Reliance Petroleum prices IPO in middle of range despite colossal demand

Greenfield refinery and petrochemicals project raises $1.8 billion in first share sale from a Reliance company since the group was split.
Greenfield Indian refinery and petrochemicals company, Reliance Petroleum surprised the market Monday (April 24) by pricing its initial public offering just above the mid-point of the indicated price range despite the fact that more than 99% of all orders were placed at the top end of the range.

That meant the single project company, which is a spin-off of IndiaÆs largest listed private sector firm Reliance Industries, raised Rs81 billion ($1.8 billion) from its offer which essentially comprises a construction site that will generate its first full year of earnings only in 2010. Reliance Industries operates within the same industries

Even so, the deal was also highly sought after, especially by foreign institutions who saw the future earnings benefits from a cost efficient new plant reliant on modern technology - as well as retail investors, who were convinced the stock will replicate the strong market performance of other Reliance group companies.

This is the first share issue from the Ambani family since the group was split up to settle a long-standing rift between the two sons and airs of group founder Dhirubhai Ambani. The settlement resulted in Mukesh Ambani inheriting sole control of Reliance Industries and Indian Petrochemicals Corp, while younger brother Anil got Reliance Infocomm, Reliance Energy and Reliance Capital. The companies started trading as separate entities in January.

Bankers said it was partly due to a desire from the issuer to maintain a relationship with key banks - following that split - that saw it mandate nine investment banks to run the IPO. DSP Merrill Lynch and JM Morgan Stanley were initially appointed, but were later joined by Citigroup, Deutsche Bank, Enam, HSBC, ICICI Securities, SBI Capital Markets and UBS.

Overall, investors subscribed to 51.3 times the shares Reliance Petrochemicals offered to the market, or $32 billion worth of stock. Some market watchers said this was about $10 billion more that expected, making it even more puzzling that the company decided not to price the offer at the top of the Rs57 to 62 per share price range, but rather at Rs60.

ôReliance IndustriesÆ philosophy has always been to leave something on the table for investors and it decided to do so this time as well,ö one observer said.

That level put the price on par with that paid by a number of pre-IPO investors, although people familiar with the offering said the pre-IPO price had served as a guidance when setting the price range, but not when it came to determining the final price. Still, according to the prospectus, the pre-IPO investors agreed to invest on the premise that if the IPO price came in below Rs60 per share then their investment price would be adjusted downwards to the same level, suggesting they were indeed keen not to overpay.

The pre-IPO investors, which include several of the banks arranging the offering, will jointly hold 10% of the company at the time of listing. In addition, global oil giant Chevron Corp bought a 5% stake in the company for $300 million just before the IPO with an option to increase to 29%. In fact, this proved a confidence booster for other investors, a banking source familiar with the offering said.

The price values the company at about two times its book value, according to one observer.

The company issued a total of 1.35 billion new shares, although 900 million of those were bought by its parent company, leaving 450 million, or 10% of the enlarged issued share capital, to be sold in the market. Of those, 270 million shares were offered to qualified institutional buyers (QIBs) including foreign institutional investors, 45 million to non-institutional investors and 135 million to retail investors.

Foreign investors asked for 15.5 billion shares, which contributed strongly to the QIB portion of the deal being 68.2 times covered, according to the National Stock Exchange of India website. Corporate investors and wealthy individuals ordered 2.66 billion shares or 59.1 times their allocated amount, while retail investors subscribed to 2.0 billion shares, or 14.9 times the amount earmarked for them. Allocations will be done on a pro-rata basis.

The net proceeds will go towards the construction of a new petroleum refinery and polypropylene plant, which is located right next to an existing refinery and petrochemical complex in Jamnagar, Gujarat, that is owned by its parent. The total construction cost is estimated at Rs270 billion ($6 billion), which will be financed through a combination of debt (58%) and equity (42%).

The intention is to complete the construction by December 2008, or in just three years from the start of the project in December last year. The refinery will have a total distillation capacity of about 580 kilo barrels per stream day, making it the sixth largest in the world, while the polypropylene plant will be able to produce 0.9 million metric tonnes per year.

The refinery will have a high complexity, which means it can use heavier and more sour crude oils to produce high-quality premium petroleum products. Because such crudes are cheaper that the light-sweet crude typically used to make high-quality refined products it should result in higher margins, according to the prospectus. It also gives the flexibility to produce a greater variety of finished products depending on where the demand is.

By drawing on Reliance IndustriesÆ expertise and its proven ability to execute large and complex projects within a short time span - in fact, Reliance has been considered by some one of the world's best 'project' managers - the listing candidate is expected to cut the construction cost by 30% compared with most other greenfield refineries. This was a key selling point during the IPO roadshow, according to people familiar with the deal.

The existing refinery next door, which is the third largest in the world in terms of atmospheric distillation capacity, was also built in 36 months and began production in 2000. It has operated at near 100% capacity since then.

ôIf (Reliance Petroleum) can replicate the existing refinery there should be almost 100% upside for the equity net worth of the company,ö one observer said. ôAnd because it will be completed in just three years, it will start production at a time when there will still be a global shortage of refinery capacity.ö

Clearly investors did put a lot of trust in the fact that Reliance Industries will be able to repeat the success of its existing refinery, and there were said to have been hardly any concerns related to the fact that they were asked to finance a greenfield project without a track record of its own and with the first full year of operations still more than three years into the future.

The parent, which will own 80% of the company after the IPO, has seen its share price jump 17.9% since April 12 when the share sale kicked off.

Reliance PetroleumÆs shares are expected to start trading in early May.
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