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Good Morning Dear Reader,
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A Mizuho-Nomura-led consortium has restructured the terms of the financing arrangement worth about $2.2 billion through which Oyo founder Ritesh Agarwal bought back a 23% stake in his company in 2019, said people with knowledge of the matter.
Agarwal, Nomura and Mizuho didn’t respond to queries. Nitin Wadhwa, counsel to Agarwal and his family office, declined to comment.
The revised conditions include a reduced quasi-equity component of $950 million, down from $1.8 billion previously, due to an $850 million write-off, said the people cited above. This $950 million component is linked to the valuation of the company and has a 10-year repayment timeframe. Under the new terms, the loan component of $383 million is now payable by 2027 instead of 2025.
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Well, well, well.
There was a time not too long ago when OYO and Ritesh Agarwal were front and center in business news coverage. And yet, this news seems to have passed by unnoticed. In fact, the only reason I even found out about this was because a founder sent me a link, innocently asking, “A billion dollar write-off might make bigger news, one would have thought? What am I missing?”
I wanted to tell him that what he was missing was that Ritesh Agarwal is a magician. Not just a magician, but the greatest magician ever. David Blaine makes coins vanish. PC Sorcar made the Taj Mahal disappear. Harry Potter killed Voldemort. Amateurs. Ritesh Agarwal convinced a consortium of hardened Japanese bankers to wipe off US$850 million in cold, hard cash from their balance sheet. Put that on a stage at Las Vegas, and tickets would be sold out in minutes.
Like all great magic tricks, you’re probably trying to figure out how this happened. Perhaps you’re thinking that there’s some duplicity involved. Or maybe you are thinking that there’s an innocent explanation that once you see it, makes the whole thing look obvious. Or maybe there’s a deathly hallow hidden away in an OYO room somewhere.
No no no.
The explanation is simple.
Ritesh Agarwal is the greatest magician ever.
Let’s dive in.
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The magician, the midas and the unicorn
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Illustration by Sharath Ravishankar, The Ken
Before we talk about how the magic trick was done, we need to talk about what the magic trick was.
Back in 2019, the founder of OYO, Ritesh Agarwal borrowed US$2.2 billion. He got this money from a consortium of Japanese banks, led by Mizuho and Nomura. The terms of the loan are private, but if some reports are to be believed, it was backed by a personal guarantee by none other than Masayoshi Son, the founder and CEO of Softbank. We didn’t know this back then, but it looks like the loan was structured as two components—US$1.8 billion linked to equity, and US$383 million that needed to be paid by 2025.
Now US$2.2 billion is not a small amount of money, so you’re probably thinking the following:
a) What did Ritesh Agarwal buy with this money?
b) What did Ritesh Agarwal use as collateral for this loan?
Incredibly, the answer to both a) and b) is the same.
He bought equity in OYO, and as collateral he used… equity in OYO.
That’s the magic trick.
In general, getting a loan by pledging equity against it isn’t unusual. Also, founders taking a loan to buy back shares in their company to increase their holding isn’t unusual. But to do both of these together in the same transaction is very, very unusual. Here’s why:
- You own some shares in a private company which is valued at X
- You borrow money from a bank, and you give them some of your shares as collateral. Those shares are collectively worth Y. Typically, you need to pledge about three to four times the amount you want to borrow.
- Then you take the money and buy more shares in the company, increasing the valuation of the company to 2X.
- Now on the bank’s books, overnight, the collateral becomes 2Y.
- Everyone wins.
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Of course, if you tried this out in real life, you’d probably face significant opposition from existing shareholders of this company. From their perspective, the valuation of the company is going up, but their shareholding is also getting diluted. Typically, to avoid this, existing investors also participate in new fundraising rounds alongside new investors.
What happens if they aren’t too sure if they want to join you on this unusual ride?
Well, one thing you can do is you can buy their shares with the money you raised. And if you have any left, you can push that into the company, and increase its valuation.
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Oyo Hotels & Homes said it’s raising $1.5 billion in fresh financing, with founder Ritesh Agarwal investing $700 million into the SoftBank-backed company. Agarwal’s investment will be routed through the Cayman Islands-registered RA Hospitality, a special purpose vehicle, and financed by the $2-2.2 billion debt he had raised from a consortium of Japanese financial institutions, including Nomura Holdings and Mizuho.
This debt financing involves the 26-year-old group CEO pledging his stake in the company that he founded in 2013. Of the debt raised by Agarwal, $1.5 billion will be used to partially buy out the stakes held by two early investors in Oyo — venture capital firms Lightspeed Venture Partners and Sequoia Capital while the rest will be pumped into the company.
Agarwal’s stake will rise to about 30% from 10% now.
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Normally, the way VC firms hit a jackpot is when they take an aggressive bet on a company that nobody else is betting on. Suddenly, the company grows, more investors get interested, and the VC firms double-down on their original investment.
