[By Devina Somani & Manikya Manaswini]
The former is a student at Jindal Global Law School and the latter is a practising lawyer.
The Merger Motive: What was Behind the Strategic Union of Zee and Sony?
On 22nd December 2021, a Merger Corporation Agreement was entered into between, Zee Entertainment Enterprises Limited (“ZEEL”), Bangla Enterprises Private Limited (“BEPL”) and Sony Pictures Entertainment Networks (“SPNI”). The merger between Zee and Sony aimed to establish the second-largest media entity in India, trailing only Disney India & Star in market share.
The merger was anticipated to grant the combined entity improved access to cash flows and bolstered capital. The merger provided a redemption opportunity for Subhash Chandra & family (the promoter shareholders of Zee), whose ownership stake had diminished to just 4% owing to compelled share sales aimed at settling debts. For Zee’s creditors, the merger offered a potential avenue to recover some of their investments, especially given Zee’s precarious financial standing due to high debt levels within its holding company, Essel Group.
On the other hand, Sony’s loss of broadcasting rights to the Indian Premier League (“IPL”) had a considerable impact on its revenue stream. The merger with Zee offered Sony a chance to bounce back from these setbacks and regain momentum in the Indian market.
This Article highlights the multiple factors contributing to the merger fallout, elucidating the enforcement actions taken by the Securities Exchange Board of India (“SEBI”) against Subhash Chandra and Puneet Goenka (the promoters of Zee). Additionally, it underscores the breach of multiple conditions by Zee which were within the Merger Corporation Agreement signed by both the entities, which led to the erosion of Sony’s confidence in Zee and its subsequent withdrawal from the merger. Furthermore, the piece explores the broader implications of this debacle on mergers in the Indian Media Industry, providing a comprehensive analysis of its potential repercussions.
What led to the Merger Falling through?
The collapse of the proposed $10 billion merger between Sony and Zee has exposed a labyrinth of intricate issues, from regulatory investigations to shareholder activism, shedding light on the complexities of corporate governance, financial transparency, and strategic decision-making in Cross-Border Mergers and Acquisitions in the Media and Entertainment Industry. Sony cited Zee’s failure to meet specified financial thresholds and a perceived lack of commercial prudence, deeming the breaches substantive rather than procedural. Moreover, Sony highlighted Zee’s inability to realistically assess the timeline to resolve outstanding issues, leading to the termination of their merger plans after two years of negotiations.
The heart of the issue lies with investigations by the Securities and Exchange Board of India (SEBI) into Zee which has led to allegations of fund diversion and non-disclosure of financial information. The discovery of a significant discrepancy of $241 million missing from Zee’s accounts without any traceable history raised serious concerns about the company’s financial transparency and management integrity, casting doubt on its ability to uphold regulatory compliance.
SEBI’s enforcement order dated 25th April, 2023, against Shirupur Gold Refinery, where it was alleged that Mr. Subhash Chandra’s company further engaged in the diversion of funds from lenders to companies controlled by the family. Following a complaint received by SEBI in February 2021, an independent examination by the National Stock Exchange (NSE) revealed planned transactions with connected entities, nearly 100% of the company’s debtors being linked to the promoter family, and initiation of insolvency proceedings by connected entities against major debtors. In June 2023, SEBI issued an interim order barring Mr. Chandra and Mr. Goenka from holding directorship or key managerial positions in listed entities, citing allegations of fund diversion from the listed entity.
In M&A, decisions regarding leadership appointments are critical junctures that can significantly shape the future trajectory of the combined entity. Typically, these decisions are guided by various factors such as, strategic vision of the acquiring or merging entity, the distribution of majority shareholding, compatibility of leadership styles, track record and expertise of key individuals, as well as considerations of maintaining balance and harmony within the combined organization. The initial selection of Punit Goenka as CEO, despite allegations of financial impropriety and subsequent regulatory actions, suggests potential oversights in evaluating leadership suitability.
Further, Zee’s ownership of two subsidiaries in Russia prior to the merger announcement posed a challenge for Sony, as an American entity legally restricted from engaging with businesses tied to Moscow. The failure of Zee to dispose its Russian assets, despite explicit provisions in the merger agreement prohibiting dealings with entities from countries under US sanctions, throws light on challenges of strategic misalignment during cross-border mergers stemming from divergent political considerations.
