As Vijay Mallya and Kishore Chhabria decide to openly fight it out, SEBI's decision could prove crucial.

By Dilip Maitra

September 21, 1998. The Ballroom at Mumbai's Taj Intercontinental. Vijay Mallya was celebrating his takeover, and proposed relaunch, of the tabloid, Blitz. Like any party organised by the Chairman of the Rs 3,600-crore UB Group, the invitees included the creme de la creme of business. Anil Ambani, and his wife, Tina, were there. So was Nina Pillai. And, of course, Blitz's former owner, R.K. Karanjia. But the evening was full of surprises. Especially when the 44-year-old Mallya warmly welcomed his estranged business partner, 42-year-old Kishore Chhabria (KRC). And, by 11.30 p.m., the two even agreed to pose for an unusual picture: a smiling and exuberant Mallya with his arm thrown around KRC's shoulders.

If the guests thought that the adversaries--who have been fighting for control of the Rs 219.58-crore Herbertsons for 3 years now--had patched up, they were in for a surprise. Two months later, on November 24, 1998, reacting to a news item that appeared in the Bangalore edition of The Asian Age--published by Mallya--KRC says: "I will not settle the dispute with Mallya now." He fired a counter-missive on December 11, 1998, when he threatened Mallya with legal action over the remarks the latter had made on a series of transactions which enabled KRC to increase his holdings in Herbertsons from 27.21 to 47.48 per cent. In a legal notice, KRC asked Mallya to either apologise within 7 days, or face criminal and civil proceedings.

Obviously, KRC has given up all hope of a compromise--negotiations between him and Mallya, who controls a 37.88 per cent stake in Herbertsons, have been under way since October, 1997--and is now ready for a showdown at the company's 61st Annual General Meeting (AGM) on December 30, 1998. Scared that the company--which manufactures the largest-selling whisky brand in the country, Bagpiper (marketshare: 30 per cent)--may slip out of his control, Mallya is prodding the Securities & Exchange Board of India (SEBI) to thwart the takeover. That's smart, since the outcome of the Mallya-KRC battle will eventually be decided by SEBI--not at the AGM.

Indeed, Mallya's attempts have been supported by an investigation report, prepared by SEBI Executive Director Ashok Kakkar in August, 1998. The SEBI Report--a copy of which was shown to BT--concluded that both Mallya and KRC acquired additional shares in Herbertsons between December, 1994, and February, 1997, without making the mandatory public offers under the Takeover Code, 1994. Clause 10 of the Code, which was enacted in November, 1994, states: "An acquirer who holds shares in the capital of the company shall not acquire any further shares from the open market which would carry more than 10 per cent of the voting rights, unless such acquirer makes a public announcement (offer)" By that token, both shareholders should have made an open offer for an additional 20 per cent stake. If SEBI finds them guilty, it can ask them to either make an open offer, or sell the shares in the open market.

Mallya's advantage is that SEBI's suggestions can work in his favour. If the acquired shares are sold, it will nip the manoeuvres of the friend-turned-predator in the bud. And, if SEBI insists on an open offer, Mallya has an equal chance to combat KRC. Not to be outsmarted, KRC has armed himself with opinions from several lawyers, like Soli Sorabjee, the Attorney-General of India, P. Chidambaram, former finance minister, and Y.V. Chandrachud, former Chief Justice of India. And the fight has turned so ugly that, in response to an article in The Asian Age alleging that Sorabjee was biased in favour of KRC on the issue, the Attorney-General has decided to sue the newspaper. Even as the warring factions await SEBI's decision with bated breath, BT investigates the deals that form the crux of the battle for the bottle of Bagpiper.

FRIENDS. The friendship between Mallya and KRC warmed up in December, 1993, after the latter fought with his elder brother, M.R. `Manu' Chhabria, the CEO of the Rs 5,250-crore Jumbo Enterprises, and walked away with the Rs 121-crore BDA Distilleries (BDA). Later merged with Herbertsons, it manufactures the second-largest whisky brand in the country, Officer's Choice, with sales of more than 2 million cases per annum.

That came as a boon to Herbertsons, which already manufactured Bagpiper (annual sales: 6 million cases). In return, Mallya sold 25.52 per cent of his 46.90 per cent stake in Herbertsons--and 75,000 convertible debentures--to KRC, and made the latter the vice-chairman of the company. According to KRC, other promises were also made, including an active role for him in the management of the company. Unfortunately for him, he says, they remained on paper.

