MERGERS AND ACQUISTION

SUBMITTED TO Prof. Geetika Mayank

BY AJIT JHA -24 KAVITA NISHAD-37 (MMS FINANCE)

Merger of TATA TEA and Tetley

OVERVIEW OF TATA TEA LIMITED

TATA Tea was set up in 1964 as a joint venture with a UK based James Finlay and Company to develop value added tea. From a mere share of 3% in the mid 70's to become India's second largest tea producer, Tata tea has come a long way. (www.tatatea.com) The operations of Tata tea and its subsidiaries focus on branded product offerings in tea but with a significant presence in plantation activity in India and Sri Lanka. The Tata tea brand leads market share in terms of value and volume in India and has been accorded the super brand' recognition in the country. Tata tea also has 100% export oriented unit manufacturing instant tea in the state of Kerela, which is the largest such facility outside the United States.

AN OVERVIEW OF TETLEY
In 1837, two brothers, Edwards and Joseph Tetley started to sell tea and became so famous that they set up as tea merchants. In 1856, in partnership with Joseph Ackland, they set up Joseph Tetley and Co., wholesale tea dealers. Tea was rationed during World War II, it was not until 1953, just after rationing finished, that Tetley launched the tea bag to the UK and it was an immediate success. The rest, as 43 they say, is history. The tea bag had captured the publics imagination and desire for convenience. Within 10 years it revolutionized how Britons drank their tea and the old fashioned tea pot had given way to making tea in a cup using a tea bag. 1974 Tetley Tea Company was bought by J Lyons who merged it with the Lyons tea business to form Lyons Tetley. 1978 Allied Breweries acquired J Lyons Businesses then as Allied Domecq sold them in the 1990s. The Tetley Group was created in July 1995, when a group of investors bought what was then the world-wide beverage business from Allied Domecq. On 10th March 2000, The Tetley Group was sold to Tata Tea Limited, one of the worlds largest integrated tea businesses. 1

THE HISTORY OF TATA TEAS MERGER AND ACQUISITION DEALS

Earlier, after a pitched battle among the MNC's in the domestic arena, not many Indian tea manufacturing companies thought of going global. Devour competitors and destroy competition - the mantra that the global conglomerates had been chanting so far, had not gone well with the Indian counterparts. But fortunately, that doesnt remain the prerogative anymore. The war-averse domestic companies are shedding their inhibitions. The roles, have undoubtly changed. And, after fighting in out in the global commodities arena, it is time now for a global teacup. Taking a plunge in the global tea war in the year 2000 was Indias corporate tea giant Tata Tea. Though it was not an easy decision to make, that to when the competitor was no less than a stature of Unilever, a global food and beverage behemoth, but the Tata Tea had little choice - shape up or be swapped. It chose the former. And, what else could have been a better vehicle than Tetley for Tata tea to take on the might of global tea giants like Lever and Hillsdown2. But that has not come to it easily. After a long drawn out battle first with Schroder

Ventures, followed by a bitter retreat in 1995, and then with Sara Lee, Tata tea finally tasted victory on March 10, 2000 when it bought Tetley for a staggering INR2,135 crore ( 305 million sterling). Such a deal had never been heard or seen before in the Indian Corporate world. What makes this deal special is the fact that it is the first ever LBO (Leveraged Buy Out) by any Indian company. In fact, this also happened to be the largest ever cross-border acquisition by an Indian company. 3 But more than the temptation was the urgency to perform, which caused a storm in Tata Tea's cup. Glaring in the face were , and still are , the factors such as fall in exports to Russia, growing competition in the domestic market, and above all the emergence of competitors from Sri Lanka and Kenya, which the tea major could have afforded to overlook at the cost of its own peril. Surely the deal could have not come at a better time than this. The buy-out which Tata tea masterminded, would pitchfork it to a position where it can rub shoulders with global behemoths like Unilever and Lawrie. The deal gives Tata Tea an instant access to Tetleys worldwide operations, including new territories and product categories for both Tat Tea and Tetley.The combined turnover of Tata Tea was estimated to be worth INR2800-2900 crore and would put it at the second position in the globl arena.

