Subba’s Serendipitous moments

April 14, 2009

Tech Mahindra gets Satyam — Pays more, interesting challenges ahead

Satyam Computer Services ranked as India’s 4th largest outsourcer by revenues (after Infosys, TCS ,Wipro) and which went through some very anxious times following the scandal brought about by its founder has found a new owner.

After a bidding war where only 3 parties participated (Larsen & Toubro, Tech Mahindra and US investor Wilbur Ross), the prize has gone to Tech Mahindra.

Tech Mahindra offer of Rs. 58 per share (U.S $1.16) was 21% higher than the next bidder (Larsen And Toubro who already own a 12% stake) The offer price is also 23% higher than its highest traded price since the news of the scam broke out in early January.

Since the auditors Deloitte and KPMG are in the process of rewriting the accounts it is difficult to value the company. But based on a number of sources, Satyam’s annual revenues are in the range of $1.5 billion -$1.7 billion (down from projected revenues of $2.1 billion for 2008) with an operating margin of 3% while Tech Mahindra’s margins are in the range of 22% with revenues of $900 million. No one knows the extent of liabilities and also the exposure of the firm to some of the class action suits that’s likely to follow in the US.

Hence at the acquisition price, Tech Mahindra has paid a big premium and also brought some big challenges just to add $ 1.2 billion and a 3% margin business. Did Tech Mahindra over value Satyam? I certainly think so.

But as they say Value lies in the eyes of the beholder!

Tech Mahindra will have some big challenges not only in funding the acquisition but also running the Satyam operation. It is one thing to run a business where one client (British Telecom holding a 31% share) accounts for close to 70% of the business and another to deal with a diversified client base with poor operational efficiencies. Tech Mahindra will also have to learn to manage a work force almost twice its own size and dispersed globally.

Tech Mahindra will also have to figure out whether they want to keep this as an independent entity with a different name or do a possible merger. I think the advantages to be gained by an immediate merger may be limited in the short term since there are no synergies to be realized.

None of these challenges are easy. It would be interesting to watch the turnaround.

Satyam caretakers — the interim Board members like Karnik, Deepak Parekh and others did a great job transitioning it from a broken and rudderless ship to finding a good caretaker and owner. The entire Indian IT industry also played a mature role in not poaching Satyam’s clients or its employees.

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8 Comments »

  1. A few other things Mahindra will need to immediately fix (will that be easy? I don’t think so):
    – put a stop to decline in revenue (according to news Satyam’s revenues have dipped from $1.8 billion to $1.5 billion and may come down to $1.3 billion in the next quarter)
    – winning back confidence of key customer (Telstra, like some other companies, cancelled its contracts. Cisco and GE among few other big wigs evaluating the changes)
    – get clarity on Raju’s years of “cooking” in the books of accounts
    – hoping to be right in their fair assessment of liabilities (both in terms of cash payment dues and the class action suits by Upaid and about a dozen others)

    Comment by Krishna Baidya — April 14, 2009 @ 10:34 pm | Reply

  2. Well the value lies in the eyes of the beholder!! When the accounts are not yet restated technically speaking there can be no valuation. But clearly Tech M has adopted some model with the revenues and the legal liabilities. One thing which our commentators are focusing is too much on the negatives and less on the potential. While revenues might have declined I would tend to believe that Satyam is capable of going to back to its customers and salvaging some of this revenues. Plus more than the revenue its the run rate and the annualized growth engine that TechM is buying into. Satyam seems to have a deifinite skill niche in areas like ERP, Engineering services etc. which are a definite asset. Also one thing going in favor of TechM is the timing —this market for IT is so bad that even competitors are struggling and its not as if business is being lost on a daily basis. So if TechM can clean up the mess and get Satyam back as a fighting force then this combine can pose a serious challenge to the Big 3 for sure in an economic recovery cycle.

    Comment by Shyam — April 15, 2009 @ 6:42 pm | Reply

  3. Let us put some numbers on the table:
    Tech Mahindra will be issued fresh shares equivalent to 31% (I suppose of the increased capital) for about $351m. It will have to fork another $230 for buying 20% from existing shareholders. So, the market cap would be about $1150m.
    As far as I know, Satyam does not have a negative cashflow. So, the $351m will be sitting as cash in Satyam.
    The class actions etc are likely to result in damages of the order of $200-250m. This sum can come out of the cash of $351m.
    Once the acquisition is complete, Tech Mahindra would certainly cut costs even if immediately it can not grow business(hopefully, customers will stop leaving Satyam now). How much can the margin (currently at 3%) improve? Tech Mahindra’s margin is reportedly 22% while Infosys enjoys a much better margin. If the margin can improve to 10% on business of $1.5bn, we have $150m in profits on market cap of $1150m. Thats not so bad. And if Tech Mahindra an improve the sales as well as margins further,(surely it has not paid for a static business), then the returns would be significantly better.
    People as well customer retention challenges are always there in a takeover. I am sure Tech considers these as manageable within its skillset.

