Contents

Introduction ................................................................................................................................................... 3
History of LBO .............................................................................................................................................. 4
In India ...................................................................................................................................................... 5
Top LBOs example .................................................................................................................................... 6
Types of LBO ................................................................................................................................................ 7
Sell Side...................................................................................................................................................... 8
Global Trends and Important Players............................................................................................................. 9
Scenario in Developed Economies ............................................................................................................. 9
Leveraged Buyouts on a rise in Emerging Economies .............................................................................. 10
Global Trend - Leveraged Buyouts in Tech Companies............................................................................ 11
Dell Inc. – The bold player of LBO in IT ................................................................................................. 13
Other Industries and Global Players ......................................................................................................... 13
Regulations in India...................................................................................................................................... 14
Prevailing restrictions in India .................................................................................................................. 14
Restrictions on exit through public offerings ............................................................................................ 15
Major LBOs in India .................................................................................................................................... 17
Tata Steel-Corpus LBO ............................................................................................................................ 17
Deal Terms .......................................................................................................................................... 18
Tata tea- Tetley LBO................................................................................................................................ 18
ICICI ventures ......................................................................................................................................... 18
1. ICICI ventures -RFCL ................................................................................................................. 18
2. ICIC ventures-infomedia .............................................................................................................. 18
3. ICICI ventures- ACE refractories................................................................................................. 18
Risks: ........................................................................................................................................................... 18
Risks relevant to the Indian market: ......................................................................................................... 19
Hostile Scenarios.......................................................................................................................................... 19
Asymmetrical Information ....................................................................................................................... 20
Agency Costs Explanation........................................................................................................................ 20
Implications of the hostile takeover .......................................................................................................... 20
Tata Tea – Tetley Case ................................................................................................................................. 21
Why LBO? ............................................................................................................................................... 21
 Structure .................................................................................................................................................. 21
Challenges .................................................................................................................................................... 22
Restrictions on Foreign Investments in India ........................................................................................... 22
Future Scenario ............................................................................................................................................ 23
References.................................................................................................................................................... 23
Introduction
A leveraged buyout (LBO) is a restructuring of the company’s capital structure and ownership of a
company. The term leveraged refers to the employing of debt as the primary mode of financing the
restructuring. The buyout portion refers that the method is used frequently to transform a publicly
held company into one that is privately held. This type of acquisition might take place due to various
reasons. These include cost savings, managerial incentives, and tax benefits.
LBO is a financial transaction in which through a combination of equity and debt a firm is bought,
such that the company's cash flow is the collateral used to secure and repay the borrowed money. The
use of debt, which has a lower cost of capital than equity, helps to reduce the overall cost of financing
the acquisition. This reduced cost of capital allows greater gains to accrue to the equity, and, as a result,
the debt serves as a lever to increase the returns to the equity.
LBOs can have many different forms such as management buyout (MBO), management buy-in (MBI),
secondary buyout and tertiary buyout, among others, and can occur in growth situations, restructuring
situations, and insolvencies. LBOs mostly occur in private companies, but can also be employed with
public companies (in a so-called PtP transaction – Public to Private).
As financial sponsors increase their returns by employing a very high leverage (i.e., a high ratio of debt
to equity). This has, in many cases, led to situations in which companies were "over-leveraged",
meaning that they did not generate sufficient cash flows to service their debt, which in turn led to
insolvency or to debt-to-equity swaps in which the equity owners lose control over the business to the
lenders.

Private equity / LBO firms like Kohlberg Kravis Roberts & Co. (NYSE: KKR), Blackstone Group
LP (NYSE: BX), Carlyle Group LP (NASDAQ: CG), Texas Pacific Group (TPG Capital), Bain
Capital and Goldman Sachs Private Equity. commonly use the strategy of LBO to acquire firms by
raising significant amount of capital as debt using acquired company’s assets as collateral. For example,
on 1stJanuary 2011, ABC Private Equity has acquired XYZ company for an enterprise value (EV) of
$1.0 billion. $750 million of debt (75% of capital structure) and $250 million of equity (25% of capital
structure) from ABC Private Equity funds fund the transaction.
This investment strategy generates attractive returns to the private equity firms during the time of exit
from their investment—if business plan targets for the target company are achieved. In above
example, after 3 years of owning XYZ Company, we should look at the situation. On 31st December,
2013, ABC Private Equity sold XYZ for an Enterprise Value of $1.5 billion, post full repayment of
debt of $750 million at the time of exit. The private equity firm made an equity income of $750 million
(EV at exit – debt outstanding) return on an initial equity investment of $250 million equating to an
equity IRR of 44%.
Tenure
Components of capital % of total capital Traditional suppliers of capital
(years)
Senior debt
Revolving Investment bank
30%-60% 5-8
Term Commercial bank
Subordinated debt
Senior / subordinated notes Investment bank
10%-25% 7-10
Discount notes Commercial bank
Traditional mezzanine 9-10 Mezzanine fund
Preferred stock / Mezzanine securities
Investment bank
Preferred stock 0%-35% 7-10+
Commercial bank
Pay-In-Kind (‘PIK’) debt Mezzanine fund
Warrants
Common equity
Common equity 25%-40% 3-7 Private equity fund
Vendor loan notes (deeply subordinated) 10-12 Vendor loan notes

