Introduction:
Main aim of every business is to expand its market share and improve revenue, profitability and maintain cashflows. For achieving the same, every company will divide its business into various segments and adapts unique strategy for each business segment. Reliance Industries Limited (RIL) has four major segments contributing more than 97% to its Revenue, EBITDA namely Refining and Marketing, Petrochemicals, Digital Services & Organised Retail.
Strategies adopted by RIL for each segment:
Needless to say, RIL has adopted unique strategy for each business segment. For the first two segments namely R&M, Petrochemicals being the oldest segments in which RIL has already gained significant market share, RIL is now in maturity stage of lifecycle where it has earned revenue of Rs 3.87 Lakh crores & Rs 1.45 Lakh Crores in FY 2019-20 with CAGR of 5.08% & 7.93% in past 10 years respectively. EBITDA also grew in these segments at 8.80% & 10.35% in past 10 years. These two segments are protected by huge entry barrier namely initial capital expenditure for new entrants which makes RIL a market leader in these segments. Since these two segments alone contribute to more than 60% of RIL’s EBITDA, if it is able to maintain current level (with minor growth rate), company can present better results with growth of other segments.
For Digital Services, being latest and fast-growing segment, RIL made entry by adapting penetration pricing strategy. This segment has achieved CAGR of 119.64% and 88.74% of Revenue & EBITDA between Second half year of FY 2017-18 to FY 2019-20. Here, RIL targeted data customers (who were 30% of total users before the entry of Jio but were contributing 70% of total revenue for all telecom companies) in this segment. With huge initial outlay, it has laid 4G spectrum all over the country and increased its market size within a span of 7 months to around 10%. Jio has started related diversification with its subscriber base by providing post-paid services, other services through Jio TV, Jio Saavn, Jio Meet, Jio Call etc.
Strategies adopted for Retail Segment are explained below in detail:
Strategies adopted for Reliance Retail Segment:
Industry Structure:
Structure of the retail industry in India can be explained by Porter’s Five Forces Model:
– Threat of new entrants: Entry barriers to this industry are very low since entry requires low investment, least regulated by Government.
– Threat of substitute products: High threat of substitute products is supported by threat of new entrants. Since it is difficult in differentiating the products, there is high threat from substitute products.
– Rivalry amongst firms: Majority of the industry is being covered by unorganized retailers (like street kirana shops) which are in existence in each nook and corner of the country. This results in cut-throat competition in the industry.
– Bargaining power of buyers: At the outset, bargaining power of buyers seems less since they are not concentrated but since cost of switching over is very less, a customer can switch to other suppliers if same product is available at cheaper price irrespective of past relationship with supplier. This increases the bargaining power of the buyers.
– Bargaining power of sellers: This is determined by level of importance of supplier’s product to the company and number of suppliers for the product. At the outset, it is very difficult to determine bargaining power of suppliers for the industry as a whole.
Summary of presence of both entities in the industry:
RIL’s presence in the industry can be categorized into three baskets namely Consumer Electronics, Fashion & Lifestyle and Grocery. Revenue & EBITDA has grown at CAGR of 44.85% and 51.96% respectively in past six years evidencing growth stage of the lifecycle. Number of stores as on 31st March 2020 can be classified as below:
Future Retail has over 1500 stores in 400 cities with retail space of around 16 Mn Sq ft. of which 290 Big Bazaar/Hyper city stores, 94 FBB stores, 9 Foodhall stores, 956 small format stores (including 98 WHSmith stores) and 1 eZone store etc.
Strategy of RIL:
Expansion in any industry can be done either by acquiring entity in same stage in competition or by penetrating into the market as done in case of Jio. Penetration may not work best in this industry for factors mentioned in porter’s five forces model. Only way by which a company can expand in this industry is to increase number of outlets so that portion / area of market that is being covered by the entity can be increased.
RIL has increased its operations in this industry by a combination of both. It has increased number of outlets over a period of time. But expansion by opening outlets by the entity alone will take much time and resources as decision regarding the same need to be made individually for each and every outlet. Hence, next level of expansion can happen only by acquiring entities in same level of competition. But these types of combinations are governed by Competition Act and prior permission of Competition Commission of India may be required for certain combinations of certain types of companies.
Why to Acquire Future Group / Why Future Group failed:
Failed Diversification:
While expanding any business, company should have a ‘cash-cow’ segment which can fund the entity till new business starts generates cashflows. Further, bootstrap (using operating cashflows of existing segment & personal finances to fund the business) is the best method since financial prudency can be maintained. If the same is funded as a borrowing and if expansion fails, company has to bear both loss on account of expansion and also repayment of funding received along with interest which can affect cashflows of company’s main business.
Future group became debt-ridden on account of expansion into various categories of businesses with borrowed funds. Those expanded businesses failed to generate cashflows as expected. This led to promoters pledging & selling part of their stake in the group to fund the same. Even after doing the same, expanded divisions failed to generate cashflows as required for meeting loan which has affected the going concern ability of the entity (not mentioned in Independent Auditor’s Report, is written by the author considering the cashflows and outstanding debt of the group).
Group’s inability to pay cashflows is depicted by interest coverage ratio of the group as tabulated below:
| Entity | Interest Coverage Ratio # |
| Future Enterprises Limited | 0.11 |
| Future Consumer Limited | -2.71 |
| Future Lifestyle Fashions Limited | -0.84 |
| Future Retail Limited | -0.36 |
| Future Market Networks Limited | 0.52 |
| Future Supply Chain Solutions Limited | -0.11 |
#ICR refers to Coverage of Interest expense by EBITDA of the entity. Idle ICR of 2 is required to compensate Interest and other expenses without considering cashflows attributable to shareholders. Figures as on 31.03.2020.
Financial Position of the Group:
Amount of outstanding debt of each entity in the group (as on 31.03.2020) is depicted in below image. Further, contingent liabilities of the group are not considered in total debt. As mentioned below, for some entities, outstanding debt has exceeded its market capitalisation as on date.
Benefits to RIL on account of acquisition:
Reliance Retail will now own all of Future Enterprises’ stores namely Big Bazaar, fbb, Foodhall, Easyday, Nilgiris, Central and Brand Factory. The deal will also see Reliance take over Future’s logistics and warehouse. Further, RIL now owns around 1500 stores of Future group which adds around 13% of number of existing stores.
This merger provides boost to grocery basket of retail group by adding more than 30% of existing number of stores. This will increase its presence in offline grocery market too.
Conclusion:
Above mentioned valuation of 25,000 crores to the group having outstanding debt of Rs. 21,240 crore and Contingent Liabilities of Rs. 9,060 crore (both amounts as on 31.03.2020) seems to result in huge amount of goodwill which can be interpreted as synergy benefits that can arise to RIL on account of merger.
On the face of the deal, it looks like group is overvalued since total market cap of the group as on date is around Rs. 9,000 Crore which results in Goodwill of Rs 16,000 Crore. But this merger provides good resources for RIL in retail and warehousing segments to compete with big players in the industry like Amazon. Investments made in RRVL (Reliance Retail Ventures Limited) evidences valuation of the segment as Rs 5 Lakh Crores depicting expected synergy benefit on account of recent mergers (including that of Future Group). To conclude on valuation of the group, we may need to wait for one or two quarters to obtain big picture of synergy benefits to the group.
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