FINANCIAL ANALYSIS OF TATA-TEA PRE-ACQUISITION

An analysis of Tata Tea's financials for the last five years ending March 31, 1999 suggests that there had been a significant improvement in the pre-tax income from operation. It increased from INR1180.60 million in FY ' 98 to INR1578.10 mn in FY' 99. The pre-tax income in 1998 itself grew tremendously by 74% over previous years figure's of INR.4854 crores . Though other income has been showing a decline over the last four years, it increased marginally in 1998-99 Net sales and net profit registered at CAGR of 20.8 % and 21.4% over the last five year period ending March 31, 1999. On a y-to-y basis, net sales declined 2.5% in the FY'99, due to discontinuation of company's international coffee trading business. The continuing business recorded 22% y-o-y growth in sales in FY'99. Return on net worth (RONW) had been showing a healthy improvement on y-o-y basis. It grew to 30.82% in 1999, as against 28.53% recorded in 1998. It showed a huge jump in 15 See the following website for information: www.indiainfoline.com 62 1998 as against 18.55% registered in 1997. Return on capital employed (ROCE) too has improved gradually over the period, indicating efficient utilization of funds and improved productivity. It grew to 37.60% in1999 from 35.07% registered in 1998. Both Operating Profit Margin (OPM) and Net Profit Margin (NPM) rose significantly to 26.71% and 14.55% in 1999 from 22.05% and 11.62% respectively in 1998. PBDIT margin excluding other income jumped from 18.9% in FY'98 to 23.8% in FY'99, despite rise in packing, advertising as well as employee cost, mainly on account of lower raw material, cultivation and manufacturing costs. Although Cash Flow, as a percent of gross sales, declined substantially to 18.86 % in 1999 from 25.07% in 1998, it clearly showed considerable improvement over a low of 6.47% recorded in 1997. Value sales of tea, both loose as well as poly packs, registered a growth of 23% on y-o-y

basis, whereas volume declined by 2.4% on y-o-y basis, indicating higher realizations. Both the gross profit margins and the net profit margins have risen significantly over the years. The gross profit margin grew to 26% in 1999 from 23% in 1998. The net profit margin, at the same time, rose to 13.6% from 11.6%, during the said period. The tax outgo has been showing a continuous increase during the last few years. And, in fact, recorded almost 100% jump in 1997-98 when it rose to INR.420mn as against INR. 240mn in 1996-97. In 1998-99, the total tax outgo was to the tune of INR 560mn. The cash profit recorded similar growth between FY'96 and FY'99. It grew to INR.14, 643mn in 1998-99 from INR. 558.2mn in 1995-96. 63 The inventories recorded a significant jump in 1999 to INR.487.2mn from INR.205.3mn in 1996. Sundry debtors have shown a declining trend in the year 1998-99. It fell to INR 11.8mn in 1999 from INR 356.9mn in 1998. Sundry creditors too have shown a similar trend during the period. the decrease in sundry creditors was to the tune of INR 256.7mn as against INR 92.7mn in 1998. Fixed asset increased to the tune of INR 503.6mn in 1999 compared to an increase of INR 432.9mn in 1998. Investments were to the tune of INR 532.8mn in 1999. Loan and advances declined to the tune of INR 380.8mn in 1999. Raw material cost fell to INR 232.18 crore in 1999 from INR 286.96 crore in 1998 on account of lower purchase of finished goods. It declined quite substantially to INR 35.40 crore in 1999 as against INR 131.93 crore in 1998. Gross working capital cycle increased from 176 days in 1998b to 185 days in 1999. However, net working capital cycle fell to 126 days in 1999, as against 132 days in 1998, as a result of rise in creditors' days, which grew to 59 days in 1999 from 44 days in 1998: reflecting company's ability to avail credits for a good number of days from its creditors. Also, fall in debtors days to 35 in 1999 to 43 in 1998 meant efficient management of receivables. as a result of rise in creditors' days, net working capital requirements fell to INR 197.50 crore in 1999 as compared to INR 227.82 crore in 1998. Short-term liquidity got affected, although marginally, as cash-to-current liability ratio fell slightly to 0.26 in 1999 from 0.28 in 1998. Quick ratio similarly showed a marginal 64 decline to 0.51 in 1999 from 0.53 in 1998. Current ratio fell to 1.53 in 1999 from 1.72 in 1998. The excise duties saw a steep rise to INR32.96 crore in 1999 from INR6.72 crore in 1998. The sales and advertising costs too rose significantly to INR102.16 crore in 1999 from INR70.58 crore in 1998. Of this, advertising expenses, alone, increased sharply from 5.1% of net sales in FY'98 to 8.7% of net sales in FY99. The distribution cost on the other hand actually declined, albeit marginally, to INR17.10 crore in 1999 from INR17.71 crore in the previous year. Interest cost declined by 24% on the y-o-y basis in FY99, with the prepayment of the part of the foreign currency loan from ICICI bank and repayments of NCDs. This was result of the company's short-term debt portfolio. Keeping in view of the remaining tenure of this loan and the depreciation in the value of rupee vis--vis US dollar, the restructuring of the loans could work out to be effective. As a consequence of decline in debt position, interest coverage ratio rose to 7.13 in 1999 from 5.60 in 1998, indicating improved debt-servicing ability.

