The pipedream potential

Bank M&As will have to grapple with the issue of downsizing

The Union Bank of India management has said that since it already has a national presence, it would like to expand globally. Bank of India, with a fifth of its business coming from foreign branches, is an obvious candidate.

Union Bank shareholders will have the dubious benefit of their bank adding a few foreign branches if a merger takes place, but with Bank of India's foreign branches accounting for 19 per cent of total business in 2003-04 and only 12.42 per cent of operating profit, the foreign branches aren't as profitable as the domestic business. Why take them over?

As on March 31 this year, Bank of India's book value per share stood at Rs 78.57, compared with Union Bank's Rs 55.71 per share. Yet the Union Bank scrip trades at around Rs 79, while the BoI stock is around Rs 57.

Union Bank commands better valuations, because its non-performing assets are much lower "" as on June 30, BoI's net NPA ratio was 4.18 per cent, while Union Bank's net NPA ratio was 2.38 per cent. Any merger will take care of these differences through the swap ratio.

With both banks operating in more or less the same territory and with the same kind of management and ownership, what's the point of a merger?

There will be substantial scope for cost savings "" for starters BoI's 48 zonal offices could be disbanded and merged with Union Bank's controlling offices.

BoI's staff costs in 2003-04 amounted to 15.5 per cent of total income, while Union Bank's were 13.5 per cent. The comparable figure for Oriental Bank of Commerce was 9.1 per cent. But if a merger doesn't result in downsizing, under the pretext that excess staff will be re-deployed, it could prove to be an expensive pipedream.

Gammon India

Gammon India Ltd has decided to issue shares on a preferential basis to Uno Investments, a wholly owned subsidiary of Chrys Capital III LLC. The shares would be issued to Uno at Rs 505 each, well below the stock's closing price of Rs 532.

The amount would be approximately Rs 110 crore. In addition, Gammon has also decided to issue depository receipts for $12 million (approximately Rs 55 crore) to foreign investors.

Meanwhile, the Gammon India share has moved up sharply over the last few days, although it sold off on the news. However, the company is expected to report substantially better September quarter profits.

The acquisition price for Uno appears to be in tune with those prevailing in the industry "" Uno would be buying a stake in the Indian company with a trailing P/E of around 21.5 vis-a-vis around 20.5 for Larsen & Toubro Ltd.

While Gammon India's order book currently valued at approximately Rs 3,100 crore is a fraction of Larsen and Toubro's engineering and construction division's order backlog, Gammon has carved its niche in segments like constructing bridges and energy projects.

And the opportunities offered in the Indian infrastructure sector in the long term is certainly attracting the attention of foreign investors""10th plan estimates point out an infrastructure opportunity size of approximately Rs 3,91,900 crore of which around 66 per cent is in the construction component. However, a concern for this sector remains the high cost of key inputs like cement and steel.

Export realisations to prop up cement margins

With international prices of cement touching new highs of $46 per tonne from about $36 in the previous quarter(April-June) and around $15 in Q2FY04, the industry's fortunes have got a boost.

Gujarat Ambuja, which exports cement to the Gulf, should see realisations moving up by 13-14 per cent YOY for Q205 while Ultratech Cem which exports clinker that fetches $32 per tonne will not gain as much.

With exports siphoning off the excess capacity from the market, even realisations in the domestic market, which are normally the worst in this quarter because of the monsoon, will be better this time around.

Better exports have bailed out manufacturers since the domestic volume growth this quarter is estimated at just about 4 per cent against an expectation of 7-8 per cent, though utilisation of capacity in FY05 is expected to cross 90 per cent.

Fortunately producers have been able to pass on the increased cost of raw materials such as coal and power which are up by about Rs 7 per bag, and most companies should manage an increase in EBITDA margins of around 350-400 basis points YOY.

A better than expected Q2 will give FY05 earnings a boost. Analysts say ACC's FY05 profits could be up by as much as 50 per cent, while GACL's profits could grow 40 per cent.

The lowest cost player in the industry Madras Cement, could earn even 100 per cent higher profits, on a lower base. Grasim, whose VSF and sponge iron businesses too are doing well should see a 15-20 per cent rise in profit, on a higher base. UTCL, on the lowest base, may see a 200 per cent rise.

With contributions from Amriteshwar Mathur and Shobhana Subramanian