The Hindu Business Line : Is one + two + three {gt} six?

ASHA and Nisha were poring over the buzzing topic in corporate finance — mergers and acquisitions. This was not only a interesting chapter in their syllabi, but also a happening phenomenon in India Inc. The chapter threw open a lot of issues on synergy of strengths of individual entities towards the building of a stronger conglomerate.

"Synergy!" exclaimed Asha, "That reminds me of the most beaten phrase in the news these days — `synergy in energy'."

"Good that you reminded me," replied Nisha, "I've been wanting to discuss this with you for quite some time. So why was this committee on restructuring of oil PSUs set up in the first place?"

"Well, the motive was to minimise overlapping of interests and mitigate destructive competition among the public sector oil companies, thereby allowing them room to compete internationally," explained Asha.

"But I don't see the recommendations leading to synergy. It has pointed out that a merger might not work out to be an advisable option at present," said Nisha questioningly.

"The threat of cartels and monopoly may loom large in case of a merger; the committee has raised concerns over the resulting downsizing. India being a labour-abundant country the concern seems quite reasonable," said Asha.

"But look at how a merger would bring about a fully integrated value chain along with benefits of rationalisation of resources. Imagine a company, which explores and produces oil, then uses its own refineries while it sells its products through its own retail outlets. Sounds fascinating, doesn't it? Isn't this a true synergy in energy?" asked Nisha.

Asha replied, "Well, it is true that the committee has not for now recommended a synergy through a merger but has given some tips for strengthening the sector. It has suggested the forming of a National Shareholding Trust (NST) on the lines of Temasek of Singapore to help companies compete internationally."

Nisha responded immediately, "I know it is old wine in new bottle! The NST idea was mooted about 10 years ago, only to be buried."

"You are alert, alright! The industry's environment has undergone a sea change since then. With globalisation and increasing competition, India cannot afford to be left out of the international race. The idea behind NST is to ensure synergy in operations without the companies losing their PSU character," replied Asha.

"But wouldn't that amount to continued government intervention and expanded hierarchy?" quipped Nisha.

Asha smiled and said, "You are spot on. The committee has factored this and suggested measures such as government intervention only at a strategic level, reduction in a number of functional directors and fewer government nominee directors. But there appears to be a subtle catch in the NST concept. Can you guess what?"

Nisha after a few seconds of thought said, "Well, I see the NST as a move to prevent future mergers and divestments , right?"

Asha nodded and said, "Moving to other issues, the committee has recommended segregating non-core activities of upstream companies so that they might concentrate on Exploration and Production (E&P) activities — what C. K. Prahalad would call `core competence'. I feel this is a measure to prevent companies such as ONGC from venturing into businesses, such as retailing power, that are not their primary interest.

"But is it not natural for a company to pursue such growth opportunities?" questioned Nisha. Asha said, "True, but look at it from the economy's point of view. It would amount to squandering of limited resources."

"However, I fear that such a move may be fraught with greater risks. E&P has conventionally been a high risk-high return game. A merger would not only ensure rationalisation of resources but also integration of the value chain."

As Nisha thought for a while, she said, "You have a point. In a situation where downstream oil companies are grappling with the increasing subsidy burden and finding it tough to protect their margins, moving up the value chain appears a viable strategy in the long term. Hence, I believe merger of these companies would not only cut down costs but also improve the pricing power of the merged entity."

Asha's next question was about the formation of a new entity parallel to OIVL (Oil India Videsh Limited). She had read that this would avoid intense competition in the overseas markets. Nisha, quick to read her pal's mind,explained, "The new entity would be formed under OIVL with clear demarcation of operations between OIVL and the entity. It would also allow for a consortium-based approach with other PSUs for various ventures, based on the core competence of such PSUs. However, considering the small size of OIVL, forming a subsidiary by it may not hold water compared to the giants in the international arena. It is a different story for OIVL, which has immense support from its parent, ONGC."

Nisha's thoughts were now running on another interesting aspect. "Did you read about the price stabilisation fund? I thought it meant going back to the ages of controlled price mechanism instead of a market driven one," asked Nisha.

"Yes, I did, and it's not clear how the funds would be pooled; there's enough confusion on the subsidy sharing at present."

"Did you observe any other striking feature in the report?" asked Asha. "Oh yes, the ceiling guidance seemed interesting. The committee has said that the ex-storage price for petrol and diesel should be the ceiling price, with companies having the freedom to fix the retail prices based on competition," replied Nisha. "I fail to understand in what way this can give flexibility to fix a competitive price, when the refining companies are currently struggling to recover even the cost of production," she continued.

"Okay, Nisha, we have been discussing contentious issues. Do you see any positive points in the report?"

"Yes, there are quite a few. On the regulatory side, the committee has suggested a comprehensive energy policy, energy audit to improve efficiency and a unified energy ministry to prevent red tapism and duplication of infrastructure.

"On the commercial side, it has suggested sharing of surplus marketing and transportation facilities by PSUs with all participants including the private sector. I think it's a thoughtful move, which could result in a win-win situation for the players," Nisha said confidently.

Asha glanced at her watch and found that it was time for their corporate finance class. The thoughts on `synergy in energy' were just sinking in as they prepared for the lecture.

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