Mergers and Acquisitions in Retail Sector in India

India is a country of aspiring middle class and young population. The 300 million middle-class individuals of India want products that are value-driven and 500 million individuals have access to more money which has resulted in more demand for products. Indian customers have also been ranked as one of the most confident in the world (Mastercard Worldwide Index of Consumer Confidence). This has been due to numerous factors like- confidence in the strength of the economy, personal finances, career growth etc. and has resulted in tendency to consume more, purchase non-essential products, experiment with new products, brands, categories etc. Moreover, not only the young, middle-class, urban population but also the 700 million rural population of the country also is seen to present an opportunity to the retail companies that cannot be ignored. The Indian retail sector accounts for 20% of GDP in India and contributes 8% to total employment. The current estimated value of the Indian retail sector is about 500 billion USD and is pegged to reach 1.3 trillion USD by 2020. The 5% penetration level of modern retail is likely to increase six-fold from the current 27 billion USD to 220 billion USD in 2020. Moreover, this sector is expected to grow at a CAGR of 15-20%. Some of the causes driving this are Higher incomes leading to purchase of both essential and non-essential products New technology and lifestyle trends creating replacement demand Evolving consumption patters Increase in rural income as well as urbanization Consumer awareness and easy access to credit Growth of modern trade format across cities and towns Rapid urbanization and growing trend towards nuclear family

Key Players: Pantaloon Retail Limited (Future Group Venture)

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Shoppers Stop (K Raheja Group Venture) Spencers Retail Lifestyle Retail (Landmark Group venture) Bharti Retail Reliance Retail Aditya Birla More Tata Trent

Pantaloon Retail Ltd (Future Group venture

On account of a poor performing manufacturing sector, Indias growth slowed down to nine year low 5.3% in quarter ending March 2012 and 6.5% in the fiscal year 2012-13. Growth is seen to have been affected by economic slowdown originating from developed economies and such adverse effect is seen to be short-term in nature. An OPEC report has suggested that the medium outlook is seen to be more positive. Moreover, the inflationary effect on consumers and retailers is negative as the current inflation is supply based rather than demand driven and margins and sales are both under pressure. However, rising consumer confidence, consumption based behavior, large pool of consumers, increasing income levels and overall strong GDP growth are providing opportunities for global retailers to invest in Indian market. Considering that India has youngest population in the world growth of online retailers is seen to be inevitable, thus attracting financial investors to this model. Largely deals are happening in the online segment of retail business, may it be apparel, books, baby care or pharmacy. According to PwCs Global CEO Survey, half of the CEOs of developed countries believed that emerging economies are important for their companys future. In the past five years, retail chain giants such as Walmart, Tesco and Metro Group, saw revenues in developing countries grow 2.5 times faster than their home markets. The embryonic stage of organized retail penetration in India and the shortage of availability of cash for expansion is likely to prompt more business activity in the sector. This has been the primary reason for the M&As in this sector, especially in the e-commerce segment. In 2011, the e-commerce sector raised over 500
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million USD from 67 deals as compared to 2010 which saw only 18 investments worth 112 million USD. This was seen to be a result of a huge mass of Internet users, rising middle-class, broadband penetration, 3G growth, improved payment gateways and logistics. Recent deals: Investor SAIF Ventures Tiger Capital, Hellion Ventures, Accel India Fidelity Bigshoebazaar India Investee Ink Fruit Letsbuy.com Sector Online Apparel Site Online consumer durable site Online shoe site for wholesale purchases Tiger Capital Sequoia Capital India Standard Chatered Private Equity CaratLane.com Lovable Lingerie Privi Organics Online Jewellery Site Innerwear Indian aroma chemical products manufacturer

The FDI (foreign direct investment) policy framework has also been a prime driver of M&A activity in India. Following the announcement of single brand retail policy in India, more than 60 foreign brands have set up retail operations in India by forming strategic joint ventures with Indian partners. Examples Marks & Spencer with Reliance Retail Georgia Armani with DLF Fendi with Chordia Fashions Ferragamo with DLF
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Damas with Gitanjali Lifestyle Inditex (Zara) with Trent Burberrey with Genesis Color S Oliver with Orient Craft

