Proxy advisory firm IiAS has said Maruti Suzuki’s update last week on the Gujarat project, including the term sheet of the contract manufacturing agreement (CMA) and lease deed with Suzuki Motor Gujarat Private (SMG), will tilt the balance of power in favour of Suzuki and lead Maruti to lose control over its destiny. IiAS still believes that Maruti, and not Suzuki, ought to invest in the Gujarat plan.
IiAS believes that Maruti shareholders should only be concerned with how Maruti uses its funds and not about how Suzuki optimizes the returns on its investable surplus.
“This transaction adds to the complexity of the operating structure. Moreover, the balance of power, already in favour of Suzuki, will now tilt completely towards them and Maruti will have lost control over its own destiny,” states the IiAS report released on Monday.
Maruti Suzuki, in its announcement on Friday, had said that the option of the Gujarat project being another division of MSIL (like Manesar) was rejected on the grounds of various business considerations. “The recent announcement does not answer the fundamental question — why should the Gujarat plant not be housed within Maruti? The entire update focuses on why this deal is good for shareholders, but doesn’t compare this deal with the alternative of Maruti investing in the Gujarat plant, as was the original plan,” the IiAS report said.
“What is the need for this structure, the company has still not able to explain it. The whole purpose of investing in Maruti Suzuki is to get exposure to the underplying car manufacturing company and not to get interest earned out of the surplus cash. There is also no clarity on fair transfer price,” said a fund manager.
Maruti estimates earnings from not investing in the Gujarat plant at Rs 105 billion over a 15-year period, assuming a post-tax return of 8.5% pa. IiAS believes the earnings assumption of 8.5% pa post-tax is high, given that in the recent past, Maruti’s yield on its investment book has been around 8% at pre-tax levels. Moreover, the earnings on the savings are estimated over a 15-year period, and are dependent upon several assumptions and the estimates could change rapidly depending on the assumptions one uses, believes IiAS.
IiAS maintains that Maruti’s own investment in the Gujarat plant would generate returns of at least 16%: “Maruti’s return on average capital employed (RoCE) at a consolidated level was around 17% for the year ended March 31, 2014, and it would be higher without the drag of the lower yield on the excess cash on its balance sheet,” said IiAS.
The report further states that Suzuki Motor Company, Japan (Suzuki), which owns 56% of Maruti and 100% of Suzuki Motor Gujarat Private (SMG), seems to be shifting the rationale for the deal. “The announcement says that with this deal, Maruti’s importance to Suzuki will increase. That would be true if the Gujarat plant was housed within Maruti — in this structure, India’s importance as a market increases for Suzuki, but not Maruti’s specifically.”