Thursday, December 13, 2012

Extraordinary Popular Delusions

Last year the Atlas Copco delisting made us great returns!!

After receiving the postal ballot approval from shareholders, the company voluntarily increased the delisting offer to Rs 2250/- (approx 58% higher than the SEBI discovered floor price!!). Even after this announcement, the stock was available below Rs 2100 for a few days, probably reflecting the market’s fear of sufficient shares not being tendered during the reverse book building (RBB) process (For an understanding of the delisting process click here). Our thesis (read Representative Bias) was that the amount required to delist was ‘chicken feed’ for the globally mighty and rich promoters, hungry to capture the ‘India story’ all for themselves. We had also been reading and listening from analysts how the delisting regulations presented an opportunity to squeeze out a tough bargain from these promoters apparently stuck between a rock and a hard place (read bias created by recency/vividity). Also, our ‘khabar’ J was that the requisite quantity would come in. Excited (read endowment bias) with the ‘edge’ we had on the market, we concluded that it made sense to buy and tender.

The RBB itself was like a classis cricket match going down to the wire. On the last day the stock made an intra-day move of ~30% giving us a quick graduation in the concept of Return per unit of stress. As we had predicted, the requisite quantity came in, but at a substantially higher cut off price of Rs 2750/- Also, as expected the promoters accepted the price and delisted.

Uncork the bubbly!! We had made a neat pack. What’s more important, we had been right!! RIGHT ??

Well, heck NO!! As our thoughts took shape on the subject we realized that nothing could be further from the truth..

Do you Smoke??

The journey to our current line of thinking began soon after. To start with, we were intrigued that in spite of the promoters of Atlas Copco having accepted the discovered price of Rs. 2750/-, healthy volumes were being traded on the exchanges at a small discount.

Why did the market price not ramp up to 2750/-? What was in it for the buyers and the sellers? What was the risk in the trade?

We got our answer in Clause 21 (1) of the regulations, reproduced as under:

“Where, pursuant to acceptance of equity shares tendered in terms of these regulations, the equity shares are delisted, any remaining public shareholder holding such equity shares may tender his shares to the promoter upto a period of at least one year from the date of delisting and, in such a case, the promoter shall accept the shares tendered at the same final price at which the earlier acceptance of shares was made”

So essentially, the sellers were those who had not tendered any shares in the RBB. Unlike regular open offers, residual shareholders had the option of tendering their shares for one year at the same price ie 2750/- The discount was thus on account of the time risk to completion of delisting formalities and launch of continuing offer. A near bond in the form of equity!!

A check on time taken in previous delistings revealed that money should be in your account mostly within 2-3 months from that point on. The discount still provided approx 15% annualized returns based on conservative time taken estimates. (In subsequent delistings, we have sometimes seen 20-25% annualized returns on the table) We had discovered a Cigarbutt!!! We were ready to smoke J

To do or not to do?

Our experience of the entire process in Atlas Copco led us to introspect the next time a delisting opportunity came along. The question we asked ourselves is:

What advantage do I get by tendering in the Reverse Book Building process? Or put simply…Do I tender??

So lets look at the possible outcomes and judge our response accordingly

  1. If the company accepts the delisting price, it is bound by law to offer exit at the same price to all investors, including those who have not tendered for 1 year after delisting. So there is no advantage in tendering.

  1. If the company rejects the delisting or sufficient shares are not tendered, tendered shares would be returned in 10-15 days by which time it is likely that the price would have corrected substantially. Those who retained optionality by not tendering can choose to sell in the market without delay and thus are favorably placed against those who tender...Not tendering wins hands down

So essentially it is heads I lose, tails I don’t win. No prizes for guessing the correct answer to our question..DO NOT tender in any circumstance!!

Having come this far, we now ask ourselves the next obvious question.

In a world of rational investors why should anybody tender and thus expose oneself to only downside risk, with no compensating advantage in exchange? And therefore, how is any company expected to succeed at getting the minimum shares for a successful delisting under the current regulations??

Well, given that quite some delistings have happened in the past, obviously Homo Economicus or the rational man, does not exist. Traditional economists please take note. Choosing to tender is a good example of man  accepting risk for no visible reward. And be under no misconception, by investors we do not mean only ‘retail’. Institutional investors are widely known to participate (we refrain from using the word ‘punt’ for the so called smart institutional investor J ) and TENDER in the RBB process. The behavioural scientists were right after all in disbelieving the existence of the rational man!!

However, what is most intriguing is that the premise of the delisting regulations thus seems to rest on the irrationality of the human race. Seems like behavioural science has a fan in SEBI !!

