Reliance Industries Limited (RIL) - Results Analysis - Buy

Price Rs : 1,215
Target Price : Rs1,880
Investment Period : 12 months

Sector : Oil & Gas
Market Cap (Rs cr) : 1,91,255
Beta : 1.1
52 WK High / Low : 3252 / 1197
Avg Daily Volume : 1121594
Face Value (Rs) : 10

Refining boosts Revenues:

Reliance Industries (RIL) delivered good set of numbers for 2QFY2009, which exceeded our expectations. RIL Net Sales clocked yoy growth of 39.8%, while Net Profit increased 7.4% yoy. RIL reported Net Sales of Rs44,787cr (Rs32,043cr) primarily on the back of better realisation registered during the quarter. Realisation improved due to higher crude oil prices. Segment-wise, the Refining and Petrochemical segments’ Gross Sales yoy grew 54.4% and 20% to Rs36,393cr and Rs15,549cr respectively, during the quarter. Crude processing during the quarter was 8.21mn tonnes (8.09mn tonnes), which was marginally higher by 1.48% yoy.

Refining Margins holds on; Petrochemical Margins take a dip:
During the quarter, RIL reported stronger-than-expected GRMs of US $13.4/bbl (US $13.6/bbl). Benchmark complex Singapore Margins, during the quarter, stood at US $5.8/bbl. Thus, RIL managed to earn a spread of US $7.6/bbl, in line with its previous performance. However, Petrochemical Margins declined by 340bp yoy largely due to a significant increase in naphtha prices over the period. However on sequential basis, petrochemical Margins
increased by 160bp qoq resulting in better-than-anticipated Profitability for the segment. Overall Operating Margins were under pressure declining by 359bp yoy to 14.5% during the quarter due to higher raw material prices.

Refining and Marketing (R&M):
The R&M segment continued its good performance and was the key driver of the company’s operating performance. R&M Revenues yoy jumped significantly by 54.4% to Rs36,393cr (Rs23,575cr) primarily on the back of higher crude oil prices. Crude processing during the quarter stood at 8.21mn tonnes (8.09mn tonnes), which was marginally higher by 1.48% yoy. EBIT Margins were under pressure both on yoy and sequential basis, declining by 220bp and 170bp, respectively. RIL reported GRM of US $13.4 per barrel compared to benchmark Singapore Margins of US $5.8 per barrel, resulting in premium of US $7.6 per barrel. In spite of the significant reduction in crude oil prices from its peak during the quarter, RIL did not clock inventory losses on account of superior inventory management.

Petrochemical segment revenues increased 20% yoy to Rs15,549cr (Rs12,961cr) primarily due to the increase in raw material prices during the quarter. Naphtha prices, during the quarter jumped significantly, which is the base raw material for all petrochemical products. Thus, higher naphtha prices impacted RIL’s Petrochemical EBIT Margins, which declined by 340bp to 12.2% (15.6%) though sequentially it moved up by 160bp. Production of petrochemical products increased from 9.8mn tonnes to 10.0mn tonnes, registering a yoy increase of 2%.

Exploration and Production (E&P):
RIL made two gas discoveries in KG basin during the quarter and commenced production of crude oil from KG D6 in mid September. Initial production was 5,000 barrels per day, which has now increased to 10,000 barrels per day. Development work of the gas from D1 and D3 fields (from KG-D6 block) is underway and production is likely to commence from 4QFY2009.

Increased capex towards E&P: During 3QFY2008, RIL incurred capex of Rs11,401cr, majority of which is spent on the Oil and Gas business.

RPL Refinery – 97% work completed: RPL’s upcoming refinery has achieved 97% completion, although the deadline is set for December 2008. The refinery is progressing rapidly and in expected to get operational ahead of schedule.

Reliance Retail: Reliance Retail launched two new formats during the quarter: Reliance Living Homeware and Reliance Home Kitchens. RIL has entered into exclusive pan-India franchise arrangements with ‘Hamleys’ toy maker.

Outlook and Valuation
RIL 2QFY2009 results exceeded expectations. Though the company managed better-than-expected numbers in both the Petrochemical and Refining segments, going ahead, anticipated slowdown in the global economy is expected to drag down Margins of both the segments. However, given the superior refining slate and relative strength in middle distillate cracks, we expect premium over Singapore margins to continue going forward. Similarly, due to integrated nature of operations, RIL is likely to be lesser affected due to anticipated slowdown in the Petrochemical segment.

Crude oil production has already commenced in the KG basin and the gas is likely to start flowing from 4QFY2009. Given the demand-supply equation of gas in the country along with low domestic gas prices, we believe there will be no impact of lower crude oil prices on the company’s gas business. In fact, the company’s gas business reduces its overall risks.

In the E&P segment, RIL expanded its international E&P footprint to Kurdistan, Oman, Yemen, Columbia, East Timor and Australia in addition to its rich domestic acreage. We believe that the upcoming E&P and Retail business will further enhance the company’s value.

We are valuing RIL on P/E basis shifting from SOTP-based valuation. We believe P/E-based valuations tend to capture fair value amidst the scenario of economic downturn. Based on our FY2010E EPS of Rs170.9 per share and Target P/E multiple of 11x, we ascribe fair value of Rs1,880 to the RIL stock. We maintain a Buy on RIL.