In January 2012, the government further liberalised the policy on single brand retail trading by increasing the FDI cap from 51 to 100%, subject to certain conditions. This policy has opened doors for further M&A activity. However, certain ambiguities in the policy have slowed the pace of M&A activity, but it is expected to pick up as and when these uncertainties are ironed-out with further liberalisation in the policy. The multi-brand retail sector was first opened for FDI with a formal policy on wholesale trading in the year 1997 (requiring government approval for 100% FDI). This was further liberalised in 2006 by placing the segment under automatic route. Since 2006, the FDI in wholesale trading has been freely permitted. In April 2010, the government issued certain operational guidelines for Indian companies with FDI engaged in wholesale trading activities. Some of the operational guidelines have substantive impact on the M&A activities in this space. The key ones are as follows: Business customers need to have a government license or registration to act as such Group company sales are to be restricted to 25% of wholesale turnover However, in August 2013, the government relaxed FDI norms in multibrand retailing by easing three main contentious conditions. These were- were on a mandatory 30 per cent sourcing from small domestic industries, 50 per cent of the investment to be in back-end infrastructure and outlets to be opened only in cities with population of more than a million. On the 30 per cent sourcing, the government expanded the definition of micro, small and medium enterprises (MSME), to include companies with a total investment of up to $2 million in plant and machinery will also be eligible for such sourcing of manufactured and processed products. Relaxation of the sourcing norm would not only help arrest loss of business for such Indian
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small industries that outgrew the eligibility but would also help retailers develop a robust supply chain. Govt also eased the norms on back-end infrastructure investment. Under the changed guidelines, that 50 per cent investment will be restricted only to the first tranche of $100 million, the mandatory initial investment amount, while subsequent investments into back-end will depend on the retailer. Finally, retailers are allowed to open stores in all states that have agreed to implement FDI in multibrand retail, even if such states do not have cities of more than a million population. States will now have a choice of city for the location of the retail stores. However, foreign investment in single-brand retail has failed to gain momentum despite hike in FDI limit to 100% from 51% earlier, property consultant Knight Frank said in a report. The share of foreign investment in single-brand retail out of the total FDI inflow into the country has declined from 0.03% in December 2011 to 0.02% in June 2012. A KPMG report suggested that, in times of economic slowdown Indian retail players should partner with foreign retailers to bring in both capital and expertise. It also suggested that, retailers can consider entering into an alliance with- a retailer from the same channel, a retailer from a different channel, vendors and back end service providers like third party logistics players and IT service providers. Alliances enable retailers in entering new markets, categories, expanding value proposition and capturing new consumer segments. While globally, its a common trend, Indian retailers are slowly recognizing the importance of such partnerships and therefore actively seeking for opportunities to unlock value. Some of the ways in which retailers have formed alliances with foreign players are By tapping new customer segments: i) Reliance retail has tied up with Pearle Europe to launch a range of optical stores in India ii) Spencer retail has tied up with Woolworths for marketing its Chad Valley range of toys for tapping the kids segment in India

By expanding into new categories i) Future Group is leveraging Blue Foods expertise in food and beverages ii) Spencers entered into partnership with specialists like Sankalp, Rajdhani, Yo China and Singapore based Bread Talk to open chain of food outlets in its stores

By entering into new geographies i) FabIndia has acquired a 25 percent stake in UKs bohemian women wear retailer EAST, to help FabIndia sell its garments in UK ii) AB retail acquired 90 percent stake in Trinethra from Value Funds to gain a strong retail footprint in South India

By enhancing value proposition i) Shoppers Stop has entered into an alliance with Mothercare UK to expand its value proposition in mothercare and kids wear section ii) Trent has entered into a joint venture with Inditex Group to develop and promote Zara stores in India and leverage on Zaras international experience

Currently, most e-commerce companies and multi-brand retail trading companies have adopted B2B route for raising foreign capital or formed strategic joint ventures with foreign retailers.

Spin-off of Pantaloons Retail to Aditya Birla Group Pantaloons Retail (India) Ltd. (PRIL)
PRIL is a leading Indian retail major with presence across most sectors of organized retail. It is the flagship company of the Future Group which has interests over retail, fashion, financial services, food, FMCG and others. PRIL operates hypermarkets and supermarkets such as Big Bazaar, Food Bazaar, Home Town, eZone, etc. and also other fashion retails formats such as Central, Brand Factory, Planet Sports, aLL, etc. It also has investments in insurance through Future Generali, financial services through Capital First Ltd., Future Media, Staples Future and others. In December 2012, pursuant to a scheme of arrangement, PRIL sold its Pantaloons format business along with the brand name of Pantaloons to Peter England Fashions and Retail Ltd. (wholly-owned subsidiary of Aditya Birla Nuvo Ltd.) in order to reduce its debt. Post the scheme of arrangement, the company has applied for changing its name to Future Retail (India) Ltd. PRIL Brand Portfolio

