Suzuki Vs institutional investors: Why returns matter more than governance

For over a month now, minority shareholders, especially institutional investors, have been protesting against Maruti’s decision to transfer its Gujarat plant to a 100 percent arm of parent Suzuki. Most likely, Maruti will have its way in the matter, despite reports that institutional investors had taken it up with the regulator. Reason: Neither Maruti nor its parent Suzuki has violated any rule, even if they have been accused of shortchanging minority shareholders.

The managements of both firms would certainly have anticipated shareholder dissent against the move. And if they still decide to push through with the deal, it is a signal on how seriously they take minority shareholders, particularly the institutional investors, who have been threatening to dump the stock over issues of corporate governance. Question is: will some of the fund managers actually carry out the threat of voting with their feet if their views are brushed aside? Unlikely, if past trends are any indication.

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For all the posturing when company managements try to shortchange minority shareholders, fund managers are ultimately guided by the returns on their stocks. That is why you find institutions putting money in companies that are not exactly famed for their corporate governance standards.

As one fund manager said: “If you get too fussy about corporate governance, there will hardly be any companies to invest in, unless you are willing to overlook returns.”

Promoters, particularly MNCs, trying to rip off minority shareholders is nothing new. You would think that once bitten, fund managers would prefer not to associate with that promoter again. Far from it, institutional holdings in many of those companies have actually risen over the years. There are instances where fund managers have not given the company a second chance, but those can be counted on the fingers of one hand. In a majority of the cases, money managers have made peace with the promoters if they see prospects of making a handsome return on their investments.

On the list of companies which have had run-ins with minority shareholders, the Anil Agarwal-promoted Sesa Sterlite (formerly Sterlite Industries) figures high up.

In May 2001, the company tried to delist through a buyback offer at Rs 150 a share (Rs 100 of it in cash and the rest in secured non-convertible debentures, redeemable in the fourth, fifth and sixth years). Sterlite mailed shareholders the cheques worth Rs 100 per share, and unless they wrote in saying they were opposed to the plan, it would be taken as a ‘yes.’ Also, shares would be swept out of investors’ depository accounts if they had either encashed the cheques or failed to mail in their dissent when the scheme closed.

The proposal met with stiff resistance from the shareholders, and was defeated. Two years later, the company again tried to delist through a restructuring proposal, which involved hiving off the copper business into an unlisted arm. This proposal too angered minority shareholders as they felt the company was trying to buy them out on the cheap. Sterlite’s second attempt flopped just as the one before it. In 2008, minority shareholders of Sterlite, led by institutional investors forced the company to shelve a restructuring proposal that would have resulted in a lower stake for them in the company’s core mining assets, in return for a piece in parent Vedanta’s unproven copper mine in Zambia.

In 2012, Vedanta’s move to merge Sterlite Industries, Sesa Goa and three other unlisted group firms too faced resistance from a section of institutional investors, who felt shareholders of Sterlite and Sesa Goa were getting a raw deal as they would have to shoulder a higher share of the group’s debt. The merger eventually did go through.

Amidst all this, institutional investors’ stake in the company has been steadily rising. At the end of 31 March 2001, institutional investors held a little over 14 percent in the company. Of that, 13.62 percent was held by banks, insurance companies and financial institutions. Today, institutional holdings in Sesa Sterlite have risen to 28 percent, with FIIs accounting for around 19 percent.

In 1999, Pfizer drew fire from minority shareholders for its decision to set up a 100 percent subsidiary. Despite the outcry, Pfizer went ahead with its decision after approval from the Foreign Investment Promotion Board. Minority shareholders had moved the FIPB requesting it not to grant permission for the 100 percent arm, unless Pfizer received the consent of the majority of institutional and retail investors. Institutional holdings in the stock rose from around 31 percent in 2000 to 34 percent by March 2009. It declined only after parent Pfizer Inc increased its own stake from 41.23 percent to 70.7 percent through an open offer.

