Why RIL should consider spinning off more of its businesses

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The carving out of Jio Financial Services (JFSL) from Reliance Industries has brought windfall gains for all investors, including, of course, the promoters. The market price of the erstwhile Reliance Strategic Investments Limited, which has been renamed to JFSL as a standalone company, was calculated to be 261.85 a share whereas the notional “acquisition cost” was estimated to be around 133 a share.

The market value of the new company, which is currently unlisted, is estimated to be around 1.67 trillion. RIL spun off the subsidiary by issuing a share of JFSL for every RIL share held by investors on Wednesday. This means JFSL has a total outstanding equity of 635.3 crore shares and also holds approximately 6% of RIL.

A special pre-trading session was held on Thursday to discover the market price of JFSL. The RIL share price dropped by 261.85 in that session. Since nothing else changed for RIL, this amount was considered to be the derived market price of the new company, which is expected to be listed for trading soon.

Given that RIL is a behemoth and changes to its market cap will affect the major indices, the NSE and BSE will make special adjustments until JFSL is actually listed for trading. Incidentally, the price of RIL recovered considerably during the normal trading session and in the next trading session.

There are several ways to value an unlisted business – in this case, an unlisted subsidiary of RIL. Broadly, financial analysts will look at revenue, profit, growth rates and comparable numbers of listed peers to arrive at a valuation.

Apart from differences in valuation methods, there is a subjective element to this exercise. Analysts and investors with different mindsets will assign different weights and multiples to the numbers on the same balance sheet. This, in fact, is why you will find buyers and sellers for a stock at any given price. The buyers think the company is worth more while the sellers believe it’s time to cash out.

RIL’s internal assessment is that JFSL is worth around 4.68% of RIL’s total market cap, which works out to 133 a share. Brokerages and financial analysts applying their own formulae came to assess JFSL valuations at somewhere between 160-190 a share. The market, however, seems to have assigned a valuation way above even the most optimistic evaluations.

The positive difference is not surprising. Financial analysts often speak of “holding company discounts”, and listed companies are always valued higher than unlisted ones. This is partly due to liquidity and to the relative ease of understanding and evaluating a standalone listed business versus an unlisted subsidiary. In an unlisted subsidiary, analysts carry out “sum-of-the-parts” analysis to try to figure out how much of the market value of the holding company is derived from that specific subsidiary.

Such a subsidiary is unavailable for trading. Moreover, it is more difficult to delve into the balance sheet of an unlisted subsidiary and figure out revenue, debt, profitability, etc. The information available is much less detailed. If a company is listed, investors can pick up information from mandatory disclosures and trade the shares as they please, which means the price is usually likely to be higher in most cases.

RIL has multiple businesses. It is an energy and petrochemical giant. It is also the biggest telecom services player in the world’s second-largest market. It has a large retail presence and a big footprint in digital markets.

JFSL is a financial player in the NBFC and credit segments. It plans to expand into insurance, digital payments and asset management. But there is no obvious synergy between JFSL and most of the other RIL businesses, though JFSL could leverage those Reliance and Jio channels to cross-sell financial services and products to retail customers. RIL has 400 million mobile users, 18,000 Reliance Retail stores (with annual footfalls of 800 million), and works with around two million kirana stores. It will be much easier for investors to assess exactly what JFSL is doing as a standalone business.

Historically, a spin-off followed by listing has generally resulted in a surge in valuations and a win-win for investors. Consider the case of L&T Group, which has derived immense value from listing its infotech and financial services arms.

RIL may well consider spinning off the Jio digital empire at some stage. A listing of Jio Infocomm and of the Reliance Retail business could result in a big jump in market value for those businesses compared to the notional value they are assigned as part of RIL.

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