China impact: Falling commodity prices may scuttle Vedanta-Cairn merger plans

The proposed Vedanta-Cairn merger is likely to be a collateral damage of the Chinese economic woes and the resultant global commodity price decline as the fall in share value of the former has been steeper than the latter, which is likely to unsettle the minority shareholders, experts say. Shares of metal and mining firm Vedanta have taken a severe beating and declined about 18 percent on the BSE in two days. The stock plunged nearly 12 percent on Wednesday and ended as the worst performing stock on the BSE Sensex as Chinese stock markets declined sharply due to cascading effects triggered by margin calls. Today, Vedanta extended the decline and fell 4.9 percent to end at Rs 139. Meanwhile, Cairn India shares ended 1.7 percent lower at Rs 165.15 and shed 8 percent in two sessions. The divergence is more evident when the price trend over one month is taken into consideration with Vedanta declining 17.5 percent compared with a 6.7 percent drop in Cairn India’s share price. [caption id=“attachment_2334868” align=“alignleft” width=“380”]  Reuters[/caption] “With falling commodity prices, Vedanta’s equity value is dropping faster than Cairn India’s. This is because Vedanta has high positive financial leverage, with attributable net debt of Rs 50,700 crore. Cairn has negative financial leverage with net cash of Rs 23,900 crore,” Motilal Oswal Securties has said in a report. “If commodity prices remain weak or move further South, Vedanta’s value would drop more sharply than Cairn’s, which could prompt minority shareholders of Cairn to vote against the merger,” the report has said. With Vedanta’s business spanning across various commodities such as copper, aluminium, iron ore etc, the share price fall has been attributed to worries that a slackening demand in China coupled with receding prices would hit its profitability. For the uninitiated, Anil Agarwal-controlled Vedanta had announced on 15 June that it will merge the cash-rich Cairn India in a $2.3 billion all-share deal in a move aimed at cutting the mining major’s huge debt. As per the agreement, shareholders of Cairn India would get one Vedanta equity share and one redeemable preference share for each share held in the company. Further, the Rs 10 preference share of Vedanta, redeemable in 18 months, will carry a dividend of 7.5% per year and would be listed on the NSE. As per the deal, Vedanta and its associates, which own 59.88 percent in Cairn India, will not get any shares in the deal, while London-listed Vedanta Resources’ stake in Vedanta would fall to 50.1 percent from the current 62.9 percent. The brokerage has said Cairn India’s stock price adjusted to Rs 10 RPS (redeemable preference share) was trading at a discount to Vedanta from 15 June (first trading day after the announcement) to 1 July. This is normal and justified in such M&A transactions in view of liquidity risk at the time of actual swapping/ cost of funding arbitrage, it said. However, from 2 July, the adjusted share price of Cairn India has started to trade at a premium, implying risk to the merger and/ or expectation of better swap ratio in favour of Cairn India, said the brokerage. The merger has been seen as an effort by the group to use the oil & gas producer’s cash to cut the metal and mining company’s massive debt without any major equity dilution and improve cash flow. “Vedanta Ltd would further consider consolidation of some of its wholly owned foreign subsidiaries,” the statement announcing the merger had said. However, it seems like the developments in China are likely to play spoilsport to the plan now.