A formal announcement has now been made about widely diversified conglomerate Aditya Birla Nuvo Ltd acquiring Chennai-based broker Apollo Sindhoori Capital Investments Ltd.
The firm is being valued at Rs355 crore, or Rs64.08 per share. The stock closed at Rs58 on Thursday, with a jump of 9.5%. It’s now a couple of rupees above the highs it reached (after adjusting for a stock split) when the news first appeared.
Apollo Sindhoori’s earnings per share (EPS) for the June quarter, after its recent 10-for-1 stock split, were 35 paise, while annual EPS for fiscal 2008 (after taking the stock split into account) works out to Rs3.99.
At 16 times fiscal 2008 earnings, the price doesn’t look high, but then the last fiscal year was a stellar year for broking companies and the current year is likely to be very different.
Here’s a look at the current valuations of some other brokers: India Infoline Ltd, 21 times FY08 earnings; Edelweiss Capital Ltd, 12.3 times; Motilal Oswal Securities Ltd, 9.0 times; Geojit Financial Services Ltd, 15.5 times; Emkay Global Financial Services Ltd, 8.5 times. Of these, the big ones are in a different league and it’s Emkay that is closest to Apollo Sindhoori in terms of size. Seen from that perspective, Aditya Birla Nuvo is paying a high price for the broking firm.
As the chart shows, Apollo Sindhoori has handsomely outperformed other brokerages, doubtless because investors knew it would be sold.
However, the acquisition is too small to make much of a difference to Aditya Birla Nuvo and the announcement had little effect on its stock.
Nobody expects broking to be a very lucrative business at least for the next year or so, till the bear market lasts.
Over the longer term, although there is immense potential for growth as more investors opt to hold a part of their portfolios in stocks, that growth will also be accompanied by more competition and boom-bust cycles.
Together with low barriers to entry, these factors have led to brokerages typically trading at a discount to the market in most countries.
In these circumstances, diversification, a strong balance sheet and the ability to scale up will separate the men from the boys.
The Aditya Birla Nuvo management obviously believes that being part of a big conglomerate with a substantial interest in financial services will make a difference.
The company has made no secret of its plan to become a broad-based and integrated financial services player.
It already has a presence in life insurance, fund management, distribution and wealth management, security based lending, insurance broking and private equity and total revenue from its financial services operations amounted to Rs197.5 crore last year.
Apollo Sindhoori’s total turnover was Rs120 crore last fiscal year. Apollo Sindhoori’s strong distribution network will not only allow Aditya Birla Nuvo to get into retail broking but also provide opportunities for cross-selling its existing financial products.
From the investor’s point of view, however, the benefits will be realised only in the long term.
In 2003, the Aditya Birla Group exited the broking business by selling Birla Sun Life Securities, thus missing the entire bull market of 2004-2007.
They now want to ensure they don’t miss the next one.
The risks from Imperial Energy acquisition
The shares of Oil and Natural Gas Corp. Ltd (ONGC) have gone nowhere since it announced its plan this week to buy Russian oil exploration company Imperial Energy Corp. Plc. But since 11 July, when the markets got its first hint that ONGC is likely to bid for Imperial, the Indian firm’s stock has risen by about 18%. And that’s in spite of the fact that during this period, crude prices have corrected sharply.
Imperial has proved and probable (2P in oil lingo) reserves of 920 million barrels of oil as of December 2007, according to an audit by DeGolyer and MacNaughton. But Bloomberg has quoted a Russian analyst saying that Imperial had drilling successes at the Kiev Eganskoye field on the east side of the Ob river after the yearly DeGolyer and MacNaughton audit and that this will likely increase its valuation in the next audit report.
Even so, the current reported reserves imply that ONGC has valued the assets at $2.8 per barrel of oil (the firm has been valued at $2.58 billion).
ONGC itself trades at about $5 per barrel of oil, despite having to share a huge subsidy burden, which effectively curtails its net realizations. But Imperial too suffers from a high tax structure in Russia, which, according to Citigroup analysts, yields the company estimated net realizations of $47 a barrel based on the assumption that the long-term crude price will be $100 a barrel.
Still, some analysts are enthused about the low valuation at which ONGC’s overseas subsidiary has agreed to buy the company. But a word of caution is in order. The valuation doesn’t mean much by itself, as other factors such as the development expenditure ONGC will have to incur in the future are still not known.
Imperial is still in its nascent stages, with production in 2007 being just 10,000 barrels per day. It plans to hike production to 80,000 barrels per day by 2011. Also, the proven part of its reserves is just 175 million barrels, which according to Citigroup, increases operational risks in achieving production targets.
An analyst with another institutional broker says that other factors such as Imperial’s liabilities and details about the Russian government’s share of profit are still not known. If unfavourable, these could change the markets’ view of the deal.
Then, of course, there is the possibility of a bidding war with China Petroleum and Chemical Corp. (Sinopec), which could further increase risks.
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