Table 1: Typical financial instruments used for financing a LBO

History of LBO
The LBOs became famous during the 1980s in the United States when they contributed as a major
ingredient to the hostile takeover boom at that time. The American corporate sector has experienced
substantial increase in LBO activity between 1979 and 1989 with over 2,000 LBOs valued in excess
of $250 billion. The new sensation reached its peak in 1989, when Private Equity firm Kohlberg,
Kravis & Roberts acquired RJR Nabisco for $25 billion in a LBO takeover, an acquisition almost
double the value of the largest previous deal till that date, the $13.2 billion Chevron purchase of Gulf
Oil in 1985. The astonishing returns on early LBO investments had led to an inflow of large amounts
of capital from investors into LBO funds. Both the number of transactions and the average size of
the deals had increased substantially during the ‘80s.
However, financial market crash in the late 1980s, especially following the Black Monday on 19th
October 1987, as well as changes in the financial market environment led to a rapid decline of
leveraged buyout activity. The default of many large institutions eventually added to fire. This resulted
in breakdown of the associated high yield (or junk) bond market until 1990-1991. The global equity
markets crash from October 1989 onwards and the recessionary economic environment until the end
of the first Iraq war in 1992 prompted an abrupt end to the positive capital raising scenario. Therefore,
the high-yield junk bonds market collapsed, and a large number of LBOs were led to bankruptcy;
moreover, the public companies LBOs were wiped out in the early ‘90s.
The rising number of private equity firms that raised capital from large institutional investors stirred
the resurgence in the number of LBO deals in the mid-2000s. The rise of asset-backed securitization
also drastically changed the financing of LBOs as the buyout market moved from high-yield bond
financing to funding conducted mainly through syndicated leveraged loans. At the peak of the LBO
market in 2007, collateralized loan obligation securities provided close to 2/3rd of the funding for the

institutional debt raising.

Despite the collapse of the asset-backed securitization market, buyout activities have slowly re-
emerged over the last decade. In many ways, the LBO market has performed substantially better in
the years following the recent financial crisis than it did in the wake of previous crisis. For example,
the collapse of the junk bond market in the late 80s was more difficult for LBO sponsors that they
struggled to find alternative sources of funding for many years.
In India
More than eight out of every 10 LBO that happened in post-liberalization India took place after 2007,
shows an analysis of Thomson Reuters data. Out of the 83 completed LBO deals since 1991, 68 have
happened after 2007. In 2016, washing powder maker Nirma Ltd announced its purchase of Lafarge
India Pvt. Ltd’s cement assets. Nirma will raise around Rs.4,000 crore in debt for its purchase through
a bond issuance which will be financed by Lafarge’s cash flows. It is one of the biggest LBO in India
till date by an Indian firm.
The pattern of more LBOs in the post-2007 stage is not limited to India. A similar pattern is seen
across other developing markets too. Major developing markets like Brazil, Russia and China all
observed a significant piece of their LBOs occur in 2007 or later. The figures are 83% for Brazil, 81%
for Russia and 75% for China; compared with 82% for India. Although deal values are not disclosed
perhaps because most LBOs are carried out by private equity investors whose obligations to make
disclosures are limited, an inspection of trends in disclosed deal values also show an upward spike in
this period.
Top LBOs example
1) Alltel Corp - Goldman Sachs’s (GS) private equity wing and Texas Pacific Group (TPG
Capital) selected Alltel in the year 2007 for about $27.5 billion. The LBO of Alltel, the 5th
largest wireless-phone carrier then, was the largest buyout in the U.S. telecommunication
space.
2) HCA Holdings Inc - HCA founder Dr. Thomas F. First, Jr., Kohlberg Kravis Roberts & Co,
Bain Capital and Merrill Lynch Global Private Equity acquired Hospital Corporation of
America, founded in 1968. The deal publicized in 2006 had a total transaction cost of $33
billion, making it the largest buyout deal till that time.
3) Harrah’s Entertainment Inc - The 2006 LBO of Harrah’s Entertainment is one the biggest
private equity acquisition in the gambling industry. The largest casino company accepted the
 buyout offer by two private equity companies, Apollo Global Management (APO) and Texas
Pacific Group (TPG Capital) for $27.4 billion (including debt of $10.7 billion).

