Nuvama Institutional Equities said the demerger of Tata Motors into two separate entities is a non-event initially when it comes to likely passive flows from Sensex or Nifty. Since Tata Motors is currently a member in all passive indices, once the demerger is complete and the smaller entity (CV business) becoming a standalone entity, it (CV entity) will exit Nifty and Sensex. Nuvama said it move will materilise in around 15 months.
It gave an example of Jio Financial Services Ltd (JFS), which got demerged from Reliance Industries Ltd (RIL). While Jio Financial got listed separately it eventually in next few days got excluded from the domestic indices.
"Tata Motors (TTMT) is brilliantly utilizing its current momentum to embark on the right restructuring path. Today following the Indian market closure, Tata Motors released an important announcement of the demerger of its commercial vehicle (CV) and passenger vehicle (PV) businesses. At Nuvama Alternative & Quantitative Desk, we're eyeing this move, estimating it will get completed over the next 12 to 15 months," Nuvama said.
In the case of global indices such as MSCI and FTSE, the index aggregators would evaluate the smaller entity's market cap around listing to determine its eligibility.
"Assuming the CV business gets around 25 per cent of the total market cap, we believe it should maintain its position in the passive indices. The key factors will be the market cap (Total and Free Float) of Tata Motors shares and the global cutoff levels," Nuvama said.
Besides, Nuvama cited DVR merger process with ordinary shares, which got announced in July 2023 and said the merger process of DVR (Differential Voting Rights) with Tata Motors (Ordinary shares) will coincide with the demerger process. It expects the process to be completed within 6 to 8 months from now.
Spread Analysis: Strategy
"Not very attractive but definitely can start to build position Currently, the spread between DVR and TTMT stands at approximately 5.3 per cent (DVR Cash and TTMT Futures). Additionally, there's a short roll cost advantage favoring TTMT of 40-50 bps per month (conservative number). Adding this advantage, the spread is around 8.5 per cent (5.3 per cent spread) + (40 bps roll cost advantage/month)*8 months). This translates to approximately 1.05-1.1% spread per month, assuming an 8-month completion timeline," it said.
Given this spread, one can initiate the DVR spread contraction trade, starting with 25 per cent to 30 per cent of the position size and adding more with any further spread expansion in near future.
"We expect the merger of shares should smoothly happen. One potential risk is TTMT's roll cost to contract substantially near completion, which might lead to lower spread realization. However, we've factored in a conservative 40 bps roll cost from start to mitigate this risk," it said.
Nuvama said limited synergies exist between CV and PV, while potential synergies abound across PV, EV, and JLR, particularly in EVs, autonomous vehicles, and vehicle software — a move the demerger will facilitate.
"In recent years, CV, PV (PV+EV), and JLR have operated independently under their respective CEOs. Sentiment remains positive as the demerger follows the logical subsidiary of PV and EV businesses initiated in 2022," it said.