IVRCL Group is merging two wholly owned subsidiaries of its flagship listed company IVRCL Infrastructure-- IVR Strategic Resources & Services (IVRSRS) and IVRCL Water Resources (IVRWR)---with its real estate and urban development firm IVR Prime Urban.

The merger, in effect, will separate the business focus of the two listed companies. IVRCL Infra will focus on engineering, procurement and construction (EPC) contracts while IVR Prime Urban will handle build-operate-transfer (BOT) projects.

The deal is interesting as it would amount to IVRCL Infra getting 59 million new shares of IVR Prime translating into an equity dilution of close to 48%. What’s even more peculiar is the valuation attached to the deal. At current market price of Rs 152 (it shot up 10% today) of IVR Prime Urban, it would amount to a deal worth Rs 900 crore. Assuming that the current price would correct to reflect the sharp equity dilution and halves from this level, it would still be Rs 450 crore (close to a $100 million) merger.

The logical question is whether such a valuation is justified for the two firms: IVRSRS and IVRWR. As per disclosures made by IVRCL Infra for its subsidiaries for year ended March’09, IVRSRS and IVRWR did not have any revenues and clocked net loss of Rs 36 lakh together. But, the two firms had total reserves of Rs 210 crore and are said to have road and desalination and sewerage BOT contracts worth Rs 1,800 crore.

Incidentally, IVRCL Infra had also outstanding loans and advances worth Rs 70 crore in the two subsidiaries as of March end. According to the announcement of the merger, the valuation report for the merger swap ratio has been prepared by SSPA & Co Chartered Accountants (Mumbai) and a fairness opinion of Enam Securities.

Promoters E Sudhir Reddy already holds a very small portion of both the listed companies. In IVRCL Infra, promoter holding is just 9.7% and the company is large owned by FIIs who have over 50% of the equity of the firm. In IVR Prime Urban, which went public two years ago, promoter family owns 14.6%. After the merger, IVRCL Infra’s holding in IVR Prime will shoot up from 62% to 80.46%. Promoter family holding in IVR Prime post the deal will come down to 7.6%.

"This merger will be fundamental to building scale and profitability. It will allow us to collaborate two different but group companies under one roof with expanded net worth for larger projects. IVRCL as a brand will also be investing its pre-qualification and execution skills in this merger, which would place us in the competitive positioning," IVRCL group chairman  E Sudhir Reddy said in a statement.

More importantly this would allow the group to raise more debt. IVRCL Prime has a large chunk of cash and land assets which can be leveraged to borrow money as well as raise equity. At the same time, IVR Prime will gain by allowing it to bid for more complex and bigger infrastructure contracts and will also have access to toll revenues of about Rs 600 crore a year, although a large part of this will be used to repay debt over three years. After the merger process is completed IVR Prime is likely to raise equity of Rs 1,500-1,800 crore in phases to execute BOT projects, as per previous announcements by the management.

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