Aditya Birla Nuvo Ltd. (ABNL)

Aditya Birla Nuvo Ltd. (ABNL), a USD 4.5 billion conglomerate by revenue size, is part of Aditya Birla Group, a USD 40 billion Indian multinational. Having a market cap of about USD 2.5 billion as on 30th November 2012, ABNL is present across Financial Services, Telecom, Fashion & Lifestyle, IT-ITeS and Manufacturing businesses.

Why Spin-off?
Debt-laden Pantaloon retail had been counting on the federal government opening up of the multibrand retail sector to foreign direct investment as part of a plan to bring in overseas capital to help corner a bigger share of Indias estimated $500 billion annual retail market. But its plans were thwarted when the Congress-party led federal government reversed its decision at that point of time to allow retailers like Walmart store & Carrefour to set up shops in India in partnership with local firms after heavy political flak. Key Indian players in the organized retail sector (approx. 8% of overall retail sector) are as follows: 8

Company Name

Annual Revenue (Crores INR)

Company Name

Market Cap (Crores INR)

Pantaloon Ret

4325

Pantaloon Ret

4701

Shoppers Stop

1929

Shoppers Stop

3022

Koutons Retail

1204

Trent

2463

Brandhouse

737

Kewal Kiran

875

REI Six Ten

717

Provogue

284

Trent

686

REI Six Ten

249

Provogue

562

Brandhouse

72

Kewal Kiran

234

Koutons Retail

63

Cantabil Retail

186

Arunjyoti Enter

57

Arunjyoti Enter

79

Cantabil Retail

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Some analysts had expressed concern disappointment that Future Group had lost its competitive edge in the fashion space. The transaction saw 65 Pantaloons Stores & 25 Pantaloons Factory outlets being transferred to Peter England Fashions, a unit of 9

Aditya Birla Nuvo, a company that houses most consumer-facing businesses of the K. M. Birla held conglomerate. Some of the following facts & figures back the decision of spin-off: Group laden with consolidated debt of Rs. 6000 Crores. FY11 Standalone Balance Sheet: 2,173.12 Cr debt. D/E ratio = 0.82, which they wanted to reduce to 0.54

Post-merger, the holding of ABNL in PRIL through its subsidiary PEFRL will be 50.09%. PRIL with ABNL had the deal with a share swap ratio of 1:5. Some of the other measures which Future group decided to take in near future in order to curb the debt are: Finalized plans to exit from stationery joint venture with US-based staples by selling its entire stake to the partner for upto Rs. 170 crores. Mulling stake sale in Future Generali Insurance, a JV with Italian insurer Generali Group. May hive off part of its 70% stake in Future Supply Chain (FSC), a supply chain management firm. The remaining 30% is held by Hong Kong based Li & Fung which is also interested in hiking its stake in the company. Moreover they have already sold majority stake in the Future Capital holdings to private equity firm Warburg Pincus for Rs. 560 crores.

The action plan

Aditya Birla Nuvo Ltd (ABNL), part of Kumar Mangalam Birla-led group, through a subsidiary has proposed to acquire a majority of Pantaloon format business from Kishore Biyani-led Future group. The proposed combination relates to acquisition of business of Pantaloon Retail (India) Ltd (PRIL) by ABNL through the latters subsidiary Peter England Fashions & Retail Ltd (PEFRL). The Competition Commission of India (CCI) had in August termed as invalid an application seeking nod for this takeover deal as the final deal was yet to be approved by the boards of the concerned companies at that time. 10

