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Investment conclusion: We reiterate our Overweight
rating on RIL, but are lowering EPS by 2% for F2012e
and 12% for F2013e, and in line lowering our price target
to Rs1,206/share. We believe RIL’s two cyclical
businesses, Refining and Petchem, are both set to see
improving margins. Our concern that RIL could miss our
E&P volume expectations has come true, and is the key
reason for our earnings downgrade. We now assume
51mmscmd in our earnings both short and long term.
However, we highlight that by leveraging BP’s technical
capabilities, RIL could enhance its E&P valuations.
BP-RIL deal crystallizes a value of Rs393/share for
RIL’s E&P business: Based on a deal value of U$7.2bn,
the 23 oil and gas blocks included in the sale are worth
US$24bn or Rs314/share. If we were to include the
contingent payment of US$1.8bn assuming exploration
success, the value comes to US$30bn or Rs393/share.
Further, we value RIL’s CBM, Shale Gas, and PMT
assets at ~Rs84/share; including this, the deal
underpins a value of Rs477/share for RIL’s E&P
business. Our What’s in the Price analysis suggests
E&P value of Rs236/share, lower than BP’s valuation,
implying investors are skeptical on the E&P business.
Post BP deal, F2012e EBITDA would reduce by 9.6%,
but due to cash inflow of US$7.2bn, other income would
increase 40%. Overall, we see no major changes in
profitability.
Sensitivity to YTD margins suggest upgrades likely:
Complex GRMs YTD are US$7bbl, assuming a
US$3.5/bbl spread, RIL should be earning US$10.5/bbl
– 10% higher than our current estimates. Based on YTD
petrochemical netbacks, RIL’s netback spread could
increase to US$548/t for F2012, 11% higher than our
current assumption of US$493/t. These moves could
lead to 16% higher EPS or ~Rs80/share in F2012e.
Investment Thesis
RIL-BP deal is a positive: Based on
deal value, we estimate the implied
value of RIL’s E&P division at
Rs477/share. This compares with
Rs236 discounted by the market in
current prices, providing a potential
upside of Rs241/share from current
levels.
Refining environment improving
in Asia: Singapore complex GRMs
during 3Q10 were US$5.5/bbl, up 30%
sequentially, and are currently at
~US$6.7/bbl. We estimate RIL’s GRM
will average US$9.5/bbl in F2012
versus US$6.6/bbl in F2010.
Petrochemicals to enter a
super-cycle in 2H11: Strong
double-digit demand from Asia has led
to firm net backs of 30%, up QoQ
despite the addition of 11-12 mtpa in
2010.
Key Value Drivers
• Increased reserve base for Reliance’s
E&P business. RIL aims to have 10bn
boe of reserves and 100 discoveries.
• Reliance’s refinery continues posting
higher GRMs than peers’ facilities.
Key Catalysts
• RELI increasing production to
80mmscmd.
• Stronger-than-expected
petrochemical and refining cycle.
Key Risks
• A sharp decline in global economic
growth that would likely compress our
projected petrochemical and refining
margins.
Investment Case
Summary & Conclusions
We upgraded RIL to Overweight on January 13, 2011, because
two of our three key concerns had been addressed. We had
concerns about all three of RIL’s businesses. In the last four to
five months, the refining and petrochemical businesses have
been seeing an upswing. Now, the BP-RIL (BP.L, £490) deal
crystallizes a value of Rs 393/share for RIL’s E&P
business, addressing our third and biggest concern on
the company. In this note, we reiterate our Overweight rating
on RIL, but are lowering earnings by ~2% for F2012e and
~12% for F2013e, and in line with our model changes trim our
price target to Rs1,206/share. We have three key takeaways:
1) We lower our gas volumes estimates to 51mmscmd for both
F2012 and F2013, and increase effective tax rate due to the
removal of the availability of exemptions from the Minimum
Alternate Tax for Special Economic Zones effective April 1,
2012. We have also raised our estimates for the refining and
petchem businesses, which largely offset the drop in earnings
for F2012, as shown in Exhibit 10
2) BP-RIL deal crystallizes a value of Rs393/share for RIL’s
E&P business.