Some of the other prominent leveraged buyouts of the past include Hilton Hotels Corp, Kinder
Morgan Inc (case of Management Buyout), SLM Corporation (popularly known as Sallie Mae), Clear
Channel Communication Inc, Capmark Inc, Albertson’s Inc, Freescale Semiconductor Inc and
Alliance Boots PLC. Though many of these deals are the big in terms of transaction value, only a
selected few have been success stories.

Types of LBO
There is a distinction between sponsored LBO’s and the non-sponsored LBO’s. Traditional sponsored
LBO is defined as buyout transactions where a financial sponsor or LBO fund backs the deal and
provides large part of the equity capital. It is interesting to notice that the PE firm does not provide
all of the equity financing in a traditional PE deal.

This leads to the concept of a LBO being different across the research depending on the ex-post LBO
ownership structure. On one hand there are LBO's where the ex-ante LBO management helps
sponsor the buyout and acquires a minority stake in their own company. These are called a
management buyout (MBO). The agency theory applies here which is to align the agent incentives
with the shareholders through personal capital commitments from the management perspective.
These significant management investments allow them to share the up- and downside potential along
with the private equity firm. It has been suggested that a publicly held company is more prone for
agency costs because the dispersed minority shareholders base exerts little control over the
management.

There are several motives to take a public company private. These motives include
a) tax savings through a tax shield created by the added debt
b) lower agency costs
c) more wealth transfer to shareholders
d) eliminating major costs to stay public such as listing costs
e) to raise takeover defenses
f) to eliminate asymmetric information between the shareholders and management.

A privately held company has a smaller concentrated ownership structure which generally leads to a
closer monitoring of the management. The closer monitoring often leads to the PE firm replacing
non-performing ex-ante LBO management and bring in their own experienced outside management
This is called a management buy-in (MBI).
On the other side, smaller number of leveraged transactions is non-sponsored. This occurs when
LBO's happens without the financial backing of a PE firm. These are basically of two types of non-
sponsored transactions: the original MBO and the other transactions.
In the case of a MBO, the incumbent management provides all the equity to buy a controlling interest
in their own firm. In the other transactions neither private equity firms nor management are involved.
Instead of pooling money into a PE firm, strategic buyers, companies or high wealth individuals can
also directly conduct their own leveraged buyout.
Non-sponsored LBO's occur rarely because the excessive use of debt isn't generally desirable for a
strategic buyer which has a goal of realizing synergies and long term shareholder value. The use of
high levels of leverage puts huge restrictions over the free cash flow for future investments,
downgrades the company credit rating and can be perceived negatively by the stock market which
limits the access to future new capital.
Sell Side
Alternatively, LBO’s can also be subdivided as per deal type. There are 5 types of LBO deals:
1) Public-to-private
2) Private-to-private
3) Divisional
4) Secondary/financial vendor
5) Distressed.

Table: Breakup of LBOs on the basis of different type of LBOs

These types signify characteristics or ex-ante LBO ownership structure of the acquisition target. It
should be noticed in table 1 that while the divisional and private-to-private buyouts make up for almost
three-quarters of the number of transactions, they only represent nearly half of the total deal value
(Strömberg, 2008, p. 36). In contrast to the public-to-private LBO which represents only 6,8% of the
number of transactions but account for over a quarter of the total deal value. This makes sense because
mature and large public companies have a price tag that only a small number of buyout funds can
afford
The selling process of a company is highly contextual but in general a distinction can be made between
the sale of a public company and a private one. Apart from the ownership structure, some other
factors affecting the selling process include the size of the target and the buyers' time frame to
complete the acquisition.
Ex the majorities of private-to-private transactions are friendly takeovers since most of the
shareholders are involved in the day-to-day management and have a seat on the board of directors.
This selling process can happen through negotiations and auctions.

Global Trends and Important Players

Scenario in Developed Economies
Leveraged buyouts were highly popular in late 80’s in USA and saw a decline during the 90’s due to
greater restrictions and higher interest rates. The advent of new millennium saw combination of
solid financial growth, liberal US monetary policy, strong credit markets and low inflation which led
to low interest rates and low volatility, lax lending policies, and large amounts of debt financing
available. This scenario in developed nations provided great debt raising chances for the corporate
sector at low cost and favorable terms.

