Reliance & the problems of settlement

Ever since the discord surfaced in the Ambani clan, the splitting of Reliance group assets has occupied centrestage in media. Unfortunately, it was done to death well before it actually happened.

While the breakup, the leaks and the settlement terms received enormous coverage, mainstream media has ceased to follow-up on the details at exactly the point when the deal actually pans out.

The impact of demerger is so large, a special mid-month derivatives settlement has been dedicated to RIL. There will be massive volatility during the couple of sessions while this special window is open. But it's the most pragmatic way to sort out the issue. Some traders will make enormous sums; others will lose enormous sums -- it's a zero-sum game.

RIL, as every Bournvita Quiz aspirant is aware, has the largest shareholder base in the world as well as being India's largest private sector concern. Size compounds the problems of settlement, a few of which are enumerated below.

1) RIL has a weighting of between 9-11 per cent in the Nifty / Sensex at current valuations. So, the index fund managers and of course, the exchanges themselves, will have to rebalance index weightage and portfolios. This will mean frantic action over the next 2-3 weeks. It's almost certain that index funds will show abnormally high tracking errors in this fiscal as a direct result.

2) Several of the concerns involved in the demerger are unlisted. Assets of Rs 19,120 crore (Rs billion) ($4. 24 billion) will be demerged to the four entities, Reliance Communication Ventures Rs 15,389 crore (Rs billion) ($3.4 billion), Reliance Energy Ventures Rs 2,921 crore (Rs billion) ($648 million), Reliance Capital Ventures Rs 513 crore (Rs billion) ($114 million) and Reliance Natural resources Limited (the former Global Fuel Management Services) Rs 297 crore (Rs billion) ($66 million).

We don't have market valuation for these businesses -- especially for the key telecom business.

3) Even if clear values can be assigned by comparison with peer companies (other listed telecom majors), it's a moot point whether those values can be 'cut and pasted' from one entity to another with digital clarity. Changes in management style and focus can have an unpredictable impact.

4) Nobody knows whether the standalone RIL business of exploration, refining and petrochemicals production will receive a higher or lower price-earnings discount than the current merged entity. You could make a logical case either way.

Refining etc, are cyclical commodity businesses dependent on crude prices, refining margins, government policy decisions etc. Such businesses receive low discounts -- thus, RIL might drop in discounting.

On the other hand, conglomerates generally receive lower discounts than businesses with a clear focus. Hence RIL may actually receive a higher discount as a standalone business.

5) I suspect that the inevitable volatility in RIL will spillover into nervous twitches on the part of REL, IPCL, Rel Caps etc. Each of these companies is a major in its own right, with big balance-sheets, high index weightage and a large shareholder base. In a perfect market, this would not happen. But it may.

As an individual shareholder, there is little you can do except ride out the storm. Fund managers have been talking in terms of a possible ex-merger price of anywhere between Rs 600-850 for RIL.

If you're in the share, perhaps the best thing is to pick up the holdings in the demerged entities and hope that the sum of the new companies will eventually add up to more than the merged whole.