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Reliance Industries (RIL)
N: Q4FY11 results point to better Q1FY12 but flat thereafter
4QFY11 results were moderately lower than our and
consensus estimates on lower refining margin. Consolidated
earnings disappointed on dry well write-off
We expect robust earning in 1QFY12 on resumption of all
refining units but brace for several flat quarters thereafter in
the absence of any earnings trigger
Maintain Neutral and target price of INR1,084
RIL reported mildly weaker earnings. Q4FY11 PAT (growth of 14% y-o-y and 5% qo-
q) was moderately lower than our estimates due to shutdown of a key refining unit,
which resulted in refining margin of USD9.2/bbl, lower than our estimate of USD9.5. Gas
production from D6 averaged c51mmscmd. Petrochemical margins did reflect prevailing
robust international margins, which we believe have plateaued.
Mixed outlook. Restoration of all refining units should restore premium over regional
margins, which in turn should result in robust 1QFY12 performance. However, in the
absence of further triggers, earnings are likely to be flat for the next several quarters until
the new petrochemical capacity comes online over a two- to three-year time. With a cash
balance of cUSD10bn, the problem of deployment of cash is further accentuated, as we
believe existing projects will require only USD3bn capex during FY12.
Valuation and risks: Our target price is based on a sum of the parts analysis. We
continue to value the E&P business on DCF for producing properties and reserves
multiple for discovered fields. We value the refining & petrochemical segment on the
average of EV/EBITDA and PE and investments on actual. We maintain our estimates
and TP of INR1,084 and reiterate our Neutral rating as our target price implies a potential
return of c6.6%, which is within the Neutral band for non-volatile Indian stocks. Refining
and petrochemical margins, gas production ramp-up from D6 block and USD/INR
exchange rate are risks to the upside and downside. A USD1/barrel change in refining
margin would change our target price by INR70/share.
Key highlights of the results
RIL wrote off INR9.17bn during FY11 on wells drilled in its international blocks.
Company received USD2bn as deposit from BP which is recorded under its current liabilities.
Consequently, its net debt at the standalone level was lower, to INR250bn from INR384bn, in
3QFY11.
RIL announced a rich gas and condensate discovery in its CY-PR-DWN-2001/3, making it RIL’s 53rd
discovery.
It drilled one well each in KG-DWN-2001/1, PR-CY-DWN-2001/1 and MN-DWN-98/2 during the
quarter.
RIL relinquished one block in Peru (Block 155) from its international portfolio and CB-ON/1 from its
domestic portfolio during the quarter.
Its implied cost of debt went up to 4.7% from the current 3.9%.
Investment view
RIL is struggling to deploy the cash it is generating from its businesses. We further believe that given the
size of the company and limited organic growth options, maintaining the historical earnings growth of
c23%pa is a tall ask for the company in the absence of an aggressive inorganic growth strategy. This is
likely to erode the premium that RIL has commanded traditionally over integrated global oil and gas
companies. We believe investors might no longer consider RIL as a defensive stock and could start to
view it as a proxy for refining and petrochemical margins. Our estimate of USD9.5/barrel refining margin
for the balance of FY12e assumes regional margins ahead of the mid-cycle levels, while our
petrochemical margins estimates are broadly in line with the prevailing prices and the forecast by CMAI.
Downstream outlook robust but upstream outlook clouded. We expect the current refining and
petrochemical margins to continue into FY12e. However, we believe RIL is unlikely to ramp up its
natural gas production from current levels of c.50-52m standard cubic metres/day (mmscmd) near term in
the absence of relevant regulatory approvals for new development, technical limitations with existing
wells and a long lead time for critical deepwater equipment. The current gas production was not only well
below the intended peak rate of 80mmscmd but also sequentially lower. However, we believe the
association with BP Plc is likely to ameliorate investor concern in this regard to some extent.
New initiatives not adding significant value. We not only believe that volume growth from core
businesses is likely to remain muted for the next few quarters as new petrochemical capacity is likely
only through FY13 and FY14, but also that new initiatives such as shale gas, telecoms and power are
unlikely to result in more than 5-10% CAGR in earnings over FY13-15e. We expect investment of
cUSD20bn over FY11-13 but the corresponding net present value (NPV) is unlikely to be more than
USD8bn, or 10% of current EV (USD82bn). Although RIL can leverage its strength in the power
business, we think its attempts to diversify into new areas may stretch management.
Valuation
We value the upstream business on a DCF basis for the producing blocks and on a reserve multiple basis
for the discovered blocks. We value RIL’s downstream business using the average of 13x PE and 8x
EV/EBITDA multiples on FY13e earnings, which is in line with regional peers. We also value the recent
shale acquisitions, Pioneer and Atlas Energy, on a DCF basis. Our FY12 and FY13 EPS estimates are 4%
and 8% below consensus.
Under our research model, for stocks without a volatility indicator, the Neutral band is 5ppt above and
below our 11% hurdle rate for Indian stocks, or 6-16% around the current share price. Our unchanged
target price of INR1,084 implies a potential return of c6.6% including the dividend yield; we reiterate our
Neutral rating.
Sensitivity analysis and risks
Sensitivity of GRM: A USD1/bbl change in gross margin would change our FY13e EPS by INR5 (c7%)
and target price by INR70. Sensitivity of petrochemical margins: An increase in petrochemical margins
by c10% would raise our FY12e EPS by 6%.