In 2006, the global amount of Leveraged buyout breached the USD 650 billion mark which was
twice the 2005 record. LBOs accounted for more than 17% in 2006 (compared to just 3% of 2000)
of the global M&As. During the same time, there was a surge in LBO activity in developed
economies of Europe as well. In 2006, the total value of Leveraged Buyout transactions in the EU
stood at around USD 225 billion. This sharp rise in LBOs in mid-2000s was followed by deep
recession in USA which had impact in EU as well. Many backers of The LBO scenario in developed
countries has seen a great drop of about 50% in value in 2015 compared to 2006. The average deal
numbers also fell from 100 to 59 per quarter in the same time frame.
 140 450
400
120
350
100
300
80 250

60 200
150
40
100
20
50
0 0
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Number of Deals Total Value

Number of LBO Deals and Total Value in USA from 2003 to 2015 (Data Source: Cambridge Associates)

Leveraged Buyouts on a rise in Emerging Economies

The scenario of leveraged buyout in Emerging markets is in sharp contrast to the developed
economies. LBOs have seen a sharp rise in the last decade mostly driven by high liquidity and low
interest rates.

LBOs are a recent trend in India with 68 out of 83 (More than 80%) happening after 2007. Similar
trends have been observed in BRIC Nations post 2007.

The number of LBOs in an economy seems to depend on growth rate as low-interest money tends
to move towards those economies. International Monetary Fund (IMF) mentioned in World
Economic Outlook 70% of growth has come from emerging markets.
 70

60

50

40 China
India
30
Russia
20 Brazil

10

0
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016*
Number of Leveraged Buyouts in BRIC Countries (Brazil, Russia, India and China) (Data Source:
Bloomberg)

Global Trend - Leveraged Buyouts in Tech Companies

LBOs have been traditionally associated with mature low risk industries with targets which have low
debt, high assets, great cash flows and Low working/expansion capital requirement. IT Tech
industry has always been seen as a high risk, high competition, highly volatile market with minimal
tangible assets and limited cash flow. Tech companies do not fit into the traditional LBO Target
industry definition but the industry has seen the 2nd highest number of LBO deals and highest by
value.
 Leverage-Backed Buyout Deals in 2016 by Industry
25%

20%

15%

10%

5%

0%
Industrials Information Consumer Healthcare Business Food & Telecoms Energy & Materials Other
Technology & Retail Services Agriculture & Media Utilities
No. of Deals Aggregate Deal Value ($bn)

Interestingly Tech companies have seen best IRR returns over the years across all Industries. The
acquiring firms bring high level of debts which forces management to reduce expenses on useless
projects, increase hiring and operational discipline. LBO players also see a high potential of exit with
tech companies as it will sell to a strategic buyer, or another buyout firm. Intelligent investors try to
find companies in early stage of development or having a viral product and try to garner good
profits out of the deal. The success IPO of twitter, facebook, snap have further increased investor
confidence in tech companies.
Dell Inc. – The bold player of LBO in IT
Michael Dell is a prominent supporter of use of debt to finance new acquisitions. Dell found early
success with LBOs when he partnered with Silver Lake and bought Seagate Technology. This single
deal made about 700% in returns for Dell.

Dell went on a $13 billion acquisition spree mostly sponsored by debt and acquired more than 20
companies. The biggest: the 2009 takeover of IT services provider Perot Systems for $3.9 billion,
purchased at a 68% premium.

Dell and Silver Lake worked together in 2013 to take Dell Inc. off the NASDAQ and take it private.
It was the largest such deal to take a company private from public listing. The total deal was of about
$25 billion for which Silver Lake spent $1.4 billion, banks including Bank of America, Barclays, Credit
Suisse and RBC provided about $16 billion in financing, and Microsoft tossed in a $2 billion loan to
one of its biggest partners.

Michael Dell runs his own firm MSD Capital, with $12 billion in assets for buyouts.

The Dell EMC merger closed in September 2016 and is the second-largest tech merger ever, behind
only the $106 billion tie-up between AOL and Time Warner in 2000. The total amount of the
acquisition stands at $64 billion out of which $40 billion is raised as debt. In June 2015, EMC had $7.4
billion and $7.7 billion in debt and cash, respectively, on its books while Dell had $11.7 billion in debt
as of September 2015. Dell is junk-rated from both Standard & Poor’s and Moody’s Investors Service,
EMC enjoys investment-grade credit rating. This enabled Dell to raise debt at low rate for acquiring
EMC.

Other Industries and Global Players

Leveraged buyouts have historically been a tool for going after undervalued companies in matured
industries like Pharma(Acquisition history of Pfizer), Real Estate (Acquisition of Hilton group by
Blackstone Group for $26 billion), Manufacturing(Georgia-Pacific’s acquisition of Koch Industries in
2005 for $21 billion), Business services(Oracle’s Acquisition of Peoplesoft) or Energy sector
(Kohlberg Kravis Roberts & Co., Texas Pacific Group and Goldman Sachs’s $48 Acquisition of
Energy Future Holdings). These industries have regular cash flow, high quality assets like real estate,
patents or licenses. Intel’s Buyout of Mobileye for $15 billion in March 2017 is another example of
big betting in IT Space.

