PNB Housing-Carlyle Deal: Delayed Or Dead?

Is the PNB Housing - Carlyle fundraising deal dead?

Delayed for sure. Chances are also high that the deal may not survive in this form. Or at all.

The preferential allotment to existing shareholder Carlyle will give it control and marks a transformation for PNB Housing – from public sector company to private-equity led with a large dash of banking celebrity thrown in (Aditya Puri).

But several corporate governance concerns have clouded the transaction – ranging from allegations of conflict of interest to being anti-minority.

Despite these, the stock market verdict was unambiguous. The stock price doubled within a few weeks of the deal being announced.

What finally tripped up the deal is a legality.

The home financier’s Articles of Association say the price of any share issue that is not a rights issue should be determined by valuation done by a registered valuer. This was highlighted by a proxy advisory company.

Based on this, securities regulator SEBI emailed the company saying the fundraising was ultra-vires the Articles and that a valuation should be done by a registered valuer. It should be placed before PNB Housing’s board of directors afresh for deciding the preferential allotment based on the valuation given. PNB Housing moved SAT against this “letter”.

That SEBI chose this particular point and chose a letter over an order is curious, but that aside, this regulatory intervention will end in one of two outcomes. And that could result in three scenarios and two likely end-games.

The Securities Appellate Tribunal and subsequently the Supreme Court find no violation of the Articles of Association and allow the fundraising to proceed as proposed.

This could take weeks or months. But since SAT has allowed the shareholder meeting to take place and permitted votes to be cast on the fundraising resolution with outcome sealed, once a judicial decision is in the process will move quickly. Eventually, Carlyle will become controlling shareholder of PNB Housing and promoter along with Punjab National Bank.

The final judgment, whenever it comes, finds that the preferential allotment is ultra-vires the Articles and mandates the company to do what SEBI has ordered.

That will result in a fresh valuation by a registered valuer.

Three Scenarios

1. The new valuation is below the preferential allotment price.

2. The new valuation is at a price similar to the preferential allotment price.

3. The new valuation is above the preferential allotment price.

End Game 1

In the first two scenarios, PNB Housing, its board, PNB and Carlyle stand vindicated. That may suggest the preferential allotment still stands a chance. I’d say it depends. On how PNB Housing’s share price performs in the interim.

Because, as per SEBI’s direction, the preferential allotment will have to be considered afresh in a new board meeting at whatever future date – depending on when the litigation is over. That could be weeks or months.

That will change the look-back period for determining the regulatory minimum price for a preferential allotment. If, before that, the stock price slumps back to Rs 400 levels then maybe a deal can still be had. If it stays elevated at Rs 700 levels then Carlyle will have to pay substantially more – what in deal jargon is known as a ‘transaction-affected price’. That means Carlyle will have to pay for the very advantages it brings to this deal. Possible, but tough.

End Game 2

If the third scenario occurs — a valuation higher than the preferential allotment price — then it could make life very uncomfortable for all involved in the fund-raising plan. From both a governance point of view and a pricing point of view. Someone will have to take the governance fall. If Carlyle agrees to pay more then maybe there’s a chance the deal survives. Or PNB Housing tries the rights issue route. Or fundraising collapses altogether.

Caveat

The assumption underlying the two outcomes, three scenarios and two end games is that the key shareholders — PNB (32%), Carlyle (32%), General Atlantic (10%), Ares SSG (10%) — have voted in favour of the transaction. The vote ended on June 22 and the outcome was sealed by tribunal order. It is expected to carry in favour as between parent PNB, Carlyle and the other entities participating in the preferential allotment, they had enough votes to swing a special resolution.

Unless, PNB has voted against the preferential allotment, as reported by one newspaper.

In which case, not only is this deal dead but there’s going be much egg, rotten, on the faces of board members of PNB Housing and PNB. And higher up.

The current managing director of PNB, CH. S.S. Mallikarjuna Rao, is the non-executive chairman of PNB Housing.

Rajneesh Karnatak is chief general manager at PNB and nominee director on PNB Housing’s board.

It is inconceivable that the transaction with Carlyle was not considered and approved by the PNB board as well.

While, it made no explicit public filing to this effect, the PNB Housing media statement on May 31 quoted CH. S.S. Mallikarjuna Rao in his capacity as PNB chairman.

Also, the deal involves an amendment in the brand franchise agreement with the bank parent - which could not have happened without the parent’s board’s consideration and approval.

If, now, the PNB board has changed its mind and voted against the deal – it will have to explain why. To its shareholders, shareholders of PNB Housing and Carlyle. Because the facts haven’t changed, the stock hasn’t crashed and there are no new investors waiting at theie door.

The trail could even lead up to the Finance Ministry – because it’s generally accepted that a decision of such consequence (to cede control in a PSU subsidiary to a private equity firm) is unlikely to have been taken without some formal or informal approval from the ultimate promoter of the bank and the home financier - the government of India.

It’s not going to be pretty. It will cast a shadow on the Carlyle partnership.

In the past few weeks, minority shareholders of the lender have been spun around by the joy of a rapidly rising share price, confusion on whether they’ve been short-changed and now probably despair over the future of the fundraise.

PNB Housing has been trying to raise funds for over two years. But given its own financial challenges, PNB could not participate. That put paid to an earlier rights issue under consideration.

Since 2019, the company’s share price has moved just one way – down. The past year it languished around the Rs 400 a piece mark. Till May. That’s when it perked up.

On May 31, the home financier announced it was raising Rs 4,000 crore via a preferential allotment of shares to Carlyle as well as two other foreign institutional shareholders. Accompanying Carlyle is its newest advisor and veteran banker Aditya Puri.

Since then, the share price has doubled to Rs 880 per share, in anticipation of the incoming capital, change in control and the prospect of Aditya Puri on the board. That changed on news of regulatory intervention - after which stock has fallen to below 700.

So, the stock market's response has been unequivocal.

But other experts are divided. Of India’s two leading proxy advisory firms – SES has recommended shareholders vote against the transaction, IiAS has recommended they vote for it.

SES’ JN Gupta argues that Carlyle is set to acquire control of the company cheap and unfairly. That it ought to have paid a control premium and or infused capital via a rights issue that would have allowed all shareholders to participate, not just a selective few.

Amit Tandon of IiAS agrees the deal is not be technically perfect but it ticks enough boxes to pass muster, he says. The company has been trying to raise funds for over two years with no success. And even though it seems reasonably capitalised right now, with bad debts somewhat under control, the lack of funds could be fatal as seen in recent years, he says.

Watch the debate between JN Gupta and Amit Tandon here.

Meanwhile, those close to the transaction say this was the best available deal given economic realities.

That’ll be tested soon.

We’ll know if PNB Housing sacrificed governance optics at the altar of commercial expediency.

Or, if Carlyle will cough up more money in light of this brouhaha.

Or, whether minority shareholders have the stomach to sacrifice commercial gains for better governance.

Menaka Doshi is Managing Editor at BloombergQuint.