BackHow Birla Corp. sealed cement deal with R-Infra
Focussed on Lafarge, Lodha saw R-Infra as a distraction. But in evaluation of its assets, there was a surprise
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Kolkata: Last July, when Reliance Infrastructure Ltd first offered its cement business to Harsh Vardhan Lodha, the chairman of Birla Corp. Ltd saw it as a distraction: at the time, he was completely focused on acquiring two units of Lafarge India Pvt. Ltd which were on the block under an order of the Competition Commission of India.
So, what changed his mind, and how did the deal finally happen? Lodha himself didn’t speak to Mint, nor did executives at the Reliance Group. Mint pieced together this inside story of how the deal went down from insider accounts and analysts.
Lodha was justified in being taken in by the attractiveness of Lafarge’s assets. Its Jojobera and Sonadih units were billed to be the most profitable cement units in India with an annual cash flow of ₹ 600-700 crore. What is more, the lure of the Concreto brand, which was to become Birla Corp.’s property, was too much to resist: it commanded a premium of up to ₹ 40 a bag in some markets and could have potentially lifted the profitability of the entire output of Lodha’s company.
On the other side was the popular perception of Reliance Infrastructure—that it hadn’t quite managed to get its cement business going.
Not only him, there were others in his core team who didn’t want to look at other assets at that time, says a Birla Corp. official who asked not to be identified.
He said key officials of Reliance Infrastructure had warned them that Lafarge might not in the end manage to transfer its limestone reserves to Birla Corp. without which the deal would fall through.
But Lodha and his team would have none of it.
The Lafarge deal was concluded towards the end of August with Birla Corp. agreeing to pay ₹ 5,000 crore in enterprise value, but the transfer of mining rights remained a sticky issue. Initially, Lodha was confident it would go through—the best legal brains in Mumbai had vetted the deal and structured it—but the deal started to veer off the predicted path in less than a month.
Meanwhile, Reliance Infrastructure’s assets were still up for grabs though the initial ask of ₹ 5,000 crore from the company’s lenders was a little too steep. Though it hadn’t yet given up on Lafarge’s units, in September, Birla Corp. started to take a close look at what Reliance Infrastructure had to offer. At all times, it was clear in Lodha’s mind that he couldn’t acquire both.
But he was also clear it had to acquire something significant. The company had passed up the opportunity to acquire the Jaypee Group’s cement business—it was internally viewed as too big and expensive—and this wasn’t another bus to be missed. Birla Corp.’s management has for the past few years aired plans to grow its cement business—on its own it manufactures 10 million tonnes (mt) annually—but organic growth was taking too long to materialize because of regulatory and legal hurdles.
As Lodha and his team started to evaluate Reliance Infrastructure’s assets, they were surprised. The company’s plants were new and produced good cement; the company had huge limestone deposits spread across India and enjoyed tax exemptions in two states. What is more, it had at least 1,500 acres to set up new units, and even its 5.5 mt production capacity was found to have headroom for expansion.
The problem with Reliance Infrastructure was that it shared very little about its cement business, said two analysts who asked not to be identified. For instance, it was known that the company enjoyed tax breaks in Uttar Pradesh and Madhya Pradesh, but no one clearly knows to what extent, they said, adding that it is estimated that the company can claim around ₹ 1,000 crore in annual value-added tax exemption in each of these states.
Still, Reliance Infrastructure wasn’t doing too well for the kind of reserves and tax benefits it had, according to the analysts cited above. “To my mind, it was because the group wasn’t pushing the business to realize its full potential," said one of them. The challenge for Birla Corp. now is to build the business ground up on the strength of its own marketing team, he added.
The Lafarge units could have delivered a cash flow of ₹ 1,100-1,300 per tonne because of the Concreto brand, but whether Birla Corp. would have been able to sustain the premium was questionable, these analysts said. What Birla Corp. has got instead are firm financial incentives in the form of tax breaks, which will shore up margin substantially for the next few years, they added.
But in the near term, the Kolkata-based firm’s finances are a bit stretched. The acquisition, which came at an enterprise valuation of ₹ 4,800 crore, is expected to increase Birla Corp.’s indebtedness to ₹ 4,000-4,500 crore, according to analysts. (This includes the debt of around ₹ 2,400 crore to be transferred by Reliance Infrastructure.) So, the deal may not add to Birla Corp.’s earnings per share (EPS) immediately, but it is expected to be EPS-positive within a year, they added.
Still, given the tax incentives available to Reliance Infrastructure’s units, Birla Corp. should be able to generate an operating profit of at least ₹ 800 per tonne in the near term, which with expansion can be expanded, the analysts said. That would generate from its 15 million production capacity around ₹ 1,200 crore in annual operating profits—enough to repay the debt and build on the assets that the deal has brought into Birla Corp.’s fold.
“You name Lafarge in his presence and Lodha still grits his teeth because he feels short-changed," said the Birla Corp. official cited above. The company is likely to sue Lafarge for damages. But it is said that after he signed the deal with Reliance Infrastructure, Lodha looked up to thank his stars.
Reliance Group companies have sued HT Media Ltd, Mint’s publisher, and nine others in the Bombay High court over a 2 October 2014 front-page story that they have disputed. HT Media is contesting the case.
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