The current scenario seems like a comeback for LBOs in mainstream M&A strategy in developed
economies after almost a decade of taking a backseat. As the liquidity in Emerging economies increases
along with growth rate, the number of LBO deals is further slated to increase. The Rs. 4000 crore
acquisition of Indian Operations of Lafarge Cements by a lesser known Nirma group and high debt
International acquisitions by TATA Group, Airtel’s acquisitions in Africa are some of the best
examples of companies in developing confidence in emerging economies developing the confidence
to take over mature industries globally.
Regulations in India
The primary form of financing in leveraged buyouts is usually debt against the assets of the company
being acquired or with its cash flow. Although such investments give enormous benefits to investors
(as they need to invest a small equity), they are highly risky in terms of debt repayment. Investors hope
to pay off the loan from the cash flows of the acquired company- many a times which do not end up
profitable. Therefore, the investors are expected to have sufficient equity stability.
The Securities and Exchange Board of India (SEBI) lays down the regulations governing the
investment of venture capital funds under authority of the SEBI (Alternative Investment Funds)
Regulations, 2012 (“AIF Regulations”). The diversion of borrowed funds into non-performing
busesses has been a major concern to the Reserve Bank of India (RBI) because of fears that such
excessive and somewhat speculative advancing by banks for LBOs could put a severe strain on the
general well-being of the Indian economy. Thus, the Indian law presently prevents venture capital
funds from investing in leveraged buy-outs, which is an internationally accepted model.
Specifically, Indian regulations forbid investment obtained by taking loans from banks/financial
institutions that are collateralized by the assets of the investee company.

Prevailing restrictions in India

Venture capital funds face the following restrictions under the prevailing laws in India:

 To safeguard the interests of Indian companies, the RBI forbids banks and financial
institutions from giving loans for acquisition of shares in any other Indian firms. However,
domestic banks can advance loans to Indian companies for purchase of shares in foreign JVs
and wholly-owned subsidiaries, subject to certain conditions as may be given by RBI.
 The Foreign Investment Promotion Board (FIPB), the apex authority overseeing foreign
investments in India, forbids investors from obtaining loans from domestic banks for
acquisition of shares in other Indian firms.
 In addition, AIF Regulations restrict firms from acquiring loans directly or indirectly from
banks/financial institutions or to participate in any form of leverage, unless needed for
fulfilling temporary requirements of funding for a duration not going beyond 30 days, and
not more than four occasions in a year, and for a maximum of ten percent of the corpus.
 Section 67(2) of the Companies Act, 2013 which came into effect on April 1, 2014, forbids
public companies from advancing any financial support to a person related to a
purchase/acquisition of its shares.
In view of these regulations, most VC firms are taken down with a strict regulatory and compliance
requirement that are not in line with the LBO models prevalent in other developed countries. If the
LBO model is ever introduced in India, the regulatory restrictions will need to be suitably amended
for it to be successful.
Therefore, in India, a traditional LBO where loans are obtained by using the target firm ‘s assets as
collateral are not permitted for public companies. Since the restriction does not apply to a private
company, a listed public company could possibly delist its securities and change itself into a private
company before being acquired via an LBO. However, the delisting and conversion processes are not
simple. To voluntarily delist, a firm would need the support of at minimum two-thirds of its members
and from the stock exchanges on which it is listed. Furthermore, delisting would require the firm to
follow complex procedures laid down by the Securities and Exchange Board of India (SEBI). To
convert to a private company, a company would also need approval from the Registrar of companies,
which can deliberate on many factors, such as whether most of the owners have concurred to the
conversion, and whether there are any objections from the company’s shareholders and creditors.

Restrictions on exit through public offerings

As seen above, India has a complex set of regulations which further limit a private equity firm ‘s exit
opportunities. Before a private equity firm can list an Indian company on a foreign exchange, the SEBI
guidelines necessitate that it lists the company on a domestic exchange. This dual-listing requirement
makes it hard for private equity firms that are performing an LBO to exit through a foreign listing.
Further, if the company is restricted from listing on an Indian stock exchange, the private equity firm
will be prohibited from an exit via a public offering on a foreign exchange.
The SEBI regulations add further intricacy to a public market exit and make it clear that private equity
investors engaged in an LBO of an Indian company cannot exit easily through an IPO. According to
the SEBI‘s listing requirements, Indian firms must identify the promoters of the listing firm for
purposes of minimum contributions and the promoter lock-in. In an IPO, the promoters must own a
minimum of 20% of the post-offering stock. All other public offerings need the promoters to buy
20% of the proposed issuance or ensure that they own 20% of the shares post-offering. Besides, the
SEBI‘s guidelines specify lock-in requirements on promoters‘ shares to guarantee that the control and
management of the company is reliable after the public offering. The least contribution of 20% that
promoters make will be locked in for 3 years. If the promoters ‘contribution more than 20%, the
additional contribution is locked in for one year. In addition, there is a one year lock-in period for the
pre-offering share capital and the shares issued on a firm allotment basis.
Further restrictions on LBO can also happen because of regulations governing foreign investments in
India as allowed by the government.
Table 0-1FDI limits on vairous sectors in India

