Reliance Industries --Refined revival: Macquarie Research,

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Reliance Industries
Refined revival
Event
 RIL reported a 28% YoY rise in PAT to Rs49.2bn, in line with forecasts.
EBIDTA rose 30% to highest ever as GRMs surged and polyesters revived
sharply. Investors cited cyclical recovery, upstream successes and KGD6
ramp-up as key trigger in our recent e-survey. These 2Q results suggest that
a cyclical recovery is firmly underway in its largest business, refining.
Impact

 Refined gains. RIL’s GRM’s rose from US$ 6.0/bbl in 2QFY10 to US$ 7.9/bbl
in 2QFY11, and continued their QoQ rise, signalling a clear recovery. GRM
improvement was a result of US$2/bbl YoY rise in light-heavy crude price
differentials (Fig 9) and a US$4/bbl rise in diesel crack spreads (Fig 10). We
forecast further recovery on the back of sustained global demand, especially
for auto fuels in China and India, low global additions of less than 2% pa, and
large closures especially ~1m bpd announced by Japan recently.

 Crude reality. Upstream EBIT rose 39% YoY on the back of KGD6 gas rampup
to 58mmscmd. But EBIT declined 9% as PMT production shut for three
months till 25 October due to sub-sea pipe leakage. Management confirmed
that KGD6 gas ramp-up shall not happen for at least one year, but also
highlighted that there is no change in resource estimate. Regulatory approvals
for field development are also taking time for KGD6 satellite wells and NEC25.
RIL is likely to drill in Dec 2010 the highly prospective KGD9, in which the first
well was dry. MND4 drilling is unlikely till 1QCY11, due to a 3-year extension.
 Petchems mixed – margins flat YoY, +7% YoY. As 12m+ tpa ethylene
capacities add 9% to global production in 2010, margins collapsed by 26%
YoY (Fig 12). On the other hand, polyester chain margins bounced sharply.
Strong textile demand and a doubling in cotton prices YoY enhanced
downstream margins by 20%+. Recently even intermediate paraxylene
margins have rebounded as sanctions constrain Iranian capacities.
 Low cost funding ahead of large capex: Taking advantage of low interest
rates and a strong balance sheet (US$6bn+ cash, 35% net debt/equity,
US$7bn+ pa OCF), RIL has raised US$1.5bn fixed rate 10-30 year bonds at
4.5–6.25%, which is comparable to Petrobras, Brazil. This is ahead of a
US$20bn+ capex in domestic upstream, petchem, shale gas and broadband.
RIL had similarly borrowed in the mid-1990s ~10%.
Earnings and target price revision
 Reducing FY11 PAT by 3% due to CDU and PMT shutdown. No change in TP
Price catalyst
 12-month price target: Rs1,244.00 based on a Sum of Parts methodology.
 Catalyst: Cyclical recovery, upstream successes and KGD6 ramp-up.
Action and recommendation
 Accumulate cyclical laggard RIL: Early cycle, Korean and Thai refining and
petchem stocks have nearly doubled in the past few months (Fig 16, 17). We
recommend accumulating shares of laggard Reliance Industries.