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Thursday, Apr 29, 2004

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Indian Oil-IBP proposal: Smart timing of an inevitable merger

Raghuvir Srinivasan

"WE are not saying that we will keep it separate but there are certainly no plans for an immediate merger. As of now there are no proposals on the table but the possibility in the long run cannot be ruled out." Mr M.S. Ramachandran, Chairman and Managing Director of Indian Oil Corporation, on the possible merger of IBP with Indian Oil during an interview in early March with this correspondent.

Today's decision to merge IBP with Indian Oil shows that the "long run" that Mr Ramachandran meant was just over a month. The only difference between then and now is that the Government is no more a shareholder in IBP. (It held a 26-per cent stake in the company that was sold to the public in March.) In retrospect, it appears as if the entire merger was waiting to happen and the only hurdle was the Government stake in IBP. The merger seems to have been held back only to help the Government sell its stake in the company and raise some desperately needed funds.

Preparing for competition: That said, how does the merger help Indian Oil? It is very obvious that the company is girding up in right earnest to take on private competition in the retail market. Indian Oil's existing dominant position will be further strengthened as it gains ownership of almost 3,000 more retail outlets and other marketing assets.

Indian Oil will acquire a stronger presence on the highways given that IBP's retail outlets are predominantly on them. The combined market share will also touch significant levels in the case of petrol and diesel, the two most lucrative products.

Marginal cost of ownership: The best part of all this is that Indian Oil will acquire these assets and market share with just a marginal increase in its equity capital. The share swap ratio will be decided later but it will obviously be tilted in favour of Indian Oil given that it is the larger and more profitable of the two.

Besides, IBP has a tiny equity of Rs 22 crore, 54 per cent of which is already owned by Indian Oil. Therefore, the share swap will involve just 46 per cent or about 1.02 crore shares and even a 1:1 ratio, which is highly improbable, will increase Indian Oil's equity base of Rs 778 crore by just Rs 10 crore. Thus, the total acquisition cost for Indian Oil in buying out IBP completely will be just Rs 1,850 crore inclusive of the Rs 1,840 crore paid to acquire its existing 54 per cent stake in 2002. That is not a bad deal at all given the size and market presence of IBP. From the IBP shareholders' perspective, the inevitable has happened. The merger was always on the cards and it was only a question of when it would happen. Those who bought shares from the government in March at Rs 589 may have cause to complain if the swap ratio turns out to be unfavourable to them.

There are no such issues for the Indian Oil shareholder though. IBP is a fundamentally strong company and its balance sheet strength will only add to that of Indian Oil's. A spike in the market valuation of Indian Oil appears very much on the cards.

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