Views on RANBAXY – IS THERE ARBITRAGE PLAY?

By SP Tulsian

Daiichi Sankyo of Japan has signed an agreement with the promoters of Ranbaxy to acquire their entire equity shareholding in the company at Rs.737 per fully paid up equity shares of Rs.5 each. This will lead to an open offer, to be made by Daiichi to the public shareholders, to acquire a minimum of 20% of the equity shares of the company at Rs.737 per share.

Since open offer shall be made by Daiichi at Rs.737 per share and share is now ruling at Rs.570, lot of anxiety exists whether enough arbitrage opportunity lies in the stock? Whether it is advisable to buy the stock now or not?

We have made an effort to examine these aspects for the benefit of the investors. Ranbaxy has convened an Extraordinary General Meeting on Tuesday the 15^th July 08 to consider issue of 4,62,58,063 fully paid-up equity shares of Rs.5 each at a premium of Rs.732 per share (total price at Rs.737 per share) as also issue of 2,38,34,333 warrants, each warrant exercisable for conversion between six months to eighteen months from the date of allotment, for one fully paid-up equity share of the company of Rs.5 each, at a price of Rs.737 per share.

Present paid-up equity of the company is at Rs.186.60 crores, which is comprising of 37.32 crore equity share of Rs.5 each. Of this, 12.99 crore equity shares, being 34.82% is held by the promoters, which is being purchased by Daiichi, due to which open offer is getting triggered.

Now, open offer for 20% of the equity shares of the company is to be made by Daiichi. Now, this 20% would get calculated not for Rs.186.60 crores, but for Rs.221.65 crores, as paid-up equity of the company would rise due to preferential issue of equity of Rs.23.13 crores and of warrants of Rs.11.92 crores. Hence, 20% of same works out to for 8.87 crore shares of Rs.44.33 crores, which is 23.75% of the present equity of the company, of Rs.186.60 crores.

Presently, 24.32 crore shares are held by the public, of which Insurance Companies are holding 7.42 crore shares, FIIs are holding 6.87 crore shares, Mutual Funds and Banks are holding 1.29 crore shares while remaining 8.78 crores shares are held by the public. Though, no indications have come from insurance companies and FIIs about their participation in the open offer, it is likely that they will participate, as price of Rs.737 per share, being offered is quite attractive.

In this scenario, it is likely that 24.32 crores shares, being held by the public would come under open offer. Ranbaxy being more than 50 years old company, generally it is seen that about 10% shares are not available with the investors due to various reasons and hence in best case scenario, about 22 crore shares would get tendered in the open offer. Of this, 8.87 crore shares would get accepted and hence it is likely that 40 shares would get accepted out of 100 shares tendered.

Post open offer, share price of the company is likely to rule at around Rs.500 per share. This is considering an EPS of Rs.20 for CY 08 and applying a PE multiple of 25. Higher PE of 25 is applied due to stake of about 15% held by Ranbaxy in Krebs Bio, Jupiter Bio and Orchid Chemicals as also about 47% in Zenotech Laboratories. Also, due to infusion of about Rs.4,000 crores into the company, by way of preferential allotment, the company would become debt free, which also entitles the company to have higher PE multiple.

If an investor buys 100 shares today at Rs.570, total cost would be Rs.57,000. Presuming that 40 shares would get accepted in open offer at Rs.737 per share, would give Rs.29,500. Assuming post open offer price of Rs.500 per share, remaining 60 shares would have a value of Rs.30,000. This adds upto Rs.59,500 against cost of Rs.57,000, giving a profit of Rs.2,500.

However, profit of Rs.6,700 (Rs.737 – Rs.570 x 40 shares) made on tendering 40 shares in open offer would attract a short term capital gain tax, which shall be at the marginal rate, applicable to an investor, If it is assumed at the maximum marginal rate of 30% it would be about Rs.2,000.

For those investors, holding shares for more than 12 months and hence would get qualified for long term ‘capital gain would attract tax at the rate of 10% of capital gain, if it is not indexed, or at the rate of 20%, if it is indexed. If the total income of an investor exceeds Rs.10 lakh in a year, then surcharge of 10% would also get attracted in addition to 3% education cess on tax amount. There is no tax if shares are sold in the secondary market, where STT is charged.

So, if it is assumed that share price of the company, post open offer would be at Rs.500, share has no upside beyond Rs.570 in the present situation. Also, if we feel that acceptance ratio would be better than 40 shares out of 100 shares tendered, then there is more scope for upside.

But under the given situation and considering the past experience, the best case scenario has been considered and hence it is not advised to buy the share beyond Rs.570. If it falls below Rs.550 per share, one could buy it, for pro-rata benefits, which can be calculated.