The Zee-Sony merger negotiations faced another significant hurdle with Zee’s decision in 2022 to ink a substantial $1.4 billion deal with Disney, securing specific TV cricket rights for India. Sony raised objections, citing emails that detailed Zee’s plan to provide a bank guarantee and a deposit amounting to $406 million for the acquisition of these cricket rights. This move by Zee to finance the deal through debt, undertaken without prior written consent from Sony, elevated their company’s total debt to over $451 million, surpassing the threshold specified in the merger agreement. Sony’s objection to Zee’s unilateral decision to enter into the agreement and take on additional debt exceeding the limit as mentioned in the merger agreement without prior consent highlights the lack of adherence to the conditions as outlined in the Merger Agreement.
Implications of the Merger Fallout on Cross-Border Mergers & The Media Industry in India
The fallout from the collapsed Sony-Zee merger has sent shockwaves through the Indian media industry, reverberating across the financial landscape and raising significant concerns for investors. The episode underscores the need for foreign investors to exercise caution when engaging in deals within the Indian market, as regulatory complexities and governance issues has resulted in substantial risks.
One of the most glaring examples cited in the aftermath of the failed merger is the cautionary tale of Daiichi Sankyo Co.’s experience with Ranbaxy Laboratories Ltd. Despite a substantial investment of $4.6 billion in 2008, Daiichi found itself embroiled in a legal quagmire when US regulators discovered data falsification at Ranbaxy’s facilities. This incident serves as a stark reminder of the governance challenges prevalent in many Indian family-controlled firms, with allegations of fund siphoning and regulatory probes further exacerbating investor concerns.
The competitive landscape has undergone a seismic shift since Sony and Zee’s initial agreement in 2021, with Reliance’s impending Viacom and Disney + Hot star deal poised to reshape the landscape. This deal, where Reliance held a majority stake, underscored the need for Zee to secure a financial partner to compete effectively in the sports and OTT sectors. The impending union between Disney and Reliance promised to create a dominant force, especially considering their stronghold on cricket broadcasting in a nation fervently passionate about the sport. Without the fresh capital infusion proposed by Sony, Zee’s struggle intensified, leaving the prospect of a new suitor as the only viable alternative. However, ZEE’s profitability dwindled since the merger announcement, with notable declines in its EBITDA and PAT over FY21–23, resulting from the above challenges. The challenges faced by Zee were multifaceted, as evidenced by its staggering 95 percent decline in annual profit, shrinking content inventory, and the strain on its market share, which remained at 17 percent only at the expense of profit margins.
As the role of Mr. Punit Goenka, the CEO of Zee, emerged as a central point of contention. Despite his expected continuation post-merger, the company’s troubles, intricately linked to his tenure, cast a shadow over this decision. With the promoters holding a mere 3.99 percent share but exercising full control, the rarity of transitioning to professional management in Indian companies became apparent. However, the limited stake offered little incentive for someone from a business family to persevere in such a position. Undoubtedly, the CEO serves as a critical link between company management and the board, underscoring their pivotal role in upholding a robust corporate governance framework both internally and externally. While steps taken by key shareholders were seen as a positive move for the stock, regulatory concerns over untraceable money transactions and the lack of transparency in the pre-merger phase raised apprehensions about future developments. The skepticism surrounding the non-binding agreement granting promoters a two percent equity stake, despite Mr. Goenka’s retention and receipt of performance-linked ESOPs, suggested potential unjust practices from Sony’s standpoint, inviting shareholder activism and the potential for legal disputes. Shareholders’ demands for clarity in the merger process revealed a failure in oversight responsibilities, potentially undermining the anticipated benefits of the merger.
Conclusion
The collapse of the proposed merger has also casted a shadow of uncertainty over key players and deals in the Media Industry. One of the most significant repercussions has been the impact on Disney Star, with potential financial losses looming and questions raised about Reliance’s Industries Limited’s (“RIL”) downgrade. The dispute over a $1.5 billion sub-licensing deal for International Cricket Council (“ICC”) rights between Zee and Disney Star has emerged as a focal point of concern. Zee contends that the validity of the deal was contingent on the successful completion of the Sony-Zee merger. However, Disney Star vehemently denies this assertion, setting the stage for a high-stakes showdown between the two entities. The uncertainty surrounding the ICC deal has heightened industry anxieties and raised questions about the stability of existing agreements. Furthermore, the aftermath of the collapsed merger has stirred apprehension regarding Reliance’s decision to combine media businesses with Disney Star. Reliance has outlined two valuation scenarios for Disney Star, with a potential downgrade of up to $2 billion linked to fulfilling ICC TV deal commitments. The uncertainty surrounding Reliance’s stance adds another layer of complexity to the situation, exacerbating investor concerns and contributing to market volatility.