Ril-rpl Valuationreport
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I visited the Reliance Industries Ltd office at Maker Chambers IV, Nariman Point, Mumbai 400021. Being a shareholder, I was allowed to inspect the documents related to the merger. One of the documents was the Valuation Report given jointly by Ernst & Young and Morgan Stanley. Obviously I was not given a photo copy which I could keep for myself, but have been promised a copy ‘after all the merger formalities are over’. This was because I could convince the officers that the sole purpose is to study the merger from an academic point of view being the student of the “Mergers & Acquisition” course of JBIMS and Times group. I did inspect the Valuation Report and copied some parts of it which I felt were most relevant to our study (It would have been too much to copy the whole document of ten pages , though I was not prevented from doing so). I have attempted to reconstruct the said Valuation Report as it was, including the matter on each page. Obviously this is not a complete report. Those points that I copied are reproduced exactly as they were in the Report. The other not so important stuff has been left blank. My comments/remarks within the Report are in italics in a different colour for your ease.
I noted a few points that I think are worth mentioning: 1. The Report is of just ten pages and not bulky as I had expected it to be. 2. For most part the report talks of the about the companies, the merger and the different methods of valuation in general. 3. The report does not give the detailed calculations for each method. It only gives the final exchange ratio.
Hopefully my efforts will be of consequence and this will help you increase your knowledge about the Valuation Reports. My special thanks to Prof. S. Fakih for encouraging me to undertake this exercise. Thanks. Kiran Chheda
(Printed on plain paper) Ernst and Young
Morgan Stanley
(Address)
(Address)
March 2, 2009 To, Board of Directors Reliance Industries Limited (Address)
Reliance Petroleum Limited (Address)
Subject: Recommendation of Equity shares exchange ratio.
Scope and Purpose: Reliance Industries Limited (A small paragraph on the background of the company) Reliance Petroleum Limited (A small paragraph on the background of the company) (A small paragraph briefly explaining details of the proposed merger of Reliance Petroleum into Reliance Industries Ltd) Ernst and Young and Morgan Stanley have been given an assignment to jointly submit report based on financial information as at 31st December, 2008. We have conducted a valuation exercise as per the assignment given to us ……….. (A brief explanation of the scope of their assignment, the inclusions and exclusion, and the assumptions that they made)
Page 1
This report is our deliverable. This is a subject to scope, assumptions, conclusions, limitations, disclaimers detailed herein. (The usual disclaimers as normally given by Auditors are given here)
Sources of information: Audited stand alone and consolidated financial statements of Reliance Industries Limited of 31March2005, 31March2006, 31March2007 and 31March2008 and provisional results for 9 months ended 31December2008. Audited stand alone financial statements of Reliance Petroleum Limited of 31March2007 and 31March2008 and provisional results for 9 months ended 31December2008. We have obtained explanations and information considered necessary for our exercise and the draft report was submitted to companies’ representatives for any factual inaccuracies.
Page 2
SCOPE, LIMITATIONS, ASSUMPTIONS, QUALIFICATIONS, EXCLUSIONS AND DISCLAIMER:
(1) The purpose of valuation agreed per the terms of our engagement. (2) The date of this report and (3) …… are based on the Balance Sheets of companies as at 31December2008. (A Brief explanation given for each bullet point) A valuation of this nature is necessarily based on prevailing stock market, financial, economic and other conditions in general and industry trends in particular as well as the information made available to us as of date. For the events occurring after the date of this report, we have no obligation to update, revise or reaffirm the report. The recommendations given are based upon the information given by the company and other sources and such recommendation is in the nature of non- binding advice. Our recommendation is not to be used for advising anybody to take buy/sell decision. We have not used forward looking projections for this engagement. We have assumed and relied upon, without independent verification, the accuracy and completeness of the information provided by the company or publicly available and formed the substantial basis of this report. We have not carried out due diligence or audit of the companies. We are not legal tax or regulatory advisors. We do not express any form of assurance that the financial information provided by the company is accurate. The respective management of companies have indicated to us that they have understood that any omissions, inaccuracies, misstatements may materially affect the valuation analysis/results. We assume no responsibility for any information furnished by the company. This report does not address the relative merits of the transaction as compared to any alternative business or other transaction. We are not involved in structuring, planning or negotiating the transaction.
