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The Merger of

Tata Tea - Tetley


The Merger of
Tata Tea - Tetley
The first ever leveraged buy-out
(LBO), largest cross-border
acquisition by any Indian company
The Merger of Tata Tea - Tetley
 Largest cross-border acquisition that marked the
culmination of Indian company’s - Tata Tea's strategy
of pushing for aggressive growth and worldwide
expansion.

 The acquisition of Tetley made Tata Tea the second


biggest tea company in the world with the expected
combined turnover worth Rs. 2,800 – 2,900 crore.
(The first being Unilever, owner of Brooke Bond and
Lipton).
The Merger of Tata Tea - Tetley
 The size of the deal was big, and was the first ever
leveraged buy-out (LBO) by any Indian company –
Tata Tea allowing to minimize it’s cash outlay in
making the deal.

 Acquisition price paid to Tetley was 271 mn pounds


(US $450 m) representing more than four times the
net worth of Tata tea at US $ 114 mn.
The Merger of Tata Tea - Tetley
 Tata Tea Limited (TTL), is the second largest tea
company in India.
 It has a significant presence in over 35 countries.
 Branded teas contribute 88% of the consolidated
turnover of the group,
 12% comes from bulk tea, spices and investment
activities
The Merger of Tata Tea - Tetley
 18,000 hectares under tea cultivation.
 Produces around 40 million kg of Black Tea
annually.
 Five major brands in the Indian market –
 Tata Tea,
 Tetley,
 Kanan Devan,
 Chakra Gold and
 Gemini
The Merger of Tata Tea - Tetley
 Tata Tea's distribution network in the country with 38
C&F agents and 2500 stockists caters to over 1.7
million retail outlets.

 "Super Brand" recognition in the country with market


share in terms of value and volume in India.
The Merger of Tata Tea - Tetley

 Tetley world’s second largest branded tea company.

 Tetley blends, packs and distributes tea products


(mainly tea bags) in the UK, Canada, Australia, USA
and a number of European countries.
The Merger of Tata Tea - Tetley

 Tetley recorded turnover worth more than 2,000


crore in 1999 with growth rate of 15% over 1998
 Tetley is the second largest tea bag brand in the
world, and Tetley products are on sale in over 40
countries
Tata Tea – Tetley Synergies
 The deal offer significant synergies – Tetley gets
access to Tata Tea’s gardens and production
base and the latter gets Tetley’s premium brands
and global distribution network.

Vertical Integration
Tata Tea – Tetley Synergies
 The Tetley acquisition catapulted Tata Tea from
the second largest branded tea marketer in India
to the second largest tea multinational in the world
with combined sales of over US$600m.
Tata Tea – Tetley Synergies

 Tea prices are on a structural downturn with


supply exceeding demand. In such a scenario,
Tetley’s technical expertise should enable Tata
Tea to upgrade its product portfolio and thus
improve its competitive position.
Tata Tea – Tetley Synergies
 Integration of branding, marketing, and
distribution, as well as manpower .
 Working together to

- Capture cost synergies.


– Capture revenue synergies
 revenue synergy is accomplished by utilizing the
complimentary strengths of both organizations in
marketing .
–Tata Tea has been successful in the marketing of packet teas,
–Tetley is strong in tea bags.
Tata Tea – Tetley Synergies
 Jointly developing the markets where one or the
other company has so far worked singly thereby,
leveraging the Tetley international brand name.

 Bringing Tetley brand at the premium end of the


Indian market, flavored teas,
 Herbal teas,
 Organic teas and
 decaffeinated teas.
Merger - the process
 Phase I - monitoring, guiding and watching over.
 Phase II - acquisition by way of ‘quasi-equity’, which
brought down some of the very high-cost debt &
increases the ownership stake.
 Phase III – legal merger re-financing the acquisition
so that the interest burden comes down.
Merger - the process
 Tetley was acquired for £271m (equity: £70m, debt:
£201m) by a special purpose vehicle, Tata Tea GB.
 Financing mechanism of LBO was used to finance the
deal.
 TATA Tea (Great Britain), the special purpose vehicle
was created for the Tetley acquisition, will be merged
into Tata Tea as soon as it has repaid it’s debt
obligations.
Merger - the process
 The purpose of setting up the SPV was to ring-
fence Tata Tea from any liabilities that may have
arisen, post-acquisition.

