A few contingent agreements in the $2.1-billion (Rs 11,460 crore on Thursday) deal between United Spirits Ltd (USL) and the UK's Diageo Plc have irked the regulators. According to Securities and Exchange Board of India (Sebi) officials, it is likely that permission for the over Rs 5,500-crore open offer will be granted only after some clauses are dropped from the agreement as these are also contingent upon the regulator.
One of the clauses in the agreement gave the UK company the first right of refusal to withdraw from the open offer if the offer price was revised upwards by Sebi.
J M Financial, the manager to the open offer, had announced Diageo would launch a mandatory share tender offer to buy up to a 26 per cent additional stake in USL from the public between January 7-18. However, the offer got delayed as Sebi, the Reserve Bank of India and the Competition Commission of India were yet to approve it.
Legal experts criticised the deal structure as the open offer to acquire shares from public was announced at Rs 1,440 a share, even before it got triggered. This, experts say, was done by the acquirer to avoid paying higher price for buying shares under the open offer in case of a share price rally, which was a natural anticipation post the deal announcement.
Diageo, the world's largest spirits maker, agreed to pick up a majority stake in USL through a multi-structured deal. In a joint statement in November, Diageo said it entered into an agreement with United Breweries Holdings Ltd (UBHL) and USL to acquire a 27.4 per cent stake in the latter at Rs 1,440 per share. Diageo was to acquire a 19.3 per cent stake in USL from UBHL group and further transaction was based on contingent agreements, which were structured in a way that if one agreement fails to achieve the desired result, another was to be activated.
A mere purchase of 19.3 per cent stake by Diageo in USL was not enough to trigger an open offer. The deal announcement said the acquirer would seek further approval from USL shareholders for a preferential allotment at Rs 1,440 per share of new shares amounting to 10 per cent of the post-issue enlarged share capital of USL and it was a preferential announcement that could have triggered an open offer.
While USL shareholders approved issuance of fresh equity to Diageo in December, which then triggered the open offer against the one announced earlier, there is another clause in the preferential allotment agreement (PAA) that is controversial, said a Sebi official.
The public announcement says: "Notwithstanding anything contained in the PAA, if the offer price is revised (or is likely to be revised) upwards, pursuant to any order or direction of Sebi, the acquirer may elect not to subscribe to the preferential shares, in which event the acquirer shall, save in certain circumstances, not be eligible to acquire the additional shares under the SPA (share purchase agreement)."
The share price of USL rallied nearly 50 per cent from the Diageo acquisition price of Rs 1,440 to touch a high of Rs 2,149 on the stock exchanges on November 29. If the open offer price is revised upwards due to the volatility in the share price, the acquisition cost for Diageo would rise. Therefore, a clause in the deal gave the UK company the first right to withdraw from the deal, say legal experts.
"The dilemma is that such a clause is contingent upon the regulator and tries to act as a potential threat against revising the open offer price. If Sebi were to revise the offer price, trigger for open offer may not happen at all. This is strange as trigger for open offer is irreversible post the acquisition of more than 25 per cent stake," said J N Gupta, former executive director at Sebi and founder of Stakeholder Empowerment Services (SES), a proxy advisory form.
J M Financial refused comment on the issue.
SES had issued a report highlighting regulatory violations in the case of USL-Diageo deal. The contingent agreements have a potential affect of limiting Diageo to have only 19.3 per cent shares in USL, if Diageo elects not to subscribe under PAA and UBHL refuses to sell additional shares, says SES. According to deal announcement, if preferential allotment was not approved, Diageo would buy additional shares from UBHL to take it to the trigger point for open offer. But this part of transaction would materialise only after failure of preferential allotment.
SES believes that since the USL share price has shot up sharply from Rs 1,440, the open offer may not be in conformity with regulation 8, specially regulation 8(2)(d) of Sebi's Takeover Code. The issue becomes further complicated by the declaration made by the merchant banker. This declaration puts the onus of success of transaction, including public offer and preferential offer, at the door of Sebi. This is because if the offer price is to be revised upwards, Diageo has an option not to subscribe to preferential offer and not eligible to get additional shares from UB group except in certain circumstances. What are these circumstances is not in public domain.