Sesa Goa – Sterlite proposed merger ::ICICI Securities (pdf link)

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H u g e   d e b t   b u r d e n   o n   p r o p o s e d   n e w  e n t i t y…
Sterlite Industries, Sesa Goa and Vedanta Resources Plc have
recommended the merger of Sesa Goa and Sterlite and the proposed
consolidation and simplification of the group structure. According to the
transaction, initially there would be a merger of Sterlite into Sesa Goa,
wherein three Sesa Goa shares would be issued for every five existing
Sterlite shares. Then, Vedanta Aluminium (VAL) and Madras Aluminium
(Malco) will be 100% consolidated into Sesa Sterlite. After this, there
would be a transfer of Vedanta's direct holding of 38.8% in Cairn India
to Sesa Goa, together with the associated debt of $5.9 billion, at cost.
Post the transfer, Sesa Sterlite will have a 58.9% shareholding in Cairn
India. This deal is subject to approval by various Indian and UK
regulatory bodies.

Transaction summary
• Consolidation of Sesa Goa, Sterlite, VAL and Malco to form Sesa
Sterlite
ƒ Sesa Goa to issue three shares for every five shares in
Sterlite
ƒ Sesa Goa issues 72 million shares to Vedanta for its
70.5% interest in VAL (2.4% of Sesa Sterlite)
ƒ Sesa Goa issues 79 million shares to the shareholders of
Malco (2.7% of Sesa Sterlite) reflecting Malco’s 3.6%
ownership in Sterlite and its power assets
• The transfer of Vedanta’s 38.8% in Cairn India (at cost of $1) and
associated $5.9 billion debt to Sesa Goa
V i ew
If the proposed merger is completed, the new entity formed as “Sesa
Sterlite” would be the single holding company for all operating assets of
Vedanta Resources in India, thus leading to the simplification of the group
structure. However, the transaction will also lead to a new entity with a
total gross debt pile-up of ~US$13.5 billion. Furthermore, VAL (which is
proposed to be 100% consolidated into Sesa Sterlite) would take about
two to three years to receive its own captive bauxite. As a result, the cost
of production for VAL is likely to remain on the higher side. Currently, we
have a cautious view on both stocks. Also, after taking into account the
recent development, the SOTP value for “Sesa Sterlite” comes to
| 200/share and accordingly | 120/share for Sterlite. We have assigned a
HOLD rating to both stocks.


V i ew
If the proposed merger is completed, the new entity formed as “Sesa
Sterlite” would be the single holding company for all operating assets of
Vedanta Resources in India, thus leading to the simplification of the group
structure. It is also expected to be the seventh largest global diversified
natural resource major. However, the transaction will also lead to the new
entity having a total gross debt pile-up of ~US$13.5 billion. Furthermore,
VAL (which will be 100% consolidated  into Sesa Sterlite) would take
about two to three years to receive its own captive bauxite. As a result,
the cost of production for VAL is likely to remain on the higher side. We
believe the share prices of both Sterlite and Sesa Goa are likely to move
on the stock swap ratio from hereon. Currently, we have a cautious view
on both stocks. After taking into  account the recent development, the
SOTP value for “Sesa Sterlite” comes to  | 200/share and accordingly
| 120/share for Sterlite. We have assigned a HOLD rating to both stocks.
Going forward, any positive development on bauxite and coal mining for
aluminium operations and any notable up move seen in the LME base
metals are key positive triggers for the merged entity and can have a
positive rub-off on other operating verticals.