 The SPV has leveraged the 70mn pounds equity


that amounts to 3.36 times to raise a debt of 235
mn pounds so as to finance the deal
Merger - the process
 Take over deal comprises of
– 271mn pounds as Takeover cost
– 9mn pounds as legal & banking charges
– 25mn pounds as WC & additional funding
 The acquisition was financed with $70 million in
equity, of which $60 million was brought in by
Tata Tea and $10 million by Tata Tea, USA -- a
100 per cent subsidiary of Tata Tea.
Merger - the process
 The entire debt amount of 235mn pounds
comprises of four Tranches bearing interest @
11%, divided into four tranches – A, B, C and D.
 Amount raised via tranches A and B were used for
funding the acquisition whereas C and D tranches
were used capital expenditure & WC requirements
Structure of the Tata Tea’s LBO Deal

Tata Tea Inc Tata Tea


Rabobank Intermediate
£ 60mn Capital Group
£ 60mn
£ 10mn Tata Tea (Gr Britain) Prudential Schroder £ 30mn
SPV Mezzanine Ventures
Capital
£ 10mn
£ 10mn
Equity £ 70mn Debt £ 235mn

A fine blend of debt


and equity
Tetley Legal Services & Tetley’s Working
Acquisition Bank Charges Capital requirements
Merger - the process
 In structured finance the word tranche refers to one
of several related securitized bonds that are offered
as part of the same deal. They are called tranches
since each bond is a slice of the deal's risk.
 All the tranches together make up what is referred
to as the deal's capital structure or liability structure
Structured Finance….
 Tailored financing solutions
 Financing with hybrid securities
 Asset-backed securitization
 Leveraged and acquisition finance
 Uses of structured finance:
– aligning securities to investor needs - term, credit
risk, prepayment risk, interest rate risk, etc
Concept of SPV - explained
 Tata Tea (GB) and SPV was created as a part of
securitization process.
 Securitization is the process of pooling and
repackaging of homogenous illiquid financial assets
into marketable securities, that can be sold to
investors.
 Tata Tea (GB) took over all the properties of Tetley
Concept of SPV - explained

 Tata Tea originated Assets of Tetley through


receivables, leases, any other form of debts
and funded the same on it’s BS. ( Originator)
 Portfolio of Tetley assets were then sold to

Tata Tea (GB) – SPV for funding the assets.


Concept of SPV - explained

 Tata Tea (GB) issues debts and purchased the


assets from Tata Tea.
 Tata Tea (GB) was owned by Tata Tea

 Debts issued by Tata Tea are secured by

assets acquired from Tetley ( Obligor).


 Tata Tea (GB) subcontracts the administration

of assets back to Tata Tea.


Concept of SPV - explained
 Tata Tea (GB) issued tradable securities –
tranches to fund the purchase of assets.
 The performances of these tranches were
directly linked to the performance of the assets
 RaboBank, Prudential Mezzanine Capital,
Schroder Ventures and Intermediate Capital
Group purchased the securities offered by Tata
Tea (GB).
Concept of SPV - explained

 They all invested because they were confident that the


securities would be paid in full and on time from the
cash flows that is made available from the asset pool.
 Money collected by Tata Tea (GB) was paid to Tata

Tea.
 As cash flow arises on the assets, Tata Tea (GB) used

for repaying funds to the investors in the securities.


Securitization – the process
Advisor of the program
- Financial Advisor Receivables
- Legal Advisor Originator Obligors
- Tax/Accounting Advisor
Sales of pool Third parties
of assets
• Transaction Servicer
• Transaction Administrator
• Corporate Administrator
Credit Enhancement SPV • Bondholders Representative
• Credit Enhancer
• Paying Agent
• Liquidity Provider ABS • Credit Rating Agency
• etc. Issuance • Underwriter(s)

Investors
Securitization – the process
Tetley Ancillary Service
Obligor Provider
Sale of Assets Issue of Securities

Tata Tea Tata Tea ( GB )


