Lensview: Thoughts on Live Business Topics – August 2023

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In this article we analyze Maruti Suzuki India’s Decision to Buy Production Facilities in Gujarat, held under Suzuki Motor Gujarat (its fellow subsidiary)

Maruti Suzuki has been the one brand almost everyone who grew up in India in the 1980s loves. And for good reason. Maruti made the dream of owning a car possible for millions of Indians. 

And now when it is time for the next growth phase, there is a debate on how its proposed actions are placed vis-à-vis the interests of minority shareholders.

The debate is not on the consideration to be paid, the strategic reasons or the timeline. The issue being discussed by proxy firms and the analysts is the mode of consideration, that is, how should Maruti Suzuki India Limited pay for the plant.

Let us summarize the context quickly. 

Maruti Suzuki India Limited (MSIL) entered into a related party transaction in 2014-15 with its Parent, Suzuki Motor Corporation Japan (SMC). The related party transaction outlined the investment by SMC into a production facility of upto 7,50,000 cars per annum. MSIL leased its land in Gujarat for the plant. SMC was to invest in the production facility from its own balance sheet, to manufacture and supply vehicles on an exclusive basis to MSIL, on no-profit, no-loss basis. MSIL signed up to market the entire production from the plant.

The Contract Manufacturing Agreement (CMA) was approved by majority of the minority shareholders of MSIL in 2015, after much discussion and debate. 

Since then, a lot has changed in the market.

For starters, the entry level segment has degrown. This has been the traditional strength of MSIL. MSIL’s annual report for FY2022-23 outlines sub 2% year-on-year growth in this segment till 2030.

Alongside, the premium segments, including the SUV segment, have grown. MSIL’s annual report outlines 6% plus year-on-year growth in this segment till 2030.

Clearly, Indians are buying more premium cars, with this trend likely to continue.

Another clear trend is towards lower carbon emissions – ethanol blending in petrol engines, CNG, hybrid electric, and electric vehicles. This will mean multiple powertrains will coexist in the coming decade as the transition to electric vehicles plays out. MSIL has estimated that only 15-20% of its annual production will be electric vehicles in 2030. 

In recent years, MSIL has lagged competition in the transition to EVs, impacting its overall market share. However, this may start reversing as MSIL readies to launch its EV in H1 FY25.

The changed market context has made the production facility under Suzuki Motor Gujarat (SMG) more relevant for MSIL. The SMG plant in Gujarat is focused on the more premium, and newly launched successful models under MSIL. Its relevance for MSIL has grown steadily as evident from the table below:

Rs. Cr. FY16-17 FY17-18 FY18-19 FY19-20 FY20-21 FY21-22 FY22-23
Purchase of Goods from SMG by MSIL 681 5,087 9,043 14,294 13,974 21,210 28,345

Source: Maruti Suzuki Annual Reports

View from a corporate finance perspective – 

Suzuki Motor Corporation (SMC Japan) invested in the production facility at its 100% subsidiary Suzuki Motor Gujarat Pvt. Ltd. The table below outlines its investments:

Rs. Cr. FY14-15 FY15-16 FY16-17 FY17-18 FY18-19 FY19-20 FY20-21 FY21-22
Share Capital 100 3,200 5,810 8,580 8,680 12,590 12,680 12,730

Source: RoC Filings of Suzuki Motor Gujarat Pvt. Ltd.

Had MSIL made these investments from its own cash flow, it would have lost out on the interest income from such cash on its balance sheet. By not investing in building the production plant at Gujarat, MSIL gained interest income at the treasury rate of investments. Not a small sum over these years.

At the same time, since the contract manufacturing agreement specifies the sale by SMG to MSIL will be on cost basis, there have been little, if any, profits booked at SMG. This is outlined in the table below:

Summary Financials Suzuki Motor Gujarat Rs. Cr. FY14-15 FY15-16 FY16-17 FY17-18 FY18-19 FY19-20 FY20-21 FY21-22
Net Worth 102 3,210 5,986 8,687 8,791 12,688 12,733 12,757
Net Fixed Assets 0 3 2,334 2,941 6,211 7,111 7,355 11,218
Cash Balances 102 2,648 3,816 5,815 2,792 3,557 3,522 2,734
Revenues 0 0 719 6,617 11,399 16,969 15,850 24,440
PAT  2 8 178 104 104 101 46 23

Source: RoC Filings of Suzuki Motor Gujarat Pvt. Ltd.

View from a strategic perspective – 

The decision by MSIL Board to buy out the production facility at SMG at Net Book Value is a long term positive for MSIL shareholders. This will ensure the important and future ready production facility comes directly under MSIL. MSIL be better prepared to respond to a changed market reality.

The negative still remains as another Battery Unit (under the name of TDS Lithium Ion Battery Gujarat Ltd., formerly known as Automotive Electronics Power Pvt. Ltd.) remains under the ownership of Suzuki Motor Corporation Japan. 