3) Sensitivity to YTD average margins in Refining and
Petrochemical business suggests upgrades likely: Every
dollar/bbl change in GRM’s increases our F2012e earnings by
8.4%, and every 10% change in netbacks increases our
earnings by 7.3%. (Exhibit 4) If we were to assume YTD
margins for both Refining and Petchem in our forecasts, our
F2012e earnings could increase by 16% to Rs80.6/share.
BP-RIL deal crystallizes a value of Rs393/share for RIL’s
E&P business: Based on a deal value of US$7.2bn, the 23 oil
and gas blocks included in the deal are worth US$24bn or
Rs314/share. However, if we were to include the contingent
payment of US$1.8bn assuming exploration success, the value
comes to US$30bn or Rs393/share. Further, we value RIL’s
CBM, Shale Gas, and PMT assets at ~Rs84/share; including
this, the deal underpins value of Rs477/share for RIL’s E&P
business. We highlight that RIL has stakes in 20 other blocks
(14 international and six domestic) that are not part of the deal.
However, conservatively we do not factor in any upside from
these blocks in our price target.
Post BP analysis: The BP-RIL deal needs government and
regulatory approvals, for which both RIL and BP have already
applied. RIL expects the deal to be completed by March 2012;
however, the deal would be effective from Jan-2011. Post
completion of deal, RIL’s F2012e EBITDA would reduce by
9.6%, but due to interest income earned on cash inflow of
US$7.2bn, RIL’s “other income” would increase 40%. Overall,
we would see no major changes in profitability of the company.
Post deal completion, RIL’s earnings will be affected by
the 30% stake sale as follows:
1) Share in KG-D6 go down to 60%: RIL’s share of E&P
volumes, revenue, and EBITDA from KG D6 will decline due
the reduction in its stake to 60% from 90%. We estimate RIL’s
overall EBITDA will decline by 9.6% or ~Rs41.4bn for F2012e
and 8.2% or ~Rs39bn for F2013e.
2) Depreciation and depletion to decline: RIL’s DD&A will
also decline, as the deal consideration of US$7.2bn will be
removed from RIL’s gross fixed assets block, which would in
turn lower the depreciation base. We estimate DD&A will be
reduced by ~19% or ~Rs25bn for both F2012 and F2013.
3) RIL’s other income will increase due to interest earned on
the consideration of US$7.2bn. We estimate RIL’s other
income will rise by 40% to Rs28bn in F2012 and 75% to
Rs41.7bn in F2013.
Overall, we expect the BP deal to be earnings neutral in
F2012 and earnings accretive by 2.9% in F2013.
Does the completion of deal change our valuation? All else
being equal, pending completion of the deal our PT of
Rs1,206/share will remain unchanged, as the decline in E&P
valuation due to the stake sale will be mitigated by the increase
in cash and cash equivalents, leaving the price target largely
unchanged
What is in our price target on E&P? We value RIL’s E&P
business at Rs477/share, which includes a DCF value of
Rs276/share for its reserves (~5.4mn boe) and an optional
value of Rs202/share for resources (~ 11mn boe) expected to
become reserves in future. We value RIL’s KG D6 fields at
Rs167/share (assuming a 51mmscmd of production).
Shale gas to start contributing from F2013: RIL formed
three JVs in US shale gas assets in 2010 by investing close to
~US$943mn in upfront cash and US$2.5bn in drilling carry.
Overall, we estimate that RIL could invest close to US$11bn
including acquisition costs over the life of these JVs. We
estimate shale gas will start contributing in F2013 with
production of ~11 mmscmd (net to RIL) and EBITDA of
US$578mn, and ramp up meaningfully to gas production of
~19 mmscmd and EBITDA of ~US$1bn by F2014.
Who are the losers based on current gas supplies? With
RIL currently producing 51mmscmd, down from 60mmscmd,
both the fertiliser and power industries are significantly affected
by the cut in gas supplies (Exhibit 16). Our discussions with
fertiliser and power companies suggests that RIL has applied
an 8-10% cut in the gas supplies because of the shortfall in its
production from the KG-D6 block. We believe this could affect
the profitability of some companies as they either cut volumes
or resort to purchase of gas from alternative sources (RLNG) at
a higher cost to maintain operating rates. Even RIL’s own
consumption of KG-D6 gas is reduced in its refinery and
petrochemical plants as the supply is down by 8% to
3.9mmscmd.
