Home / Markets / Stock Markets /  These Indian bluechip companies could demerge in 2023. Big gains ahead?

Many companies house different businesses from varied industries under one roof. Each of these businesses carries its value and can sometimes be vastly different from one another.

Take Mahindra & Mahindra for example.

The company's automobile business operates in an entirely different environment than its IT business.

Both businesses have their dynamics, and demand prospects and are therefore valued differently. And so, it makes sense to assume that the parent company's value should be a sum of the different parts.

However, it is not that simple.

When it comes to larger companies with varied businesses, investors are often wary. They worry about the divided focus of the management and the lack of transparency in business dealings. Moreover, they are forced to expose their investments to a variety of businesses.

This apprehension and compromise call for a discount on the total value of the business which is referred to as the conglomerate discount.

But when these business houses hive them off or demerge them, these discounts don't apply. This sometimes propels the value of the core business, offering investors the prospects of higher returns.

Here are two bluechip companies that could demerge their businesses in 2023 and have the potential to unlock huge gains for investors.

#1 Reliance

Reliance is the largest company in the country, by market capitalisation. The conglomerates business spans across multiple verticals, from the oil refining business to telecom services.

So, when it announced its plans to demerge its financial services arm, it made sense.

In October 2022, the company announced the demerger of its financial services business, operating under Reliance Strategic Investments (RSIL).

RSIL will be housed under a new entity, Jio Financial Services and subsequently listed on the stock exchange.

The demerger will transpire via a share-swap arrangement without any cash element. Shareholders of Reliance (RIL) will get one share of Jio Financial Services for every share held.

At present, RSIL is a wholly-owned subsidiary of RIL and is an RBI-registered non-deposit-taking systemically important NBFC (non-banking financial company).

Reliance, with this move, aims to tap the growing demand for new-age financial services for retail and small-business customers. It plans to leverage the technology capability of RIL and focus on digital delivery of financial products to democratize financial services, indicating an opportunity to buy the stock.

The turnover of the financial services business in the financial year 2022, was 13.8 bn, a measly 0.3% of the total turnover of RIL.

The business have been divided into different subheads which include, oil to chemicals (56.8% of total revenues in the financial year 2022), retail (22.7%), digital services (11.4%), oil and gas (0.8%) and others(8.3%).

Reliance Industries
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Reliance Industries

#2 ITC

It comes as no surprise to us that ITC is again in the limelight to demerge its business. The company is looking to part ways with its conglomerate structure and list its hotel business. This news has made ITC an interesting story to follow.

In October 2022, the ITC Chairman Mr Sanjiv Puri said -

Demerger of hotels business is very much on cards.

Investors have been anticipating the demerger of the hotels and the FMCG business for quite some years now.

They have long demanded for spinning off profit-making business segments such as FMCG. While the management has alluded to it every now and then, it has never taken any concrete steps in that direction.

The hotel business is 2% of the total revenues. This move will help the standalone FMCG business attain higher valuations, unlocking value for investors. However, how value accretive the demerger depends on the specifications of the deal.

ITC enjoys over 75% market share by volume of the Indian cigarette market (35% of the total revenue in the financial year 2022).

The company has consciously diversified into non-tobacco businesses to reduce its dependence on a single category. These other verticals include FMCG (25%), hotels (2%), agriculture business (25%) and paper (12%).

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The sales have grown at a 5-Yr CAGR of 7%, the net profit has grown at 8.1%. The RoE has also advanced, reporting a 5-Yr average of 24.3%. This performance has allowed the company to maintain a solid balance sheet without any debt.

The company’s sales have grown at a 5-Yr CAGR of 13.2% while the net profit has grown at 10.5%.

The RoE has also advanced, reporting a 5-Yr average of 28.5%. This performance has allowed the company to maintain a solid balance sheet and keep the debt levels low.

The Adani group might also demerge its business, but not in 2023

The Adani group has also announced that they plan to demerge some of the businesses. However, this will be done over the next few years.

The corporate house plans to spin off, or demerge, its metals, mining, data centre, airports, roads and logistics businesses. But this will be done after they have achieved scale and built a suitable and competitive management team.

In conclusion,

There is no sure shot way to quick profits in the stock market. The same applies to a demerger. While a demerger is usually associated with high value unlocking, it is not always the case and there is no way to know that in advance.

Even if the demerged business is highly valuable, the management can sometimes be unfair to the minority shareholders when it comes to sharing swapping ratio etc. Moreover, weak fundamentals of the demerged entities and promoter selling after the demerger are factors that have pulled down the share prices of some of the restructured entities.

The Aarti Industries demerger failed to create much value and the proposed Piramal Enterprises demerger has not excited investors either.

Therefore, do your research before you invest in such companies. A great way to ensure that you might profit from a scheme is to study the scheme and the intentions of the management.

Dig into the past and analyse their dealing with the minority shareholders. Good management will never shirk from their rightful duties towards the minority shareholders.

Disclaimer: This article is for information purposes only. It is not a stock recommendation and should not be treated as such.

This article is syndicated from Equitymaster.com

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