Sleeping with the enemy

While there is a large body of advise on strategies investors should adopt in playing this game (MNCs, low capital intensity, high on innovation, high moats, large global parentage with deep pockets etc.) we thought it opportune to first ‘sleep’ with the lonely enemy for a change i.e. chip in with some free unwanted advise for promoters considering delisting.

  1. Why act with a gun on your head

June 2013 is a mirage. It is the deadline to regularize minimum shareholding and not the final opportunity to delist. Companies desirous of delisting would be better off initially bringing down their stake and subsequently launching an offer after the required regulatory cool off period at more favorable prices. No harm in remaining listed for 2-3 more years after being listed for 2-3 decades. Play on your own terms.

  1. Why overspend just because you have deep pockets

An oft repeated argument is that large MNCs will be willing to pay an obnoxious premium since they have deep pockets. However, it is not necessary for a rich man to splurge irrationally. If the price is right, one should be prepared to buy. Similarly, if the price is right, one should be prepared to sell. Since delusional investors are giving an opportunity, why not unlock some gains for the time being. Who knows, the same gains might be sufficient for a subsequent delisting offer.

  1. Go ahead and try if you still want to, you have nothing to lose!!

When it is heads I lose, tails I don’t win for the investor, it means it is heads I win, tails I don’t lose for you since you are on the other side of the trade. In spite of flawed regulations, if you still want to attempt delisting, go ahead and try. There is little to lose!! Its loaded in your favor. You can call it off if you want to at any stage and nobody will force you to accept the delisting price if you don’t want to.

Investors think that they have a gun on your head, but sadly they seem not to have loaded it…The bullets are with you!!

We feel no compulsion to dance just because the music is playing!! Luck is manufactured not only by fishing in a pond full of fish but also by choosing not to open your tiffin box under a tree full of crows. The delisting theme to us is nothing but a bubble waiting to be pricked. We are happier waiting for a last drag on cigarbutts thrown away by the dancers…

Best of manufactured luck!!


  1. It might not be totally irrational to tender. This is the classic example where participants can work either a win-win or a lose-lose situation. If everybody chooses not to tender then anyways the book doesnt close and everybody loses. What really happens is a win-lose situation.

    Also on the institutional front you have to factor in the impact cost of exiting in the market and hence the rational decision is to tender.

    1. Hi Ninad,

      I am not sure that i have fully understand what you are saying, can you elaborate??

      If your success is dependant on the HOPE that everybody else behaves irrationally then isn't something wrong?? Also, what could be the advantage in tendering? because if those who tender win, then automatically those who do not tender win as well.

      If the situation is irrational then impact cost cannot be a deterrant.

    2. I will try to elaborate :-)

      It is akin to driving in a single lane analogy. If u cut lanes then you can reach faster. So it is irrational if you do not cut lanes because the guy who is cutting lanes tends to go ahead of you. So you are in a heads I dont win and tails I lose situation by maintaining lane discipline.

      But we know out of experience ( esp in the Indian context) that if everybody cuts lanes then it is chaotic and everybody gets delayed. So what is a irrational decision of not cutting lanes in isolation is not a irrational decision for the system.

      Similarly in delisting essentially one is looking at benefiting out of the premise that the rest of the market participants are gunning to maintain lane discipline. Win - lose scenario.

      When u state a irrational decision what u in effect mean the possible return/ loss matrix of not tendering. You have to compare this with the impact cost of selling in the market and post which arrive at a call as to what decision is the rational decision.

    3. Hi Ninad,

      Thanks for the response and the interesting analogy. So in essence what we are saying is that Indians are rational drivers, while you think they are not!! You are surely right on that one :-)

      On a more serious note, let us try and extend your analogy. What if landslides (read failed delistings) were known to happen regularly on this imaginary highway. When landslides happen, those who maintain lane discipline (Tender) have a significantly higher probability of getting smashed, as compared to those who break discipline (maintain optionality and do not tender). Whats more, the rule is (formed by SEBI) that those who break discipline do not get penalised for doing so and always (100% of the times, no probability involved) reach their destination at the same time as those who stick to their lane (option of continuos tender at same exit price for 1 year).

      Isn't lane cutting the ONLY rational way to go in such circumstances??

      You are right in saying that when everybody cuts lanes, it will lead to chaos. Which is why we are saying that we do not wish to drive on a highway with such absurd rules (avoid delisting plays).

      Hope we have not (while we know we have) complicated matters further :)

      cheers and look forward to your further views!!

