'Insolvency case against Zee may further delay merger with Sony'

Senior analyst at Elara Capital, Karan Taurani, has outlined several scenarios for the valuation of Zee Entertainment.

Taurani explained that ongoing write-offs and liability provisions from the last two years have hurt investor confidence in Zee, leading to a 20% drop in the stock price over the last 12 months.

In a report, Taurani stated, “The current valuations could be a worst-case play, as the overall liabilities are too small, considering their hefty cash balance of Rs 7 billion, Rs 120 billion to be infused post-merger with Sony.”

“Merger with Sony being called off can be the only reason for valuations to move further down from current levels (16x one-year forward PER - standalone entity valuation including OTT losses). However, we believe there is little, or no likelihood of the merger being called off, as the linear TV industry is going through concerns, which has impacted growth rates for Sony too,” he added.

Furthermore, he went on to state that there may be a delay in terms of the timeline for the merger process to go through, which could be anywhere in a wide range of 3-12 months, basis the outcome of the other pending liability cases/Zee’s appeal with NCLAT.

“We thereby believe that Zee remains to be a compelling buy if one were to factor that the merger will go through in the medium term with synergies in the linear TV and OTT business,” he added.

Valuation scenarios:

1) Assuming the merger does not happen (including OTT losses) – Zee is trading at one-year forward. PER of 16x factoring the standalone business and OTT losses of Rs 7-8 billion from Zee5.

2) Assuming the merger does not happen (Excluding OTT losses ) – Z is trading at one-year forward. PER of 10x, factoring in standalone business and excluding the OTT losses in the range of Rs 7-8 billion.

3) Assuming the merger goes through (including OTT losses for both Sony Liv and Zee5, Cash infusion of Rs 120 billion, and synergies from the merged company) – Zee is trading at one-year forward. PER of 11x, after factoring the losses from the OTT business for both – Sony Liv and Zee5 and cash infusion (Rs 120 billion); we have given zero value to the OTT business, the report stated.

4) Assuming the merger goes through (excluding OTT losses for both Sony Liv and Zee5, Cash infusion of Rs 120 billion, and synergies from the merged company) – Zee is trading at one-year forward. PER of 7x, excluding the losses from OTT business for both – Sony Liv and Zee5 and cash infusion (Rs 120 billion); we have assigned zero value to the OTT business, the report read.

View on the recent issue with lenders

Three financial institutions - Aditya Birla Finance, IndusInd Bank and Yes Bank have been filing appeals in the NCLT for recovery of Rs 1.3 billion/Rs 0.9 billion/Rs 5.4 billion respectively. The case has been filed majorly for either money borrowed by their related party - Siti cable which was not returned or wherein Zee was a corporate guarantor in some of the cases.

The report stated that as per the recent announcement by NCLT yesterday, the court has declared Zee insolvent in the case with IndusInd bank for recovery of Rs 1.5 billion. In some of the cases above, there is also a dispute for the contested amount by the bank. Interest charges and penalties have been extremely high.

Apart from this, there is also an ongoing case with IPRS (music body for royalty), wherein there is a demand for pending royalty to the tune of Rs 1.5bn over the last three years, the report stated.

Zee has submitted a plea in NCLT applying for the merger with Sony in January 2023, after receiving all other approvals (shareholders, exchange and CCI). The next NCLT hearing was supposed to be on March 9 and there was some likelihood of the merger being approved as the hearings began in January. However, the nature of the above financial cases pending will only delay the merger NCLT process, which is a big overhang for the stock and its valuation multiples.

As per the report, in the worst case, the Zee management can settle the above claims and amount with the banks in order to expedite the NCLT merger process, which seems highly unlikely for now.

In terms of receivables, Zee had receivables of Rs 7 billion pending from related parties - Dish TV and Siti. However, over the last few quarters, this receivables amount has come down to Rs 1 billion, which is pending from Dish and will be settled over a period of 6-12 months, there are no pending receivables from Siti cable.

The management has appealed in NCLAT against yesterday’s decision of insolvency. In case of the NCLAT hearing goes in their favour before March 9, there may be a likelihood of the merger plea with NCLT getting approved.

“We had estimated a timeline of 3-4 months for NCLT approval post-January, 2023, once the process began. However, complications in the above pending liabilities will delay this by another 2-3 months at least in our view. Further, the Zee delisting and the merged company being relished is another process which may take 6-8 weeks even after NCLT approval,” the report read. 

Zee remains at inexpensive valuations of 16x basis one-year forward. PER (including Zee5 losses and merger synergies) factoring a delay on the merger and lower revenue growth due to a negative impact on the ad growth front due to an uncertain macro environment.

“The report stated, “We don’t foresee any reason for the merger being called off. However, the above issues being resolved will expedite the merger process and lead to valuation re-rating for the stock.”

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