Refining Environment Improving in Asia
The Singapore complex margin for F3Q11 was an impressive
US$5.5/bbl, up 30% sequentially, and is currently hovering at
US$ 6.7/bbl range (up 22% QoQ). The gain in margins has
been partly attributed to shutdowns of refineries, more so in
Japan and Europe (see Exhibit 7) and reasonably strong
demand from China, as well as less aggressive than expected
ramp-up in capacity.
The Light-Heavy differential has also started widening and
currently stands at US$4.5/bbl (up 73% YoY), in our view
providing further support to margins.
Reliance, with its high refining complexity of ~12x, would
gain even more, in our view, since it is currently processing
~70kb/d of Cairn’s Mangala crude, which may add
US$0.50-0.60 per bbl to its GRMs. We expect RIL’s GRM to
average US$9.5/bbl in F2012 and US$10/bbl in F2013.
Petrochemicals –Polyster, PX, and PP Remain Very
Strong, Could Possibly Surprise on Upside
The sharp increase in global cotton prices has helped improve
profitability for the polyester chain. PSF margins are currently
at US$784/ton and averaging US$640/ton, which is up 28%
QoQ. PX margin is currently at US$787/ton and averaging
US$690/ton, which is up ~53% on a QoQ basis. Similarly, PP
margin is currently at US$727/ton and averaging US$645/ton,
which is up ~9% on QoQ basis.
These three products cumulatively account for ~35% of RIL’s
volumes sold. We expect margins to normalize from current
levels, but even if we were to assume a 15% decline from
current spreads on the back of global supply additions, these
three products alone could provide ~ 10% upside to our current
assumption for RIL’s weighted average spreads.
Based on YTD spreads for petrochemical products, RIL’s
netback spread could increase to US$548/t for F2012, 11%
higher than our current assumption of US$493/ton.
EBITDA/ton could increase to US$360/t and absolute EBITDA
could increase to ~Rs144bn, 18% higher than the ~Rs122bn
we currently estimate.
Summarizing Our Earning Changes:
E&P Division: We have cut our KG-D6 gas volume
assumption to 51mmscmd for both F2012 and F2013. We have
also cut our MA Oil production expectation to 23kb/d vs. our
earlier estimates of 28kb/d in F2012 and 30kb/d in F2013
Refining Division: We now assume RIL’s GRM averages
US$9.5/bbl in F2012 and US$10/bbl in F2013 against our
earlier assumptions of US$9/bbl and US$9.3/bbl, respectively.
Petrochemical Division: We have incorporated our new
Petrochemicals forecasts into our model, which has increased
RIL’s weighted average netback by ~3% to US$493/ton in
F2012e and US$515/ton in F2013e.
What’s in the Price? At current levels, we believe the market
is discounting Rs236/share for the E&P business. Based on
the value implied from RIL-BP deal, we value the E&P division
at Rs477/share including the possible performance-linked
exploration success payment of US$1.8bn that is part of the BP
deal. This implies an upside of Rs241 or 25% from current
levels.
Valuation Methodology
Our price target is based on a sum-of-the-parts valuation
(Exhibit 15, Base Case).
1) We value the R&M business on an average F2012e
EV/EBITDA of 7x, which is the average of its global refining
peers. We value the R&M business at Rs351 per share.
2) The petrochemicals business valuation is based on an
average F2012 EV/EBITDA of 8x. We value the Petrochemical
business at Rs299 per share.
3) We use a P/CEPS target multiple-based valuation for RIL’s
E&P business. We assign a target multiple of 8.7x to our
average projected cash profits of US$4bn (F2012-18E) for
global comps, in line with the normalized average global
multiples for E&P companies for F2012e. Based on this, we
arrive at a fair value of US$34.6bn, or Rs477 per share, for
RIL’s E&P business. This equates to an EV/boe of US$6.3/bbl
versus global comps, which trade at an EV/boe of
US$12-13/boe.
5) We have valued RIL’s investments at F2011e book value,
which includes RIL’s investment in telecom business. We also
value RIL’s treasury shares at ~US$6.2bn or Rs86/share. After
deducting F2011e net debt of Rs119/share, we arrive at SOTP
value of Rs1,206/share.