    4. Niren/ Abhinav

      Let me send across a link to a video which Neeraj was nice enuf to share with me in response to these discussions.

      I think it adds some insight to these discussions. Prof Nash's game theory is really the framework to look at delisting's.

      Though I can understand the rational of avoiding driving on the delisting highway, I personally would suggest that you should look at participating in the process albeit with relatively low amounts. In my personal experience it has great learnings in terms of experiencing game theory, understanding odds, analysing human behaviour and to be able to look at the dopamine surge that happens within u r own brain as you get caught up with the process at the fag end. If not anything it definitely makes u a better poker player :-)

      Having said that we can always have a round of discussions offline on this topic.

    5. Thanks Ninad for the useful link,

      Would love to discuss this matter further over a game of poker :)

  2. Great post!

    The Prof. had already written about the Prisoner's dilemma situation here back in 2007 itself :) -

    1. Thanks Kiran,

      I guess the market has a long history of utter disregard for logical reasoning. A good example of the phenomena of "Willful Blindness" talked about in the book by Margaret Heffernan :)

  3. between the lanes and the delisting, i got lost :)..maybe because i usually take the bus or the train :)

    i am not sure if i understand why one should tender ? the only case would be if the upside from tendering * probability of success is more than the downside * probability of failure.

    in most case, the upside is not much and very difficult to figure out (even if the MNC guys are flush with money). would i not make sense to take the money and run - considering that the pain of losing is 2X the amount gained ?

    1. Hi Rohit,

      Thanks for your comments. Inspite of our efforts, we are sometimes guilty of complexifying simplicities :) (There is, one more example :))

  4. Hi Abhinav/Niren

    Just trying to understand your thoughts better. I am quite a newbie as far as special situation is concerned.

    Are you suggesting that under any circumstance it does not make any sense to participate in delisting process? I think we need to be rational and participate only when odds are in our favour. Here, Prof Bakshi has explained the advantages of participating in special situations which are ‘like picking up pennies in front of a roadroller’ Let me spell out what I have gathered over the last one month on the delisting and when it might be beneficial to participate.
    Participate only in delisting cases only after it has been approved by shareholders. 2) Check the shareholding pattern and find out whether delisting is doable (checking 1%+ holding and details from annual report). Avoid those cases whether shareholding is quite scattered 3) buy only at close to floor price 4) if one want to avoid event risk, sell the shares on the day of bid opening (ofcourse for me, tendering shares does not make any sense and I will keep the option open to exit at my will) and lastly one should avoid those cases where valuation are atrocious.
    I have tried to compile a checklist for delisting cases, which I have posted here, will be great to receive your feedback.
    Thanks a lot and hope to see more posts going forward…

    1. Hi Anil,

      Thanks for your kind comments. We are all newbies's and always will be :)

      Not participating in delistings is the way to go in our opinion. Like you say in your comment in point 4(tendering does not make sense) we are arguing that the same stands true for all rational investors. If we keep investing in the hope that the bubble will keep getting bigger and people will never realise the obvious lack of payoff in tendering their shares and along with that thier optionality, then we are exposing ourselves to the consequences of the bursting.

    2. Thanks

      I think for the time being I agree to disagree. Let me experiment either I make money or get a lesson. BTW, is it possible for you guys to share your checklist (if any) for turnaround cases like united spirits in which you guys participate.

  5. APW President delisting sinks in my money ... If only i had read this post and learnt from it !!

    1. Hi Anon,

      The recent delisting failures (Ricoh, APW) do seem to suggest increasing shareholder reluctance to tender. We think this trend will only accelerate. And don't blame yourself for not stumbling onto our blog earlier :) While growing, our audience reach is still quite small !!

  6. Hi,

    Nice write up.

    Pertaining to the de-listing space I am tracking an MNC pharma company Novartis. Do u think the de-listing chances of Novartis have increased now? Since the Supreme court rejected their patent for Glivec it has had a big impact on MNC pharmas in India. Buying back shares wont be a problem at all for Novartis India with support from the huge parent Novartis AG.

    1. Hi Mokhtar,
      Thanks for liking the write up. The Glivec case and its implications are way beyond our circle of competence and hence its impact is beyond our understanding.. On the chances of the Novartis cue to this specific event, may be YES they have increased but our thesis on delisting as explained in the post is that the process is heavy lopsided in the favour of the promotors and hence minorities should completely avoid it..
      About the large parentage that Novartis India has , I guess that logic is true for all the MNCs and unfortunately has worked well only in a handfull of cases, SO....

      Best of ML !!!