Reliance Infrastructure - Ghosts of the past:: Kotak Securities

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Reliance Infrastructure (RELI) 
Utilities 
Ghosts of the past. Securities and Exchange Board of India (SEBI) has restricted
Reliance Infrastructure (RELI) from participating in the secondary markets along with a
penal fine of Rs250 mn (to be borne by the directors), in settlement of the
investigations regarding utilization of funds raised through the foreign currency debt
markets and likely misrepresentation of investments in the annual reports. We note that
the current stock price already discounts the value of cash equivalents, though seek
further clarity on the status of the same, pending which we maintain our rating.
Cash and equivalents have been a contentious issue over the past few years
Deployment of cash and equivalents has been a contentious issue with RELI, with its liquid balance
sheet comprising Rs103 bn of cash (and equivalents) at the consolidated level. The bone of
contention has been the deployment of funds in inter-corporate deposits (Rs27.7 bn) and
redeemable preference shares (Rs35 bn). We note that of the ~Rs72 bn raised by RELI over the
past four years through equity issuance (Rs47 bn), NCDs (Rs8.5 bn) and ECBs (Rs16 bn),
substantial funds remain deployed in contentious investments such as inter-corporate deposits
(ICDs) and redeemable preference shares. The current consent order still leaves questions on
utilization of the cash unanswered; only suggesting that prima-facie investigations suggest misrepresentation of investments in the annual report.

CMP already discounts value of cash equivalents, though current order could weigh on sentiment
We note that as of March 2010, RELI had cash and equivalents of Rs103 bn (Rs386/share) and the
CMP of Rs798/share already implies limited value for the contentious ICDs and preference shares,
which together contribute ~Rs234/share. RELI’s cash and cash equivalent of Rs103 bn as of March
2010 includes increased exposure to ICDs at Rs27.7 bn (Rs15.8 bn as of March 2009) that could
have rattled investor sentiment in the recent past. Redeployment of cash and cash equivalents into
operating business will likely improve the return profile of RELI and address concerns on end-use of
cash.

Consent order buries the hatchet on ongoing investigations
SEBI has accepted the application of Reliance Infrastructure, Reliance Natural Resources and key
management personnel, and has issued a consent order in the matter of (1) utilization of funds
raised through external commercial borrowings and foreign currency convertible bonds and their
alleged dealing in the shares of Reliance Communications Ltd, and (2) misrepresentation of
investments in the annual reports of the three years from FY2007 to FY2009.


According to the SEBI order, the companies concerned will (1) have to pay a charge of
Rs250 mn each, to be borne by the key management personnel in their personal capacity,
and (2) the companies will be restricted from participating in the secondary markets (other
than mutual fund) for a period of two years (up to December 2012), while the key
management personnel will be barred for a period of one year (up to December 2011). The
participation in capital markets does not apply to primary issuances, buy-backs and open
offers.
Target price includes Rs234/share for ICDs/preference shares
Our SOTP-based target price comprises—(1) Rs232/share from the existing generation,
transmission and distribution businesses, (2) Rs141/share for the EPC business, (3)
Rs435/share for 38% stake in Reliance Power valued at 20% discount to our target price, (4)
Rs51/share as the equity value of the five BOT road projects under-construction, (5)
Rs43/share for equity investment made in the various infrastructure projects, and (6) cash
and investible surplus in books of Rs156/share.
We have revised our EPS estimate for FY2011E to Rs50/share (previously Rs54/share) and for
FY2012E to Rs62/share (previously Rs69/share) to account for dilution from conversion of
22.55 mn warrants in Jan 2011 (discussed in detail later), and will revisit our rating and
target price once better clarity emerges on end-utilization of funds.


Conversion of warrants
AAA Project Ventures Private Ltd (AAAPVL), one of the promoters of RELI, converted 23.3
mn warrants into equal number of equity shares at Rs928.89/share. The warrants were
issued in July 2009 and first tranche of 19.6 mn warrants were converted in March 2010.
The total cash infusion was ~Rs16 bn (balance Rs5.4 bn was paid upfront upon issuance).
We note the issuance dilutes our EPS estimate for FY2011E to Rs50/share (previously
Rs54/share) and for FY2012E to Rs62/share (previously Rs69/share)