We see the following key risks to our price target
1) The stock’s historical correlation with the market is 0.85x,
and hence a market correction would affect RIL.
2) The removal of the tax holiday for the E&P business.
Although Reliance’s product-sharing contract entitles it to a
seven-year tax holiday, the Ministry of Petroleum has
suggested that the matter is sub judice.
3) The overhang of Reliance stock held by the company’s
subsidiaries is currently valued at close to US$6.2bn.
4) Potential delays in the execution of the company’s business
plan.
5) A significant oil/gas discovery could lead to increases in
reserves and thus a positive revision to our price target.
Similarly, unfavorable exploration results from assets could
lead to downward revisions to resource estimates and hence a
negative impact on our price target.
6) A sharp decline in global economic growth that would likely
compress our projected petrochemical and refining margins.
Company Description
Reliance Industries is India's largest private-sector company by
revenues, assets, and profits. It has interests in exploration &
production, refining, petrochemicals, textiles, telecom,
electricity, financial services, and infrastructure. Its
petrochemicals business is vertically integrated with an output of
around 11mn tons. Reliance Industries ranks among the top 10
companies worldwide in most of its key downstream products. It
operates India's largest and most complex refinery, with a
capacity of around 62mn tons.
India Oil & Gas
Industry View: Attractive
In our bull case we assume: 1) US$10.5/bbl (i.e., US$1/bbl higher) GRMs and 7x EV/EBITDA for refining business; 2) 5% higher
netbacks and EV/EBITDA of 8x; and 3) RIL’s achieves a 10bn boe of reserves (6bn boe net to RIL) through discoveries from its
exploration portfolio valued at EV/boe at US$9/boe, which is a 30% discount to global comps, which are trading at US$13/boe.
In our bear case we assume: 1) US$8.5/bbl GRMs (i.e., US$1/bbl lower GRMs from base case) and EV/EBITDA of 6x; 2) 5% lower
netbacks and EV/EBITDA of 7x; 3) RIL is not able to make any new discoveries, E&P business’s current reserves of 5.4bn boe are
valued at EV/Boe at US$3.4/boe; and 4) investments valued at 30% discount to F2011e book value.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Investment conclusion: We reiterate our Overweight
rating on RIL, but are lowering EPS by 2% for F2012e
and 12% for F2013e, and in line lowering our price target
to Rs1,206/share. We believe RIL’s two cyclical
businesses, Refining and Petchem, are both set to see
improving margins. Our concern that RIL could miss our
E&P volume expectations has come true, and is the key
reason for our earnings downgrade. We now assume
51mmscmd in our earnings both short and long term.
However, we highlight that by leveraging BP’s technical
capabilities, RIL could enhance its E&P valuations.
BP-RIL deal crystallizes a value of Rs393/share for
RIL’s E&P business: Based on a deal value of U$7.2bn,
the 23 oil and gas blocks included in the sale are worth
US$24bn or Rs314/share. If we were to include the
contingent payment of US$1.8bn assuming exploration
success, the value comes to US$30bn or Rs393/share.
Further, we value RIL’s CBM, Shale Gas, and PMT
assets at ~Rs84/share; including this, the deal
underpins a value of Rs477/share for RIL’s E&P
business. Our What’s in the Price analysis suggests
E&P value of Rs236/share, lower than BP’s valuation,
implying investors are skeptical on the E&P business.
Post BP deal, F2012e EBITDA would reduce by 9.6%,
but due to cash inflow of US$7.2bn, other income would
increase 40%. Overall, we see no major changes in
profitability.
Sensitivity to YTD margins suggest upgrades likely:
Complex GRMs YTD are US$7bbl, assuming a
US$3.5/bbl spread, RIL should be earning US$10.5/bbl
– 10% higher than our current estimates. Based on YTD
petrochemical netbacks, RIL’s netback spread could
increase to US$548/t for F2012, 11% higher than our
current assumption of US$493/t. These moves could
lead to 16% higher EPS or ~Rs80/share in F2012e.
RIL-BP deal is a positive: Based on
deal value, we estimate the implied
value of RIL’s E&P division at
Rs477/share. This compares with
Rs236 discounted by the market in
current prices, providing a potential
upside of Rs241/share from current
levels.
