While the Stock markets are soaring and the investors are wondering at the pricey valuations of leading companies, one will be surprised to know that there are some companies trading substantially below their fair value. These companies are known as holding companies which are created to promote or control other operating group companies. You don't need to indulge into deep valuation models, profitability analysis or scenario building for finding their real worth. The Investment made by these companies in the shares of listed companies alone is many times more valuable than their current market capitalization.
One excellent example is Tata Sons, which is the controlling entity or the promoter for majority of the leading Tata Group companies such as Tata Steel, Tata Motors, Tata Power and TCS among others. Unfortunately, although a number of Tata Group entities are listed on stock exchanges, Tata Sons is unlisted. Apart from the Tatas, several other business houses, too, have their holding companies. The other types of companies that figure in our list are Investment Companies.
Long term investing in other companies is their business — an example could be Tata Investment Corporation, while a few others carry on their own distinct businesses apart from the Investment Portfolios. For example, more than half the market capitalisation of Murugappa Group's EID Parry is represented by the market value of its investment (i.e. shareholding) in Coromandel Fertilisers. In other words, the company's core business is valued much cheaper compared to its peers.
The market capitalisation of these companies does reflect the ups and downs in the value of their investment, although they are not in perfect sync. This offers attractive arbitrage opportunities. For example, Vardhman Holdings gained only 35% during last one year, as against 64% jump in the share price of Vardhman Textiles, in which it holds 26.7% stake.
Similarly, Uniphos Enterprises lost over a quarter of its value last year, substantially higher than United Phosphorous that lost just 3%.
In the same period, Binani Industries lost nearly 10% of its market capitalisation, even as the share price of its 65% subsidiary Binani Cements is up 16%.
Last six months have seen an excellent run-up in these companies, most of which have jumped two to four times since then, outperforming the 85% gain in Sensex.
Valuation Problems:
Despite being somewhat similar to close-ended mutual funds that also invest in listed equities, the holding companies' always trade at a discount to the net asset value of their investments. The price movements in the investee companies rarely reflect in the share prices of the investor company.
The reason being that the shareholders of the investor company, unlike in case of a mutual funds, can't force the management to liquidate the investment and distribute the profits to shareholders. Their direct gain is restricted to the cash flows that the investor companies get from its Investment in the form of dividends and other such non-operating incomes. At the same time, the holding company concept is still in its infancy in India and is not fully appreciated by the stock market, unlike in the developed world where a vast majority of large corporations are nothing but holding companies with business operations housed in scores of listed or unlisted subsidiaries. The most famous example, perhaps, is Warren Buffett's Berkshire Hathaway, which holds stakes in a vast number of diverse corporates. In India, however, the holding companies have never gained market favour, probably due to the lack of comfort felt by Indian investors. As a rule of thumb, 50% discount to the asset value of their portfolios is considered fair.
One such reason for discomfort is that the promoters hold large stake in the holding companies. The management power is with them so they are the decision makers. The other reason is that holding companies have very low floating stock so it doesn’t catch traders fancy. Very little information about such holding companies is available so investors also stay away from them.
One of the examples is Oscar Investments, holding company of the Ranbaxy group. The company owned 1.77 Cr shares of Ranbaxy (no. of outstanding shares of Oscar are 1.73 Cr), & they sold major stake to Japan’s Dai-ichi for Rs. 737 per share & have received Rs. 1100 Cr or so. If we calculate, the valuations from this only comes to around Rs. 1300 Cr (in addition to its core business activities) whereas its market cap is just Rs. 740 Cr & is available at P/E of less than at Rs. 425 or so. Here promoters hold 69.11% stake & the general public holding is just 7.19%. The company has given the dividend of meager 20% or Rs. 2 per share. Apart from this, Oscar also holds the shares of other group companies, both listed & unlisted. One can safely assume that Oscar has received almost Rs. 635 per share of Oscar from the Ranbaxy stake sale (excluding tax litigations).
But their valuations do dip below this threshold from time to time, which creates opportunities for value pickers. For example, RPG Group's CHI Investments, which was demerged from Ceat Limited in 2007 is currently valued at Rs 63 crore on the stock markets. This is just one-sixth of its Investment Portfolios worth nearly Rs 390 crore, which includes 8.4% stake in KEC International, 1.7% stake in CESC and 9.3% stake in Zensar Technologies. The company is currently seeking shareholder approval for amalgamating itself into RPG Itochu along with three other entities.
Maharashtra Scooters, a Bajaj group company, which was earlier manufacturing scooters, is now reduced to the production of dies, jigs and fixtures for the auto industry. The company's investments in Bajaj group companies are valued over Rs 710 crore, which is four-times its current market capitalisation. Some companies do have their independent business, apart from the investments.
Munjal Group's Majestic Auto manufactures two-wheeler components and spare parts and holds a 0.81% stake in Hero Honda valued at over Rs 250 crore. Still its market value is just Rs 70 Cr — 15 time its earnings for trailing 12 months.
Seed manufacturing company J K Agri Genetics underperformed the markets due to losses in FY09. However, its holdings in other group companies including JK Lakshmi Cement, JK Tyre and JK Paper are valued three times its current market capitalisation. It does not feature in our list due to the outstanding net debt of Rs 44 crore. After three quarters of losses, the company posted 44% growth in net profit for the June 2009 quarter to Rs 15 crore. The company has long been trying to separate its seed and investment businesses.
A few of these companies have decided to focus solely on their Investment Business and grow there. For example, Bajaj Holdings & KK Birla group's SIL Investments have applied for licenses from the Reserve Bank of India to operate as non-banking finance companies (NBFCs). The promoter group of Bajaj Holdings recently subscribed to 1 million warrants pumping in additional cash and emphasizing their intent to grow in the finance industry.
Conclusion:
This goes on to show that a lot of value remains locked in these holding or Investment Companies, which is not fully reflected in their share price right now. And, one cannot hope to unlock the entire value in such companies in a short while. A retail investor should, however, keep looking for chronically undervalued firms or arbitrage opportunities that can generate healthy returns in the long run.