In 1999, Bharti Telecom bought out minority shareholders at Rs 95 per share and delisted. Retail investors protested the price, claiming it to be too low. But most of them, barring a few, tendered the shares, not wanting to hold illiquid shares. Less than three years later, Bharti Tele-Ventures (now Bharti Airtel) came out with an initial public offering, with Bharti Telecom holding a little over 46 percent in it. The IPO received a good response from institutional investors. Judging by the price that Singtel and Vodafone later paid for a stake in Bharti Tele-Ventures, it was clear that minority shareholders in Bharti Telecom had been bought for a song.

Procter & Gamble has been consistently criticized for shortchanging minority shareholders in its listed Indian arm Procter & Gamble Health & Hygiene (PGHH). P&G’s unlisted arm Procter & Gamble Home Products (PGHP) has been the vehicle for new launches and innovations, besides holding brands in major segments like laundry, haircare and skincare. To add insult to injury, royalty payments as a proportion of sales of PGHH have more than doubled between 2005 and 2010. Some shareholders have also protested at funds of PGHH being loaned to the unlisted arm. But since 2007, institutional holdings in PGHH have more than doubled to around 15 percent.

In February 2006, Wyeth Ltd relinquished its rights to market the blockbuster vaccine Prevenar in India for Rs 22.60 crore, and allowed Wyeth USA to set up a wholly-owned subsidiary, Wyeth Pharmaceuticals India, and use the ‘Wyeth’ trademark for marketing the product. The stock price plunged, but over the next couple of quarters, institutional holdings rose from 20 percent to 22.10 percent.

In August 2008, Novartis drew flak from Reliance Mutual Fund for loaning funds to group companies at low rates of interest. The company defended its decision, and institutional holdings in the stock stayed steady around 20 percent. In fact, Reliance Mutual Fund’s stake rose a few percentage points over the next couple of quarters.

In February 2009, Siemens Ltd sold its IT arm to parent Siemens AG, prompting allegations from fund managers that the deal caused a loss to Indian shareholders. The stock price tumbled initially, but quickly caught up with the rally in the market. Institutional holdings rose from 24.42 percent at the end of the March quarter to 26.27 percent by the end of the December quarter. In September 2013, the company sold its parcel logistics and airport logistics to the parent, again attracting criticism from shareholders. Institutional investors now own barely 12 percent in the company as a result of the parent hiking stake through an open offer in April 2011.

In December 2010, Hero Honda (now Hero Motocorp) announced that it was splitting with its Japanese joint venture partner Honda, without giving details about the financial arrangement. Institutional investors panned the Hero promoters for lack of transparency as talk in the market was that Hero would buy Honda’s stake at a steep discount to the market price and, in return, Honda would be compensated through higher royalty payments for the remainder of their technology sharing agreement till 2014. It was only in March 2011 that the financial terms were made public. Honda agreed to sell its 26 percent to Hero at a 50 percent discount to market price. The company maintained that royalty payments to Honda would not increase, but never fully explained to investors the reason for the massive discount.

Initially, fund managers were unconvinced, and the stock underperformed the auto sector as well as the market between December 2010 and March 2011. But institutional holdings in Hero actually increased by 1 percentage point to 39.03 percent between end-December 2010 to end December 2011.

In July 2013, Holcim infuriated minority shareholders of Ambuja Cements with a proposed restructuring plan which would drain Ambuja of the cash on its books without adding anything to its earnings per share. Under the complex deal, Ambuja Cements would pay Rs 3,500 crore (90 percent of 2012 cash on balance-sheet), and issue shares to Holcim India - parent Holcim’s 100 percent subsidiary - to merge the company with itself. Just seven months back, Holcim had irked minority shareholders of Ambuja and ACC by hiking royalty payment from 0.6-0.7 percent to 1 percent.

But it was the restructuring deal that annoyed shareholders more, and some fund managers threatened to raise the matter with Sebi. Ambuja Cements’ stock price tumbled initially, but then recovered lost ground. Ambuja eventually got shareholders’ approval for the deal, and institutional holdings rose from 39.84 percent to 40.54 percent from the June quarter to the December quarter.

It will be interesting to see if fund houses increase their stake in Maruti in the coming quarters after having railed against the management for its anti-shareholder decision.

The bottomline is that corporate governance standards do matter, but return on investments matter even more to fund managers.