Alternative investments and special situation investments have become the new asset class for diversification. They differ slightly from direct equities and other conventional investment avenues. Special situation investing offers a niche and differentiated approach to a specific event that arises from corporate actions like spin-offs, mergers, demergers, buybacks, delistings.
For example, delisting is an event where the shareholders can get a much higher value than the prevailing market price as the promoters are eager to take the company private. These corporate events help unwind value. This approach is combined with fundamental research or “buffetology” to make sure the investment ticks on the basics of the traditional approach to investing.
Special situation investing has gained prominence across markets because it provides the flexibility to invest across the firm’s capital structure, either in secondary market debt or direct equity. It may also help gain control of companies in distress scenarios by investing in hybrid convertible structures.
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The investing framework requires a “situational event,” be it either merger, a demerger, or situational distress that may or may not be correlated to the macro environment and can happen at various points across the business cycles. All these situations have a catalyst that will help the investors realise the actual value of the company.
The research process involves identifying a company announcement that will bring a fundamental transition in the company’s fortunes and Indian equity markets to offer a plethora of such event-driven opportunities. It is worth mentioning here that a Special situation is a one-time event that will impact the company’s stock price.
I want to provide a few examples for investors to comprehend this better; let us take the example of an already announced demerger, where separate businesses that may be uncorrelated and may have different capital requirements get demerged and listed separately.
There is a high probability that a particular segment/business can get a higher multiple, in-line with other listed peers, leading to higher valuations of the combined entity after completing the merger process. The value unlocking happens because post the demerger capital allocation becomes clear from the company’s perspective. The sum of individual entities is much higher (not always, though) than the earlier consolidated entity. Best in case example is Piramal Enterprises, where the two businesses – financial services and pharmaceuticals are entirely unrelated and have different capital requirements.
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NBFC requires capital and funding for growth, while pharmaceuticals has a positive cash flow, and expansion is funded primarily through internal accruals. The same is the case with the conglomerate Reliance Industries that consists of three unrelated businesses (businesses …….