A launch pad for the Indian multinational

July 2007: A global recession isn't a warning flash in the eye of the most pessimistic pundit, and back home India's richest man is working on a plan to make himself—and his shareholders— even richer. Mukesh Ambani, Chairman of Reliance Industries Ltd (RIL), has just made a presentation to Morgan Stanley on the Indian petrochemicals Goliath making a bid for US giant Dow Chemical.

That's when the wise men at another New York hedge fund decided to reach out to Ambani and his team to consider another US chemicals player as a target: Why not mull over Lyondell Chemicals, they cajoled. This, of course, was before Lyondell merged with European petrochemicals major Basell later in December 2007. Ambani, for his part, was determined to go after Dow, and told Morgan's investment strategist that RIL would make the acquisition work. The deal never went through because a clutch of private equity players like Blackstone and KKR also threw their hats into the ring; that drove the price higher than what RIL was ready to pay.

Over two years later, Dow isn't in Ambani's vision any more — not his immediate vision, at least — but Lyondell is. Only difference: The target is now LyondellBasell, and to that extent the deal looks a bit more complex. But what works in RIL's favour is that the merged entity is bankrupt, and so can be bought on the cheap. At the time of writing, RIL was in negotiations with the bankruptcy courts in the US, and there was a likelihood of Chinese and UAE-based bidders getting into the fray.

If the RIL-LyondellBasell transaction does go through, it will be yet another multi-billion outbound deal by India Inc. (the deal size is estimated by analysts at around $12 billion). In the recent past—before the global economy spiralled into a recession—the likes of the Tata Group, the A.V. Birla Group, the state-owned ONGC and even a relative new kid-in-town like G.M. Rao of the GMR Group made their presence felt on the outbound billion dollar-plus league tables (see Landmark Overseas Acquisitions). Since then, it's been a struggle to cope with softer demand conditions and debt repayments, but there's little doubt that India Inc.'s best bet of gaining global size and scale is by acquiring assets overseas.

Of course, the imperatives for buying huge assets overseas are not — and should not be — just to gain critical mass; new geographies, raw material security, new skills and higher technology are some of the provocations for buying abroad. Equally important. though, Indian promoters need to get two things crystal clear before acquiring: Are they buying at the right point in the business cycle; and the strategic rationale for buying that business.

As Frank Hancock, Managing Director and Head (MandA), Barclays Capital India, puts it: "When seen with the benefit of hindsight, if there's a single lesson to be learnt, it could be that timing is critical." However, Hancock is quick to add: "But in considering whether going ahead with an acquisition makes sense at a particular point of the cycle, the promoter must also decide whether he might be foregoing a unique opportunity in case he decides to pass."

That's the judgment call Indian CEOs have to make: When to go for the kill, and when to walk away. To be sure, M and A looks sexiest when economies are booming, and a feel-good air prevails (in the media, too). Conversely, acquisitions look like mindless disasters when markets bottom out and gloom sets in. The situation currently is somewhere in between, although still closer to the gloom than to the boom times. Yesterday's acquirers are frantically trying to make their buyouts work. They're making progress.

Tata Steel, which acquired Corus in 2007 for $12.2 billion, hurtled into the red in this year's June quarter, courtesy a huge drop in steel demand and, therefore, sales; this was followed by restructuring moves at the British steel maker's capacities. Recently, Tata Steel reported 6,000 job cuts at Corus, and in the quarters ahead, increased capacity utilisation and lower costs are expected to come to the Indian steel maker's rescue. Tata Motors, which was snowed under debt of $2 billion used to finance the $2.2-billion acquisition of Jaguar-Land Rover, succeeded in reporting a profit at the consolidated level for the September-ended quarter, after skidding into the red in the June 2009 quarter.

Similarly, Novelis, the Canadian aluminium major that Aditya Birla Group company Hindalco bought for $6 billion in 2007 showed quarterly profits in June and September after three quarters of losses. Says Sanjay Sakhuja, CEO, Ambit Corporate Finance: "The important lesson learnt in the last decade is that Indian companies have the management abilities to handle big acquisitions and turn them around."

The good news for Indian acquirers, big and small, is that availability of finance isn't an issue. In fact, at the time when the proposed merger of Bharti Airtel and MTN of South Africa fell through, there were 10 banks standing by with $500 million each to book their place on the deal wagon. Rather than finance, what Indian promoters need to be more concerned about is what they're going to do with the asset after they buy it. "Just because there is a sale sign, would you go and buy?" asks Prahlad Shantigram, Global Head (MandA), Standard Chartered Bank.

Indeed, there are a lot of "sale" signs today. Almost the whole of Europe is on sale, quips Shantigram. But what is important is to understand the asset before buying it. That understanding should dictate the financing. For instance, if turnaround is targeted for three years, a one-year bridge loan may be suicidal. A five-year financing option is what's needed.

It is not as if overseas acquisitions are not an imperative for all Indian promoters—certainly not for those sitting on businesses that are thriving because of domestic consumption (which accounts for 57 per cent of India's GDP). Or for those in the business of building infrastructure like power plants, ports, roads, railways and airports.

According to broking house Enam, expenditure on infrastructure development is expected to hit $330 billon by 2012— that's a sum that's just a little under the world's fourth-largest company's revenues for 2008— $367 billion for London-based oil company BP, as per the Global Fortune 500 of 2009. Businesses like financial services, healthcare, leisure and education will benefit as disposable incomes increase, and the purchasing power of non-urban consumers rises.

One way for such domestic market focussed businesses to gain size and scale is via consolidation. Telecom, for instance, is one sector that's crying for consolidation with, at last count, some 17 players battling one another. Similarly, banking is one sector that needs mergers. Consider these possibilities, however impractical they are: If all India-listed banks (roughly 50 of them) were to be merged into one entity, their combined market cap would be $100 billion, making it the seventh-largest global bank.

Another unlikely but thoughtprovoking scenario: If SBI and India's top two private sector banks, ICICI Bank and HDFC Bank, were to come together, they would equal the size of Citigroup, which is today the 10thlargest global bank. A more likely scenario (though, not by much): The country's top six nationalised banks being merged; based on their current values, the combined market cap would exceed $40 billion, and help this entity find a place in the global top 10 list. The point of painting these scenarios is not to advocate just unlikely mergers, but to show the potential that exists for consolidation in Indian banking.

A section of investment bankers makes a case for Bharti acquiring one or two domestic players rather than going abroad. Yet, shopping for assets in less-penetrated markets—like Africa, which is what Bharti attempted—is inevitable as growth reaches near-saturation levels back home. Similarly, Indian banks could look overseas—but then to consider large buys, you need to get into a decent size and shape back home first. Oil and gas, metals and mining will see cross-border action, but as Sakhuja points out: "The mandates are very specific now, there are no trends and there are no hot sectors."

The cream of India Inc.—and that includes public sector giants—has to start thinking as big as the Chinese companies are doing. In February 2008, Aluminum Corp. of China along with Alcoa Inc. bought a 12 per cent holding in UK-listed Rio Tinto for $14 billion. In June 2009, China Petroleum Corp.—or Sinopec—acquired Addax Petroleum, one of Africa's biggest producers of oil, for $7.2 billion. India will once again be able to grab a chair at the big table of high-stakes MandA if RIL succeeds in picking up LyondellBasell. Before that happens, of course, Ambani needs to be very clear what he's going to do with it.