OYO bent all these laws. Both Lightspeed and Sequoia hit the jackpot by refusing to bet any more on OYO. In fact, when the deal happened, Mint noted that both firms hadn’t participated in any follow-up rounds since their investment in 2017. And so when Ritesh Agarwal went to them and offered US$1.5 billion so that he could buy their stakes, I imagine they felt like they’d discovered plutonium by accident. They took the money and newspapers ordained them as strategic geniuses, called them Midas and gave them awards. Ritesh Agarwal had his shares. OYO had its new valuation of roughly US$10 billion. The banks had OYO shares as collateral. There were talks of an IPO at a valuation of US$18 billion.
And then… the coronavirus hit.
OYO is in the hospitality business.
The tide had turned.
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Oyo risks turning into another problem startup for SoftBank and Son, still reeling from the meltdown at the shared-office company WeWork. SoftBank had booked profits on Oyo’s rising valuation and may now be forced to take losses on the investment. The startup was valued last year at $10 billion, one of the highest in SoftBank’s portfolio.
The Oyo situation could prove particularly messy. In a highly unusual move, Agarwal, now 26, borrowed $2 billion to buy shares in his own company as the valuation rose, and Son personally guaranteed the loans from financial institutions, including Mizuho Financial Group Inc. Banks may ask for more collateral if Oyo’s valuation drops, and the two men could face personal losses.
“Agarwal could be in trouble soon if he faces a margin call," said Justin Tang, head of Asian Research at United First Partners. “He might need to sell shares at a massive discount."
Oyo, SoftBank and Mizuho declined to comment.
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Masayoshi Son’s $2 billion guarantee at risk as coronavirus hits star entrepreneur Ritesh Agarwal's Oyo, Bloomberg
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The magic trick had turned into something else. By May 2020, even Ritesh Agarwal was wondering if he’d messed up the timing of the deal.
Also, things went from bad to worse very quickly for OYO. The company had to take on debt financing of US$660 million, deepening the hole in the balance sheet.
And the clock continued to tick on Ritesh Agarwal’s loan.
Finally, in the capital fuelled frenzy that was 2021, OYO announced that it would go public. It expected a valuation of somewhere around US$12 billion—a ridiculous sum, but then there were all kinds of ridiculous things happening last year.
Tick tick.
OYO’s results for the quarter ended June 2022 was, all things considered, somewhat admirable. It claimed to be Ebitda positive, and indicated that it would expect to go public by early 2023.
But then, more bad news.
SoftBank marked down the value of OYO to US$2.7 billion. This was 70% below the valuation at which OYO last raised funds.
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Tick tick.
OYO’s revenue from operations in the year ending March 2022 was around US$613 million.
It also has a debt of roughly the same amount, i.e, US$600 million
Unfortunately, one seems to be climbing faster than the other.
Both the debt and Ritesh Agarwal’s US$2.2 billion loan are secured against OYO’s shares.
This is the situation that OYO finds itself in today. Their biggest investor has marked them down. The company has a debt the size of its annual revenue. And the founder had a US$2 billion loan to pay off. Even if banks want to do a margin call on the loan and ask for more equity, they can’t—because both the repayment of the loan and the collateral hinges on one thing i.e the equity value of OYO.
Hence, the US$850 million write off.
That’s the magic trick.
I’ll end with a final note.
Recently, another famous person played with the idea of pledging shares to raise debt to buy equity i.e a margin loan, until it was ultimately discarded.
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Musk has scrapped a plan to take out a margin loan as part of his financing for the $54.20-a-share takeover, according to a new SEC filing. Originally, he intended to use a $12.5 billion such loan, but several weeks ago, he halved the figure after bringing in additional investors to the deal. Now, he says he’ll make up that $6.25 billion with additional equity. This doesn’t affect another $13 billion in standard corporate debt involved in the deal.
If Musk had taken the margin loan, he would’ve secured it with his Tesla stock, some $31.25 billion based on the loan’s terms. With Tesla stock falling, he was in the position of needing more Tesla shares to cover the loan. Margin loans are a gamble in the best of times. Even more so during financially distressing ones, such as the period we currently find ourselves in.
If things worsened, there was the outside possibility Musk could face a so-called margin call, when the equity securing a margin loan has deteriorated and a lender forces a loan’s repayment. Had this happened, Musk would’ve needed to sell Tesla stock all pell-mell style, depressing the share price further. (The most dramatic margin calls lead to dramatic ends, spirals that consume and end a company’s fortunes. It probably wouldn’t happen to Tesla, but it would’ve definitely made a bad situation even worse.)
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Elon Musk Drops Margin Loan From Twitter Bid, Making It A Little Less Risky, Forbes
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Imagine doing something that even Elon Musk is like, ‘yeah, that’s too risky, better not do that’.
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Take care.
Regards,
Praveen Gopal Krishnan
P.S: Dayzero Holdings, a company in which Ritesh Agarwal, CEO of OYO, is a director, holds shares in The Ken's parent company.
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Synthesis not analysis 