Refining environment improving
in Asia: Singapore complex GRMs
during 3Q10 were US$5.5/bbl, up 30%
sequentially, and are currently at
~US$6.7/bbl. We estimate RIL’s GRM
will average US$9.5/bbl in F2012
versus US$6.6/bbl in F2010.
Petrochemicals to enter a
super-cycle in 2H11: Strong
double-digit demand from Asia has led
to firm net backs of 30%, up QoQ
despite the addition of 11-12 mtpa in
2010.
Key Value Drivers
• Increased reserve base for Reliance’s
E&P business. RIL aims to have 10bn
boe of reserves and 100 discoveries.
• Reliance’s refinery continues posting
higher GRMs than peers’ facilities.
Key Catalysts
• RELI increasing production to
80mmscmd.
• Stronger-than-expected
petrochemical and refining cycle.
Key Risks
• A sharp decline in global economic
growth that would likely compress our
projected petrochemical and refining
margins.
Investment Case
Summary & Conclusions
We upgraded RIL to Overweight on January 13, 2011, because
two of our three key concerns had been addressed. We had
concerns about all three of RIL’s businesses. In the last four to
five months, the refining and petrochemical businesses have
been seeing an upswing. Now, the BP-RIL (BP.L, £490) deal
crystallizes a value of Rs 393/share for RIL’s E&P
business, addressing our third and biggest concern on
the company. In this note, we reiterate our Overweight rating
on RIL, but are lowering earnings by ~2% for F2012e and
~12% for F2013e, and in line with our model changes trim our
price target to Rs1,206/share. We have three key takeaways:
1) We lower our gas volumes estimates to 51mmscmd for both
F2012 and F2013, and increase effective tax rate due to the
removal of the availability of exemptions from the Minimum
Alternate Tax for Special Economic Zones effective April 1,
2012. We have also raised our estimates for the refining and
petchem businesses, which largely offset the drop in earnings
for F2012, as shown in Exhibit 10
2) BP-RIL deal crystallizes a value of Rs393/share for RIL’s
E&P business.
3) Sensitivity to YTD average margins in Refining and
Petrochemical business suggests upgrades likely: Every
dollar/bbl change in GRM’s increases our F2012e earnings by
8.4%, and every 10% change in netbacks increases our
earnings by 7.3%. (Exhibit 4) If we were to assume YTD
margins for both Refining and Petchem in our forecasts, our
F2012e earnings could increase by 16% to Rs80.6/share.
BP-RIL deal crystallizes a value of Rs393/share for RIL’s
E&P business: Based on a deal value of US$7.2bn, the 23 oil
and gas blocks included in the deal are worth US$24bn or
Rs314/share. However, if we were to include the contingent
payment of US$1.8bn assuming exploration success, the value
comes to US$30bn or Rs393/share. Further, we value RIL’s
CBM, Shale Gas, and PMT assets at ~Rs84/share; including
this, the deal underpins value of Rs477/share for RIL’s E&P
business. We highlight that RIL has stakes in 20 other blocks
(14 international and six domestic) that are not part of the deal.
However, conservatively we do not factor in any upside from
these blocks in our price target.
Post BP analysis: The BP-RIL deal needs government and
regulatory approvals, for which both RIL and BP have already
applied. RIL expects the deal to be completed by March 2012;
however, the deal would be effective from Jan-2011. Post
completion of deal, RIL’s F2012e EBITDA would reduce by
9.6%, but due to interest income earned on cash inflow of
US$7.2bn, RIL’s “other income” would increase 40%. Overall,
we would see no major changes in profitability of the company.
Post deal completion, RIL’s earnings will be affected by
the 30% stake sale as follows:
1) Share in KG-D6 go down to 60%: RIL’s share of E&P
volumes, revenue, and EBITDA from KG D6 will decline due
the reduction in its stake to 60% from 90%. We estimate RIL’s
overall EBITDA will decline by 9.6% or ~Rs41.4bn for F2012e
and 8.2% or ~Rs39bn for F2013e.
2) Depreciation and depletion to decline: RIL’s DD&A will
also decline, as the deal consideration of US$7.2bn will be
removed from RIL’s gross fixed assets block, which would in
turn lower the depreciation base. We estimate DD&A will be
reduced by ~19% or ~Rs25bn for both F2012 and F2013.
