On top of a 20% YTD (year-to-date) underperformance, RIL has continued to lag the Sensex recently (by 3% in the last month) despite a robust petchem and refining recovery, as negative newsflow on KG gas ramp-up has continued to affect stock sentiment. However, we believe that while E&P (exploration and production) disappointment is now fully priced in, strength in its cyclical businesses offsets most of the negatives, making risk/reward compelling. Reiterate Buy with a TP (target price) of Rs1,184 (Rs1,140 earlier) as we roll forward to Mar-12e from Sep-11e.
Our assumptions of slower KG gas ramp-up (57/64/80 mmscmd for FY11/12/13E) and stronger rupee are largely offset by a robust petchem outlook, limiting our EPS (earnings per share) cut to 2-5%. For KG gas, while time lines on a price-hike remain uncertain, recent data points reaffirm our view that prices are set to rise for RIL. Accordingly, we assume a higher price of $5.2 for vols (volumes) over 80 mmscmd in FY14e and for entire vols beyond FY15e. While our E&P value increases only marginally (Rs 464 to Rs 471) as a result of this due to our reduced vol forecasts, this could witness further upside if a price hike leads to expectations of reserve value enhancements and an advancement of ramp-up time lines.
Stronger petchem, improving refining outlook?RIL should continue to benefit from strong margins across the polyester chain due to cotton tightness, which is unlikely to ease until H2CY11. We also see stronger ethylene margins over CY12-14 as supply growth comes off, though CY11 margins could remain capped. Overall, the changes lead to our petchem Ebitda (earnings before interest, taxes,depreciation and amortisation) forecasts staying flat over FY11-12e and up 8-9% over FY10 (7-9% YoY declines earlier), despite appreciating rupee. For refining, we see a gradual improvement of product demand/supply balance into CY11-12, which should support RIL?s GRMs (gross refining margins) of $8.3/9.4/10.0.
Recent discussions with the management suggest that RIL is in dialogue with the government for higher gas prices for new production. Also, the government has recently allowed ONGC to charge a price of $5.25 for non-priority customers, further indicating its willingness to raise prices. While time lines remain uncertain, we continue to believe that higher prices would drive E&P value for RIL
We continue to base our Rs1,184 target price on an average of a SOTP (sum-of-the-parts) value (Rs1,117/share) and P/E (price-to-earnings) value (Rs1,192/share) and explicitly adds NPV (net present value) of the shale gas JVs of Rs 30/share. We have, however, rolled-forward our multiples basis from Sep-11e earlier to Mar-12e.
We value RIL?s E&P business at Rs 471/share (Rs 464/share earlier) in our SOTP based on 10x Mar-12e (8x earlier) EV (enterprise value)/Ebitda; the implied premium of our SOTP valuation to NAV (net asset value) of known reserves (D6+NEC+CBM) remains largely the same at 42% (43% earlier). We continue to base the E&P valuation on an EV/Ebitda -based methodology in our SOTP to remove the impact of high DD&A (depletion, depreciation and amortisation). The reason for the higher multiple we now attribute to the E&P business is our lower production estimate of 64 mmscmd (million metric standard cubic metres per day) for FY12 as well as the higher price of $5.2 we take beyond production of 80 mmscmd. The impact of the higher gas price as well as the production ramp up will only be felt in FY14 and beyond, which cannot be adequately captured using near-term multiples.
Based on latest updates suggesting a slower ramp-up of KG gas production, we tone down our gas production forecasts to 57/64/80 mmscmd over FY11/ 12/13e (63/80/110 mmscmd earlier). While management has not guided towards any firm time line to get to the 80 mmscmd plateau, we believe that RIL should be able to ramp-up to this level by FY13e.
While a formal revision of KG gas price could still be some time away (the price of $4.2/mmbtu is fixed till Mar-14), we believe that skewed gas demand/supply in India and favourable economics for domestic gas would eventually lead to higher gas prices for RIL. Recent higher gas prices for ONGC is also a pointer.
?Citi