Tuesday, February 19, 2008

Divide & Gain: India Inc makes the most out of demergers

Cashing in on a booming stock market over the last couple of years, promoters of Indian companies have been busy unlocking value from their businesses. As a result, they have become wealthier by demerging assets or divisions or even just transferring licences.
Consider this: had Reliance Petroleum’s refinery been set up within Reliance Industries, the stakeholders may not have enjoyed the market capitalisation of Rs 75,465 crore that the former commands.

Again, the market capitalisation of Reliance Power, which is yet to implement a single power project, is Rs 86,935 crore whereas that of Reliance Energy is less than half of that at Rs 40,437 crore.

Hiving off businesses into separate companies has paid off handsomely. Bharti Infratel, the tower company of Bharti Airtel, is estimated to have an equity value of Rs 55,000 crore, which should be unlocked soon.

By spinning off its towers into a new company and bringing in new shareholders, Bharti will add to its existing market capitalisation of Rs 1,67,000 crore.

Similarly, Reliance Telecom Infrastructure, which houses the towers of Reliance Communications, has been valued by private equity investors at nearly Rs 27,000 crore.

Others are also getting into the act — ITC is looking to spin off its hotels business while Pantaloon Retail wants to hive off Big Bazaar and Food Bazaar.

“It’s a cyclical phenomenon linked to valuations in the stock markets. Typically conglomerates tend to attract lower multiples than a single product or service company. Therefore, in a good market, companies are keen to hive off businesses,” said Arvind Mahajan, executive director of KPMG.

Minority shareholders also gain in the process. As Shriram Iyer, head of research at Edelweiss, said: “The benefits of a greater focus to each of the businesses do get reflected in the market.

The maximum value though is typically created when the demerged businesses get listed.”

The combined market capitalisation of Sun Pharma and its demerged R&D firm SPARC has been 10 to 15 per cent higher than the market capitalization of Sun Pharma since SPARC listed in July 2007.

Shareholders of the erstwhile Zee Telefilms who got shares in Zee News and WWIL, too, are gainers.

Data on the Bombay Stock Exchange website suggest at least two demerger proposals a month over the last two years. In the case of firms such as GE Shipping, which demerged its offshore service businesses, the value of shares in the two companies is about 70 per cent more than the value of GE Shipping at the time of the spin-off.
Shareholders of Camlin, which spun off its fine chemicals division, too have seen an appreciation of about 35 per cent in this period.

“When the environment is not good, companies tend to consolidate so that one business can be hedged against the other and losses can be offset against profits. However, in good times companies do not mind incurring higher expenses on two separate firms. The resultant increase in value created far outweighs the increase in costs of running two operations,” explained Sanjeev Krishan, executive director, PriceWaterhouseCoopers.

Source : Msn