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S. Vaidya Nathan

SHAREHOLDERS of Ultratech Cement Company can accept the open offer made by Grasim Industries and associates as the risks of holding on to the stock outweigh potential benefits.

The cement business of Larsen and Toubro is now vested with Ultratech. Grasim, which has a 21 per cent stake and is making an open offer for an additional 30 per cent at Rs 342.6 per share.

In the Grasim-L&T deal for the latter's cement business, we have held the view that it is priced favourably from Grasim's point of view in what was a takeover-type situation.

This would mean that the pricing of the open offer pricing is not attractive for shareholders of the cement company. They, however, do not have a choice now as the unhealthy state of earnings of Ultratech and the likely merger with the cement business of Grasim could work against the interest of shareholders who stay invested.

Ultratech's profitability and earnings levels do not support a higher valuation on an ongoing basis. Despite having capacities of close to 16 million tonnes, the cement business of L&T has had a coat of black on the earnings card only in a few quarters when cement prices were ramped up to higher levels.

The high level of debt has also ensured that financing costs cut into profits. It would take a couple of years for Grasim to reduce the level of debt, get it financed at finer rates and bolster earnings.

Over such a time period, the benefits of a merger may also start to kick-in. Capacities of about 30 million tonnes, a pan-India spread, brand equity, distribution strength and likely benefits in sourcing inputs are likely to place the combined entity in a position of strength; it would be No. 1 in the cement industry and may be well-placed to pursue further growth through acquisitions and greenfield capacities.

The long-term prospects for the merged entity are attractive. But this may not translate into commensurate benefits for Ultratech shareholders who remain invested. The risk is the merger process with Grasim's cement business. The latter's fundamentals are in better shape.

The Grasim stock is also much sought after by institutional investors and commands a higher valuation. We expect the shares of Ultratech to trade at lower levels as compared to the offer price when they are listed.

These factors are likely to tilt the swap ratio for a merger against shareholders of Ultratech. Institutional investors are unlikely to play a role in ensuring that the process is even-handed.

The swap arrangement adopted when Grasim took over the relatively more attractive cement units of sister company, Indian Rayon, also does not provide comfort for Ultratech shareholders. In a situation in which Grasim needed Indian Rayon's capacities to bolster its position, the latter's shareholders did not get the deal they deserved.

In this backdrop, Ultratech shareholders can use the open offer to cut exposures. An investment in Grasim may be a good window to profit from the likely improvement in the cement industry fundamentals and the strengths of the combined entity. But such an investment can be withheld till market conditions stabilise and the process of profit booking in Grasim is complete.

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