Key risks to our earnings and valuation, both to the upside and downside, are refining margins,
petrochemical margins and production from KG-D6 being different from our assumptions.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Reliance Industries (RIL)
N: Q4FY11 results point to better Q1FY12 but flat thereafter
4QFY11 results were moderately lower than our and
consensus estimates on lower refining margin. Consolidated
earnings disappointed on dry well write-off
We expect robust earning in 1QFY12 on resumption of all
refining units but brace for several flat quarters thereafter in
the absence of any earnings trigger
Maintain Neutral and target price of INR1,084
RIL reported mildly weaker earnings. Q4FY11 PAT (growth of 14% y-o-y and 5% qo-
q) was moderately lower than our estimates due to shutdown of a key refining unit,
which resulted in refining margin of USD9.2/bbl, lower than our estimate of USD9.5. Gas
production from D6 averaged c51mmscmd. Petrochemical margins did reflect prevailing
robust international margins, which we believe have plateaued.
Mixed outlook. Restoration of all refining units should restore premium over regional
margins, which in turn should result in robust 1QFY12 performance. However, in the
absence of further triggers, earnings are likely to be flat for the next several quarters until
the new petrochemical capacity comes online over a two- to three-year time. With a cash
balance of cUSD10bn, the problem of deployment of cash is further accentuated, as we
believe existing projects will require only USD3bn capex during FY12.
Valuation and risks: Our target price is based on a sum of the parts analysis. We
continue to value the E&P business on DCF for producing properties and reserves
multiple for discovered fields. We value the refining & petrochemical segment on the
average of EV/EBITDA and PE and investments on actual. We maintain our estimates
and TP of INR1,084 and reiterate our Neutral rating as our target price implies a potential
return of c6.6%, which is within the Neutral band for non-volatile Indian stocks. Refining
and petrochemical margins, gas production ramp-up from D6 block and USD/INR
exchange rate are risks to the upside and downside. A USD1/barrel change in refining
margin would change our target price by INR70/share.
Key highlights of the results
RIL wrote off INR9.17bn during FY11 on wells drilled in its international blocks.
Company received USD2bn as deposit from BP which is recorded under its current liabilities.
Consequently, its net debt at the standalone level was lower, to INR250bn from INR384bn, in
3QFY11.
RIL announced a rich gas and condensate discovery in its CY-PR-DWN-2001/3, making it RIL’s 53rd
discovery.
It drilled one well each in KG-DWN-2001/1, PR-CY-DWN-2001/1 and MN-DWN-98/2 during the
quarter.
RIL relinquished one block in Peru (Block 155) from its international portfolio and CB-ON/1 from its
domestic portfolio during the quarter.
Its implied cost of debt went up to 4.7% from the current 3.9%.
Investment view
RIL is struggling to deploy the cash it is generating from its businesses. We further believe that given the
size of the company and limited organic growth options, maintaining the historical earnings growth of
c23%pa is a tall ask for the company in the absence of an aggressive inorganic growth strategy. This is
likely to erode the premium that RIL has commanded traditionally over integrated global oil and gas
companies. We believe investors might no longer consider RIL as a defensive stock and could start to
view it as a proxy for refining and petrochemical margins. Our estimate of USD9.5/barrel refining margin
for the balance of FY12e assumes regional margins ahead of the mid-cycle levels, while our
petrochemical margins estimates are broadly in line with the prevailing prices and the forecast by CMAI.
Downstream outlook robust but upstream outlook clouded. We expect the current refining and
petrochemical margins to continue into FY12e. However, we believe RIL is unlikely to ramp up its
natural gas production from current levels of c.50-52m standard cubic metres/day (mmscmd) near term in
the absence of relevant regulatory approvals for new development, technical limitations with existing
wells and a long lead time for critical deepwater equipment. The current gas production was not only well
below the intended peak rate of 80mmscmd but also sequentially lower. However, we believe the
association with BP Plc is likely to ameliorate investor concern in this regard to some extent.
New initiatives not adding significant value. We not only believe that volume growth from core
businesses is likely to remain muted for the next few quarters as new petrochemical capacity is likely
only through FY13 and FY14, but also that new initiatives such as shale gas, telecoms and power are
unlikely to result in more than 5-10% CAGR in earnings over FY13-15e. We expect investment of
cUSD20bn over FY11-13 but the corresponding net present value (NPV) is unlikely to be more than
USD8bn, or 10% of current EV (USD82bn). Although RIL can leverage its strength in the power
business, we think its attempts to diversify into new areas may stretch management.
Valuation
We value the upstream business on a DCF basis for the producing blocks and on a reserve multiple basis
for the discovered blocks. We value RIL’s downstream business using the average of 13x PE and 8x
EV/EBITDA multiples on FY13e earnings, which is in line with regional peers. We also value the recent
shale acquisitions, Pioneer and Atlas Energy, on a DCF basis. Our FY12 and FY13 EPS estimates are 4%
and 8% below consensus.
Under our research model, for stocks without a volatility indicator, the Neutral band is 5ppt above and
below our 11% hurdle rate for Indian stocks, or 6-16% around the current share price. Our unchanged
target price of INR1,084 implies a potential return of c6.6% including the dividend yield; we reiterate our
Neutral rating.
Sensitivity analysis and risks
Sensitivity of GRM: A USD1/bbl change in gross margin would change our FY13e EPS by INR5 (c7%)
and target price by INR70. Sensitivity of petrochemical margins: An increase in petrochemical margins
by c10% would raise our FY12e EPS by 6%.
Key risks to our earnings and valuation, both to the upside and downside, are refining margins,
petrochemical margins and production from KG-D6 being different from our assumptions.
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