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India’s top mutual funds are opposing Suzuki Motor of Japan’s move to make Maruti Suzuki India (MSIL)’s proposed Gujarat unit its wholly owned subsidiary. In a seven-page letter, managers of top fund houses that together have invested a little over Rs 2,000 crore in the company’s stock, said this was a forced transition of MSIL into a trading company.
They claimed the deal’s announcement had already led to a loss of Rs 5,000 crore for shareholders. It was, they said, a way of siphoning off Maruti’s cash with a carefully worded, yet confusing, communication.
The company has said expansion of the Gujarat plant to 1.5 million vehicles annual capacity by 2020-21 implies the ‘incremental capex’ needs of the plant will be Rs 12,000 crore more. The fund managers have sought a detailed and unambiguous explanation of the ‘incremental capex’ term. They said if the cash flows of the Gujarat plant have to fund this requirement, it would mean the initial investment of Rs 3,000 crore by Suzuki in phase-I will be valued at Rs 15,000 crore over the next six years (FY15-21) at cost itself.
This would mean an internal rate of return (IRR) of 30 per cent, higher than the cost of capital of both MSIL and Suzuki, the letter said.
As on January 31, the total exposure of MF schemes in MSIL’s stock was Rs 2,740 crore, 12 per cent of the free-float market capital of the car maker. With leading houses such as HDFC MF, Reliance MF, ICICI Prudential MF and UTI MF having exposure of Rs 300-800 crore each in the company, they are concerned turning this highly profitable project into a 100 per cent subsidiary of Suzuki, instead of MSIL, is not in the interest of MSIL and its shareholders. And, it will lead to significant erosion of value for both. They caution MSIL might become a “hollow” company. After 2015-16, when the Gujarat plant would be completed, incremental volumes will be outsourced, they said. By fund managers’ calculation, assuming 15 per cent volume growth, MSIL will be selling 5.5 million cars by 2025. “It will be buying 72 per cent of cars from outside, transforming MSIL to a distribution company from a manufacturing one, thereby leading to a significant PE (price to earnings ratio) de-rating. This would probably be one of the few in
stances where a car company will outsource complete manufacturing of almost its entire incremental production,” their letter said.
It was ironical, it added, that Suzuki is setting up plants in India while MSIL is likely to set up plants abroad.
According to the letter, the PE of MSIL has dipped over the years. While part of the reason could be general slowdown and rupee volatility, fund managers believe a high cash percentage of the balance sheet (42 per cent in FY13) is a key reason for lowering the return on capital employed. As on September 2013, MSIL had net cash of Rs 7,000 crore. The company should generate Rs 5,000-6,000 crore of operating cash for each of the next three years, which should suffice for its Gujarat requirement.
The fund managers also took a dig at the royalty payments by MSIL to Suzuki. They said the parent already has Rs 7,000 crore as royalty, 5.7 per cent of sales. In the next four years, they say another royalty payment worth Rs 8,500 crore will be made. “It is not fair to levy royalty on the total sale value of the car. Ideally, royalty should be levied on the value of a car, net of the bought-out components,” they said.
According to them, with this pace and assuming a 15 per cent growth in annual sales over the next 20 years, MSIL will be paying a royalty of Rs 41,900 crore.
