United Spirits - Diageo looking to pick stake in UNSP - Religare

United Spirits (UNSP) in a joint statement with Diageo indicated that both the companies are working towards a deal which could possibly lead to Diageo picking up a stake in UNSP. No further details were disclosed by the management at this stage.Though the talks have been going on for some time and at an advanced stage now, we believe the key points of contention would be controlling stake, W&M's future, other subsidiaries of UNSP and valuation premium that UB group would command.

- Key points of contention: a) Controlling stake- Whether UB group would be willing to give control. b) W&M's future- Diageo is keen to keep W&M out of this deal in which case how would W&M debt get serviced? C) What happens to other subs such as IPL team? And d) Valuation premium: How much premium would UB demand to give equal/ controlling stake?

- Diageo likely to bid for equal or controlling stake: We believe Diageo would be keen to acquire an equal or controlling stake in the company rather than being a minority partner. Promoter group currently owns 27.2% stake in the company while 5% is held as treasury shares. On the other hand, UB group may also not be willing to give up control completely given UNSP is the flagship company for the group. If the deal happens, we expect the deal could be through either a) issuance of new shares and treasury stake sale or b) promoter stake sale directly to Diageo or c) combination of above. We see little probability of open offer getting trigerred given Diageo would need to acquire >25% to trigger the same in which case they would clearly be controlling partner with significant stake dilution for UB group. A likely scenario could be that Diageo picks up ~15-20% stake.

- Positive for UNSP: We believe if any such transaction is finalised, then it would clearly be a positive for UNSP minority shareholders as it removes a key overhang on the stock given the issues related to the UB group exposures in other businesses and would result in valuation re-rating. Other key positives for UNSP shareholders would be to strengthen UNSP's presence at premium end which has been a weak link in their portfolio. Provide access to UNSP's brands in other international markets (mainly emerging markets). Deleverages the balance sheet if Diageo stake sale happens through fund infusion into UNSP. Distribution and operating cost synergies. The deal would also be a positive for Diageo as well since it provides: Market dominance in a key emerging market and puts them significantly ahead of key global rival, Pernod Ricard. Access to pan-India distribution and manufacturing capacity (distillery and bottling units). Opportunity to leverage cost synergies.

- Maintain BUY: We currently have a BUY rating on the stock. Though we believe that if the deal happens with Diageo as equal/controlling partner, the current valuations are clearly justified with likely further earnings upsides over the medium term (higher margins coupled with positive EPS impact due to deleveraging, expect earnings upgrade for UNSP to be 11-25%, based on a 10-27% stake sale), given the stock has run-up significantly (up 140% YTD) leading to rich valuations (39x/29x FY13/FY14 PE), we would wait for more clarity on the deal before recommending fresh buying at current levels. Stock is now clearly building in a high probability of deal happening and thus could see sharp correction in case of any disappointment.

Source : Equity Bulls

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