Stock Market

Idea-Vodafone: Birlas de-risk, Vodafone buys time, retail investor left holding the baby

Shishir Asthana
Chillicious Research

The Vodafone-Idea Cellular deal was finally announced ending months of speculation on the possibility of the deal and its valuation. But the clear and immediate danger in the form of an aggressive roll-out by Reliance Jio has helped close the deal.

As Sanjay Kapoor, former CEO Bharti Airtel said in an Economic Times interview that the two entities (Idea and Vodafone) put together give a big survival opportunity to Idea which alone probably would not have been able to face the challenge and the transformation required given the size of its balance sheet.

Now that Idea is saved from the sort of slow and painful bleeding it suffered in the recent quarterly numbers, the question in the minds of retail investors will be what to do with Idea Cellular shares.

The synergy benefits are obvious and well-documented, but to answer that question from a retail investor point of view we need to see what the promoters think of the company’s valuation, the changing environment and the message in the details of the deal.

Let’s look at the deal step-wise.

Idea Cellular at Rs 100 is valued at Rs 36,000 crore in the market. This includes its holding in the tower companies.

The merger ratio gives Idea an enterprise value (market cap + net debt) of

Rs 72,200 crore and Vodafone an EV of Rs 82,800 crore. The document also mentions that Idea has a net debt of Rs 52,700 crore (including debt of tower business) as on December 2016 which means that the business is being valued at Rs 19,500 crore (this does not include the tower business) or around Rs 54 per share.

Idea Cellular valuation as per the document has been done at Rs 72.5 per share (based on its 30 day average price as on January 27, 2017). Thus the remaining Rs 18.5 per share has been attributed to the tower business.

But what the retail investor will be left holding will be the main telecom business of Idea which is valued by its promoters at Rs 54 plus the Vodafone business which is given a market cap valuation of Rs 27,600 crore (EV of Rs 82,800 crore minus net debt of Rs 55,200 crore).

The investor is thus getting a merged entity with an enterprise value of Rs 154,800 crore which is saddled with a debt of Rs 107,900 crore and its equity is valued at Rs 46,900 crore. In other words, investors are getting more debt than equity in their hands, something that is similar to the current position.

Both Vodafone and Idea are not in the best of health. Idea Cellular has in the December quarter made a loss. Results of Vodafone India are not available, but the parent company of Vodafone had in its September 2016 quarter taken a Euro 5 billion impairment charge in the carrying value of Vodafone India towards its Indian business and shelve its plan of raising money through an initial public offer (IPO). Vodafone India buys more time with this merged entity as cost saving will help keep the company going for some more time.

In short the shareholders are getting an ailing company which will have trouble in the aggressive pricing scenario. There will no doubt be benefits on account of synergies, but this is expected to take some time.

Further, the merger would consume a lot of management bandwidth at a time when the competition is aggressive and one would have expected Idea-Vodafone management to be swift-footed.

Both the promoters seem to be playing it cautiously on how the merger will play out for both of them. As pointed out by Sanjay Kapoor, the deal is a win-win for Birlas of Idea as in case the business does well they can increase their stake at a pre-decided price of Rs 130 per share and if it does not then they can remain a minority shareholder by foregoing the call option of buying a 9.5 percent stake from Vodafone.

Retail investors, however, do not get the sweet deal that the Birlas have cut for themselves. If the merged entity does not do well they will have to face additional liquidity from Vodafone’s stake sale, which could happen after the fifth year. Little wonder then that Birla group companies have done well on the market but Idea has taken a beating.