The recent past
Hindustan Unilever has gone through some tough times during the recent past. Take a look: It saw its market value stagnate during the period from 2002 to as recent as 2011. Stock price in 2002 was near Rs.290 and until recently in 2011 it was still about that range. Patience is virtue, is it?
Today, the stock is trading nearly at Rs.600. All that increase has been in the past 2 years. While Nifty increased by about 3%, HUL doubled.
The glorious past
Prior to 2002 HUL was actually a star performer.
That Rupee stayed the same for the next decade, though. Constant pressure from the competition and raw material prices brought EBIT down from 17-18% (2002) to 12% (2011).
The change in market cap:
The present
Now the market capitalization stands at Rs.126,000 crores with robust performance in 2012-13. The current P/E is 34 and dividend yield is about 3%.
The open offer on 30 April 2013
Unilever has announced a voluntary open offer to buy 48.7 crores shares in HUL at a price of Rs.600 per share. The stock price jumped by 17% that day from Rs.498 to Rs.584. Not bad for a day-trader.
The signalling effect
Promoter purchases are always considered as some signal to the market about how they feel about the current price compared to the future potential of the business. As the insider managers know more about the business than the market, any announcement or action from them should tell some story. Here, the promoter is trying to purchase voluntarily a significant stake (22%) in the firm. Everything else remaining intact, the market should consider that the price of Rs.600 is cheap compared to its intrinsic value. Is it really?
The promoters' insight, a delayed action
If that were so, why did the promoters (Unilever) wait until the HUL stock price doubled? They could have easily bought the stake for half the price two years ago. May be they did not have the insider's insight. Of course, Unilever is using its own cash (i.e. its shareholders' cash) not HUL's cash for it is not a stock buy-back from HUL.
If the price is not fair then Unilever's manager is cheating its shareholders. Unilever is paying about Rs.29,220 crores for the purchase. The excess cash, if that was, could have been returned back to the shareholders as special dividends or if its own stock price was cheap, it could have done the stock buy-back itself.
Obviously, Unilever knows that its future growth lies in the emerging markets. Currently, they account for 57% of its revenue. Sure, India could make a meaningful contribution to its growth, both in terms of revenue and earnings. This is a special business earning very high return on capital.
But the price paid has to be reasonable compared to the cash flows. This part is a bit difficult to figure out since the promoters waited for too long to do this. Now, they are telling us that at 34 P/E this company is worth it.
Who is going to sell?
I don't think the additional stake will make any difference to its control because Unilever already owns 52.48% in HUL. The additional 22.52% will take it to 75%, the maximum limit.
What does it mean to the HUL shareholders? The current shareholding is: Promoters 52%, Institutions 30% and Others 18%. The promoters would own 75% if the offer becomes successful. Who is going to sell? About 6.43% is currently with LIC, Oppenheimer fund and Virtus Fund. Assuming that not all shareholders in the others category would sell, a large part of that 22.52% has to come from the institutions. To make it more difficult the run up on the price means that the offer may not be accepted or the offer price has to be increased.
The easy decision is rejection
Unilever has refused to increase the offer price. This means even if the offer price was fair the shareholders should reject since the current stock price is pretty close to the offer price. Those who believe the promoters can stay on and participate in the Indian FMCG growth story, and those who don't can sell directly in the market. You don't need additional paper work or anything to do with Unilever for now.
Special dividends to the promoters
There is a new arrangement for royalty payments to the promoters too. It will increase from 1.4% of revenue to 3.15% before 2018. It is quite significant as a percentage of earnings. At the current revenue of Rs.27,000 crores the royalty cost is Rs.378 crores. Is this some kind of special dividend to some special shareholders? This will have impact on the future EPS.
Going like private
If the offer is successful, HUL will act more like a private business in a way than a publicly traded business. For one, the stock would have very little free float; about 54 crores shares will be available for trading. With 75% stock remaining with the promoters and some more with those who really don't want to trade the stock, the trading volume should come down significantly. It is not necessarily a bad thing as long as the business does well. However, this is something that the shareholders should know. The institutions who want to trade will continue to set the stock prices but they will own much less stock than before.
Buying from the market
The hunch is that since the voluntary offer is not likely to be accepted, Unilever will try to buy the stock from the open market as and when the prices are suitable.
Buying from the market
The hunch is that since the voluntary offer is not likely to be accepted, Unilever will try to buy the stock from the open market as and when the prices are suitable.
