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Suzlon's REPower Stake Sale a Negotiating Tactic

DNA: Suzlon Energy hints at selling stake in REpower.

Home-grown Suzlon Energy is looking at selling a part of the stake it holds in German wind energy peer REpower. …

…“We are holding a 33.85% stake in REpower,” Suzlon chairman and managing director Tulsi Tanti said while announcing the company’s results on Tuesday. “We can translate this value into huge value creation for our stakeholders.”

Suzlon Energy had acquired the REpower stake at 150 euros per share. The shares are currently quoting at 238 euros in the Frankfurt market, a gain of over 90% since the stake was acquired.

Very interesting. Is this a direct fallout of the problems at REPower that Suzlon is facing in being unable to get at the design blueprints, due to a German minority shareholder protection law?
(source: WSJ)

…Edison Mission Energy, a unit of Edison International, said the 144-foot-long windmill blades it recently bought from Suzlon have begun to split at three wind-power sites it operates in the Midwest. Suzlon has recalled 1,251 blades from its top-of-the-line turbines, which represent the majority of blades the company has sold to date in the U.S….

… Its troubles don’t end there. A year ago, the company bought a controlling stake in a large German turbine manufacturer, REpower Systems AG, in one of India’s biggest overseas acquisitions. …Now, Suzlon can’t get its hands on the blueprints. Hamstrung by a German corporate law, Suzlon must offer to buy out minority shareholders before it can demand REpower’s designs. It’s unlikely that the company could make a tender offer until 2009, say people with knowledge of the companies. …Mr. Kher blamed the cracks on the Midwest’s unexpectedly violent changes in wind direction. Though Mr. Tanti says that only 45 blades have cracked, Suzlon says it will add an extra lamination layer to almost all of the blades it has shipped to the U.S. To repair cracked blades and reinforce the rest, the company expects to spend $30 million.

So first, Suzlon buys around 34% in REPower.

Then it writes puts (basically agreeing to buy REPower shares at a certain price) to Areva, and buys call options from Martifer, it’s partner in the buyout, both at the 150 euro price. These are all exercisable in 2009 or so. (This is gleaned from info I’ve got from various reports) This gives them about 87% voting rights totally. The remaining is held by minority shareholders.

REPower can refuse to give Suzlon blueprints of its technology which, it seems, is superior and of bigger capacity than Suzlon’s. That right of refusal is from a law that allows companies to restrict key information from competitors and as Suzlon has not acquired a majority stake, it is still a competitor under German law.

Choices then are: Suzlon acquires 13% of the remaining stake, or a majority stake by exercising the options they own. They don’t have the cash. They’re not going to get any more debt, with the way markets are, and if they do go this route the high rates will just kill them.

Other choice: Sell the stake they own in the market – after all, REPower trades at 236 euros. But to sell such a big stake they have to do it silently; otherwise market players will want to front-run this and sell their stakes up front – and effectively nullify any gains Suzlon intended to achieve. In fact, REPower shares has fallen about 2% since this story.

So why has Tanti made this announcement? It obviously is not his intention to sell – if it was, he would do it first and then announce it. It is likely to do two things: firstly, keep prices low. This is in it’s benefit as Areva, which holds 30% and has the right to sell to Suzlon at market prices. (a put option at 150 would be worthless to Areva, but it can choose to sell at market instead). Effectively, a price reduction gives Suzlon a breather in the payment for Areva’s 30% stake.

(In any case I think Suzlon is going to find it difficult to find the money to fund this stake purchase – it’s only saviour is if it can find some other knight in shining armour, willing to pay and take over the stake, with voting rights still staying with Suzlon. Tough ask)

The other thing it may do is to force management to rethink restrictions on blueprints. Management gets a good chunk of stock options and they aren’t going to be happy to see the 150 price levels again – giving up the blueprints might seem a lesser evil.

This looks to me like a negotiation tactic. Question is: will it work? If Tanti is desperate – and this sounds to me like an act of desperation – will this take a lot more out of the wind energy company than it can hope to give? Time will tell, but if you’re an investor watch very carefully.

The stock’s at 318, with a recently announced result the EPS is 6.89, up only about 15% from an EPS of Rs. 6 (adjusted for split) last year. The P/E is nearly 45, and Suzlon desperately needs to show some substance soon; wind energy may be fantastic at $129 oil, but if you overleverage your bets, you will go bust before the boom hits you.

Disclosure: No positions. Sorry I didn’t write this when I posted first. Have not had positions in this stock for the last five months or so.

  • KPR says:

    >Hello Deepak,

    I am your reader for last six months.The way you think pros and cons and write any articles looks nice.This is like thinking whole different way than normal people think in one matter.Keep up your good work

    Good Luck

    Ravi

  • Santosh says:

    >I don’t get one part of this story…has Suzlon guaranteed Areva 150 euros a share or market whichever is higher..is Areva obliged to sell its stake?? Then it’s a bad deal for Martifier..isn’t it??

  • Deepak Shenoy says:

    >NOpe, one was a put option written by Suzlon to Areva (Areva may be obliged to sell in a First-right-of-refusal agreement, i don’t know)

    Martifier wrote Suzlon a call option at that price, obviously there must have been some sort of premium attached in both the put and call options, but effectively Suzlon can buy at 150 but only after May 2009. (The deal details aren’t public but this is what is available from other sites)

  • santosh says:

    >Well…writing puts at 150 and buying calls at the same strike rate means that Suzlon is serious about this deal to go through.. as they had 34% already and now since their calls are in the money, they can exercise them and take the stake past 50%…even hypothetically, if the share price was, say, 100 euros then Areva would have been tempted to exit at 150 euros…clever deal from Suzlon indeed…

    but why would Martifier write calls at 150? may be they thought REPower had run so much already, they thought it wouldn’t breach 150…any way, they got some leverage out of their holding in terms of premium received..this is a win-all deal (less so for Martifier)..a good one…I tried looking for any info on knowing if Areva is obliged to sell its stake as per their agreement, but couldn’t get it anywhere…but as the reports say, Suzlon now controls 87% of voting rights(this is possible only after including 30% of Areva), this makes me feel that Areva is obliged to sell its stake to Suzlon.

  • Deepak Shenoy says:

    >Suzlon is serious, which is why I think this is a negotiating tactic.

    martifer was a co-party in Suzlon’s bid and might have been compensated for the call option in different ways.

    Btw, voting rights can be traded separately from ownership, so it’s possible suzlon made a deal with Areva about voting rights going to suzlon (i.e. Areva has to vote with suzlon) for a consideration. This is usually the case with many companies abroad.

  • Anonymous says:

    >Typically you right disclosure after analyzing or commenting on any company. Did I miss the disclosure here ?

    Samarth

  • Deepak Shenoy says:

    >Samarth: you’re right, I forgot. Will edit post. I don’t have any positions – haven’t had one on this stock for the last five months!