Piramal sees 17-20% annual return from Vodafone investment for two years

Can Ajay Piramal recreate the magic of yester years?

In 22 years, Piramal grew a pharma business valued at Rs6 crore, to finally selling its main business of drug formulations to Abbott Laboratories Inc for a king’s ransom of Rs17,000 crore. Then he vowed not to sit idly with the cash.

Although a busy Piramal flagged off a Rs2,500 crore buyback of shares from shareholders who wanted to exit and also declared a miserly dividend of Rs200 crore from the spoils of the Abbott deal. On Wednesday, he acquired 5.5% of Vodafone’s Indian operations for Rs2,900 crore.

The valuation of Piramal Healthcare, despite holding a war-chest, fell as investors were not enthused by the deal and about the lack of clarity of what Piramal plans to do with the money.

The market capitalisation of Piramal Healthcare when the Abbott deal was announced in May 2010 was Rs10,500 crore. On Thursday, after the 5.5% stake in Vodafone, the Piramal Healthcare’s m-cap is pegged at Rs7,833 crore, a decline of 25%. During the same period Sensex rose 3.73%.

An institutional investor which used to hold a small stake in the company told DNA that they exited after the company announced plans including a possible foray into real estate and financial services.

“The stock has been derated and the company is trading at a discount to the cash on its books,” the fund manager said.
Prior to the drug formulations sale, there were nine institutional shareholders who held more than 1% in the company. This number has since dwindled to five.

On Wednesday, Piramal announced the deal that would use up at least one-third of the company’s cash reserves of Rs10,000 crore.
At about 17-20% returns annually over two years, Piramal hopes to make a killing from his latest bet — the 5.5% equity in the Indian operations of Vodafone.

“We want to park funds for mid-to-short term periods to create superior returns from our surplus funds,” said Piramal. “We are aware of the Vodafone’s ongoing tax litigation and have made this investment knowingly.”

While Piramal repeatedly mentioned the agreement with Vodafone involving an exit option after the 24-month period, he declined to disclose whether those options involved any guaranteed valuations for his investment. Compared to the $16 billion valuation at which Essar sold its 33% stake, Piramal got his 5.5% at a significant discount, as the transaction values Vodafone’s Indian operations at about $11.6 billion.

Essar has been Vodafone’s joint venture partner since 2007 till early 2011.

The valuations are suppressed primarily on account of the hyper competition and the rock-bottom tariffs in Indian telecom industry and the resulting profit squeeze faced by mobile telephony firms operating here.

However, the next six months are expected to be critical as regulations around mergers and acquisitions will likely be simplified, leading to a consolidation phase and easing of competitive pressure.

Those developments are expected to trigger a re-rating of Indian telecom sector sending the valuations northwards, which is what Piramal is likely betting on for handsome returns on his latest investment.

Given that telecom is a curious investment choice for a pharma firm, Piramal is quick to cite the sale to Abbot as proof of his credentials in creating returns for shareholders.

The wealth created through that asset sale translates to an average return of 41% for shareholders every year for 21 years, Piramal said on Thursday.

Even as he is investing in non-pharma sectors, Piramal is committed to investing Rs7,000 crore in pharma sector over the next five years. “I don’t think pharma sector alone can absorb all the funds,” Piramal said.

“While the announcement of investing in pharma is a positive, they should have done something more focused with the bulk of the cash. They have not rewarded their shareholders. Investors were expecting a dividend but they went in for a buyback. Large institutions which also held a stake in the company did not seem to have taken an active role over the issue,” said a veteran investor who runs a stock brokerage under his own name.

In May, Piramal Healthcare said it would invest Rs225 crore for buying into group firms Indiareit Investment Management Co and Indiareit Fund Advisors Pvt Ltd.

“These kind of investments will continue,” Piramal said signing off. “We look for partnerships with global companies in high growth sectors.”