How was KRC invited into Herbertsons in the first place? In 1993, the Rs 253-crore UB's 3 investment subsidiaries--East Coast Investments, Golden Investments, and Endeavour Investments--together sold 22.14 lakh shares of Herbertsons to 6 investment companies, which were the second-layer subsidiaries of the KRC-controlled Galan Finvest. In addition, Herbertsons issued 75,000 convertible debentures--which were converted into 3.75 lakh shares--to one of Galan Finvest's subsidiaries, Airedale Investment. The result: while Mallya's holdings dropped to 21.38 per cent, KRC became the single-largest shareholder of the company.

However, these transactions were financed by Herbertsons since KRC was only being compensated for getting BDA into Mallya's fold. As a first step, Chhabria Marketing, a KRC-owned company, sold its liquor brand, Lord & Master, to Herbertsons for Rs 8.35 crore. Then, it transferred the sum to a subsidiary, Oswai Electronics, which, in turn, loaned it to Galan Finvest. And Galan Finvest gave the money to the 6 companies that, finally, purchased the 22.14 lakh shares of Herbertsons. Not surprisingly, Lord & Master was never marketed by Herbertsons. But these transactions were not illegal since the Takeover Code, 1994, only came into force 11 months after their completion.

ENEMIES. When KRC realised that Mallya was not interested in fulfilling his part of the deal, he (indirectly) acquired another 20.27 per cent stake in Herbertsons between 1994 and 1997. To successfully complete the series of covert operations--as alleged by SEBI--KRC roped in his uncle, Madan Chhabria. His Royal Wines extended interest-free loans of Rs 6.55 crore to 3 companies--IMFA Holdings (Rs 4.13 crore), Mahameru Trading (Rs 1.12 crore), and Shirish Finance (Rs 1.35 crore)--which were neither a part of KRC's nor his uncle's businesses. Armed with the war-chest, they purchased 10.39 lakh shares, 4.73 lakh shares, and 3.65 lakh shares in Herbertsons, respectively, between December, 1994, and November, 1995.

How did KRC become the owner of these shares? Simple. Since IMFA Holdings, Mahameru Trading, and Shirish Finance were unable to repay their loans, they were sold to the Madan Chhabria-owned Seven Star Investments in 1996 and 1997. Meanwhile, on November 22, 1996, KRC sold 30 per cent of his 80 per cent stake in Galan Finvest--which indirectly owned his original 27.21 per cent stake in Herbertsons through its subsidiaries--to his uncle. Thus, both KRC and his uncle became equal partners in the company.

Clearly, the strategy was to exploit the loopholes in the Takeover Code. For one, the 3 companies that purchased the shares were not connected to either KRC or his uncle. While IMFA Holdings was owned by Ram Raheja and the Kheyrolla family, Mahameru's promoters included R.M. Sanghvi and Abid Ali, and Shirish Finance's majority shareholder was S.J. Chhabria. According to Sorabjee, these promoters are not relatives as defined by Section 6 of the Companies Act, 1956, and, cannot be said to be "acting in concert" under the Takeover Code.

Even when Seven Star Investments acquired the 3 companies, the transactions fell outside the purview of the Takeover Code. Under Clause 3(d) of the Takeover Code, the takeover of an unlisted company does not trigger off an open offer--a loophole which was only plugged on February 20, 1997, by the revised Code. And while IMFA Holdings was taken over by Seven Star Investments on July 29, 1996, Mahameru Trading was sold on February 13, 1997, and Shirish Finance on February 18, 1997--days before the revised Takeover Code came into force on February 20, 1997.

To further prove KRC's innocence, his legal opinions state that Clause 10 of the Code did not even apply to the 3 investment companies that purchased the shares in Herbertsons. It only applied to an acquirer who held some shares in the company, and increased the stake to more than 10 per cent. But, as Sorabjee opined, "if an acquirer does not hold any shares Clause 10 is not attracted because the acquirer cannot be regarded as an existing shareholder. IMFA Holdings, on the date of its acquisition of shares of Herbertsons, was not a shareholder in the register of shareholders of Herbertsons."