In late April, Future Group had said that Aditya Birla Nuvo would infuse Rs.1,600 crore into its flagship Pantaloon and would acquire a majority stake in the store chain, which would be later demerged to be listed as a separate entity. As a part of the deal between the two companies, the Pantaloon format would be demerged from PRIL. A diversified entity, ABNL through its division Madura Fashion & Lifestyle manufactures and sell apparel, footwear and accessories under various brands such as Louis Philippe, Van Heusen and Allen Solly. ITSL, a subsidiary of ABNL, is the parent company of PEFRL (Peter England Fashions & Retail Ltd). Meanwhile, PRIL (Pantaloon Retail (India) Ltd) is a listed company with presence in retail fashion and lifestyle business, among others. Going by estimates, the organised Apparel, Footwear and Accessories (AFA) retail market is worth about Rs.42,500 crore, out of which the shares of PRIL and ABNL is stated to be small. The Commission also noted that, among others, recent liberalization of foreign direct investment (FDI) norms in single and multi-brand retail trading would further enable many international AFA brands to compete in India more vigorously. Billionaire Kumar Mangalam Birla had announced buying a 50.1% stake in Pantaloons for Rs 800 crore in cash while taking on a similar quantum of debt. The deal entailed Kishore Biyani-controlled Pantaloon Retail India (PRIL), with diversified retailing interests, demerging lifestyle stores into a separate entity. Aditya Birla Nuvo planned subscribing Rs 800 crore debentures of PRIL, to be converted into equity of the demerged business, besides assuming the debt. This would have pegged enterprise value of Pantaloons stores at Rs 3,200 crore, almost two times topline revenue and 13 times EBITDA, which some analysts tracking the sector argued was on the higher side. The structuring would have seen Birla acquiring over 25% direct stake and making a mandatory open offer for additional 26% leading to majority control. As per the notice, ABNL and PRIL are not entering into any non-compete arrangement and the latter would continue to compete in the apparel, footwear and accessories business through various other stores. Meanwhile, as part of the proposed transaction, ABNL (Aditya Birla Nuvo Ltd) would subscribe to debentures amounting to Rs.800 crore issued by PRIL and on completion of the demerger process, the debentures would convert into equity in the demerged entity of the Pantaloon format. Further, ABNL would take care of Rs.800 crore debt of Pantaloon. The notice seeking approval for the deal was jointly moved by ABNL, PEFRL, Indigold Trade and Services Ltd (ITSL) and PRIL. 11

Merger of Pantaloons Retail India Ltd. & Future Ventures India Ltd.
The stock of Pantaloons Retail India Ltd (PRIL) fell by 24% since April 30, 2012, after Kishore Biyani, the Future Group's promoter, announced that PRIL's fashion business would be demerged and sold to the Aditya Birla Group. The benchmark index Sensex climbed 2.5% during the same period. Source: Economic times

The key highlights of the merger are : Pantaloons Retail India Limited (PRIL) and Future Ventures India Limited (FVIL) through a Composite scheme of arrangement plans to demerge its fashion business into PRILs wholly owned subsidiary Future Lifestyle Fashions Limited (FLFL). Simultaneously, FVIL also plans to demerge its fashion business (including its subsidiaries IndusLeague Clothing Limited (ILCL) and Lee Cooper (India) Limited (LCL) into FLFL post consolidation of the ILCL and LEE businesses with FVIL. Shareholders of PRIL and FVIL are to receive shares in FLFL which will seek automatic listing of its shares post the Scheme of Arrangement and Amalgamation. FVIL to emerge as a separate operating company through a separate scheme of arrangement. FVIL will also undergo a capital reduction by reducing its face value of shares from Rs 10 to Rs 6 to reflect the size of the remaining business without any change in number of shares outstanding. The rationale of the proposed arrangement is to simplify the group structure, unlock value for Shareholders reduce administrative costs and achieve operational and managerial efficiencies. The resulting entity (FLFL) will have Proforma estimated revenues of Rs. 3,100 cr. as of December 2013 with a total retail space under coverage of approx. 3.5 msf.

Demerger of Fashion Business of PRIL and FVIL

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The scheme of arrangement is primarily aimed at consolidating the fashion business of PRIL and FVIL in to a new listed entity called FLFL(Future Lifestyle Fashion Limited)

Demerger Graphical Representation

Promoters

Public

Promoters

PRIL

Public

PRIL
Central Brand Factory, all, Planet Sports Big Bazar, Food Bazar, Hometown ,e-zone Demerger Demerger Future Lifestyle Fashions Share Allotment

FVIL
Indus-League, BIBA,Holli,LEE,Tut rle,CELIO Food , FMCG and Others

share Allotment Future Lifestyle Fashions

Future Lifestyle Fashions Central Brand Factory, all, Planet Sports Indus-League, BIBA,Holli,LEE,Tut rle,CELIO