MSIL has over Rs. 45,000 Cr. in cash available to directly pay for the SMG plant. That will be a simple transaction to execute. 

If, however, the MSIL Board decides to pay the consideration as stock (thereby issuing equity on preferential basis to the Promoter SMC Japan), the short term market messaging will likely be negative. This will imply dilution for the minority shareholders, and enabling the Promoter SMC Japan to retain further upside from the growth in MSIL equity value in the future. In our calculations, if the consideration were paid as stock and not as cash, post the preferential allotment, SMC Japan’s stake will increase from the current 56.48% to about 58.32%.

For Minority Shareholders of MSIL, it is the long term picture that is more relevant. The production facility is ready, brings 750,000 units capacity directly under MSIL, at net book value. 

The Minority Shareholders with a long term strategic view on MSIL should benefit from this transaction, irrespective of how the consideration payout is structured.

 

 

View of Gurvinder Juneja, Principal Officer, Fortuna Investment Advisors

A SEBI Registered Equity Focused PMS 

DISCLAIMER: Invested in MSIL. This is not a recommendation to buy or sell. Please do independent analysis before taking any decision related to investments. 

 

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Gurvinder Juneja
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Over 27 years of Professional Experience in the Indian Capital Markets Track Record as Investment Manager and as Operating Chief Financial Officer As Founder and CFO, built $ 150 M Net Worth NBFC from Day 0, to a profitable, professionally run leading company Vice President, Corporate Finance at ICICI to raise equity, advise on strategic investments for corporates in India Senior Manager, Corporate Finance at Wipro focused on strategic acquisitions in India, Europe, US MBA from Indian Institute of Management, Ahmedabad B Tech from IIT BHU 
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Over 22 Years of Professional Experience (Credit Rating Companies ‘CRISIL’ and ‘CARE’, ING Vysya Bank (now Kotak Bank) Deep expertise in Financial and Business Analysis As Director, Credit Ratings, responsible for Ratings across Manufacturing (core and ancillary) & Infra sectors Core financial and business analysis of corporates in India across sectors and market cycles Strong business relationships built over the years with Promoters and Management Teams MBA from International Management Institute Delhi B. Co. Hons. from Sri Ram College of Commerce, Delhi University
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Seasoned equity research and fund management professional with over 15 years of experience in the Indian capital markets Expertise in valuation, corporate action-based strategies and portfolio management across sectors, including lead coverage of aerospace and defense, ER&D, Tech etc MBA in Finance, a B.Tech in Electronics & Communication
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7+ years of professional experience in the PMS and AIF industry Ensuring end-to-end regulatory compliances at Fortuna Asset Managers In-charge of the Operations and Customer Experience function Alumnus of Chetana’s HS College of Commerce & Economics, Mumbai
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CXO with over 25 years of multi-industry experience in BFSI, Consumer, Auto, and Start-Ups in building 0-10 scale. Work across leading corporate houses in India Began his engagement with the stock markets in the early 1990s and continues to focus on long term value creation.
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Seasoned Financial Services Professional with over 3 decades of equity experience Most recently with Motilal Oswal as Associate Director Equity Personality of the Year 2017 by BSE – Tefla Was on BSE Advisory Board for 3 years & Chair of FICCI National Working Group
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OUR JOURNEY
From the outset of his career, Gurvinder worked in the corporate finance and M&A teams of large Indian conglomerates, gaining exposure to group level strategy, capital allocation and operating finance. He was on the founding team of an NBFC that was built from scratch and scaled into a sizeable institution, giving him first-hand experience in setting up and running a financial business in the Indian ecosystem. He has seen how real businesses are built and financed, from day-to-day operations through to how businesses operate, how transactions are structured, and how capital is raised and deployed. Over these years, he also watched India’s financial markets evolve, with a profusion of new products being created, marketed and often mis sold to investors. He saw asset managers chasing AUM via distributor driven models, which in his view created misaligned incentives between funds and investors. With a contrarian mindset and a strong belief in the power of compounding, he was unwilling to invest in high fee, distributor led products that delivered only modest or sub optimal long-term outcomes and recognised the opportunity cost this imposed on investors’ hard-earned savings in a growing economy. Drawing on his investing experience in corporate roles and in managing his own and family capital, he set out to build a firm that would do things differently: a product and platform designed for long term wealth creation, with an aligned fee and operating structure. With this background, Fortuna came into existence in late 2022- a bold step after almost 24 years in corporates, driven by the desire to offer an honest solution to investors. The fund began with very humble beginnings and, in a little over two and a half years, has grown to an AUM of Rs.100 plus crore, built without distributorships and supported instead by investors with whom the firm maintains direct, one on one relationships, and who have entrusted Fortuna with their hard-earned money.
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