With the commencement of gas production from the Krishna Godavari (KG) D-6 block, Reliance Industries Ltd (RIL) will now start monetising its investment in the exploration business.
In spite of further capital expenditure (development of the KG D-6 block) over the next few years, the upstream business would generate significant free cashflows in the coming years.
Moreover, given the investment made in the exploration business, there is substantial scope for further upside in terms of new discoveries and reserve accretion.
In our valuation of the stock, we are factoring in the incremental reserves of 2.2 trillion cubic feet (tcf) from the development of satellite fields and are rolling over the price target to the average of the FY2010 and FY2011 earnings.
Consequently, we are revising upwards our price target for RIL to Rs1,816 per share.
However, we are downgrading the stock to HOLD rating. As the market price is close to our price target we recommend partial booking of profits (and waiting for a better entry point).
Moreover, the recent weakness in the refining margins and stronger-than-expected rupee are the key risks to our earnings estimates and valuation.