Is LIC as a corporate entity ready for hive-off?

In a Tamil movie of yesteryear, a first-time visitor to Chennai, passing through the iconic LIC Building on Mount Road, asks the hero of the movie what LIC stands for. “Lion of Indian Cinema” replies the hero.

Many are hoping that the proposed initial public offering (IPO) for disinvestment of a portion of LIC would become a lion amongst IPOs in India. Ever since the announcement made in Budget 2020, progress on the IPO has been slow but steady. Proposals to amend the LIC Act have been made and Milliman Advisers was appointed as the Actuary. It is reported that transaction advisors have also been appointed.

In Budget 2021, Finance Minister Nirmala Sitharaman confirmed that the IPO would happen in 2022. The LIC IPO could ensure that the government reaches or at least nears its disinvestment target of
Rs 1.75 lakh crore for 2021-22, an area where the Department of Disinvestment has been consistently under-performing over the past many years.

The LIC IPO is bound to attract a lot of investors from everywhere. The brand recall value is up there amongst the best. Considering the recent success of IPOs of lesser-known companies such as Burger King and Mrs Bectors, investors would be wondering at what price LIC would offer their shares.

These attempts may appear pre-mature due to the fact that LIC as a corporate entity is not ready for disinvestment yet and the financial information available is insufficient to attempt a valuation. For instance, the paid-up capital of LIC is only Rs 100 crore - any valuation done with this low capital would yield absurd results. Also, currently, LIC pays only 5% of its profits to its shareholder (the Government of India) and the remaining 95% goes to the policyholders - if such segmental valuation is done, it would be biased in favour of one of the segments.

It is obvious that a lot of groundwork needs to be done prior to getting LIC ready for an IPO. But since all valuations involve some degree of estimates, a back-of-the-envelope valuation for LIC can be attempted. The much used and also much-abused Discounted Cash Flow Technique (DCF) would not work well for an insurance company due to timing differences their cash flow.

For example, LIC has built a big business in single-premium policies for which a cash flow would not apply. Most insurance companies calculate Embedded Value (EV) for the purposes of their valuation. EV is the sum of adjusted net worth and free surplus. Adjusted net worth is the present value of future profits less a deduction for some risks, options and guarantees.

One of the valuation principles prescribed is the market method in which valuation comparisons are made with the market. SBI Life Insurance Company (SBILIC) had EV of about Rs 20,000 crore when it went public. Its issue was priced at Rs 700. The SBILIC has a net profit after tax of Rs 1,500 crore - LIC’s is around Rs 27,000 crores.

Out of the 23 players in the life insurance industry in India, LIC commands a dominating share. Assuming that LIC is twice the size of SBILIC, its EV should be around Rs 40,000 crore. However, restructuring the LIC as a corporate entity for the purposes of listing, preparing its books as per Ind AS and the negative sentiment on selling a jewel of the nation could result in an EV of around Rs 30,000 crore. Going by the market method, the SBI issue was priced at Rs 700, HAL’s at Rs 1,215, IRCTC at Rs 320 and Coal India at Rs 245. Though these are early days to hazard a guess, LIC could probably fit into a slot between SBI Life Insurance and HAL.

This would translate into an expected IPO price of between Rs 900-1,200 per share. Anything below this range would not interest the government and anything beyond this would not interest the investors. It is also being stated that employees would be entitled to a 10% discount on the issue price – another reason why the issue should not be over-priced.

It is clear that the disinvestment will happen at some point in time since the government has budgeted for a significant amount from this disinvestment - numbers of around Rs 90,000 crore are doing the rounds. Apart from providing the much-needed cash flows to the government, LIC could also become a bit more prudent as a listed company that owes a responsibility to shareholders. Over the last decade or so, LIC has acted as an “investor of the last resort” to many a public issue. When the public issue not going well, LIC steps in and ensures that the issue is subscribed.

Many of these investments have proved to be non-performing assets - they would to be tested for impairment and if necessary, provided for. Once LIC transitions to Ind AS standards, they would have to fair value most of their investments and also recognise revenue based on future cash flows - which would make their financial statements realistic. A blockbuster LIC IPO could also breathe some life into the markets that tend to lose steam easily.

Assuming that the IPO is reasonably priced, the issue is bound to be over-subscribed. Investors seeking listing gains, those who would want to keep these shares for the long-term and those who just want it in their portfolio because it is LIC, should probably start putting some money away in order that they can apply for as many lots as are permissible to ensure that at least some shares get allotted to them. Even if one invests the maximum limit of Rs 2 lakh permitted for retail investors, one would be applying for only around 200 shares of the insurer. They should consider themselves lucky if they are allotted around 40-50% of the number of shares they applied for.

(The writer is a Bengaluru-based tax expert)