Though, the debt-to-equity ratio declined from 0.8 in 1998 to 0.5 in 1999, as a result of prepayment of FOREX loan from ICICI, with the issuance of 75.98 lakh Global Depository Receipts (GDRs) to part finance the acquisition of Tetley, it would rise, albeit marginally. Depreciation has increased over the years with the company incurring capital expenditure on modernization of its facilities and acquisition of plantations. In 1999 itself the depreciation rose to INR17.67 crore to INR14.66 crore in 1998. 65 The company distributed dividends to the tune of INR53.49 crore in 1999, up from INR49.11 crore distributed in 1998. Cash profits were to the tune of INR146.43 crore in 1999 as against INR116.83 crore in 1998. Total reserve and surplus at the end of the financial year 1999 was a comfortable 399 crore. The effective tax rate has been around 32-33% in the year 1998 and 1999. (Data source: annual reports of Tata-tea from the financial year 1995-96 to financial year 1999-2000).

LEVERAGED BUY-OUT
An LBO is defined as the acquisition, financed largely by borrowing, of all the stocks, or assets, of the hitherto public company by a small group of investors. In an LBO, debt financing typically represents 50% or more of the purchase price. The debt is secured by the assets of the acquired firm and is usually amortized over a period of less than ten years. As funds are generated by operations or from the sales of the assets of the acquired firm the debt to be paid off is scheduled. The sale of the assets occurs when the investor group is motivated to take control in part because of what it considers unwise or ill-fitting acquisitions by the firms in the past. There may be limited equity participation on the part of outside investors such as pension funds and insurance companies often with the provision that the equity interest would be repurchased after pre-determined period to provide a specified yield. 66 Following completion of the buy-out, the company is usually run as a privately held corporation rather than a public corporation, at least for some years, after which resale of firm at a profit is anticipated. LBO is implemented for the following: To generate additional cash flow from interest tax shields. Reduce capital expenditures. Sale of assets. Studies have shown that high leveraged, concentrated equity ownership by managers and monitoring by the LBO sponsor firm creates an organization form whose incentive structure leads to value maximization. In particular, increasing the proportion of equity owned by mangers can provide increased incentives for managers to create shareholder wealth. In addition, substantial debt service obligations can force managers to use particular care in seeking investment opportunities. Finally, non-management insiders typically own a significant proportion if outstanding equity and exercise considerable control over managers through the board of directors. Thus they enhance monitoring within the organizations. Other studies have documented an improvement in the operating performance as the change in the organizational incentives16.

CONSEQUENCES OF TATA TEAS ACQUISITIONS OF TETLEY

NET SALES REVENUE

POST-MERGER FINANCIAL PERFORMANCE

YEAR

Net Sales
(INR millions)

Net Income
(INR millions)

Total Assets
(INR millions)

ROA* % per year

Total Equity
(INR millions)

ROE** % per year

CONCLUSION
Mergers and Acquisitions are the most important components of modern corporate finance. The growing tendency of capital concentration and companys preference for external expansion, rather than internal way of development, determines the significance of mergers and acquisitions within the bounds strategic planning of companys development. The increasing number of M&A activity all around the world became possible because of increasing convergence of underlying knowledge-based assets due to worldwide competition and globalization, which gave an opportunity for companies to expand their M&A activity not only domestically, but also on international arena through cross-border cooperative activity. The M&A activity have a continuous nature and worldwide process of capital concentration is far from completion. Tata Tea Ltd. had a major acquisition deal of Tetley in the year 1999-2000. Also at the same time, Tata Teas competitors Hindustan Lever Ltd. were also involved in a series of M&A activities.

both the companies engaged in M&A activities because they wanted to increase their market shares and increase profitability. When Tata Tea acquired Tetley, it was concerned with strengthening its position and to diversify geographically through a dynamic merger activity. Thirdly, I uncovered that the consequences of the merger activity. Tata Tea Ltd. steadily increased its market share and had significant variations in the market share over the last few years. The overall affect of the acquisition on market share ranged from neutral to positive. Nevertheless Tata Tea boosted sales revenue and shareholders value. The financial performance of Tata Tea improved though at a slow rate and both ROA and ROE had been positive so far. M&As waves are sweeping across the tea industry worldwide. Surely, the decision to acquire Tetley could be termed as prudent and at the right moment for Tata Tea. More so, when rival Lever is hell-bent to take vigor out of others cups of tea. About the Tetleys acquisition, it could be said that given the intensity of competition and fast changing business environment in the tea segment, the world over, it, undoubtedly, is 75 a strategic fit for Tata Tea in the driving seat in worlds two largest markets, the UK and US, but should also make it inroads in other lucrative markets like Middle East and the rest of Europe.