New bets starting to pay off for RIL

Mumbai: When Reliance Industries Ltd (RIL) invested in the US shale gas business in 2010 by picking up significant minority stakes in joint ventures with local partners, most thought that it was to learn the technology of extracting a new energy resource, which could be replicated when shale gas exploration is licensed in India.

add_main_imageThat may still hold true but three years down the line RIL’s entitlement to natural gas from its US shale partnerships has become bigger than its share of gas from the troubled D6 block in the Krishna-Godavari basin in India, RIL’s flagship asset in its oil and gas portfolio. The development, which came to light on Tuesday after RIL announced its earnings for the quarter ended 31 March, is symbolic of the greater role that new businesses like shale gas and retail (RIL announced that its retail venture had achieved cash break-even) are slated to play in the conglomerate’s scheme of things.

The operating performance of new businesses such as shale and retail, along with continued strength of businesses such as refining, led at least two brokerages to re-rate the RIL stock, following the announcement of earnings.NextMAds

Axis Capital Ltd revised RIL’s price target to ₹ 1,115 per share from ₹ 950 earlier and Edelweiss Securities Ltd raised the price target to ₹ 1,007 from ₹ 915.

RIL’s share lost 3.78% to close at ₹ 774.10 each on BSE on Wednesday.

The bourse’s benchmark index Sensex lost 0.07% to close at 18,731.16 points on the same day.

An Edelweiss Securities report dated 16 April pointed out that RIL’s share of natural gas from its US shale business for the January-March quarter was 11.4 million standard cubic metres per day (mscmd), higher than its 60% share of the current average production of 16.5 mscmd from D6.

To be sure, RIL and its British partner BP Plc. are making efforts to ramp up gas production from D6 and are planning to spend an additional $5 billion in capital expenditure to develop the reservoir to boost output, if gas prices in India become more “market-linked” and thus remunerative.

Meanwhile, by investing $5.7 billion, RIL earned a revenue of $616 million in fiscal 2013, 76% higher year-on-year. The business yielded an operating profit of $483 million, 85% higher than the year ago and almost as much as RIL earned from its stand-alone oil and gas business that mostly constitutes its Indian operations.sixthMAds

Future indicators for RIL’s shale gas business remain encouraging with audited proved reserves in the US increasing by 135% to 1.9 trillion cubic feet equivalent for the year ended December.

An RIL investor presentation on its website highlights that US gas prices are recovering from “multi-year lows, supported by higher demand (driven by cold weather), lower gas drilling activity and lower storage levels”. The current Henry Hub (US gas price index) price is around $4.3 per million British thermal unit (mBtu). It has rebounded from levels of around $2 per mBtu that gas prices had reached around a year back.

The Edelweiss report states that RIL’s average price realization per unit of gas in fiscal 2013 was $5.3 per mBtu, more than a dollar higher than the domestic price of D6 gas. The operating profit margin from this business stood at 78%. In contrast, the margin from RIL’s stand-alone oil and gas business stood at 35%.

A 17 April report by Macquarie Equities Research said the brokerage was looking for two key businesses to drive the beginning of a “U-shaped earnings recovery”, which now it believes “is firmly under way”. The Macquarie report said US shale operating profit has doubled and posted a modest positive net profit of $53 million.

The other business that Macquarie was looking out for was organized retail, which returned a positive Ebitda (earnings before interest, tax, depreciation and amortization) for fiscal 2013. Net losses from the business were also “cut to a modest ₹ 175 crore”. 

The business also crossed the ₹ 10,000 crore milestone in the last fiscal. Perhaps for the first time, RIL discussed its retail business, in as much detail as its legacy businesses such as refining and petrochemicals, in its investor presentation, signalling its bullishness. RIL said that its retail stores, across formats, saw same-store sales growth (a key measure of the health of a retail business) ranging from 7% to 18%. By RIL’s own assessment, it is a market leader in whichever retail segments it is present in.

A 17 April report by CLSA Asia-Pacific Markets stated that RIL was estimated to have generated a free cash flow of $4 billion in 2012-13, helped by declining working capital. It added that after the three straight years of declining, the Mukesh Ambani-led conglomerate’s operating profit was likely to double in the next four years, owing to its $12 billion downstream expansion, a possible doubling of gas price and a rise in gas output.