Vodafone-Idea Merger Depends On Who Fills The Valuation Gap

Vodafone Group Plc is in talks to merge its Indian unit with Idea Cellular Ltd., the two companies confirmed on Monday. The merger, if it goes through, will create India’s biggest mobile services operator.

While the statement offered no detail on how far the discussions have reached, it did offer a clue regarding the potential deal structure. Vodafone Group indicated that if the merger goes through, then it would lead to the de-consolidation of Vodafone India.

Accounting standards say a company can consolidate the balance sheet of its subsidiary only if it holds more than 51 percent and control’s the subsidiary. Currently, Vodafone Group owns 100 percent of Vodafone India and consolidates its earnings. A de-consolidation is likely to arise only if Vodafone Group’s ownership in the Indian unit falls below 51 percent.

As Idea Cellular will be issuing shares to Vodafone Group in case of a merger, the Vodafone statement suggests its holding in the merged entity will be below 51 percent.

On the other hand, Idea Cellular, in its statement to stock exchanges, confirmed the merger talks but emphasised that the preliminary requirement for the merger would be equal rights between the Aditya Birla Group, promoters of Idea Cellular, and Vodafone Group.

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Valuation Gap

For Idea Cellular to have ‘equal rights’, the Aditya Birla Group would have to own as much of the merged entity as Vodafone Group, implying that the valuation of both Idea Cellular and Vodafone India would have to be equal.

Vodafone India was valued at Rs 94,400 crore as of September 30, 2016 including its 42 percent stake in Indus Towers Ltd., while the market capitalisation of Idea Cellular stands at over Rs 39,650 crore as of January 31, 2017, including 16 percent stake in Indus Towers.

Vodafone Group’s statement has clarified that the merger will exclude its stake in Indus Towers.

As Idea Cellular will be issuing new shares to Vodafone India, it cannot exclude its holding in Indus Towers from the potential merger.

Indus Towers is valued at Rs 1,12,526 crore, according to a Citi Research report dated October 3, 2016. Vodafone India’s stake in Indus Towers is valued at Rs 47,261 crore, according to Citi Research. Excluding the value of Indus Towers, Vodafone India is valued at little over Rs 47,000 crore.

According to the data compiled by BloombergQuint, Vodafone India’s valuation is approximately over 1.2 times of Idea Cellular.

Equal Rights

Idea Cellular’s statement said it is seeking equal rights to Vodafone Group. To match the valuation gap of approximately Rs 7,490 crore:

A lower swap ratio means Vodafone Group will have to accept less than one share of Idea Cellular for each share of Vodafone India.

The capital infusion can be avoided by the Aditya Birla Group if Idea Cellular’s market capitalisation increases by at least 19 percent or Rs 7,490 crore to match Vodafone India valuation.

But that’s not all, Idea Cellular also has a strategic investor, Malayasia’s Axiata Group, which has ‘special rights’, as per Idea Cellular’s Articles of Association.

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Axiata Rights

According to the shareholder agreement between Idea Cellular and Axiata Group on June 25, 2008, Axiata has non-dilutive rights to maintain its shareholding in the company at 19.8 percent. Axiata has the ‘special rights’ as long as it holds at least 10 percent of the issued share capital in Idea Cellular.