Business Standard

VAL a headache for Vedanta Resources

Firm's valuation and sale to Sesa Sterlite has irked investors analysts indicate Sesa Sterlite should be receiving money in return to buy VAL

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If Vedanta scrapped its 2008-initiated ambitious restructuring based on business verticals, it was primarily due to two reasons: the valuation of Africa’s (KCM) and a slowdown that had begun to plague the economy. Four years later, the metals and mining company is back with restructuring, this time, making one diversified resources company, Sesa Sterlite. However, Vedanta Aluminium, or VAL, could turn out to be the new KCM.

Plc, the London-headquartered parent company, has pegged the equity value (100 per cent) of at Rs 2,332 crore ($473 million). Based on this, it will be selling its 70.5 per cent at $300 million to Sesa Sterlite, the new operating company set to emerge after the restructuring is complete. Sterlite Industries, Vedanta’s Indian subsidiary, already holds 29.5 per cent in VAL. This means that Sesa Sterlite, after the restructuring, will own 100 per cent of VAL. But at what cost?

Tarun Jain, director (finance), said VAL has been valued at $473 million, or, Rs 2,332 crore. “Which means Vedanta Resources’ 70.5 per cent stake is valued at around $300 million,” he told Business Standard. “This was invested six years ago. Now the company is exiting its investment at cost, or the book value.”

DEBT MIX
How the debt mix has changed: Sterlite's debt exposure in VAL has increased while that of Vedanta Resources has fallen by half  
  3QFY12
(Rs cr)
2QFY12
(Rs cr)
QoQ 
(In %)
EQUITY
Sterlite 563 563 0
Vedanta 1,391 1,391 0
External 0 0 0
Total Equity (A) 1,954 1,954 0
QUASI EQUITY/DEBT
Sterlite 9,612 8,939 8
Vedanta 2,299 4,586 -50
External 15,653 15,603 0
Total Quasi Equity/Debt (B) 27,564 29,128 -5
Total funding (A+B) 29,518 31,082 -5
Source: Sterlite, BofAML Research

Jain said Vedanta Resources has, for six years, put in equity, raised loans, built the plant and is now exiting at $300 million valuation. “I don't think this is unfair,” he said, adding that the plant was coming this cheap to because of the issues it had been embroiled in for the past few years.

STERLITE IS OVERPAYING TO GET VAL
Analysts say Vedanta Plc should have paid $3 billion for exiting VAL instead of getting 72 
million shares in Sesa Goa                                                                                          ($ million)
Cost of investment
Cancelation of ICD 2,122
Outstanding Debt 4,019
Initial equity investment 408
Total cost of project 6,550
Value of expected future cash flows 1,781
Value erosion 4,769
Vedanta Plc's share in value erosion 3,362
Vedanta Plc's initial contribution 
in equity
288
Net share of VED in impairmenst
of assets
3,074
VED is Vedanta Plc                                                                              Source: Motilal Oswal Securities Limited

The company hasn’t been able to mine bauxite from the Niyamgiri hills as promised by the Orissa government, because of the environment ministry’s orders. The alumina refinery expansion to five million tonnes is also on hold. Jain said the company had the permission to build a one-million-tonne refinery and it thought it did not need permission for its expansion to five million tonnes. “It turns out we did need further permissions,” he said. “Therefore, it is a technical issue. We have sought the permission to expand.”

The plant is currently running at 30 per cent capacity, and is suffering from cash loss. As per the project cost, VAL was expected to produce aluminium at a cost of around $1,200 per tonne. However, non-availability of captive bauxite has increased the cost of production to around $2,000 per tonne. The aluminium prices of the London Metal Exchange have been hovering around $2,100 per tonne for the most part of the current fiscal.

It is not only $300 million that Sesa Sterlite will pay to get VAL under its fold. Apart from the loan provided by Sterlite Industries to VAL (worth Rs 9,612 crore), the latter has other debt worth about $4 billion. Buying out VAL means the $4-billion debt will now also be transferred to the new company, Sesa Sterlite, while the debt provided by Sterlite will stand cancelled. Jain, though, justifies the deal saying, “Sesa Sterlite is buying 70.5 per cent at $3 billion and becoming the 100 per cent owner of VAL when the cost of its asset is $10 billion.”

Further, “we don't expect the shareholders in London to protest this move”, said Jain. “The advantage of this move is that everybody is saying that the company isn’t doing good and is mired in troubles, so let it go.”

This won’t be surprising given that VAL reported a loss of Rs 2,346 crore for trailing 12 months ending December 2011, and has a huge debt to service. What’s worse is that the situation is unlikely to change anytime soon at least till its bauxite mining operations get a clearance. “We could have sold the asset after all the bauxite mining and expansion related issues were solved,” he said. “But who would sell this asset at $300 million then? It is being sold so cheap because of all these issues?”

He goes on to justify the deal with the 2008 episode when investors had turned down the restructuring process. During the restructuring process that year, Vedanta had planned to make three major business verticals based on the base metals the companies produced. Aluminum business was housed in one company, copper in another and iron ore in the third. Under this process, KCM of Zambia were to be merged with the other Indian copper business of the group.

The company had valued the KCM business at $2 billion. It was this valuation that did not cut the ice with investors at that point in time. The investors were of the opinion that the company has valued KCM too high. “In hindsight,” Jain said, “now the investors think they should have agreed to the valuation as KCM is not a $7-8 billion company.”

It is also because of these issues that KCM has been kept of the business simplification process.

But then, for VAL in its current loss-making form and no access to bauxite mines, is just another piece of machinery. Which is why certain sections of the investors are demanding that Vedanta subsidise the loan (charge no interest) it has extended to VAL. Most sections of the analysts community are also miffed by valuation assigned to VAL.

In a note dated February 26, Abhijeet Naik and Nitij Mangal of CLSA, wrote, “We believe VAL deserves a negative equity value, but think it was very unlikely management would have taken such a pessimistic view. $473 million equity value for VAL is just 2.4 per cent of Sesa’s new share count and is not too unfavourable. But, we would have been happier with zero value.”

Jigar Mistry and Anoop Fernandes of HSBC Securities and Capital Markets, too, believe the VAL’s valuations may become a contentious issue.

Kotak Institutional Equities, too, said, “Assigning equity value to VAL is a surprise, in our view, as shareholder funds of VAL are eroded. VAL is carrying accumulated losses of $400 million and is unlikely to generate profits for three-five years.”

Kotak further wrote that the shareholders of Vedanta Resources have got a good deal with this valuation of VAL. It said, “We value VAL at EV (enterprise value; equity plus debt) of Rs 9,000 crore, lower than debt transfer of Rs 22,000 crore in this transaction. This results in negative equity value of Rs 13,100 crore, the cost of which will be borne by Sterlite and Sesa shareholders. Vedanta Resources shareholders (and promoters) have got a nice deal in the process. Equity value of Rs 2,332 crore assigned for VAL is based on blue sky assumptions of the start of captive bauxite mining after three years and restart of alumina refinery and production ramp-up from a new aluminium smelter.”

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