Page 3
The fee for the report is not contingent upon the results reported. In the respect of Morgan Stanley, it is providing this report to you at your request and will receive a fee for its services which is contingent upon the delivery of this report. Morgan Stanley may have provided with other services. We owe responsibility only to the directors of the companies and nobody else. We do not accept any liability to any third party in relation to this report and our report is conditional upon an express indemnity from the company in our favour holding us harmless for any cost, damage expense etc. (Here various other disclaimers have been enumerated)
Page 4
Background of Reliance Industries Limited and Reliance Petroleum Limited:
Reliance Industries Limited: (A brief background of the company have been given here) (Share holding details have been given here)
Reliance Petroleum Limited: (A brief background of the company have been given here) (Share holding details have been given here)
Page 5
APPROACH - BASIS OF AMALGAMATION There are several commonly used and accepted methods for determining the value of equity shares of a company which have been considered in the present case to the extent relevant and applicable including: •
Net Asset Value method (NAV)
•
Comparable Company’s Multiple method (CCM)
•
Historical and Current market price method
•
Discounted Cash Flow method (DCF)
It should be understood that valuation of company or its assets is inherently imprecise and is subject to uncertainties and contingencies, all of which are difficult to predict and beyond our control. We have made various assumptions ……….. (details again) of business, economic and financial conditions. Valuations will fluctuate with changes in market conditions, financial conditions of company and other various factors.
Page 6
Our choice of methodology of valuation has been arrived at using usual and conventional methodologies accepted for transactions of a similar nature and our reasonable judgment and in an independent and bonafide manner based on our previous experience of assignments of similar nature.
Net Asset Value methodology (Explanation of methodology given here) This methodology is mainly used in firms that are liquidating or to be liquidated. This methodology does not meet the “going concern” criteria. Amalgamations are based on assumption of going concern and hence this methodology is of limited relevance. We have computed Net Asset Values of Reliance Industries Limited and Reliance Petroleum Limited shares on the basis of their Balance Sheets as on 31December2008 with suitable adjustments.
Comparable Company’s Multiple Methodology (Explanation of methodology given here) Value of equity shares is arrived at by using multiples derived from valuation of comparable companies/transactions as manifest through the Stock Exchange valuations of listed companies and transaction valuation. The assumption is that market valuations take place between informed buyers and sellers and factors all information relevant to valuation. We have used EV TO EBITDA valuation multiple of comparable listed companies and not used comparable transaction analysis as this is not a change of control transaction and because this transaction is in the form of share to share exchange, absolutes multiples paid in comparable transactions are not relevant.
Page 7
Historical and Current Price Methodology (Explanation of methodology given here) Supreme Court in the case of CWT vs. Mahadas Jalan (86 ITR 621) has laid down certain principles of valuations of shares under Wealth Tax Act. “Where shares in a company are traded on a Stock Exchange and there is no abnormalities affecting the market price, the market price is the true value. There quotations generally reflect the value of the assets having regard to several factors which are taken into consideration by the buyers and sellers”
The volume weighted average share price of Reliance Industries Limited and of Reliance Petroleum Limited over an appropriate period has been considered for determining the value of Reliance Industries Limited and Reliance Petroleum Limited.
Discounted Cash Flow Method (Explanation of methodology given here) (1) Estimating the future free cash flow. (2) Appropriate discount rate to be applied to cash flow i.e. cost of capital. (3) To the value so obtained, the amount of loans is adjusted to arrive at the total value available to equity shareholders. The ‘per share’ value is then calculated.
Page 8
BASIS OF AMALGAMATION It is necessary to give appropriate weightings to the values arrived under each method. Reliance Industries Limited: We have used the Historical and current market price methodology. We have also used the SOTP (Sum of the parts) method by valuing the operations in different business segments by using Comparable Company’s Multiple methodology. We have given a higher weight to value of Reliance Industries Limited so computed and assigned lower weight to Net Asset Value method of valuation. Reliance Petroleum Limited: Since it is listed, we used Historical and Current Market Price methodology and Comparable Company’s Multiple methodology and given higher weight to the same. The Exchange ratio is arrived at on the basis of relative valuation of Reliance Industries Limited and Reliance Petroleum Limited as calculated by various methodologies given above. In the ultimate analysis, valuation will have to be tempered by exercise of judicious discretion and judgment taking into account all relevant factors. There will be always several factors e.g.: quality and integrity of management, present and prospective competition, yield on comparable securities, market sentiment, etc. which are not evident on the face of it but will strongly influence the worth of a share. Viscount Simon Bd in Gold Coast Selection Trust Ltd vs. Humphrey reported in 30 TC 209 (House of Lords) and quoted with the approval by Supreme Court of India in the case reported in 176 ITR 41 as under: “If the assets takes the form of fully paid shares, the valuation will take into account not only the terms of the agreement but a number of factors such as prospective yield, marketability, general outlook for the type of business of the company which has allotted the shares, the results of a contemporary prospectus offering similar shares for subscription, the capital position of the company, etc.