3) RIL’s other income will increase due to interest earned on
the consideration of US$7.2bn. We estimate RIL’s other
income will rise by 40% to Rs28bn in F2012 and 75% to
Rs41.7bn in F2013.
Overall, we expect the BP deal to be earnings neutral in
F2012 and earnings accretive by 2.9% in F2013.
Does the completion of deal change our valuation? All else
being equal, pending completion of the deal our PT of
Rs1,206/share will remain unchanged, as the decline in E&P
valuation due to the stake sale will be mitigated by the increase
in cash and cash equivalents, leaving the price target largely
unchanged
What is in our price target on E&P? We value RIL’s E&P
business at Rs477/share, which includes a DCF value of
Rs276/share for its reserves (~5.4mn boe) and an optional
value of Rs202/share for resources (~ 11mn boe) expected to
become reserves in future. We value RIL’s KG D6 fields at
Rs167/share (assuming a 51mmscmd of production).
Shale gas to start contributing from F2013: RIL formed
three JVs in US shale gas assets in 2010 by investing close to
~US$943mn in upfront cash and US$2.5bn in drilling carry.
Overall, we estimate that RIL could invest close to US$11bn
including acquisition costs over the life of these JVs. We
estimate shale gas will start contributing in F2013 with
production of ~11 mmscmd (net to RIL) and EBITDA of
US$578mn, and ramp up meaningfully to gas production of
~19 mmscmd and EBITDA of ~US$1bn by F2014.
Who are the losers based on current gas supplies? With
RIL currently producing 51mmscmd, down from 60mmscmd,
both the fertiliser and power industries are significantly affected
by the cut in gas supplies (Exhibit 16). Our discussions with
fertiliser and power companies suggests that RIL has applied
an 8-10% cut in the gas supplies because of the shortfall in its
production from the KG-D6 block. We believe this could affect
the profitability of some companies as they either cut volumes
or resort to purchase of gas from alternative sources (RLNG) at
a higher cost to maintain operating rates. Even RIL’s own
consumption of KG-D6 gas is reduced in its refinery and
petrochemical plants as the supply is down by 8% to
3.9mmscmd.
Refining Environment Improving in Asia
The Singapore complex margin for F3Q11 was an impressive
US$5.5/bbl, up 30% sequentially, and is currently hovering at
US$ 6.7/bbl range (up 22% QoQ). The gain in margins has
been partly attributed to shutdowns of refineries, more so in
Japan and Europe (see Exhibit 7) and reasonably strong
demand from China, as well as less aggressive than expected
ramp-up in capacity.
The Light-Heavy differential has also started widening and
currently stands at US$4.5/bbl (up 73% YoY), in our view
providing further support to margins.
Reliance, with its high refining complexity of ~12x, would
gain even more, in our view, since it is currently processing
~70kb/d of Cairn’s Mangala crude, which may add
US$0.50-0.60 per bbl to its GRMs. We expect RIL’s GRM to
average US$9.5/bbl in F2012 and US$10/bbl in F2013.
Petrochemicals –Polyster, PX, and PP Remain Very
Strong, Could Possibly Surprise on Upside
The sharp increase in global cotton prices has helped improve
profitability for the polyester chain. PSF margins are currently
at US$784/ton and averaging US$640/ton, which is up 28%
QoQ. PX margin is currently at US$787/ton and averaging
US$690/ton, which is up ~53% on a QoQ basis. Similarly, PP
margin is currently at US$727/ton and averaging US$645/ton,
which is up ~9% on QoQ basis.
These three products cumulatively account for ~35% of RIL’s
volumes sold. We expect margins to normalize from current
levels, but even if we were to assume a 15% decline from
current spreads on the back of global supply additions, these
three products alone could provide ~ 10% upside to our current
assumption for RIL’s weighted average spreads.
Based on YTD spreads for petrochemical products, RIL’s
netback spread could increase to US$548/t for F2012, 11%
higher than our current assumption of US$493/ton.
EBITDA/ton could increase to US$360/t and absolute EBITDA
could increase to ~Rs144bn, 18% higher than the ~Rs122bn
we currently estimate.
