Reliance Industries valuations inexpensive but telecom an overhang

Retain ‘add’ rating on Reliance Industries (RIL) with a revised target price of R1,000 (R1,100 earlier) noting…

Retain ‘add’ rating on Reliance Industries (RIL) with a revised target price of R1,000 (R1,100 earlier) noting robust earnings growth from core business projects and inexpensive valuations at 10.4x FY2016e standalone EPS versus BSE-30 Index at ~16x and strong earnings growth led by core business projects. The moderate reduction in our valuation reflects cut in earnings estimates and our assumption of R12,000 crore of incremental equity infusion over the next two years in the telecom business, to which we ascribe nil equity value. We revise our FY15-17 EPS estimates (standalone) for RIL to R71.5 (-4.1%), R74 (-5.5%) and R90 (-7.3%) to reflect lower oil and gas prices, modestly lower refining and petchem margins and other minor changes.

We find the stock inexpensive at current levels, as it is not factoring in growth in earnings from core business projects while discounting complete erosion of equity, which is likely to be infused in the telecom venture by FY17.

Even though there is limited clarity with respect to the roll-out plans of Reliance Jio’s telecom services, one cannot rule out the possibility of significant losses in the initial years, given large operating overheads—empirical evidence suggests that it is difficult to turn ebitda-positive in the initial years of operations and high fixed costs of depreciation/amortisation and interest on the indicated capital employed of R70,000 crore.

Kotak Institutional Equities

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