No more oily deals

SMARTSHARE

That minority investors in Kochi Refineries Limited (KRL) are all set to appeal against the merger of KRL with Bharat Petroleum Corporation Limited (BPCL) is not surprising.

When the merger ratio was announced in January, it was immediately perceived as adverse and provoked the formation of a investor protection group called the Kochi Refineries Investors Forum (KRIF).

Until 2001, the GoI held 55 per cent of KRL's Rs 138.4 crore equity and the Government of Kerala still holds 5 per cent. There are over 70,000 retail investors. In 2001, BPCL took over the GoI stake through a preferential sale.

Under Sebi guidelines, BPCL should then have made an open offer at an equivalent price of about Rs 87 per share. The open offer requirement (which was at substantial premium to 2001 prices) was waived since this was a strategic move by the GoI.

In January 2005, a swap ratio of 4 BPCL shares per 9 KRL shares was announced with effect from April 1, 2005. KRIF claims the ratio is unfair and unjustifiable. According to KRIF's calculations, the "fair" ratio would be closer to 5.5 KRL shares per 4 BPCL shares.

The allegations are serious: One PSU takes over another PSU with skewed merger ratios and according to KRIF, the methodology of calculation isn't made public. Further, KRIF alleges the KRL board has been stacked "" there is no independent director to represent the 40 per cent minority.

KRIF also says BPCL has a product supply credit line of 21 days in its favour versus KRL. Thus, BPCL sells for cash and buys on 21 days credit from KRL, with a favourable balance-of-payment.

Let's ignore the messy allegations about the KRL board and the favourable credit cycle. The merger ratio is at the root of discontent and there's a case for saying that's unfavourable to KRL shareholders.

KRL's current price is Rs 155 versus BPCL's current price of Rs 354 per share. So at current price, Rs 1395 for 9 KRL is exchanged for Rs 1,411 worth of 4 BPCL. But KRL's price dropped instantly from Rs 220 to Rs 186 on January 17, when the merger ratio was announced. BPCL was then trading at Rs 415 and the KRL shareholder was being asked to exchange the equivalent of Rs 1,980 for Rs 1,640.

Merger ratios are never decided on volatile shareprice indicators alone.

In terms of book-value or net-worth per share, BPCL has Rs 250 versus Rs 204 for KRL (a 5:4 ratio). In FY 2003-04, BPCL's EPS was Rs 56 while KRL's EPS was Rs 40. During April-December 2004, BPCL's EPS was Rs 20.5 while KRL's EPS was Rs 44.5 "" BPCL's marketing margins were adversely afffected in the 2004-05 fiscal. KRL has better profitability ratios and BPCL has a current ratio of 1 versus KRL's CR of 2.

These numbers suggest a ratio of 5 or 6 KRL to 4 BPCL would be more normal than 9:4. In comparison, 5 IBP shares are to be swapped for 4 IOC shares in another merger, which has been postponed to September 2005.

The respective BV, EPS, RNW ratios for IOC versus IBP also suggests KRL shareholders got a raw deal. If KRIF's appeal works, the merger ratio might be recalculated in favour of KRL shareholders. This may also create an opportunity to short BPCL.