When company A takes over company B, several questions may crop up in the minds of management students: Will the acquisition fit into the business profile of Company A (strategic fit)? Alternatively, does it run the risk of being afflicted with what is known in strategic management literature as ‘winner’s curse’ (did it over-pay)? Did the management of company B do the right thing by recommending that its shareholders accept the terms of the takeover offer?
Rarely, however, would takeover transactions involve the consideration of such questions as whether the CEO/promoter shareholder of the target company should be paid not to compete with the acquiring company in its lines of business? Nor would such a transaction typically involve serious questions of corporate governance being raised. But if the transaction involves a company in which Vijay Mallya of the UB Group is in some way connected, you can be sure questions such as these, and others too, will be raised.
Questions on Diageo stake
The sobriquet ‘King of Good Times’ might have acquired a somewhat pejorative overtone in recent times. But not too long ago, it signified the kind of pomp and circumstance associated with imperial actions. It is no surprise that such questions are cropping up with the sale of a controlling stake in UB Group’s flagship company United Spirits, to global liquor major Diageo Plc — a transaction that took place in 2012. The immediate trigger for revisiting such issues is the announcement of a settlement between Vijay Mallya and Diageo.
Diageo announced just the other day that it has agreed to pay $75 million to Mallya, in consideration, among other things, of his undertaking not to compete with Diageo in its lines of business for five years. Should a company that claims to be operating in 190 countries and possessing marquee liquor brands in its portfolio (Johnny Walker, Smirnoff, etc.) be afraid of competition from an entrepreneur with a domestic liquor business in India?
That aside, Mallya’s track record as a promoter/manager would seem to suggest that his capacity for adding to the shareholder wealth of companies under his watch must be open to serious doubt. Even if we ignore the fiasco of his stewardship of Kingfisher Airlines (verily has it been said that the airline business is a graveyard of many managerial reputations), his record of oversight of the operations of United Spirits has been underwhelming, to say the least.
Poor record
In the 12-year period between 2000 and 2012 — the year when the Diageo acquisition was announced — the share price of United Spirits has barely managed to double in value. From somewhere around ₹300 it has nudged up to ₹600. The record of other companies, such as Mangalore Chemicals and Fertilisers and UB Petrochemicals, has been unremarkable too. On a lighter note, it can well be said that if the Diageo management was indeed interested in promoting shareholder wealth, it should be paying Mallya to compete rather than not to compete with itself!
The only reasonable conclusion one can come up with is this. This was not so much a compensation for denying Mallya the right to compete with Diageo in its liquor business but rather a mechanism to compensate him for parting with his stake in the company and liquidated damages termination of a bundle of management rights and associated privileges that went with his control of United Spirits.
This becomes clear from certain points mentioned in the official statement issued by Diageo. The statement talks of a $75 million compensation towards securing Mallya’s resignation and the termination of his appointment and governance rights as also his relinquishing of the rights and benefits attached to his position as Chairman and non-executive director. The statement goes on to say that Mallya and his affiliates will additionally not pursue any claims against Diageo, USL and their affiliates.
Extensions, guarantees
The financial accommodation does not end with that. Diageo Holdings Netherlands B.V. (DHN), a Diageo group company, stood guarantee for loans that Standard Chartered extended in respect of a $135-million loan facility of Watson Limited (Watson, a company affiliated with Mallya). In May 2015, borrowings under this facility matured and went into default. Following extensions, the guarantee was called by Standard Chartered on 29 January 2016. Diageo settled the guarantee with Standard Chartered at that point.
In aggregate, Diageo paid Standard Chartered approximately $141 million (approximately £96 million) under this guarantee, including the $135-million principal amount, as well as payments of default interest and various fees and expenses. Diageo now says it is exempting Mallya from all personal obligations arising from the loan default. It goes on to state that Diageo Finance plc (Diageo Finance), a Diageo group company, stood guarantee to Standard Chartered for £30 million in borrowings made by United Breweries Overseas Limited (UBOL), a subsidiary of United Breweries (Holdings) Ltd, that is the ownership arm of Vijay Mallya’s stake in United Spirits. This loan too went into default, and the guarantee was called, in May 2015.
Battle for regulator
It candidly confesses that ‘whilst Diageo continues to have the benefit of counter-indemnification from UBOL, it does not believe that is likely to result in meaningful recovery’. In short, this too will have to written off. Significantly, this guarantee was entered into by Diageo Finance in April 2012, several months prior to the execution of definitive agreements in respect of the original USL transaction with UBHL.
The sum total of all this is Vijay Mallya has managed to eke out an extra compensation from Diageo for his ownership stake in United Spirits through some tacit understanding with the acquirer Diageo. But the minority shareholders were denied the benefit of any similar generosity. The Takeover Code is meant to proactively anticipate such contingencies and step in with regulatory measures to counter it. But the United Spirits case would seem to suggest that it is an uphill battle for the market regulator.