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MOSL: LARSEN & TOUBRO (Buy)-MindTree acquisition plan puts buyback option to rest

Larsen & Toubro: MindTree acquisition plan puts buyback option to rest; Acquisition marginally EPS accretive but not preferred use of cash

(LT IN, Mkt Cap USD27.6b, CMP INR1357, TP INR1610, 19% Upside, Buy)

 

• INR107b of cash earmarked for first-ever hostile takeover in IT industry: Larsen & Toubro (LT) has announced its intention to acquire a significant 66% stake in MindTree (MTCL). It has earmarked an amount of INR107b for this acquisition, valuing MTCL at INR162b (+5% v/s current market cap of INR155b) or INR980/share. However, the promoters of MTCL (13.3% stake) may look to resist the hostile takeover by engaging with other shareholders, and hence, it could be a long-drawn process, in our view.
• LT’s rationale for the acquisition: The primary rationale is to expand the services business (in line with its five-year value creation strategy presented in 2016). Moreover, this is better utilization of its strong cash balance, especially in light of the rejection of the INR90b share buyback by the SEBI.
• Retention of top management key for success of the acquisition: MTCL would continue to be an independent listed entity after the acquisition, and LT does not plan to merge it with its own IT business, at least in near future. LT’s management admitted that retention of top management is vital as the IT business is much more people-oriented with strong customer relationships. Considering this, it will engage with the promoters and try to address their concerns. LT believes that there is enough opportunity in the IT industry to capitalize on, and thus, all the three IT platforms (LTI, LTTS and MTCL) would be allowed to scale up on their own.
• Buyback may be put on backburner for now: As of end-Dec’18, LT had cash and cash equivalents of INR150b. Additionally, it generates free cash of ~INR15b/quarter. Even though LT is still engaged with the SEBI for its planned share buyback, the MTCL acquisition lowers the chances of a buyback now, in our view.