Tata Tea has finally announced the leverage buy out (LBO) of Tetley's worldwide tea business for £ 271 m. The announcement brings the deal, which was first announced in June 1999.
Tata Tea (FY99 Total Income Rs 8,832 m) is the world's largest integrated tea company, accounting for over 8% of the tea grown in India. The company, which is the second largest blender/marketer in the domestic packaged tea segment, operates the largest instant tea EOU outside the United States of America.
A LBO is method under which an acquisition is primarily funded by debt. In this case, Tata Tea is setting up a subsidiary in the UK for the purpose of the takeover. The subsidiary will raise £ 200 m in debt in order to fund the acquisition. The remainder of the funds required will come as inflows from Tata Tea (£ 45 m via GDR issue, £ 15 m as direct contribution) and Tata Tea Inc. (its US subsidiary) (£ 10 m).
The benefits of the acquisition are many. The Tatas get a brand that will give them global presence. Apart from this the distribution network would also provide Tata Tea to introduce its brands globally at little incremental cost. The other benefit pertains to a further improvement in Tata Tea's business mix in favour of higher margin packet tea (as Tetley is a net buyer of loose tea).
Although the management has stated that the debt raised will have no recourse to Tata Tea, on a consolidated basis Tata Tea's debt levels are going to balloon. The interest costs are going to weigh heavily on the consolidated accounts of the company even as benefits of the merger (arising from integration of the businesses) are sometime away.
From a long-term perspective, the acquisition will bode well for Tata Tea as the level of integration of its operations would increase (it would consume a larger portion of loose tea for its own brands) and its operations become truly global.
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