Investors
Originator Special Purpose Vehicle

Consideration Subscription of securities


for Assets purchased
Securitization – the process
 Originator – Tata Tea
– Sell/transfer the right to receive future cash flows
(“receivables”) due under certain contracts to SPV (I)
 Special Purpose Vehicle (SPV) – Tata Tea (GB)
– Purchase the right to receive future cash flow (I)
– Enter into contracts with originator, third parties and others re
lating to the transaction (I)
– Issue ABS to investors, ABS repayment relies on future cash
flow due under contracts (I)
Securitization – t he process
 In traditional methods of corporate finance, a
corporation raises equity/obligations to own assets.
 In securitization, a corporation creates and
‘securitizes’ assets - that is, transfers assets in
form of securities.
 The claim is on assets, and not on the entity,
hence, asset-based funding
 Asset backed funding lies in reducing the equity,
and increasing the leverage
Securitization – the process
 SPV are used in securitization transactions as
devices of hiving off assets and converting
assets into securities.
 SPV are not companies in substantive

operations; they do not have any business


except acting as a legal instrumentality. This is
necessary to ensure “asset-backed” securities
Merger - the process
 At the time of acquiring Tetley, Tata Tea GB’s
debt-equity ratio stood at 3:1, but has since fallen
to 1.8:1 and is expected to further fall to 1.7:1
 Tetley’s cash accruals have grown 2.6 times and is

expected that it would help in repaying debt faster.


 The company plans to pay $8 million of debt from

internal accruals,"
Leverage Buy-Out?
 Leverage buyout (LBO) refers to financing
mechanism for purchasing of a company by a
small group of investors using a high
percentage of debt financing
 Leveraged Buyout or LBO investing, involves
the provision of leveraged capital (i.e., a mixture
of debt and equity, with an emphasis on debt)
and business development assistance to enable
the restructuring of existing businesses.
Leverage Buy-Out?
 Each LBO mechanism is unique – Capital
Structure.
 Leveraged buyout uses Financial Leverage to
complete the acquisition of Target Company.
 In a LBO, equity holders often receive very high
returns because the debt holders are locked
with fixed return, while the equity holders
receive all the benefits from any capital gains.
Leverage finance…

 Takeover?

Company has unused  Leveraged


debt capacity buyout?

 Leveraged
recapitalization?
Leverage Buy Out – the sequence
Company gets bloated or slack IPO or sale of
and stock price falls company

LBO financing lined up

LBO offer made

LBO completed

Restructuring
 Efficiencies
 Divestitures
 Financial

? years 3-9 months 5-7 years


LBO – Capital Structure

Stage 1: Pre-LBO
Stage 2: LBO
financing

Stage 3: LBO
refinancing
Stage 4: Debt
paydown
COST
OF
CAPITAL

DEBT
RATIO
Leverage Buy-Out?
 Value created by LBO are exclusively for
shareholders of the restructured firm and for
the specialist engage in the LBO operation.
 LBO refers to Wealth transfer mechanism

because of the financial leverage gain accrues


to shareholders at the expense of firm’s Debt
holders
Leverage Buy-Out?
 Value gains to shareholders are partly the
result of:
– Efficiency gains
– Tax Benefits
– Transparency
– Reduction in Agency cost
When LBO as financing mechanism
should be used?
 Steady and predictable cash flow
 Divestible assets
 Clean balance sheet with little debt
 Strong management team
 Strong, defensible market position
 Viable exit strategy
 Limited working capital requirements
 Synergy opportunities
 Minimal future capital requirements
 Potential for expense reduction
 Heavy asset base for loan collateral
Advantages of using LBO as a
financing mechanism
 Heavy Interest & principal forces management
to improve performance & operating
efficiencies such as
 Cost improvisation – cost reduction

 Divesting non-core business

 Investing in technological upgrades

 Significant reduction in agency cost


 Tax shield
Disadvantages of using LBO as a
financing mechanism
 Financial distress – uncertainties
 Increased fixed costs associated with debt

financing can worn out the effect in case of


downturn in business cycles.
 In Leveraged acquisition, banks have a say in

what is being done.


