BackRIL’s strong Q3 performance signals turnaround, say analysts
Firm's operating profit will steadily rise and could even double in three years, say securities houses
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Mumbai: Reliance Industries Ltd’s better-than-expected performance in the three months ended 31 December is seen by analysts as an indication that the tide is turning for the conglomerate that will post a decline in operating profit in 2013-14, just as it has in the past two fiscals.
The operating profit of the company will steadily rise, and could even double in three years, securities houses CLSA and Goldman Sachs predict. The rationale: an increase in gas production, an imminent rise in the price that RIL can charge for gas, a turnaround in the retail venture, and a significant capital expenditure programme across core businesses such as petrochemicals and refining aimed at capacity expansion and improved margins.
Some of that was already evident in the company’s performance in the quarter ended 31 December. RIL announced its earnings for the third quarter of fiscal 2014 on Friday and beat Street expectations by reporting a net profit of ₹ 5,511 crore, 0.2% higher year-on-year (y-o-y) and 3.65% ahead of a Bloomberg consensus of the firm’s earnings estimates put out by various brokerages. RIL reported a 10.5% y-o-y rise in revenue in the same period at ₹ 1.06 trillion.
That performance, and the promise it holds for the future, encouraged two brokerages to raise their price target for the RIL stock even as others have retained their earlier targets.
Nomura has raised its price target to ₹ 1,120 per share from ₹ 1,075 earlier, while Kotak Securities raised it to ₹ 1,030 per share from ₹ 980 earlier.
Reliance’s stock lost 1.7% to close at ₹ 869.50 on BSE on Monday, while the bourse’s benchmark index Sensex gained 0.67% to close at 21,205.05. Over the last one year, RIL has underperformed the benchmark index, losing 3.28% of its market value, while the Sensex gained 5.82%. “These expansions (in core businesses), along with gas price hike, should drive doubling of Ebitda (earnings before interest, taxes, depreciation and amortization) after three annual declines," according to a CLSA report dated 18 January.
The report said RIL’s consolidated operating profit could fall to $5.8 billion by the end of the current fiscal from $8.5 billion in 2010-11, before rising to an estimated $12 billion by 2016-17.
Goldman Sachs agrees.
“RIL’s major capex will lead to a structural rise in cash returns (around 200 basis points) over the medium term. This should lead to near doubling of earnings by fiscal 2017 and re-rate the stock in our view," a Goldman Sachs report on Monday said. One basis point is one-hundredth of a percentage point.
Much of this optimism arises from the company’s disclosures during a conference call with analysts on Friday.
For instance, one long-standing concern of analysts has been the declining gas output from RIL’s D6 reservoir in the Krishna Godavari basin, and which was once billed as India’s largest gas find till date. Against a projected peak production of 80 million standard cu. m per day (mscmd), the field produced only 13 mscmd in the October-December quarter.
However, all indications suggest that after three years of declining production, the fall in gas output has finally bottomed out. A new gas field in D6, called MA-8, has added around 2 mscmd output and is expected to add more.
Added to this is the prospect of gas production from new fields such as MJ-1 and improved gas output from existing fields pursuant to solutions being put in place by RIL and its London-based partner, BP Plc. RIL’s Canadian partner in the D6 Block, Niko Resources Ltd, said in its March 2013 annual report that it expects gas production to rise to around 20 mscmd in fiscal 2015.
“RIL confirmed that decline in D6 volume has reversed and that there should be modest near-term volume growth," the Goldman Sachs report said. “We believe by fiscal 2020, RIL’s gas volumes should reach 50 mscmd vs the 13 mscmd in fiscal 2014."
The turnaround in productivity comes even as gas prices are set to rise from April 2014, which will make RIL’s efforts more remunerative. Earlier this month, the central government notified a price increase in accordance with the new formula for gas pricing suggested by a committee headed by C. Rangarajan, chairman of the Prime Minister’s Economic Advisory Council.
Until December, it was unclear whether RIL would benefit from the decision, with some sections of the government keen to retain the status quo pending proceedings to ascertain the company’s role in declining gas production. The issue was put to rest with the government agreeing to let RIL charge higher gas prices in lieu of a bank guarantee that can be invoked if the company is found to be at fault.
“After the gas price notification issuance, the key roadblock to the start of investment for monetization of other (gas) discoveries is behind, in our view," a report on Monday by Nomura said.
RIL’s plans to produce and sell coalbed methane (CBM)—natural gas extracted from coalbeds—in India were also stuck, but with the new price under the Rangarajan committee formula being applicable to all kinds of natural gas produced in India, RIL is poised to go ahead with its plans to develop its CBM acreages as well.
An investor presentation on RIL’s website dated 17 January states that the Mukesh Ambani-led conglomerate will target beginning gas production from its CBM fields in Madhya Pradesh by 2015-16.
The other RIL business that appears to be coming of age is its retail venture, which posted a pre-tax net profit of ₹ 106 crore, its first ever, in the December quarter.
“The retail business reached a major milestone by turning in net profit for the quarter. We expect retail to record full-year profit in fiscal 2015," the Goldman Sachs report said.
Analysts are also bullish about the impact that RIL’s announced capital expenditure programme across core businesses like petrochemicals and refining will have on its bottom line. Two reports, a Monday report by Barclays and the CLSA report, state that RIL’s capital expenditure on downstream projects may be to the tune of $14-15 billion, against the earlier expectation of $12 billion.
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