Summarizing Our Earning Changes:
E&P Division: We have cut our KG-D6 gas volume
assumption to 51mmscmd for both F2012 and F2013. We have
also cut our MA Oil production expectation to 23kb/d vs. our
earlier estimates of 28kb/d in F2012 and 30kb/d in F2013
Refining Division: We now assume RIL’s GRM averages
US$9.5/bbl in F2012 and US$10/bbl in F2013 against our
earlier assumptions of US$9/bbl and US$9.3/bbl, respectively.
Petrochemical Division: We have incorporated our new
Petrochemicals forecasts into our model, which has increased
RIL’s weighted average netback by ~3% to US$493/ton in
F2012e and US$515/ton in F2013e.
What’s in the Price? At current levels, we believe the market
is discounting Rs236/share for the E&P business. Based on
the value implied from RIL-BP deal, we value the E&P division
at Rs477/share including the possible performance-linked
exploration success payment of US$1.8bn that is part of the BP
deal. This implies an upside of Rs241 or 25% from current
levels.
Valuation Methodology
Our price target is based on a sum-of-the-parts valuation
(Exhibit 15, Base Case).
1) We value the R&M business on an average F2012e
EV/EBITDA of 7x, which is the average of its global refining
peers. We value the R&M business at Rs351 per share.
2) The petrochemicals business valuation is based on an
average F2012 EV/EBITDA of 8x. We value the Petrochemical
business at Rs299 per share.
3) We use a P/CEPS target multiple-based valuation for RIL’s
E&P business. We assign a target multiple of 8.7x to our
average projected cash profits of US$4bn (F2012-18E) for
global comps, in line with the normalized average global
multiples for E&P companies for F2012e. Based on this, we
arrive at a fair value of US$34.6bn, or Rs477 per share, for
RIL’s E&P business. This equates to an EV/boe of US$6.3/bbl
versus global comps, which trade at an EV/boe of
US$12-13/boe.
5) We have valued RIL’s investments at F2011e book value,
which includes RIL’s investment in telecom business. We also
value RIL’s treasury shares at ~US$6.2bn or Rs86/share. After
deducting F2011e net debt of Rs119/share, we arrive at SOTP
value of Rs1,206/share.
We see the following key risks to our price target
1) The stock’s historical correlation with the market is 0.85x,
and hence a market correction would affect RIL.
2) The removal of the tax holiday for the E&P business.
Although Reliance’s product-sharing contract entitles it to a
seven-year tax holiday, the Ministry of Petroleum has
suggested that the matter is sub judice.
3) The overhang of Reliance stock held by the company’s
subsidiaries is currently valued at close to US$6.2bn.
4) Potential delays in the execution of the company’s business
plan.
5) A significant oil/gas discovery could lead to increases in
reserves and thus a positive revision to our price target.
Similarly, unfavorable exploration results from assets could
lead to downward revisions to resource estimates and hence a
negative impact on our price target.
6) A sharp decline in global economic growth that would likely
compress our projected petrochemical and refining margins.
Company Description
Reliance Industries is India's largest private-sector company by
revenues, assets, and profits. It has interests in exploration &
production, refining, petrochemicals, textiles, telecom,
electricity, financial services, and infrastructure. Its
petrochemicals business is vertically integrated with an output of
around 11mn tons. Reliance Industries ranks among the top 10
companies worldwide in most of its key downstream products. It
operates India's largest and most complex refinery, with a
capacity of around 62mn tons.
India Oil & Gas
Industry View: Attractive
In our bull case we assume: 1) US$10.5/bbl (i.e., US$1/bbl higher) GRMs and 7x EV/EBITDA for refining business; 2) 5% higher
netbacks and EV/EBITDA of 8x; and 3) RIL’s achieves a 10bn boe of reserves (6bn boe net to RIL) through discoveries from its
exploration portfolio valued at EV/boe at US$9/boe, which is a 30% discount to global comps, which are trading at US$13/boe.
In our bear case we assume: 1) US$8.5/bbl GRMs (i.e., US$1/bbl lower GRMs from base case) and EV/EBITDA of 6x; 2) 5% lower
netbacks and EV/EBITDA of 7x; 3) RIL is not able to make any new discoveries, E&P business’s current reserves of 5.4bn boe are
valued at EV/Boe at US$3.4/boe; and 4) investments valued at 30% discount to F2011e book value.
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