Reliance Industries shares rating: 'Buy', says Deutsche Bank

Written by Deutsche Bank | Updated: Jul 29 2013, 17:47pm hrs
Higher other income supports Q1 net profit : * Reliance Industries (RIL) reported Q1FY14 net profit of Rs 53.5 bn (+20% year-on-year, -4.2% quarter-on-quarter), in line with our estimates and marginally above consensus. Ebitda (earnings before interest, taxes, depreciation and amortisation) at Rs 70.8 bn (+5% y-o-y, -10% q-o-q) was, however, below our estimates due to lower- than expected petchem profits, higher other expenses at Rs 63 bn (+9% y-o-y, +11% q-o-q) and higher staff cost at Rs 9 bn (+6% y-o-y, +13.5% q-o-q).

Gross refining margins (GRM) increased 10.5% y-o-y to $8.4/bbl (-17% q-o-q), plus $1.9/bbl (barrel) over Singapore complex margins. As on 30 June 2013, on a standalone basis, RIL had net cash and cash equivalents of Rs 931 bn ($15.7 bn). Reliance Industries also had consolidated net debt of Rs 1,170 bn ($19.7 bn).

Other income contribution to pre-tax profits increased to 38%: In Q1FY14, RIL reported its highest ever other income of Rs 25.4bn (+33% y-o-y, +13% q-o-q), implying a contribution of 38% to pre-tax profit. We expect other income contribution to remain elevated as cash balances are likely to remain high despite the planned capex spend. Cash and cash equivalents (standalone) currently stands at Rs 931 bn ($15.7 bn).

Segment performance: The quarter was marked by an improved performance in downstream (refining and petrochemicals) business, offset by a weaker performance in upstream oil & gas business. E&P (exploration and production) business reported lower Ebit (earnings before interest and taxes) due to an ongoing decline in production. KG D6 gas production in Q1FY14 fell further to 15.5mmscmd (- 52% y-o-y, -19.5% q-o-q) and is currently around 14mmscmd (million metric standard cubic metre per day). Refining segment reported an improved performance driven by higher refining margin of $8.4/bbl (+10.5% y-o-y) and rupee depreciation.

Refining: GRM up 10% y-o-y driven by higher premium over regional benchmark: RIL reported Ebit of Rs 29.5 bn (+37% y-o-y, -16% q-o-q) driven by higher GRM of $8.4/bbl (+10.5% y-o-y) and a weaker Indian rupee (average 56 during Q1FY14, +3% y-o-y). Refining throughput was 17.1mmt (-1.2% y-o-y, +6% q-o-q).

The company is implementing the petcoke gasification plant with capex of $4bn. We estimate this plant to add $3/bbl to RILs refining margin by replacing the high cost LNG with synthetic gas produced from petcoke. The project is likely to be completed by FY16. The company has completed basic engineering for the project and envisages proceeding to procurement of long lead items shortly.

Petrochemicals: weaker-than-expected performance: Petrochemicals segment reported 7.5% y-o-y growth in Ebit to Rs 19bn, driven by weaker rupee (+3% y-o-y). However, petchem profitability was lower than our estimates despite improved product spreads as per independent consultant CMAI. The petchem capacity additions being implemented by RIL will start to contribute to the bottom line from H2FY14.

Oil and gas: shale gas production now 130% of RILs share from KG D6: Oil & gas segment Ebit at R3.5 bn (-64% y-o-y, -23.5% q-o-q) was lower on account of lower oil & gas production in KG D6 and Panna-Mukta-Tapti blocks as these fields are in natural decline. In Q1FY14, KG D6 production fell to 15.5mmscmd (-52% y-o-y, -19.5% q-o-q) for gas and 6k bpd (-46% y-o-y, -15% q-o-q) for oil and condensates. Natural gas production was also lower in both Panna-Mukta (-6% y-o-y to 5.3mmscmd) and Tapti fields (-43.5% y-o-y to 2.4mmscmd) due to the natural decline in these fields.

Domestic E&P update: RIL has already commenced exploratory drilling in KG D6 block and announced a discovery. Based on preliminary technical evaluation of reservoir parameters, according to Niko Resources (one of RIL's partner in the KG D6 block), the MJ1 discovery could exceed the high-end pre-drill estimates. With an additional deep-water rig expected by August 2013, we expect exploratory/development/ work-over drilling activity to accelerate in H2FY14. The management indicated that work-over drilling and compressor could lead to stemming the fall in gas production from KG D6 by end FY15.

US shale gas: RILs three US shale gas joint ventures have continued to show good progress with shale gas production net to RIL reaching an average of 13mmscmd in Q1FY14 (which is 130% of RILs share of KG D6 gas production). These JVs in total reached a Q1FY14 gross production of 626mmscfed (18mmscmd) of gas and 63k bpd of gas condensate. Production was ramped up in all three JVs, Pioneer (+3% q-o-q), Chevron (+15% q-o-q) and Carrizo (+46% q-o-q). RIL expects shale gas to contribute 8- 10% to consolidated Ebitda in FY15.

Other businesses: Organised retail continued to show robust growth: RILs organised retail reported an Ebitda of R700m in Q1FY14 as against R780m for full year FY13. The turnover increased 53% y-o-y to R35bn during the quarter. Despite a slowing economy, RIL witnessed robust same store sales growth of 10-22% y-o-y across its various store formats. RIL now operates over 1510 stores aggregating 9.4mm sq ft in 129 cities across India.