Metals-to-oil conglomerate Vedanta's interest in buying Bharat Petroleum Corp Ltd (BPCL) is a natural progression towards downstream integration that will hedge its margins but there are doubts over its promoters' ability to raise finances for such acquisition, analysts said.
While BPCL dividends could easily cover the cost of debt of any acquisition, "the question we have is how would Vedanta Ltd secure funding, given the worries on leverage at Vedanta and the parent?," JP Morgan said in a report.
Buying a 75 per cent stake in BPCL (52.98 per cent of government and 22 per cent through open offer) would cost Vedanta Rs 64,200-97,600 crore depending on the price (Rs 395 to 600 per share).
"Assuming that Vedanta sells down the equity stake (BPCL has) in (city gas firm) Indraprastha Gas Ltd and (LNG importer) Petronet LNG Ltd, the net cost of the acquisition would be Rs 52,200 crore to Rs 85,500 crore. At 8 per cent interest cost, the interest cost would range from Rs 4,100 crore to Rs 6,800 crore.
"On our conservative FY23 standalone earnings estimates, even at a 75 per cent dividend payout, this would service the debt cost even assuming the dividend income is taxed at 25 per cent," it said.
This does not take into account any additional divestments such as Mozambique LNG stake sale, additional profits if BPCL acquires management control of Bina refinery and any further asset sales.
"However the question is how would Vedanta secure any funding?" JP Morgan said. "While Vedanta on a consolidated basis is not very levered, the key question has been the leverage at the unlisted parent and inter-company loans to the parent (currently at USD 1 billion). In this context, we struggle to see how Vedanta secured funding."
But an SPV structure which is ring-fenced and services the debt from dividends from BPCL could be possible, it said.
PTI on Wednesday reported that a special purpose vehicle (SPV) of BSE-listed Vedanta Ltd and its London-based parent Vedanta Resources had earlier this week put a preliminary expression of interest (EoI) for buying government stake in BPCL.
Vedanta owns oilfields in Rajasthan and BPCL would give it refineries that could process and turn the crude oil it produces into value-added fuels such as petrol and diesel. Adding India's second-largest fuel retailer is a natural downstream integration as it would hedge risks associated with the upstream business such as volatile prices, analysts said.
"While a ring-fenced SPV structure, where the debt is secured by the BPCL stake and serviced by dividends from the company, is possible, we would highlight that Vedanta primarily has interests in operating upstream assets, and not downstream," JP Morgan said.
Vedanta, however, has a track record of successfully creating value out of state-owned assets (Hindustan Zinc, Balco) and it could bring in other partners in any SPV, which would reduce the risk, it said.
It went on to add that an EoI does not automatically translate into an actual bid and Vedanta could very well drop off in the financial round.
Vedanta, JP Morgan said, has no experience in running refining and fuel marketing, but has been able to create significant value from state-owned companies.
Also, BPCL's FY23 profits would not reflect steady-state profits and would be below mid-cycle profitability, it added.
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