Stock Review: Reliance Industries

Even though 2011 has not started off on a good note for the Indian stock markets, it has been relatively good for the country's largest firm by market value, Reliance Industries (RIL). While last month saw RIL entering into a deal with BP to sell a 30 per cent stake in the former's 23 oil & gas blocks for $7.2 billion (and performance-based payments up to $1.8 billion), the market was abuzz this week with the news about the ramp-up of gas production at RIL's KG-D6 basin, which should help ease output concerns regarding its most prolific hydrocarbon block. Simultaneously, the prospects of its other core businesses, namely refining and petrochemicals, are also improving, say analysts who have price targets for the stock ranging Rs 1,120-1,250.

Gas boost

Among the most recent developments pertaining to RIL is the statement by an official of the Directorate General of Hydrocarbons' (DGH) that the gas output at the company's KG-D6 block will increase to 67 mscmd from April 2011 (reflecting a rise of over 21 per cent from 53-55 mscmd estimated currently), which is based on the field development plans submitted by the company. This increase in output will be aided by four new gas wells going into production, of which two have already been drilled and are awaiting connectivity to the gas pipeline network and another two are yet to be drilled. While the company is yet to officially confirm the development, analysts believe that, if it happens, it will be a big positive for the company, given the concerns about the decline in gas output as a result of some issues in reservoirs — RIL's gas output had slipped from 60 mscmd in June 2010 quarter to about 55 mscmd in the December quarter, compared to target of 90 mscmd. Due to the output concerns, most analysts had projected gas production of 55 mscmd in 2011-12 to arrive at their EPS estimates for RIL. The increase in production should add over Rs 1,250 crore to its net profit or enhance RIL's EPS 46per cent in 2011-12, say analysts. Notably, the easing of concern over gas output should also lead to a re-rating of the stock, said an analyst with a domestic brokerage.

Since BP, which is known for its vast expertise in the exploration and production business, has joined hands with RIL as its partner, it should not be difficult for RIL to enhance the gas output to over 80 mscmd from the KG-D6 basin in the medium term.

Outlook

Apart from the improving visibility in the exploration and production (E&P) business, prospects of RIL's downstream businesses namely, refining and petrochemicals, are also improving with margins on the rise. For instance, the benchmark Singapore gross refining margins (GRMs) are trending upwards and are now around $6.5-7.0 versus $5.5 in the December quarter. Likewise, led by demand-supply dynamics, margins in the petrochemicals business has also improved. RIL, too, in its January 2011 presentation had stated that margin outlook for these businesses was improving.

While business prospects are improving, RIL's valuations also remain attractive say analysts. In a note on RIL (dated March 7), Citi's analysts said that benchmarking RIL's E&P business value to the BP deal indicates that its refining and petrochemical businesses are trading at a 1520 per cent discount to the company's Asian peers, making RIL one of the cheaper stocks in the region.