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Reliance Industries Ltd’s (RIL) shares closed flat on Monday, the first trading session after its December quarter results (Q3FY23). The company’s oil-to-chemicals (O2C) business fared better than expectations, lifting the overall show last quarter.

Even so, there is no breather on the capital expenditure (capex) and debt front with both these measures continuing to rise sequentially. In Q3, consolidated capex rose by 15.6% sequentially and reported net debt was up by 18%. RIL said the change in net debt is largely attributable to capex funding. Accelerated capex was towards 5G roll-out and ramp-up in retail operations. For the nine-month period ended December, capex has risen as much as nearly 47% year-on-year (y-o-y) to about 1 trillion.

Graphic: Mint
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Graphic: Mint

“Given RIL’s lack of disclosure on segment-wise capex and any guidance on capex, forecasting capex (and hence net debt) is a difficult exercise," said analysts from J.P. Morgan India in a report on 21 January. However, a sustained increase in capex is likely to keep return ratios subdued.

As such, amid broader market chaos, shares of RIL are down by nearly 8% so far in the financial year 2023. In comparison, the Nifty50 index is up by 3.7%. The lack of tariff hikes in the telecom business has also played spoilsport on investor sentiment. In Q3, the lack of tariff hikes has meant Reliance Jio’s average revenue per user (Arpu) was up by a mere 0.6% sequentially to 178.2. “We note the outlook on telecom earnings has been recently impacted by the sector being unwilling to take a tariff hike as factored in by the Street," said analysts at Nomura Financial Advisory and Securities (India) in a report.

There is a silver lining, too. Given Vodafone Idea Ltd’s weak financial and operational health, Nomura analysts believe RIL will be better placed to capitalize on Vodafone Idea’s outgoing subscribers given its attractive pricing. RIL’s consolidated earnings per share has 3% upside to every incremental 25 million subscribers and 4% upside to every 10 increase of Arpu, according to Nomura.

RIL’s other consumer business—retail—faces the risk of demand slowdown in the coming days. In Q3, the company’s management noted a slowdown in discretionary spending, especially in November, thus weighing on the retail segment. While the segment’s area under operation rose by 50% y-o-y to 60.2 million square feet (sq.ft.) last quarter, revenue growth was below 20%, implying a drop in revenue per sq.ft. Investors would do well to closely watch the demand trends here.

The O2C business has brought cheer in Q3. RIL’s refining margin was strong, helped by higher spreads for diesel and aviation turbine fuel, according to ICICI Securities. Petrochemicals business was muted though, weighing on the division’s profitability.

Hereon, all eyes would be on China and how the reopening of its economy after the covid lockdown would affect demand. In short, the extent of rebound in Chinese demand remains to be seen.

“In our view, going ahead, global recessionary concerns, amidst continued capacity addition (refining & petrochemical) could possibly be a key overhang on petroleum spreads, impacting RIL’s operating cashflow in coming quarters, whereas capex requirement remain high," said Nitin Tiwari, analyst at Yes Securities in a report on 21 January. “Caveat to above is a strong revival in Chinese economy and petroleum demand, aiding cracks," he added.

Jefferies India sees potential earnings upside from the O2C business if demand in China recovers by mid-CY2023 and export duties are eliminated. Additionally, potential tariff hike remains a key catalyst for the RIL stock, going ahead.

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