    Comment by Shekhar Vaidya — April 15, 2009 @ 8:27 pm | Reply

  4. As pointed by Shekar the company has the potential and people at Tech M will have to tweak the company to get the margins up.
    Satyam like a lot of companies is a top heavy one, too many people in the chain of command. TechM should seriously cut down on that as there are a lot of these people who are there because of some other reason other than merit, once these fat cows are driven out Tech M will have a better conrol over the crowd.
    People at Satyam will have to go through the change in culture and the fact that power center will no more be in Hyderabad and will move to the west coast of India.

    Comment by Roshan — April 15, 2009 @ 9:39 pm | Reply

  5. The acquisition by Tech Mahindra was more out of a strong personal need. They were horribly stuck in a vertical which never really took off post 2002. The effects of which can still be felt as regards to the bankruptcy filing by Nortel. BT too is facing huge liabilities on the pension front and BTGS is in bad shape. Having already made upfront payments to acquire business from BT, and with BT business likely contracting on BTGS front as well as on the core business, Tech Mahindra was in a tough spot and had to do whatever it takes (including leveraging balance sheet) to keep the IT Services flagship business up and running for M&M. In Satyam they found an opportunity ! This opportunity miss will definitely be regretted by all the Indian IT majors as they were busy scanning the global market for acquisitions while they could have found an easy one at home. The fact that very few people (out of 141 players who had initially submitted their intent application) participated in the final round actually made things very easy for Tech Mahindra. They have made the right use of available cash (Infy is stil scouting for global acquisitions with USD 2 bn in hand) and have grown in size, expanded their reach geographically and increased their vertical presence apart from Telecom and reduced dependance on few large customers. This acquisition bodes well for Tech Mahindra.

    – Cheers
    Santosh S

    Comment by Santosh S — April 16, 2009 @ 6:35 pm | Reply

  6. I am copying views of a stockmarket analyst

    “Can Tech Mahindra digest Satyam?

    Are you an investor in Tech Mahindra? If yes, you might be wondering about the future of the company given that it has just made it to the big league by winning over the fraud-hit Satyam. Or so it seems.

    While the facts that this win will help Tech Mahindra (TML) in diversifying its software services business to a much wider canvas as also reduce its revenue concentration (BT current forms around 60% of the company’s revenues) might make you cheerful, what might worry you is whether TML will be able to absorb and manage a company more than double its size? And whether it will be able to manage the cockroaches that are yet to come out of Satyam’s cupboards?

    These questions indeed are intriguing and might give you sleepless nights. And rightly so! The first reactions of TML gobbling up Satyam now being passé, it is time you understand the risks the former has taken up in its pursuit of becoming a blue-chip IT company.

    The biggest risk TML has taken by acquiring Satyam is that it has done so without knowing the actual financial position of the latter, given that the newly appointed auditors are yet to submit restated numbers. What is the price that you quote for something when you have no clue about its value?

    Then there are issues with respect to the kind of confidence Satyam’s clients have with respect to the firm’s future in the hands of a much smaller company and one which does not have experience in the domains that Satyam has been working on all these years. As you know, TML’s business is largely limited to the telecom vertical. Satyam’s acquisition will bring in diverse clients across domains like banking, financial services, manufacturing, infrastructure, media, semi-conductor, healthcare, retail, and logistics. This will definitely pose a serious challenge for TML in terms of management bandwidth and execution.

    And then there is the baggage of liabilities that Satyam carries, like the case filed by Upaid and class-action suits filed in the US.

    As far as TML’s own capacity is concerned, the fact that the company has just around Rs 5.5 bn of cash on its books but needs to pay up around Rs 28 bn for picking up a 51% stake in Satyam, raises funding issues. However, this is still not a major issue given that the company is planning to tie up for funds from banks and through selling debentures and bonds.

    In short, while Satyam does not bring along any synergistic benefits to TML, the risks and challenges are immense. Only time will tell whether the latter is strong enough to digest the same. As for Satyam’s investors, the good thing to know is that the company survives – only its avatar will change under the new parent.

    We shall anyways await details about TML’s funding and integration plans for Satyam before taking any concrete view on the stock.”

    Comment by Shekhar Vaidya — April 17, 2009 @ 8:12 pm | Reply

  7. Does it not make more sense to wait for a thorough auditing to take place before transfering the company to a new owner? Without knowing the extent of liability and the worth of assets, they are just playing crap shoots. If I’m a share holder of Tech Mahindra, I’m not sure if I would like my executives to play blind gambling with my equity.

    Indian companies still have long way to go in understanding the M&A game. Just like Tata’s Jaguar play, these CEOs just let their egos and non-material considerations overtake improving cold-hard stockholder value.

    Comment by Balaji Viswanathan — April 22, 2009 @ 1:01 am | Reply

  8. Perhaps now is a good time to look at how we felt then and how we feel now. The turnaround seems to have happened in good measure. The amalgamation is under way. So what do the wise men say now for the future?

    Comment by Krishna — July 5, 2012 @ 11:30 am | Reply


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