Mumbai: Behind the slump in the annual profit of the Reliance Group’s flagship firms Reliance Communications Ltd (R-Com) and Reliance Capital Ltd (R-Cap) is the larger issue of a decline of the market value, investor base, even employees of the Anil Ambani-controlled conglomerate that has been hit hard by ongoing investigations of its involvement in the so-called second-generation (2G) scam and rising debt.

Executives at the group’s various firms downplay the decline in market capitalization and pass off the fall in number of employees to historical inaccuracies.

Analysts think the problems run deeper.

While the Anil Ambani-led companies may be fundamentally sound, the overhang of negative news flow on several fronts has taken a toll on the investor base as well as market value, says Shishir Bajpai, senior vice-president at IIFL Private Wealth.

“The erosion in market wealth and shareholder base shows that some long-term investors have pulled out," Bajpai says. “Regulatory issues and people’s perception of R-Com’s role in the 2G issue may have raised doubts over the group’s project execution and fund raising ability."

That perspective is reflected in the declining investor base of the conglomerate, from 12 million on 31 March 2010 to 11 million on 31 March 2011, according to two investor presentations on the website of R-Cap, one dated May 2011, and another May 2010.

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Bajpai and Ajay Parmar, head of research at Emkay Global Financial Services Ltd, a Mumbai-based brokerage, agree that the worst hit is R-Com. The company and its executives are under the scanner for alleged wrong-doing in auctions of 2G telecom spectrum by the government in 2008. Its balance sheet is also saddled with a significantly high debt of 32,048.54 crore as on 31 March 2011.

Meanwhile, R-Com has had to revive its efforts of finding a suitor for its telecom tower business after a deal to hive it off to GTL Infrastructure Ltd last year fell through.

In a statement dated 31 May, R-Com said that it has received formal bids from a number of players for its telecom tower business.

The debt situation is a “messy one", Bajpai says, but if addressed successfully in the current fiscal, it could lead to a positive chain impact on the market performance of some other companies in the group as well.

Different perspectives: A file photo of Anil Ambani at a news conference in New Delhi. Pankaj Nangia/Bloomberg

In contrast to Reliance Group, the retail shareholder base of several other conglomerates has increased. That of the Aditya Birla Group has increased marginally from 1.41 million to 1.43 million, and that of the Mahindra group, from 1.14 million to 1.31 million during the last fiscal. The retail shareholder base of Reliance Industries Ltd, controlled by Anil Ambani’s elder brother Mukesh Ambani has stayed flat at 3.5 million. All three conglomerates have seen the number of foreign institutional investors (FIIs) increase in 2010-11. The domestic institutional investor base, which includes mutual funds, too, increased during the fiscal for all the three. The net investment in the Indian market by FIIs was a robust $24.29 billion in 2011, though it was marginally up from $23.35 billion in 2010.

Still, the trend of a shrinking investor base isn’t uniform across all companies belonging to the Reliance Group.

The proportion of retail shareholders of Reliance Power Ltd (R-Power) increased to 10.9% at the end of fiscal 2011, up from 7.8% a year ago. The increase can be attributed, in part, to the merger of Reliance Natural Resources Ltd (RNRL) —the erstwhile gas trading arm of the Reliance Group— with R-Power in July. Shareholders received one share of R-Power for every four held in RNRL. It is possible that not all shareholders of RNRL had shares in R-Power before the merger.

R-Power raised around 11,200 crore through an initial public offering (IPO) of its shares in February 2008, the largest IPO to hit the Indian capital market till Coal India Ltd’s public issue last year. Between March 2008 and March 2011, R-Power’s market value halved to 36,382.41 crore. Between 31 March 2010 and 31 March 2011, it improved marginally by 1.54%.

“It is unfair to compare R-Power with any other company in this sector as most of its capacity is still under construction and will remain so for the next couple of years," said a power sector analyst with a Mumbai-based brokerage. He did not want his company or himself to be identified, as he is not authorized to speak to the media.

“It (not having capacity on stream) is a blessing in disguise as their (R-Power’s) stock price has not corrected as sharply as that of some of the others like JSW Energy and Lanco," the analyst said. The other two private sector power producers named and others like them have been grappling with issues such as availability and high prices of coal, he explained. Since most of R-Power’s portfolio is yet to be commissioned, it hasn’t been as adversely impacted as some of its peers.

Some analysts say that R-Power’s aggressive bids to secure ultra mega power projects from the government—at 1.19 per unit at Sasan and at 1.77 per unit at Tilaiya—have themselves affected the stock price. But most are of the opinion that these deals will work to the company’s advantage in the long term because of the access to coal that comes with them.

“If one looks at the large pithead captive mines...with cheap coal and an option to use the coal in other plants, we bet Indian utilities in current scenario will die for these deals," says a report dated 2 June on R-Power by Emkay Global Financial Services.

Since R-Power might be in a position to generate and sell power cheaper, it might be preferred by different state electricity boards that have been grappling with losses and could do with reducing costs, the Emkay report adds.

