Piramal Healthcare To Buy 5.5% In Vodafone Essar For $640M

Cash-rich pharmaceutical firm Piramal Healthcare Ltd has acquired 5.5 per cent stake in telco Vodafone Essar for Rs 2,856 crore or around $640 million. This values Vodafone Essar, second largest telecom firm in the country, at around $11.6 billion, by revenues.

Although this may appear as a late entry into an already mature telecom business for the Mumbai-based Piramal family who owns majority stake in the public-listed Piramal Healthcare, the deal is being seen as a financial investment.

While Piramal Healthcare gets to park a part of their cash from selling the domestic formulations business to Abbott Laboratories for $3.7 billion last year, Vodafone Essar now complies with the FDI norms which limit foreign investment in the Indian telecom sector to 74 per cent.

Vodafone Essar had a subscriber base of 141.5 million in India as of June, 2011, compared to 95.1 million subscribers of Idea Cellular and around 221 million mobile subscribers of Bharti Airtel (it also had another 10 million non-mobile subscribers to DTH and other services).

In a late evening statement on Wednesday, Vodafone Group and Piramal Healthcare jointly announced that the Indian firm had agreed to purchase approximately 5.5 per cent of the issued equity share capital of Vodafone Essar Ltd (VEL) from ETHL Communications Holdings Ltd, for cash consideration of approximately $640 million (£400 million).

The transaction contemplates various exit mechanisms for Piramal, including participation in a potential initial public offering of Vodafone Essar and a sale of its stake to Vodafone, the statement added. Piramal Healthcare Ltd scrip rose 1.5 per cent in early morning trade on the BSE on Thursday.

This transaction follows the settlement between Vodafone and Essar over the sale of Essar's 33 per cent stake (approximately) in the Indian joint venture.

Early this year, the UK-headquartered Vodafone Group Plc. said that it had agreed to buy 33 per cent stake in its Indian joint venture, Vodafone Essar, from the Ruias for around $5.5 billion (of which a part was in anticipated tax liability).

In a disclosure last month, Vodafone said that the deal involved a net payment of $3.32 billion (£2.07 billion) for 22 per cent stake in the Indian arm (held by two arms of a company promoted by the Ruias of Essar group), after withholding tax of $0.88 billion (£0.55 billion). This deal was completed in two tranches on June 1, 2011, and July 1, 2011.

The deal also involved a payment of $1.26 billion (£0.79 billion) for the remaining 11 per cent stake in Vodafone Essar (held by Essar) and the settlement of all shareholder claims. This payment is to be made by February 15, 2012. "It is expected that 1.35 per cent of the shares in Vodafone Essar will be transferred to an Indian investor to ensure Vodafone's continued compliance with the Indian foreign direct investment (FDI) rules," Vodafone had said last month.

This transaction would have left Vodafone with around 75.4 per cent stake in the Indian telecom venture, just marginally above the 74 per cent mark which is the maximum that a foreign investor can own in an Indian telecom firm as per the existing FDI norms. The balance will continue to be held by some local partners like Analjit Singh of Max India.

Vodafone needed to dilute this to comply with the current FDI norms. And this could have been through sale of shares to other Indian investors or to a financial investor, such as a private equity firm or a bank. The only other way to meet the local norms is a public issue.

Therefore, instead of Vodafone acquiring the stake from Essar and then diluting the stake, half of the remaining 11 per cent is now being acquired by Piramal Healthcare at the same valuation at which it was proposed to be bought by Vodafone. This will bring Vodafone's holding to around 70 per cent stake and in line with the FDI norms.

Interestingly, Vodafone is expected to go ahead with a public listing in India, irrespective of this transaction. Although this means it will have to comply with various regulatory norms of the stock market, it will still manage to control the firm with a majority stake. Moreover, it will get to raise fresh money, which can be used to invest in the domestic market.

