Mumbai: A day after the Bombay high court ruled that Reliance Industries Ltd, or RIL, must sell natural gas to Reliance Natural Resources Ltd, or RNRL, at $2.34 per million British thermal units (mBtu)—44% below the government-stipulated price of $4.20 per mBtu to all other customers—analysts were divided on the impact of the ruling on RIL’s earnings.
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The two firms have been locked in a three-year legal battle over rights to 28 million standard cu. m a day (mscmd) of natural gas for 17 years.
Analysts have modelled possible scenarios, from RIL selling gas only to RNRL at the lower price, to both RNRL and NTPC Ltd, with the government either yielding or refusing to accept profit share at $2.34 per mBtu.
The worst-case scenario is that RIL will sell gas at the lower price to both RNRL and NTPC with the government demanding its share at $4.20 per mBtu. NTPC and RIL are also in court over an “unlimited liability” clause in a contract that requires RIL to sell 12 mscmd of gas at $2.34 per mBtu for 17 years.
Calling the “court order a setback for E&P (exploration and production) valuations”, Citigroup Global Markets Inc.’s sector analysts Rahul Singh and Saurabh Handa wrote in a Monday note to clients that clarity was awaited on what price the government’s profit share would be calculated at.
Also, they wrote, “It’s not clear whether the court ruling supersedes the gas allocation policy and would affect existing gas allocations as and when Anil Dhirubhai Ambani Group’s power plants are ready,” referring to the list of priority sectors and gas users that government had drawn up.” RNRL’s proposed Dadri power plant will be lower in the priority list, behind priority projects in fertilizer, power, petrochemical and city gas.
The court, however, said that the allocation would not be affected by any such list.
Also See Chronology of Important Events Related to the RIL-RNRL Gas Dispute (Graphics)
Somshankar Sinha and Vikash Kumar Jain, analysts at CLSA Group dubbed the ruling a “multi-billion dollar setback” that could slice Rs160-225 per share from their valuations.
First Global said in a Tuesday report that the ruling could likely be used as a precedent in the ongoing RIL-NTPC lawsuit, and estimated a total net profit decline for RIL of up to Rs1.73 trillion over a 17-year period beginning 2013.
Kotak Securities Ltd analysts Sanjeev Prasad and others estimated a decline of Rs71-183 per RIL share and downgraded it to “sell” noting “significant potential downside from current levels (-32%) and potential risks to earnings” from weak refining margins and absence of tax incentives on gas exploration and production, besides the ruling.
The impact is far into the future and a lot could change in-between. Morgan Stanley’s Vinay Jaising and three other analysts, in a note released on Monday, said: “RNRL or its affiliate companies will take close to two years to build a gas-based power plant... So the current judgement makes no impact to our (RIL) earnings even if this does go to the Supreme Court and it gives the same judgement.” Sounding the most optimistic among its lot, the report added: “We believe these agreements (with fertilizer and power companies) will not be hampered.”
A report from Sharekhan Ltd said it was not incorporating the impact into its estimates as there is confusion over whether court’s ruling puts claims of RNRL above the government’s gas allocation policy or not.
The only thing that analysts agreed upon, besides the fact that there will not be much impact on RIL’s earnings, is that a long drawn out lawsuit is at hand, between the Mukesh Ambani-led RIL, also the country’s largest company by market capitalization, and RNRL, which is controlled by estranged brother Anil Ambani. A Macquarie Research report put it bluntly: “It ain’t over till it’s over.”
RNRL had based its claim on an undisclosed family pact signed in 2005 which lay the ground for splitting the Reliance empire. RIL had disputed the validity of that claim. The court ruled that the family pact was binding on both parties.
KG basin in gas dispute: what brokerages say
Analysts’ take on the KG basin gas dispute verdict
•Kotak Securities estimates a knock of Rs71-183 per share in Reliance Industries Ltd’s (RIL) fair valuation, depending on the government stance. It has downgraded RIL’s rating to “sell”, noting significant potential downside from current levels (-32%) and potential risks to earnings.
•First Global calls it a legal blow to RIL’s revenues and says it may set a precedent for the RIL-NTPC ruling.
•Sharekhan says there was ambiguity as to who—NTPC Ltd and RNRL or the government-identified priority sectors—gets precedence on the allocation of the first 40 million standard cu. m a day (mscmd) of gas from the Krishna-Godavari (KG) basin. It will not incorporate the impact in its estimates; has given a “hold” rating but kept target price under review.
•Prabhudas Lilladher calls the ruling “definitely negative for RIL” hurting the firm’s net present value for the KG basin, future cash flows and FY11 earning per share. It has maintained an “accumulate” rating for the stock.
•Angel Broking views it as a “setback” for RIL and favourable for Reliance Natural Resources Ltd (RNRL), Reliance Power Ltd and NTPC. It has maintained an “accumulate” rating on RIL.
•Morgan Stanley says the current judgement makes no impact to whose earnings as RNRL or its affiliate companies will take close to two years to build a gas-based power plant. It has rated RIL as “overweight”.
•KR Choksey says the verdict is against their and market expectations in which they assumed $4.20 per mBtu as price.
•Macquarie Research views the judgement as a big positive for RNRL and negative for RIL. It maintains its “outperform” rating on the latter; government’s future stand is key.
...but they all agree on the following:
• Continued litigation is a very strong possibility
• Chances of RIL and RNRL signing an agreement in the near future are bleak
• There is no immediate financial impact on RIL
Graphics by Ahmed Raza Khan / Mint