When corporates are confronted with an 'embarrassment of riches', they behave in different ways. Some return the cash to the shareholders as dividends or share buybacks. While returning the cash to the shareholders to whom it belongs is the most valuable accretive response; it is not necessarily the route taken in every case or is done only to a partial extent of the cash on hand. Many hoard it and park it in liquid funds or low-yielding bank deposits.
But the ones that go shopping to buy a bank with the excess dough are the concern of this discussion! Recently, Mahindra and Mahindra (M&M) bought a 3.53% stake in RBL Bank for an outlay of Rs417 crore.
In its release to the stock exchanges, the purchase was characterised as an investment with the rider that the company may make further investments up to 9.99% of the Bank's equity.
M&M, whose origin was in the tractors and agricultural implements sector, has, over time, bulged its balance sheet with investments in financial services, software, holiday resorts, townships, and infrastructure development.
It has also invested in the manufacture of passenger and cargo vehicles, two-wheelers and auto-components that may pass off as businesses with a reasonable nexus to the primary business of manufacturing tractors and related equipment.
Examples include ITC, Reliance Industries Ltd (RIL) and Larsen & Toubro (L&T), operating multiple unrelated businesses as a conglomerate and seeking the support of the cash-flow of the core business to fund and seed unrelated diversification.
Bajaj Auto Ltd is another parallel from the past that used its riches from the two-wheeler business to build a network of companies in financial services but split them, though in a clumsy way, at some stage.
This tendency of promoter-owned and managed corporates to do portfolio management for the ultimate shareholders has met with relatively less opposition in the Indian context.
This has been primarily due to the level of the promoters' hold and influence in such decision-making and the passive attitude of institutional shareholders who historically were the government financial institutions or development finance institutions (DFIs).
These DFI were served well with some board accommodation as nominee directors and periodic dividends. But the surprising aspect is that even after the increased investments by foreign institutional investors (FIIs) in the Indian markets, little has changed.
Despite such truant governance, Indian stocks have returned better than the peer markets to stop the mouth and the hands of such informed investors!
The lowest common factor in the unrelated diversification among most conglomerates, including those listed above, is financial services, non-banking finance companies (NBFC) and software.
Both these businesses are started purportedly for captive use and, after that, the same goes out of the line of sight of the public shareholders who fail to question such business being kept within the clutches of the conglomerate rather than being fully spun off to be held entirely by the shareholders of the main company.
The market value of the shares held by M&M in its unrelated business that are listed (constituted principally by finance and software) is about Rs51,700 crore as of 31 March 2023. The market-cap of the company is about Rs1.96tn (trillion).
It is not an unreasonable conjecture to make that very little of the Rs51,700 crore of the valuation of the finance and the software companies would be reflected in the Rs1.96trn market-cap of M&M.
This is not a discovery unknown to the board of these companies. But knowledge has little to do with the way this subject is dealt with at the board level. The lack of challenge by the institutional shareholders is the principal cause for the collective laxity and the promoters having their way with the independent board cheering from the sidelines!
Even if these companies are really pushed on this subject, the result would be like the plan of ITC to do a half-hearted demerger of its hospitality business that destroys value to the public shareholders rather than create any.
Interestingly, in M&M's case, the promoters with a relatively low holding of 18.9% seem to enjoy the clout to take such a decision as wishing to acquire a bank.
It is difficult to conceive an independent board coming to such a decision without sharing the long-term plan for such an unrelated investment with the public shareholders.
The company's recent annual report, which runs to many hundred pages and waxes eloquent on all subjects under the moon, says little about the company's amour for banks!
In fact, it is difficult to find good examples of companies that transparently share the challenge of managing excess cash and the nature of the debate in the boardroom on dealing with the problem to benefit the public shareholders.
Unrelated acquisitions are more often the case than acquisitions in related business. Since most acquisitions come expensive, the management that knows its own business well would seldom consent to overpay for a related business acquisition.
But the unrelated ones have the charm of novelty and tend to be attractive even at abnormal valuations! Like the Veblen paradox, in the economics of goods of snob value being found more attractive when the price is more than less!
While the temptation is strong to suggest that the Securities and Exchange Board of India (SEBI) should come up with suitable regulations to curb such investments without overwhelming the public shareholders' approval, it is but fair that the shareholders decide if they wish to stay invested in such conglomerates or buy the bank directly now that its value discovery process has started!
Postscript: Nothing above should be construed as a comment on the appropriateness or otherwise of the valuation of RBL Bank.
(Ranganathan V is a CA and CS. He has over 43 years of experience in the corporate sector and in consultancy. For 17 years, he worked as Director and Partner in Ernst & Young LLP and three years as senior advisor post-retirement handling the task of building the Chennai and Hyderabad practice of E&Y in tax and regulatory space. Currently, he serves as an independent director on the board of four companies)