According to a report by The Economic Times, Vodafone is in the process of relocating Colman Deegan, its group head for mergers and acquisitions, to its Indian headquarters in Mumbai to see through the public listing of its Indian operations.

Valuations

The combined Vodafone-Essar deal for 33 per cent valued the Indian JV firm around $14 billion (although the total cost for Vodafone is higher due to the provision for withholding tax). This was also the value of 100 per cent of the gross assets of Vodafone Essar (as of March 31, 2011), according to a disclosure by Vodafone.

The latest transaction has been struck at 17 per cent discount to the recent valuation of Vodafone Essar, as Piramal Healthcare is picking the stake in a deal that values Vodafone Essar at around $11.6 billion.

Although the latest deal values Vodafone Essar less than what it was in March, 2011, it doesn't mean that the Ruias are being shortchanged. This is because the Vodafone-Essar deal, which was two-tiered, had different corporate valuations. While the first leg of 22 per cent stake sale valued the company at $15 billion, the pending second leg was at a valuation of $11.6 billion.

Looking at valuations of peer companies, Idea Cellular has a market cap of $6.8 billion while India's most valued and largest cellular operator Bharti Airtel commands a valuation of $33.5 billion. If we consider valuations purely from an operational point of view or on a per-subscriber basis, the Piramal-Essar deal is marginally overvalued, compared to Idea Cellular, but is much cheaper, compared to the market leader Bharti Airtel, according to VCCircle estimates.

While Idea Cellular is valued at around $71.5 per subscriber, Piramal is buying into Vodafone Essar at a valuation of $82 per subscriber. Vodafone had struck the deal with Essar at $99 per subscriber. Bharti Airtel, incidentally, is valued at $151 per subscriber, if only its mobile subscribers are considered, and at $145 per subscriber, if the entire customer base is factored in.

However, final corporate valuations would factor in more financial indicators, including earnings, debt levels, etc. Vodafone had acquired 67 per cent (direct and indirect) stake in Hutchison Essar for $11.1 billion four years ago in the biggest inbound acquisition deal ever. That deal valued the company at around $16.6 billion.

Piramal's Game Plan

The cash-rich Ajay Piramal Group, which sold its core business of formulations to Abbott for $3.7 billion, has recently announced its formal entry into financial services business. In a related development, the public-listed pharmaceutical company Piramal Healthcare Ltd has also announced that its board has decided to buy the real estate equity fund management business, housed under Indiareit Fund, for a total deal value of Rs 225 crore or $50.3 million.

The first move is part of the group's business diversifications. In fact, Piramal's peers, the Singh brothers (formerly of Ranbaxy Laboratories) built a multi-billion-dollar financial services business – Religare Enterprises – after selling their pharma business to Daiichi Sankyo. Besides, India's leading industrial groups like Reliance Industries have also identified financial services as a growth area. RIL, for instance, has tied up with DE Shaw for the financial services foray.

Piramal Healthcare has also said that it is eyeing business opportunities in lending and fund management for infrastructure and allied sectors. According to one account, former SBI chairman AK Purwar is leading the company's foray into the sector. Purwar is already heading the group's healthcare-focused private equity firm India Venture Advisors. Two months ago, the company had appointed Bain Capital's Amit Chandra as an additional director on its board. As Piramal Healthcare diversifies its business, Chandra's inclusion will help the firm leverage his professional expertise in the domain of financial services.

In May this year, Piramal Healthcare stated that it had set up two non-banking financial services units, one each for lending and infrastructure. The group chief had also said that the firm would have two separate private equity wings – one for real estate through Indiareit and another that would make general PE investments.

Incidentally, Piramal Healthcare chief Ajay Piramal had said last week that the firm would look at investing both in pharma and non-pharma sectors. According to him, while insurance is not a preferred sector for investment in financial services segment, the company may look at minority stakes in top companies in the sector. "We may use some of the surplus funds to make opportunistic investments in top companies (insurers) where the risk is minimal, and our investments will be for short-to-medium term," Piramal was quoted as saying by DNA.