FDI Entry Route &

Sector Limit Remarks
Agriculture & Animal Husbandry 100% Automatic
Plantation Sector 100% Automatic
Mining 100% Automatic
Mining (Coal & Lignite) 100% Automatic
Petroleum & Natural Gas
Exploration activities of oil and natural gas fields,
infrastructure related to marketing of petroleum products and 100% Automatic
 FDI Entry Route &
Sector Limit Remarks
natural gas, marketing of natural gas and petroleum products
etc
Petroleum & Natural Gas
Petroleum refining by the Public Sector Undertakings (PSU),
without any disinvestment or dilution of domestic equity in
the existing PSUs. 49% Automatic
Automatic up to 49%
Above 49% under
Defence Manufacturing 100% Government route
Broadcasting 100% Automatic
Broadcasting Content Services 49% Government
Up-linking of Non-‘News & Current Affairs’ TV
Channels/ Down-linking of TV Channels 100% Automatic
Civil Aviation – Airports 100% Automatic
Automatic up to 49%
Above 49% under
Government route
100% Automatic for
Civil Aviation – Air Transport Services 100% NRIs
Automatic up to 49%
Above 49% under
Telecom Services 100% Government route
E-commerce activities 100% Automatic
Automatic up to 49%
Single Brand retail trading Above 49% under
100% Government route
Multi Brand Retail Trading 51% Government
Automatic up to 49%
Above 49% & up to
74% under
Banking- Private Sector 74% Government route
Banking- Public Sector 20% Government
Insurance 49% Automatic
 FDI Entry Route &
Sector Limit Remarks
Non-Banking Finance Companies (NBFC) 100% Automatic
Food products manufactured or produced in India
100% Government

Major LBOs in India

Tata Steel-Corpus LBO

In 2007, Tata Steel bought out Corus in a $11.3 billion deal, what at the time was the biggest foreign
acquisition by an Indian company.
 Deal Terms
 All Cash Deal
 Leveraged Buy Out
• Equity Capital from Tata Steel Ltd - USD 4.10 billion
• Long-term debt from consortium of banks - USD 6.14 billion
• Quasi - Equity funding at Tata Steel Asia Singapore - USD 1.25 billion
• Long term Capital funding at Tata Steel Asia Singapore - USD 1.41 billion
• Total USD - 12.90 billion
Tata tea- Tetley LBO
In the year 2000, Tata Tea acquired UK based for about £271 million which excludes a debt of £129
million. The debt included £96.94 million towards borrowings, finance lease obligations and
subordinated loan stock while the other provisions and reorganization costs make up the rest of the
debt portion. This takes the cost to a total of about Rs. 2750 cr. At the time, Tetley was the world’s
second largest maker of tea bags and it provided Tata tea access to the European markets.

ICICI ventures
1. ICICI ventures -RFCL
ICICI ventures bought out RFCL (Ranbaxy fine chemicals) in December 2005 for about 125cr. At
that time, RFCL had revenues of about Rs 150 cr. It was one of the earliest cases of buyouts in India
by a private equity firm. Eventually ICIC ventures decided to exit the business and sold it to pharma
giant Pfizer for Rs. 356cr in 2009
2. ICIC ventures-infomedia
ICICI ventures acquired infomedia 18 (formerly Tata infomedia) in 2003. ICICI had a controlling
50% stake in the Tata infomedia acquiring 5.7 million shares at Rs. 196 per share. The total investment
was around Rs. 141 cr. ICICI ventures eventually sold 40 % of the stake of the company to TV 18
group for about 445 cr.
3. ICICI ventures- ACE refractories
ICICI ventures acquired the refractory division of ACC in 2005 and eventually changed its name to
ACE refractories Ltd. ICICI ventures had bought the entity for Rs. 257 cr in 2005. Later in 2007,
ICICI ventures sold the 99 percent of its stake in the company to French company IMERYS for about
Rs, 546 cr.