Page 9
There may also be an element of value in the fact that the holding or the shares gives control of the company. If the asset is difficult to value, but is nonetheless of money value, the best possible valuation must be made, Valuation is an art, not an exact science. Mathematical certainty is not demanded, nor indeed is it possible” In the light of the above and on a consideration of all the relevant factors and circumstance as discussed and outlined herein above, we consider that the exchange ratio of the equity shares for the merger of Reliance Petroleum Limited into Reliance industries Limited should be in ratio of 1 (one) equity share of Reliance Industries Limited of Rs 10 each fully paid up for every 16 (sixteen) equity shares of Reliance Petroleum Limited of Rs 10 each fully paid up.
Sd/-
sd/-
Ernst & Young
Morgan Stanley
Page 10
I noted a few points that I think are worth mentioning: 1. The Report is of just ten pages and not bulky as I had expected it to be. 2. For most part the report talks of the about the companies, the merger and the different methods of valuation in general. 3. The report does not give the detailed calculations for each method. It only gives the final exchange ratio.
Hopefully my efforts will be of consequence and this will help you increase your knowledge about the Valuation Reports. My special thanks to Prof. S. Fakih for encouraging me to undertake this exercise. Thanks. Kiran Chheda
(Printed on plain paper) Ernst and Young
Morgan Stanley
(Address)
(Address)
March 2, 2009 To, Board of Directors Reliance Industries Limited (Address)
Reliance Petroleum Limited (Address)
Subject: Recommendation of Equity shares exchange ratio.
Scope and Purpose: Reliance Industries Limited (A small paragraph on the background of the company) Reliance Petroleum Limited (A small paragraph on the background of the company) (A small paragraph briefly explaining details of the proposed merger of Reliance Petroleum into Reliance Industries Ltd) Ernst and Young and Morgan Stanley have been given an assignment to jointly submit report based on financial information as at 31st December, 2008. We have conducted a valuation exercise as per the assignment given to us ……….. (A brief explanation of the scope of their assignment, the inclusions and exclusion, and the assumptions that they made)
Page 1
This report is our deliverable. This is a subject to scope, assumptions, conclusions, limitations, disclaimers detailed herein. (The usual disclaimers as normally given by Auditors are given here)
Sources of information: Audited stand alone and consolidated financial statements of Reliance Industries Limited of 31March2005, 31March2006, 31March2007 and 31March2008 and provisional results for 9 months ended 31December2008. Audited stand alone financial statements of Reliance Petroleum Limited of 31March2007 and 31March2008 and provisional results for 9 months ended 31December2008. We have obtained explanations and information considered necessary for our exercise and the draft report was submitted to companies’ representatives for any factual inaccuracies.
Page 2
SCOPE, LIMITATIONS, ASSUMPTIONS, QUALIFICATIONS, EXCLUSIONS AND DISCLAIMER:
(1) The purpose of valuation agreed per the terms of our engagement. (2) The date of this report and (3) …… are based on the Balance Sheets of companies as at 31December2008. (A Brief explanation given for each bullet point) A valuation of this nature is necessarily based on prevailing stock market, financial, economic and other conditions in general and industry trends in particular as well as the information made available to us as of date. For the events occurring after the date of this report, we have no obligation to update, revise or reaffirm the report. The recommendations given are based upon the information given by the company and other sources and such recommendation is in the nature of non- binding advice. Our recommendation is not to be used for advising anybody to take buy/sell decision. We have not used forward looking projections for this engagement. We have assumed and relied upon, without independent verification, the accuracy and completeness of the information provided by the company or publicly available and formed the substantial basis of this report. We have not carried out due diligence or audit of the companies. We are not legal tax or regulatory advisors. We do not express any form of assurance that the financial information provided by the company is accurate. The respective management of companies have indicated to us that they have understood that any omissions, inaccuracies, misstatements may materially affect the valuation analysis/results. We assume no responsibility for any information furnished by the company. This report does not address the relative merits of the transaction as compared to any alternative business or other transaction. We are not involved in structuring, planning or negotiating the transaction.
Page 3
The fee for the report is not contingent upon the results reported. In the respect of Morgan Stanley, it is providing this report to you at your request and will receive a fee for its services which is contingent upon the delivery of this report. Morgan Stanley may have provided with other services. We owe responsibility only to the directors of the companies and nobody else. We do not accept any liability to any third party in relation to this report and our report is conditional upon an express indemnity from the company in our favour holding us harmless for any cost, damage expense etc. (Here various other disclaimers have been enumerated)
Page 4
Background of Reliance Industries Limited and Reliance Petroleum Limited:
Reliance Industries Limited: (A brief background of the company have been given here) (Share holding details have been given here)
Reliance Petroleum Limited: (A brief background of the company have been given here) (Share holding details have been given here)
Page 5
APPROACH - BASIS OF AMALGAMATION There are several commonly used and accepted methods for determining the value of equity shares of a company which have been considered in the present case to the extent relevant and applicable including: •
Net Asset Value method (NAV)
•
Comparable Company’s Multiple method (CCM)
•
Historical and Current market price method
•
Discounted Cash Flow method (DCF)
It should be understood that valuation of company or its assets is inherently imprecise and is subject to uncertainties and contingencies, all of which are difficult to predict and beyond our control. We have made various assumptions ……….. (details again) of business, economic and financial conditions. Valuations will fluctuate with changes in market conditions, financial conditions of company and other various factors.
