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Nath Balakrishnan

Mr Vijay Mallya, Chairman, UB group

SHAREHOLDERS of United Breweries (UB) can tender their holdings as part of the open offer being made by Scottish and Newcastle India (SNI) at Rs 575 per share. In our view, the pricing differential of 35 per cent between the offer and the current market price of Rs 425 offers a premium that is significant enough for shareholders to participate.

We also note that the UB stock had been on a sharp uptrend since last November, having moved up from Rs 130. The magnitude of the move appears to indicate that it was driven more by news of an impending announcement as opposed to any radical improvement in fundamentals.

Background to the offer

SNI, along with its parent Scottish & Newcastle (S&N), inked a deal with UB last December for a 17.5 per cent stake in the business of the last named at Rs 575 per share through the preferential offer route. The offer now being made is for an additional 20 per cent stake in UB at the same price. The deal has been structured in such a way that, post-offer, the number of shares held by the promoter group and entities of S&N are equal. SNI has also agreed to subscribe to UB-issued warrants, which will get converted into equity shares.

The number of warrants the acquirer will subscribe to will be a function of the quantum of shares tendered as part of the open offer; it would be the lower of what would be needed to attain a parity in shareholding or to hold an equal to 37.5 per cent stake in UB, in the expanded equity.If SNI is successful in mopping up 20 per cent of the outstanding shares through the open offer, the issue of warrants would not take place and the promoter group would be required to offload a part of its holdings in the market to establish parity with the stake of the acquirer.

Business operations

S&N's entry into UB is because it perceived India as an attractive market for beer consumption.

The former is one of the leading brewers in Europe with strong brands in some of the larger beer markets in that geography. Its entry into India through UB is in line with its intent to enter growing emerging markets in partnership with strong domestic players.

UB operates from a position of significant strength in the Indian market with a plethora of brands, led by its flagship, Kingfisher, by which UB commands a market share of close to 40 per cent.

However, in spite of the potential for growth, driven largely by a changing demographic profile that should lead to higher beer consumption levels, growth rates have, admittedly, been modest. Further, input cost pressures continue to exert a cap on margin expansion.

Though UB is profitable as a standalone entity, it is a loss-making one (for the year-ended March 2004) after giving effect to the consolidation of its subsidiaries, Associated Breweries and Distilleries, and Mangalore Breweries and Distilleries. In these subsidiaries, their accumulated losses are in excess of their shareholder fund base.

Considering that the units in these subsidiaries are located in the key markets of Karnataka and Maharashtra, UB intends to fund these subsidiaries to facilitate their turnaround; this, though, is likely to play itself out over the medium-to-long term.

Further, the low profitability at the standalone level has resulted in no dividends being paid out; though the return on shareholders' funds been on the rise since FY-03, the figure, at under 10 per cent for the half-year ended September 2004, continues to be on the low side.

Given the extant financials and the attractiveness of the offer price, investors could treat the open offer as an exit opportunity.

Offer details

The offer, which opened on February 7, closes on February 26. DSP Merrill Lynch and Karvy Computershare are the manager and registrar to the offer respectively.

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