, it was Rs. 125/- and hence 8% :). Without brokerage of course.

  3. #3 by rajapanda on January 19, 2012 - 3:32 AM

    Thanks Kiran.

  4. #4 by debt_manic on January 19, 2012 - 7:29 PM

    Hi Kiran,
    can u please answer small question on buyback???

    If a company declare to buyback 100 shares at 300.

    Now if A tenders 100 shares at 250 and B tenders 100 shares at 200.

    ******I) then what is possible outcome??????

    1)company buys 100 shares from B at 200
    OR
    2) company buys 50 shares from A at 300 and 50 shares from B at 300
    OR
    3) company buys 50 shares from A at 250 and 50 shares from B at 200

    *****II)Is this true for open offer also?

    Regards
    debt_manic

  5. #5 by Kiran on January 19, 2012 - 9:14 PM

    @debt_manic Buybacks are of two types. One, the company announces that it would buyback from the market. Two, the company announces an open offer.

    If it is a buyback from the market (like Reliance has ‘declared’), there is no tendering. The company may or may not buy from the market at various prices it may quote. There is no guarantee, and in the example you have stated, neither A nor B can tender shares (they can sell shares in the open market though whenever).

    If it is an open offer, the market will ensure, depending on various parameters, that the stock is quoting very near 300, in your example. Why would ‘A’ or ‘B’ tender at lower prices than the market price/open offer price is beyond my comprehension?

    What you indicate might be happening during a process called reverse book building (happens during delisting typically). Then, the company would receive various bids and fixes a price at which it has received maximum bids below/above which it will not accept shares. In your example, if max. bids are received at Rs.200/-, A can tender all his shares, while B’s shares will not be accepted.

    Hope that helps.

  6. #6 by rajapanda on January 21, 2012 - 12:25 PM

    Hi Kiran,

    Just saw this filing in the exchange by Kamat Hotels.

    “Kamat Hotels (India) Ltd has informed BSE that the Board of Directors of the Company at its meeting held on January 20, 2012, constituted a Committee of Independent Directors in accordance with Regulation 26(6) of Securities Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 consisting of 1) Mr. S S Thakur, 2) Mr. Ved Prakash Khurana and 3) Mr. T M Mohan Nambiar, Independent Directors.

    The Committee of the Independent Directors is constituted to provide reasoned recommendations, on the open offer made by Clearwater Capital Partners (Cyprus) Ltd to the shareholders of the Company.”

    “reasoned recommendations”… at this stage….hmmm…. any thoughts ? or it’s normal acrobatics ?…

    Regards
    Raja

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