Page 6
Our choice of methodology of valuation has been arrived at using usual and conventional methodologies accepted for transactions of a similar nature and our reasonable judgment and in an independent and bonafide manner based on our previous experience of assignments of similar nature.
Net Asset Value methodology (Explanation of methodology given here) This methodology is mainly used in firms that are liquidating or to be liquidated. This methodology does not meet the “going concern” criteria. Amalgamations are based on assumption of going concern and hence this methodology is of limited relevance. We have computed Net Asset Values of Reliance Industries Limited and Reliance Petroleum Limited shares on the basis of their Balance Sheets as on 31December2008 with suitable adjustments.
Comparable Company’s Multiple Methodology (Explanation of methodology given here) Value of equity shares is arrived at by using multiples derived from valuation of comparable companies/transactions as manifest through the Stock Exchange valuations of listed companies and transaction valuation. The assumption is that market valuations take place between informed buyers and sellers and factors all information relevant to valuation. We have used EV TO EBITDA valuation multiple of comparable listed companies and not used comparable transaction analysis as this is not a change of control transaction and because this transaction is in the form of share to share exchange, absolutes multiples paid in comparable transactions are not relevant.
Page 7
Historical and Current Price Methodology (Explanation of methodology given here) Supreme Court in the case of CWT vs. Mahadas Jalan (86 ITR 621) has laid down certain principles of valuations of shares under Wealth Tax Act. “Where shares in a company are traded on a Stock Exchange and there is no abnormalities affecting the market price, the market price is the true value. There quotations generally reflect the value of the assets having regard to several factors which are taken into consideration by the buyers and sellers”
The volume weighted average share price of Reliance Industries Limited and of Reliance Petroleum Limited over an appropriate period has been considered for determining the value of Reliance Industries Limited and Reliance Petroleum Limited.
Discounted Cash Flow Method (Explanation of methodology given here) (1) Estimating the future free cash flow. (2) Appropriate discount rate to be applied to cash flow i.e. cost of capital. (3) To the value so obtained, the amount of loans is adjusted to arrive at the total value available to equity shareholders. The ‘per share’ value is then calculated.
Page 8
BASIS OF AMALGAMATION It is necessary to give appropriate weightings to the values arrived under each method. Reliance Industries Limited: We have used the Historical and current market price methodology. We have also used the SOTP (Sum of the parts) method by valuing the operations in different business segments by using Comparable Company’s Multiple methodology. We have given a higher weight to value of Reliance Industries Limited so computed and assigned lower weight to Net Asset Value method of valuation. Reliance Petroleum Limited: Since it is listed, we used Historical and Current Market Price methodology and Comparable Company’s Multiple methodology and given higher weight to the same. The Exchange ratio is arrived at on the basis of relative valuation of Reliance Industries Limited and Reliance Petroleum Limited as calculated by various methodologies given above. In the ultimate analysis, valuation will have to be tempered by exercise of judicious discretion and judgment taking into account all relevant factors. There will be always several factors e.g.: quality and integrity of management, present and prospective competition, yield on comparable securities, market sentiment, etc. which are not evident on the face of it but will strongly influence the worth of a share. Viscount Simon Bd in Gold Coast Selection Trust Ltd vs. Humphrey reported in 30 TC 209 (House of Lords) and quoted with the approval by Supreme Court of India in the case reported in 176 ITR 41 as under: “If the assets takes the form of fully paid shares, the valuation will take into account not only the terms of the agreement but a number of factors such as prospective yield, marketability, general outlook for the type of business of the company which has allotted the shares, the results of a contemporary prospectus offering similar shares for subscription, the capital position of the company, etc.
Page 9
There may also be an element of value in the fact that the holding or the shares gives control of the company. If the asset is difficult to value, but is nonetheless of money value, the best possible valuation must be made, Valuation is an art, not an exact science. Mathematical certainty is not demanded, nor indeed is it possible” In the light of the above and on a consideration of all the relevant factors and circumstance as discussed and outlined herein above, we consider that the exchange ratio of the equity shares for the merger of Reliance Petroleum Limited into Reliance industries Limited should be in ratio of 1 (one) equity share of Reliance Industries Limited of Rs 10 each fully paid up for every 16 (sixteen) equity shares of Reliance Petroleum Limited of Rs 10 each fully paid up.
Sd/-
sd/-
Ernst & Young
Morgan Stanley
Page 10
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