Risks:
In general, there are two kinds of risks, one which are general in nature and the other which are more
relevant in the Indian market. Certain studies have inferred that presence of few factors pertaining to
the nature of the acquired firm and its characteristics, market conditions, etc. lead to higher risk of
failure of LBOs. These factors are highlighted below:
1. Interest Rate Risk
LBOs are largely financed by leveraging the assets using debt. If the interest rates rise, the enormous
debt taken on by the company starts crumbling the organization as it struggles to pay off the loan.
Further, this puts pressure on the margins of the company and this leads to a complete failure of the
LBO.
2. Age of the Firm

It is usually seen that firms which relatively young tend to have a higher risk of defaulting. A probable
reason cited for this is that as they are young, the PE firm has to invest a lot of time and effort to
ensure the firm continues to scale up and maintain its trajectory. As compared to a mature firm,
younger firm is far more liable to be volatile.
3. Acquiring in a Bullish Market

In a bullish market, the share prices being high and rising, the overall premium paid and the subsequent
leverage required is also very high. Therefore, with the high leverage, the financial condition of the
firm naturally worsens leading to higher chance of bankruptcy.
4. Change in Price of finished good / raw material / any other key market dynamic

Some firms’ profitability is highly linked with the presence of certain critical factors which allow them
to maintain their competitive advantage. Certain acquisitions are made with the assumption that these
factors will remain for the foreseeable future which is not always the case. In such a scenario the
leverage taken on by the company cannot easily be serviced.

Risks relevant to the Indian market:

1. Foreign Currency Risk

This kind of risk is mainly relevant when a foreign company is attempting to buyout an Indian firm.
The foreign company finances the takeover in its local currency and the revenues generated by the
Indian firm are in Indian Rupees. This risk is automatically mitigated if the target firm has significant
revenues generated in the export market. Alternatively, the firm can hedge against this risk but then it
increases the overall cost of the LBO.

2. Stamp Duty Liability and Execution Risk

India has separate stamp duty, in the range of 5-10%, whenever an asset is bought. This duty depends
on the state and the kind of asset being bought ie land, machines, etc. This increases the overall risk
in the entire operation and can make the transaction infeasible for the buyer.

Hostile Scenarios
Acquisitions can either be willful and involuntary, that is agreeable and adversary. In case of intentional
merger of two organizations managers settle on choices about the integration of their organizations
while if there should arise an occurrence of hostile takeover, the target firm doesn't endorse takeover
of the organization in a straightforward manner and the acquirer ends up paying a price fundamentally
higher than current market rates.
The cause of hostile takeovers can be explained mainly buy two main theories of corporate finance.
Asymmetrical Information
Generally, when the bidder values a firm, the acquirer looks at the current market and operating
conditions factors in certain assumptions to arrive at the value of the target firm. Popular methods
which makes use of trading multiples, transaction multiples and Discounted cash flow rely on forecasts
which approximate the target firm’s value. The target firm can far more accurately know the true value
of the firm because of insider information. This is one of the main reasons for the target to rebuff the
acquirer’s bid.
Agency Costs Explanation
In certain scenarios, the top management does not act in the best of interests of the company but
rather act through their own self interests. In this case, the decision makers may prevent takeovers for
the fear of losing their own position, higher compensations, management perks & personal benefits,
power associated with their position, etc.
In general, it is seen that companies which have been hostile takeover targets underperform in the
market and enjoy less independence.

Implications of the hostile takeover

Generally, when a target firm rejects an offer from the acquirer, the acquirer comes back with an offer
of a higher price. Thus, the target firm’s shareholders benefit. However, at the same time a long drawn
out negotiation process entails legal fees, advisory costs and in the reduction of the share price of the
firm. So, it is highly dependent whether a hostile takeover works for the target firm or not.
Tata Tea – Tetley Case
In the summer of 2000, the corporate fraternity of India witnessed a path breaking achievement, never
heard of or seen before in the history of corporate India.
In a historic agreement, announcing a new chapter in Indian corporate history, Tata Tea acquired the
British heavyweight brand Tetley by an astounding 271 million pounds. This agreement, which turned
out to be the largest cross-border acquisition of any Indian company at that time, marked the
culmination of Tata Tea's strategy of pushing for aggressive growth and global expansion.
"We were very clear that the burden on Tata tea should be such that the company would be able to
absorb it. And it would not materially affect Tata Tea's bottomline."
- N.A.Soonavala, Vice-Chairman, Tata Tea.
"It was important to make the right decision on the comprehensiveness of the transaction. The model
has been driven by existing and future earnings potential of the Tetley group and the resultant post-
acquisition cash flows to immediately justify the business and financial model."
- Rana Kapoor, MD, Rabo India Finance Ltd., Commenting on the deal

Why LBO?
In the case of Tata Tea, its reserves at the time of the agreement were only about 4 billion INR, which
excludes the possibility of making such a huge acquisition on its own. Neither could the debt burden
associated with large loans be allowed. Therefore,leveraged buyout was the only way forward.
The structure of the agreement allowed Tata Tea to retain full control over the company and at the
same time, the debt portion of the agreement did not affect its balance sheet. The responsibility for
the acquisition was limited to the contribution of Tata Tea to the SPV. In addition, the lenders had
no recourse at all to Tata Tea in India.
Its dilutive impact on Tata Tea's earnings was not substantial either. One expert described it as "a
classic leveraged buyout of cross-border financing, without resorting to Tata tea, guaranteed only with
Tetley's assets and cash flow." Interestingly, in the case of Tata Tea the agreement helped meet it, two
major financing requirements, the minimum exposure of Tata Tea, but at the same time retain 100%
ownership of the company, a seemingly win-win agreement indeed.