Still, erosion in shareholder value is a common thread running through the performance of the shares of most companies in the group. Shareholders of the four largest listed companies in the group—R-Com, R-Cap, R-Power and Reliance Infrastructure Ltd (R-Infra)—lost a total of 31,087.63 crore in the year to 31 March.

And this happened in a rising equity market. The market capitalization of the 30-share Sensex of the Bombay Stock Exchange increased to 29.59 trillion as on 31 March this year from 26.24 trillion at March end last year. The Sensex gained 10.94% in fiscal 2011 over the year before that and the combined market value of the 30 stocks that form a part of the benchmark index increased by 3.34 trillion in the same period.

Most Sensex constituents created wealth for their shareholders in 2010-11. Oil and Natural Gas Corp. Ltd’s market value increased 13,239.6 crore, Tata Consultancy Services Ltd’s 78,620.71 crore, Infosys Technologies Ltd’s 35,775.09 crore, Bharti Airtel Ltd’s 17,316.69 crore, and ICICI Bank Ltd’s 21,634 crore.

The Reliance Group’s long-term story is different, too.

Its market value today is lower than what it was in 2007. According to the May presentation, since 2007, the group has lost $5 billion in market value. Its current market value is $28 billion.

Lalit Jalan, chief executive of R-Infra, the group’s infrastructure services arm admitted that the loss of market capitalization was an area of concern for the group and execution of projects would be the “key" to bring back investors’ confidence.

“Share prices are function of market forces. Prices of certain sectors like infrastructure and power were riding a high wave in euphoric times," added Jalan. “As the markets corrected, these sectors got hammered and today most of them are grossly undervalued."

The group’s finance businesses haven’t done well either.

According to the presentations on its site, R-Cap’s performance has slipped on several counts. Its mutual fund business has lost around 500,000 investor folios (it now has seven million) and has seen assets under management (AUM) come down by at least 10,000 crore to 1 trillion. There has been a 0.5 percentage point drop in its market share by assets managed as well. Since March 2009, its market share has slid 1.5 percentage points.

Among large fund houses, Birla Sun Life mutual fund’s AUM has grown to 63,696.19 crore from 62,343.37 crore at the end of March 2010. Franklin Templeton Mutual Fund’s AUM rose to 37,882.71 crore from 33,290 crore a year ago. In 2010-11, some fund houses saw a decline in assets under management, largely owing to a tough regulatory regime. For instance, HDFC Mutual Fund’s AUM now stands at 86,282.24 crore as against 88,779.84 crore last March. ICICI Prudential Mutual Fund’s AUM is now at 73,466.1 crore as against 80,988.84 crore last year.

As far as investor folios are concerned, data is available only till September 2010. Between March 2010 and September 2010, HDFC Mutual Fund’s folio count increased from 3.9 million to 4.2 million, while those of UTI Mutual Fund, ICICI Prudential Mutual Fund, Birla Sun Life Mutual Fund’s folio counts remained flat during the period.

Sundeep Sikka, president and chief executive officer of Reliance Capital Asset Management said the number of investor folios has fallen as a result of redemption by retail investors.

“Around 70% of the equity assets came in 2007-08. Many retail investors could not exit due to rough market conditions in 2008-09," Sikka said. They are now redeeming their investments at profits as market conditions have improved.

Sikka said he was happy if investors exited at a profit; they then serve as brand ambassadors for Reliance Mutual Fund. They are also more likely to repose faith with Reliance’s asset management skills in the future, he added.

Replacing institutional money with retail funds, especially in debt products, will be the fund house’s strategy in days to come, according to Sikka, because funds from retail investors are more long-term in nature.

“If in the process, we lose out on some amount of market share, we don’t mind as the funds we are getting are more sustainable in the long run," he added

R-Cap’s life insurance business has also seen a fall in market share among private insurers, in terms of new business premium. From a 10.2% market share among private life insurers in May 2010, its share of the pie came down to 8.7% in March 2011.

The company’s broking and distribution of financial products and services business, too, have seen a decline in the number of branches and people. The number of branches has come down from 10,000 in 2009 to around 6,250 currently and the number of employees has declined from 1,582 in March 2010 to 1,250 at the end of March 2011.

Vikrant Gugnani, who heads R-Cap’s broking and distribution business, said a number of dedicated outlets had to be shut down as they could not get leased line connectivity at those sites. In the absence of such bandwidth, Reliance Securities Ltd was unable to offer direct, real-time services on its platform, he added.

Gugnani also attributed the decline in numbers to the fact that a number of its earlier associates got their own broking and distribution licences.

“Earlier, we used to operate through a number of tie-ups with other partners, many of whom got licences to start their own broking and distribution business after they got their own licences," Gugnani said. “So, all those outlets are no more associated with us. Instead, we have started our own dedicated outlets in some such locations."