Post the scheme, there will be 3 separate listed entities; Pantaloons Retail India Ltd (to be renamed as Future Retail India Ltd) having the hypermarket and supermarket businesses of Big Bazaar, Food Bazaar, Home Town, eZone, etc.; 13

 Future Ventures India Ltd having food and FMCG businesses of Future Consumer Enterprises, Future Consumer Products, Aadhar Retail, Capital Food Exports, etc., and Future Lifestyle Fashions Ltd having the fashions businesses of PRIL and FVIL The Final Structure Post Arrangement

Step 1 :Demerger of fashion business of ILCL and transfer to FVIL FVIL holds 95.29% and other shareholders hold 4.71% stake in ILCL. The fashions business of ILCL (which includes fashions brands retailing business and its 100% subsidiary LEE) will be demerged and transferred to FVIL. As a consideration, FVIL will issue and allot 21,732,971 equity shares to the shareholders holding 4.71% based on 3 month average closing price of FVIL. FVIL's allotment of shares to 4.71% shareholders of ILCL 3 months average close price per FVIL share (Rs.) Value of the shares allotted (Rs. Cr.) 14 21,732,971 9.88 21.47

Step 2 Demerger of Fashions Business of PRIL and FVIL and Transfer to FLFL: After the merger of ILCLs fashions business and LEE into FVIL, the fashions business of PRIL and FVIL Will be demerged and transferred to FLFL. As a consideration, FLFL will issue and allot shares to PRIL in the ratio of 1:3, i.e., 1 share of FLFL for every 3 shares of PRIL, and to FVIL in the ratio of 1:31, i.e., 1 share of FLFL for every 31 shares of FVIL.

FLFL is presently a 100% subsidiary of PRIL. As of September 30, 2012, PRIL held 250,000 shares in FLFL Subsequent to which FLFL issued 25,481,399 shares of Rs.2/- each to PRIL taking the total shares held by PRIL in FLFL to 25,731,399 shares. These existing shares will not be cancelled pursuant to the scheme and hence PRIL will hold 16.66% in FLFL (in lieu of their current FLFL holding) post the scheme. FLFL Shareholding: FLFL Shareholding: Outstanding Shares FVIL 1, 597,976,61 PRIL 231,582,591 PRIL Existing Stake - FLFLs Final Outstanding Shares Swap Ratio 1:31 1:3 FLFL Shares 51,547,635 77,194,197 25,731,399 154,473,231

As per street estimates, the fashions business of PRIL has an EV of approximately Rs. 3,200 cr. and a debt of Rs. 1, 200 cr. and the fashion business of FVIL has an EV of approximately Rs. 1,200 cr. with a debt of Rs. 200 cr. Post the scheme of arrangement, the resulting listed entity (FLFL) will have an EV of approximately Rs. 4,400 cr. and debt of approximately Rs 1,400 cr. implying an equity value of around Rs. 3,000 cr. Considering total outstanding FLFL shares of 154,473,231 will imply a per share price of close to Rs 194/- for FLFL. The resulting FLFL will have estimated revenues of Rs. 3,100 cr. and operate 22 Central, 20 Brand Factory, 81 Planet Sports and 68 aLL stores. It will also own a portfolio of 24 brands across 121 cities under a total retail space of 3.5 mm sq. feet. Benefits of the Merger Creation of a transparent and simplified business structure with: 15

PRIL in hypermarket and supermarket business, FLFL in fashions business and FVIL in food and FMCG business.

Creation of financial flexibility for each of the companies by enhancing their ability to attract separate investors. Unlocking of value for shareholders of both PRIL and FVIL as they get shares in a separate listed fashion business in addition to shares they continue to hold in other businesses. Attribution of appropriate risk and valuation to the fashion business based on its riskreturn profile and cash flows. Greater visibility on the performance of fashion business. More focused leadership and dedicated management. Deleveraging of PRILs debt by transfer of debt of Rs. 1,226 cr. to FLFL. Future Fashion will have Strategic / noncore investments that may be monetized to further reduce leverage Dilution of direct voting rights of minority shareholders of PRIL and FVIL in FLFL As of December 31st 2012, promoters hold 44.19% in PRIL (equity and DVRs) and 38.25% in FVIL respectively, whereas public shareholders hold 55.81% and 61.75% in PRIL and FVIL respectively. Post the scheme of arrangement, promoter group entities and PRIL will together hold 51.33% in FLFL.

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