Structure
The Special Purchase Vehicle (Tata Tea – Great Britain) leveraged 70 million pounds of net worth
3.36 times to raise a debt of 235 million pounds to finance the deal. The total debt amount of 235
million pounds consisted of four tranches (A, B, C and D) whose mandate ranged from 7 years to 9.5
years, with a coupon rate of about 11%, 424 basis points above LIBOR.
Rabobank, based in the Netherlands, had provided £ 215 million, while venture capital funds
Mezzanine and Shroders contributed £ 10 million each. While A, B and C were long-term loans, D-
trench was a revolving loan taking recurring form Advances and letters of credit. Of the four tranches
A and B were used to finance the acquisition, while C and D were allocated to capital expenditures
and working capital requirements respectively
Debt rose against Tetley's brands and physical assets. The valuation of the agreement was made based
on the expected future cash flows that the brand generates along with the synergies that arise from
the acquisition.

Challenges
1. Lack of adequate Control Transactions and Professional Management
Private value firms confront constrained accessibility of control exchanges in India. The reason for
this is the relative little pool of expert personnel in corporate India. In a substantial number of Indian
organizations, the proprietors and administrators are the same. Management control of such target
organizations wrests with promoters/promoter families who might not have any desire to let go of
their stake for extra capital. Considering this situation, most of the transactions which the Private
Equity firms indulge in are investments which give them a small stake in the company.
In management buyouts, the Indian model is unique in relation to that in the West. In the West, most
of the MBOs are such that the existing management have the capability to make a deal with the
promotors. The PE firms are then brought on board to make the financial arrangements. In the Indian
version, PE firms choose their targets, buy a majority stake and then join hands with the current
administration. The administrators themselves don't have the assets to execute such a buyout.
So, when a PE firm looks for targets, they must keep in mind that there is a risk with respect to the
lack of Professional Management.
2. Challenges in Exiting the LBOs
Any Private Equity firm looks to exit the LBO when the debt has been paid down adequately and the
company is making operating profits. The easiest way to do so is via an IPO. However, there are
certain guidelines from SEBI which make it difficult for the PE firm to exit:
a. Minimum Promoter contribution and lock in requirements
It is mandated that when the shares are made public, the promoters must be declared and they must
offer at least 20% of the post issue capital. Also, there is a freeze of capital (lock in) to ensure that the
promoters own a minimum percentage after the public issue. If the promoters’ contribution exceeds
the minimum required contribution, this excess contribution must also be locked in for a period of
one year.
b. Dual listing of companies in the domestic as well as foreign markets, in case the
investor is not based in India.
SEBI guidelines state that a firm based in India cannot be listed in foreign markets unless it is listed
on the domestic exchange. If sales are more profitable in the foreign markets and the company has
larger operations through exports, then it is financially more profitable to list the company in the
foreign exchange. But due to the existing guidelines, it becomes impossible for the company to do so.
Restrictions on Foreign Investments in India
There are 2 ways through which foreign investments may be directed into India – the Foreign
Institutional Investor (“FII”) route and the Foreign Direct Investment (“FDI”) route.
The FII route is mainly used by foreign pension funds, mutual funds, investment trusts, endowment
funds and they like to invest their proprietary funds or on behalf of other funds in equities or debt in
India. Private equity firms are known to use the FII route to make minority investments in Indian
firms. foreign companies use the FDI route primarily by for setting up operations in India or for
making investments in publicly listed and unlisted companies in India where the investment horizon
is longer than that of an FII and / or the intent is to exercise control.

Future Scenario

As can be seen from the above graph the LBOs have been on the rise in India over the past few years.
This is mainly because of two reasons:
1. High growth in the emerging markets compared to the global growth: Last year per estimates, the
emerging markets accounted for 70% of the total global growth.
2. High liquidity in the developed markets: There is a lot of cheap capital available in the developed
economies because of near zero interest rates.
Apart from these positive factors, there are certain challenges that need to be addressed to ensure the
growth of the LBOs. These challenges such as policy and regulations on foreign investments are
posing a hindrance to LBO activity. If Indian policy makers bring about changes in these areas, there
would be a surge in the investment scenario in LBO.

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