CAIRN interestingly poised

Vedanta's acquisition of CAIRN seems to have hit a roadblock.

A minority shareholder of Sesa Goa has filed a suit requesting the court not to allow Sesa Goa's cash to be utilized to buy Cairn India stake, till the suit has been properly disposed. Considering that Cairn is in completely unrelated business, it is very likely that the court will invoke minority shareholder rights and not allow Sesa Goa's cash to be used, EVEN IF Vedanta controls enough of Sesa Goa's equity to push this through a vote.

If Sesa Goa's cash cannot be utilized, Vedanta needs to come up with cash from some other source to buy 20% of Cairn. I am sure they can manage this, but still it might delay the entire process by a month or so.

This uncertainty has caused Cairn India's shares to trade down quite a bit.

However, this is not all there is to the story. Cairn is offering Rs 405 to Cairn UK - Rs 355 for acquisition, and Rs 50 more as part of non-compete payment for 3 years of non-competition. Under current SEBI Substantial Acquisition of Shares and Takeovers regulation, Vedanta can offer Rs 405 to Cairn UK, and still make an open offer at just Rs 355.

However, these regulations are now in the process of being changed, and the new regulations have already been released to the public for comment. Refer Takeover Regulations Advisory Committee Report submitted on July 19th 2010, and open till Aug 31st 2010 for comments.

It is very likely that SEBI will make this into the new Substantial Acquisitions and Takeovers code, soon after Aug 31st. Vedanta managed to sneak in their open offer before this, so they are currently ok with making the Open Offer at Rs 355. However, if they want to make changes to the Open Offer, and if the changes happen AFTER the new Takeover code is in place, Vedanta will be forced to offer Rs 405 per share to minority shareholders as well.

Already LIC is holding out, saying that they want Vedanta to offer Rs 405 to the minority shareholders as well.

Now, there are following options:

- Denial of permission from government. This is the single biggest risk. But very counterproductive for government, because they will be stuck with an operator who has already expressed willingness to exit. Secondly, Vedanta has agreed to share royalties with ONGC - if government denies permission, ONGC has to bear all the royalties since Cairn's original agreement gives them royalty free petrol. Government actually is better off allowing the acquisition to go through.

- Anil Agarwal just walks away from the deal - this is not allowed under SEBI takeover guidelines. Denial of permission from government is the only allowed reason to walk away from the deal. Pressure from minority shareholders of acquiring company is not a valid reason allowed as of now. If Vedanta walks away now, they could be exposed to lawsuits from investors in Cairn, specifically people who bought Cairn taking the Open Offer at good faith.

- Vedanta decides to delay the Open Offer - this is possible, and could be delayed till the court decides one way or the other on Sesa Goa situation. However, this could mean that they have to pay Rs 405, if new Takeover code gets ratified during the delay.

- Instead of using Sesa Goa's cash directly, Sesa Goa could declare a massive dividend, and Vedanta could use the proceeds of that dividend for buying CAIRN - but this would be very inefficient route - as they would have to pay Dividend distribution tax, plus they would lose the money paid out to minority shareholders. They would get about half the cash from Sesa Goa, and would have to find the balance cash elsewhere. This could also result in delay, and risk that the open offer price could have to be Rs 405.

- Counter bid by ONGC/Reliance - from investors perspective, it does not matter who the buyer is.

- Vedanta finds cash from elsewhere. Could be done relatively quickly, and would likely be their best case course of action.

Short of government denying permission, or Vedanta walking away from the transaction, anyone who buys CAIRN today, will benefit from all the other cases. Plus there is a very reasonable chance of some delay, which could force Vedanta to make the open offer at Rs 405. Even without delay, Vedanta could decide to just make the open offer at Rs 405 to get better response and to keep institutions happy. If they dont get a good response to this offer, they have to pay Rs 405 to Cairn UK anyway. So might as well pay Rs 405 to everyone, and keep things clean.

As things stand today, Cairn is very interestingly poised. The court case by Sesa Goa shareholder actually might be positive because it would force the Open Offer price to be raised to Rs 405 because of the delay it would cause!

If Sesa Goa ultimately ends up buying Cairn at Rs 405, the shareholder would have caused tremendous loss to the company, which I am sure that was never his intent!

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