The daily average turnover clocked by R-Cap’s broking arm also fell to 1,400 crore as on March 2011, from 2,200 crore as on March 2010. The total income from the segment fell to 164.90 crore in fiscal 2011, from 215.10 crore in the year-ago period. Turnover from commodity broking business increased marginally to 300 crore during this period.

Gugnani said this was on account of a number of daily traders closing their accounts with Reliance Securities that has shifted focus to long-term investors from whom it can earn a higher brokerage compared with what it had made from intra-day traders.

Reliance Securities’ peers in the broking space have fared better. The total income of Edelweiss Capital Ltd. has increased to 1,491.1 crore as compared with 977.8 crore at the end of March 2010. The company expanded its operations by acquiring Anagram Stock Broking Ltd during the last fiscal. The group’s broking income rose to 293 crore from 208 crore at the end of March 2010. During the fiscal year the company’s employee base increased from 1,300 to 2,650. The company’s average daily turnover in equities was 5,220 crore in fiscal 2011 as compared with 4,310 crore in fiscal 2010.

The fall in market value and investor base of some of the group’s companies is also reflected in the number of employees on its rolls.

According to the May 2011 presentation, this number is 120,000. The May 2010 presentation mentions the number as 130,000.

Jalan said he doubts whether the Reliance Group has ever had as many employees.

“Perhaps this is a legacy error. Our current strength is at 120,000 (employees)," said Jalan, one of the senior-most Reliance Group executives and a trusted aide of Ambani.

Interestingly, eight presentations on R-Cap’s website, posted between November 2008 and May 2010, say the group had 130,000 employees.

Last year was one when most companies increased their staff strength. Hithendra Ramachandran, partner at Ikya Human Capital Solutions Pvt. Ltd, a global recruitment firm whose main India office is in Bangalore, said his firm helped client companies hire at least 6,000 mid-level to senior management professionals in 2011, double of what they managed in the fiscal before.

“Though hiring has picked up in the industry as a whole, the Reliance Group may have been going through a tough time due to liquidity issues," Ramachandran said. “The bad publicity that they got due to the 2G controversy has also cast a shadow of doubt in the minds of job seekers."

To be sure, the alleged involvement of R-Com in the alleged scam over auctioning of 2G spectrum by the government in 2008, did not come to light till late last year.

Jalan said Reliance Infra hired at least 3,000 people last fiscal to work on various infrastructure projects being executed by the company, especially in power transmission, construction of metro rail and roads.

J.P. Chalasani, chief executive of R-Power, said his company’s employee base also increased from 350 people to 762 last year. R-Cap’s employee strength, according to the presentations, came down to 18,069 as on 31 March 2011, from 22,619 at the end of May 2010.

“The fluctuation in headcount last year was predominantly on account of cyclical movement of sales managers seen in the life insurance business," a R-Cap spokesperson said in an email statement.

The company plans to increase this number to 21,000 by hiring 3,500 managers across businesses this fiscal. It aims to have more than 12,000 sales managers in the life insurance business by July and add 50,000 agents during 2011-12, the spokesperson added in an email.

Santrupt Mishra, director, human resources and information technology at Aditya Birla Group, another Indian conglomerate with interests in commodities, metals, financial services and telecom, said a decline or rise in the employee strength of a company may not necessarily be correlated with its performance.

“If a company moves some of its manual operations to an ERP (enterprise resource planning)-based system or outsources some activities to a third party, (the number of) employees on the company’s payroll will come down," Mishra said. “That does not mean the company is not growing."

Though the debt on the books of its four major companies has increased from 55,226.24 crore as on 31 March 2010 to 72,608.7 crore as on 31 September this year (the latest available figure in the public domain), at least two of the companies, R-Com and R-Power did relatively better in the three months ended 31 March.

R-Com managed to increase its revenue by 58% to 7,876 crore in the March quarter on a sequential basis, albeit due to a change in accounting policy that recognizes future income through licence revenue by selling bandwidth on an indefeasible right of use.

It also reported an operating profit margin of 52.3% from 33.3% in the quarter ended 31 December.

The company has been effecting a change in strategy by doing away with free minutes of usage on its network in an attempt to improve the quality of usage and enhance revenue per user. It is also betting big on recently launched 3G services to deliver the next phase of growth.

R-Power, too, posted healthy quarterly numbers in the January-March quarter, driven by capacity addition at its thermal power plant in Rosa, Uttar Pradesh, leading to higher power generation.

Its quarterly net profit doubled year-on-year to 186.63 crore, while revenue grew seven-fold to 598.18 crore.

According to Bajpai, the Reliance Group needs to break a “vicious cycle" of negative developments about the group surfacing in the public domain, after which investors will judge the companies for nothing other than their operational performance.

A few continuous quarters of good results won’t hurt the cause, he added.

R-Power has sued HT Media Ltd, publisher of Mint, in the Bombay high court over a 12 May 2010 front-page story in Mint that it disputed. HT Media is contesting the case.

Ashwin Ramarathinam contributed to this story.