LBO - inferences
 A firm can increase its value by increasing leverage
up to the point where financial risk makes the cost
of Equity relatively high compared to others.
 As the debt equity ratio increases, the equity portion

of the acquisition financing decrease to a level at


which private equity firm can acquire a company by
putting say 20-40% of the total purchase price.
Sources of strength from LBO
Tata Tea – Tetley - Merger
 Closely related to the followings:
– Sales growth rates
– Margins – operating efficiencies
– Working Capital Management
– Capital expenditures
Sources of strength from LBO
Tata Tea – Tetley - Merger
 Sales growth rates
Gross Forecasted Sales for Tata Tea
2001 2002 %
11,331mn122,691mn 982.27
 Margins – operating efficiencies

PBT
2001 2002 %
1,873mn 2,144mn 14.16
Sources of strength from LBO
Tata Tea – Tetley - Merger
 Margins – operating efficiencies
GPM as %
2001 2002 %
21.5 21.5 -
NPM as %
2001 2002 %
11.1 11.3 1.8
Sources of strength from LBO
Tata Tea – Tetley - Merger
 Margins – operating efficiencies
Capital expenditures
Depreciation
2001 2002 %
225mn 251mn 11.55
Interest
2001 2002 %
338mn 333mn 1.47
Sources of strength from LBO
Tata Tea – Tetley - Merger
 Net Worth
2001 2002 %
6,238mn 7,140mn 14.45

 EPS
2001 2002 %
29.83 34.11 14.34
Post -Merger performance

Post Acquisition Performance


£ mn
1999/00 2003/04 Growth
Acquisition Year %

Turnover 246 251 2.03


EBITDA 28 46 64.29
PAT 6 16 166.67
Effect of Leverage on Acquisition.
Mr. A bought house on 31Dec 2003 costing Rs.
7,50,000 at down payment of Rs. 75,000 – 10%
For balance amount he took bank loan – Rs. 6,75,000
@ 7.5%. Mr. A will get rental income from this house
Rs. 2,50,000 p.a. He will incur Rs. 10,000 towards
house tax and additionally would require Rs. 50,000
for maintenance p.a. All cash flows accrue at year end
, and also rental remains fixed for next 5 years. Free
cash flows of each year is used to repay debt.
 Income Statement of Mr. A for 2003 – 2008

2003 2004 2005 2006 2007 2008


Rental - 2,50,000 2,50,000 2,50,000 2,50,000 2,50,000
Less
Maintenance - 50,000 50,000 50,000 50,000 50,000
House Tax - 10,000 10,000 10,000 10,000 10,000

Rental Income 1,90,000 1,90,000 1,90,000 1,90,000 1,90,000

Interest - 50,625 40,172 28,935 16,855 3,869

Free Cash Flow - 1,39,375 1,49,828 1,61,065 1,73,145 1,86,131


 Income Statement of Mr. A for 2003 – 2008
2003 2004 2005 2006 2007 2008
Loan Amount 6,75,000 6,75,000 5,35,625 3,85,797 2,24,732 51,587

Payments
Free Cash flows -- 1,39,375 1,49,828 1,61,065 1,73,145 51,587
- Free Cash flow as calculated earlier from rental income after expenses & interest.
Closing Bal. 6,75,000 5,35,625 3,85,797 2,24,732 51,587 0
Interest -- 50,625 40,172 28,935 16,855 3,869
- Closing bal = (opening bal – free cash flow )
Interest is calculated on closing bal.

Debt 6,75,000 5,35,625 3,85,797 2,24,732 51,587 0


Equity 75,000 2,14,375 3,64,203 5,25,268 6,98,413 7,50,000

Ratio
Debt 90% 71.4% 51.4% 30% 6.9% 0%
Equity 10% 28.6% 48.6% 70% 93.1% 100%
LBO - inferences
 Thus it is evident from Equity ownership as %
of total capitalization increases from 10% to
100%.
 We can conclude that advantage of leverage in

financing enable to own an asset of relatively


significant equity value with regards to amount
of initial equity investment.
LBO - inferences
 Financing the purchase with significant amount
of debt enhances & significantly influences ROI.
 In other words increasing financing leverage

magnifies IRR either positively or negatively


depending upon several other factors.
 However levering up to make an investment

increases the financial risk and accordingly


influences gain or loss on the investment.
Closing remarks
 Given the intensity of competition and fast changing
business environment in the tea segment, the world
over, the acquisition, undoubtedly, is a strategic fit
for Tata Tea, as far as its globalization gambit is
concerned. And, the number one spot, which it is
aiming at, may not be far away. But of course, it
would have to put its best cup forward.
Thanx !

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