Neither were Mahameru Trading and Shirish Finance when they bought the shares. A similar view was taken by the Securities Appellate Tribunal, Mumbai, in its decision on August 5, 1998, in the case of Fascinating Leasing & Finance, which had acquired the shares of Hindustan Finstocks. Argued Chidambaram: "In this case, the Appellate Tribunal held that Clause 10 will apply only when the acquirer already held some shares in the target company." Not surprisingly, this loophole too was only plugged in SEBI's Takeover Code, 1997.

Both the SEBI Report and Mallya contradict these contentions. For instance, in a letter (dated July 27, 1998) written to the SEBI Chairman, D.R. Mehta, Mallya stated that IMFA Holdings' Ram Raheja "was a director of several of Kishore Chhabria's group companies, namely, Galan Finvest, Cacomistle Finance & Investments, Darrel Traders, and Stingray Traders." In addition, Mallya alleged that S.J. Chhabria, the promoter of Shirish Finance, "is the cousin of Kishore Chhabria, and is the nephew of Madan Chhabria" The letter also stated that the decision to extend loans to the 3 investment companies was not commercially viable. For instance, in 1994-95, the equity base of IMFA Holdings stood at Rs 4 lakh, and it incurred a loss of Rs 13,664. Similarly, on March 31, 1997, Shirish Finance's equity base was a paltry Rs 200 while its current liabilities stood at Rs 1.34 crore.

Unfortunately for KRC, the SEBI Report has agreed. "Thus, the giving of alleged loan to a company controlled by related persons which, in turn, utilises this loan for purchase of shares and defaults and, as a result, the company itself is transferred to the lender, appears to be a stratagem to indirectly purchase shares of Herbertsons without making any public offer." The Report further added: "The whole transaction of acquiring the above mentioned companies (IMFA Holdings, Mahameru Trading, and Shirish Finance) does not appear to be genuine, and this circuitous route was followed only with a view to acquiring shares of Herbertsons"

ARCH-RIVALS. As soon as Mallya realised that there was a plan to oust him from Herbertsons, he went on a buying spree. Between 1993 and 1997, the holdings of Mallya, and his associates, in the company went up from 21.38 to 37.88 per cent. This included the 2.50 lakh shares acquired by Parasam Trading & Finance, which is not a part of the UB Group, but received an interest-free loan of Rs 1.25 crore from UB to buy it.

Of the additional acquisition of 11.77 per cent by Mallya, only 6.52 per cent was purchased before the enactment of the Takeover Code, 1994. And the acquisition of the remaining 5.25 per cent, according to the SEBI Report, had to be through a public offer. Concluded the Report: "As no public offer was made either by the companies under the control of Vijay Mallya or Parasam Trading, and persons associated with the promoters, these purchases of shares of Herbertsons is in contravention of the Regulation 10(2) of the Code."

But then, Mallya too can adopt the same defence as KRC's. But if Mallya did, he would only be helping his enemy. Instead, the UB Group chairman is trying to influence SEBI which, despite the internal report, is obliged to re-examine the issue in the light of the legal precedents furnished by KRC. SEBI is also worried because Chidambaram has obliquely warned the watchdog that it should not act in a partisan manner. Stated Chidambaram: "It is not the purpose of SEBI to protect the existing management from a takeover. It only plays the role of an impartial umpire. As long as there has been no violation of any provision of the Takeover Code, (the) SEBI has no power to take any action or impose any penalty."

Clearly, Mallya has realised that a compromise seems far-fetched at this stage. Especially since KRC has demanded a price of Rs 120 crore--apart from the extra cash in lieu of the shares held in Herbertsons--to end the fight. But Mallya, who thinks that the price is too high, is hoping that SEBI will force KRC to sell the shares purchased after the Takeover Code was enacted. And that will prevent the latter from becoming a majority shareholder: after all, just 2.12 per cent separates KRC from acquiring management control over Herbertsons.

Apprehensive that KRC is also in a position to gain control over the company at the AGM, Mallya has been proactive. For instance, he is due for re-election as Chairman on December 30, 1998. But, since a person standing for a post cannot conduct that election, that may shift the baton to the Vice-Chairman, KRC. So, in anticipation, the company's board has just appointed Mallya as the Managing Director too. Unfortunately, these twists do not seem to diminish the prospects of a hangover for both KRC and Mallya after their fight for Herbertsons.

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