The shareholders of Reliance Natural Resources or RNRL got a rude jolt on Monday as the stock tanked 27% following the announcement of the share-swap arrangement for the RNRL-Reliance Power merger. The merger was probably the only way out for RNRL, which was virtually left with little potential business opportunities after recent developments.

RNRL shareholders, who had received company shares for free subsequent to the demerger of the business between the two Ambani brothers, should not be complaining, considering that they will at least be holding shares in a business such as power, which offers growth opportunities.

The only business RNRL is engaged in now is a coal-supply arrangement for a group company, besides having a licence for four coal bed methane (CBM) and one oil & gas block for exploration and production of CBM and oil & gas, respectively.
While exploratory work in the blocks is progressing, it is still at an uncertain phase and may be a drag on the company if it is unable to find commercially exploitable fuel in these locations.

In hindsight, the merger of RNRL and R-Power was imminent and probably the only way out for R-Power to claim gas supply for its power plants. The Supreme Court had directed that gas could be supplied only to the end user and not to a trading firm, which is also in line with the government’s existing gas utilisation policy. This effectively ruled out any role for RNRL in the entire proceeding.

The merger itself, however, does not ensure gas to R-Power plants, which is dependent upon the EGoM decision on whether it makes provision for an upcoming plant against the policy of allocating gas only for running power plants.

In terms of the swap ratio, it is weighed heavily in favour of R-Power, based on the stock price prevailing before the share swap announcement. However, RNRL has a more attractive book value at Rs 11.5 per share, against Rs 58.7 per share for R-Power, as per the latest available data. This means RNRL shareholders stand to get shares with book value of Rs 58.7, in exchange of shares with book value of only Rs 46, a gain of nearly 25%.

The merger will dilute R-Power’s equity structure by 15% and reduce promoters’ holding to around 80% against the current holding of 84.8%. It will also mean that the promoters may now have to reduce their holding by only close to 5% against nearly 10% earlier, to comply with the public holding norms issued by the government recently.

In the current scenario, when most of R-Power’s projects are still at the development stage, it will not be easy to reduce the holding without suffering considerable erosion in value.