Deal update: The Patni Acquisition

The Deal

• Founder Narendra Patni along with his two brothers, Ashok and Gajendra Patni, hold 46 per cent stake in the company, Patni Computers. Private equity player General Atlantic has 17 per cent shareholding in the company via the American Depository Receipts (ADRs).
• US-based iGate has acquired nearly 63 per cent stake in country's sixth largest IT firm Patni Computer Systems for $1. 22 billion.
• iGate will buy 45.6 per cent of the shares of the three founders of Patni -- Narendra Patni, Gajendra Patni and Ashok Patni-- along with the 17.4 per cent stake of private equity firm General Atlantic.
• The transaction, valued at approximately $1.22 billion, includes the mandatory 20 per cent open offer to be made to the public shareholders of Patni.
• The deal is expected to be completed in the first half of 2011, after acquiring all the regulatory approvals.
• Shares of Patni Computer closed at Rs 463.85, up 0.82 per cent on the Bombay Stock Exchange and Rs 464.10 up 0.80% on the NSE.
• iGate will pay about $921 million for buying the 63 per cent share at Rs 503.50 a piece.
• iGate will issue equity to Apax Partners for $270-480 million, depending on the response to the open offer.
• The US-based company will also raise debt of about $700 million from Jefferies & Company and RBC Capital Markets to fund the acquisition.
• iGate had previously made attempts to acquire the fraud-hit Satyam Computer Services (two years ago).

There are certain taxation related issues which might cause hurdles in the deal. Particularly, tax issues relating to a non-compete fee to be paid to the firm’s promoters and levy of capital gains tax might delay the successful completion of the deal.

Non-compete fee issue

• There is no non-compete fee agreed to in this deal. Non-compete fee is paid to the selling promoters, so that they do not re-enter the business and pose competition to the acquired company.
• The Patni promoters, who hold about 45% in Patni Computer Systems, have refused to sign a non-compete agreement with the prospective buyers, which include a private equity consortium comprising Carlyle and Advent, and iGate Technologies, backed by Apax Partners.
• The promoters have declined to give assurances regarding future business dealings with clients of Patni, raising concern among the private equity partners about the poaching of clients.
• The pressing concern for the bidders is that the promoters should not use their extensive knowledge of the sector to compete with them in the same space almost immediately.
• The other promoters, private equity firm General Atlantic, Gajendra and Ashok Patni, the brothers of Narendra Patni, are not involved in the firm and therefore don’t need to give any personal assurances. The PE firms are also concerned that the promoters, especially Narendra Patni, are not giving any assurances about giving up their right to solicit customers of Patni after the sale. Such an assurance is crucial as the promoters can use their extensive contacts and relationships with clients to lure business away from the new buyers.

Capital Gains issue

·      Indian tax laws mandate the seller in a transaction to pay capital gains tax. However, parties to the transaction can mutually agree on who will pay the tax.

·      There is nothing in Indian tax laws that prohibit the structuring of a transaction in a way where the buyer will pay the tax.

·      While by default, the seller is liable to pay tax, there have also been much-publicised cases such as the tax dispute between the Indian tax authorities and British telecommunications giant Vodafone Plc where, despite being a buyer, Vodafone is now asked to pay Rs12,297 crore as tax involving a 2007 acquisition. Vodafone bought Hutchison Telecommunications International Ltd’s 66.98% stake in Indian telecom company Hutch Essar Ltd by paying $11.2 billion. Hutchison’s ownership of its Indian telecom subsidiary was through a Cayman Islands entity, which sold its stake to an overseas subsidiary of Vodafone. Hutch did not pay tax to the Indian authorities as the parties to the transaction were both overseas entities. The tax liability is under litigation in the Supreme Court.

Importance

The deal is one of the biggest acquisitions in the Indian software industry and is expected to be completed in the first half of 2011, after acquiring all the regulatory approvals.

With the merger of the two companies, a decision about the Patni brand name will also be taken soon and the Patni name might give way to the iGate Global brand.