Sell Reliance Industries; target Rs 1300: ABN Amro

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Sell Reliance Industries; target Rs 1300: ABN Amro

ABN Amro has downgraded Reliance Industries to sell rating with target price of Rs 1300.

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ABN Amro has downgraded Reliance Industries to sell rating with target price of Rs 1300.

ABN Amro report on Reliance Industries:

We downgrade RIL to Sell with a target price of Rs 1,300. We believe consensus valuation of its E&P assets is too aggressive. The stock also looks expensive on earnings multiples, given our cautious view on the commodity cycles and belief in rupee appreciation.

Limited earnings growth

We estimate RIL's EPS at Rs 100-113 over FY08-10, growth of just 6% pa. Our FY10 estimates are 26% below consensus on account of our cautious view on refining/petchem margins and assumption of an appreciating rupee (Rs/USD will average 41 in FY08, 39.35 in FY09 and 38.40 thereafter). Our FY09-10 estimates now assume oil from KG-D6 and higher prices for KG-D6 gas.

Impressive execution capability

We expect KG-D6 oil and gas production to start from 2QFY09, with oil production averaging 25,000b/d in FY09 and 50,000 b/d in FY10. On KG-D6 gas, despite the recent Mumbai High Court order, our estimates assume a settlement whereby RIL is allowed to sell to third parties until RNRL (Reliance Natural Resources Limited) and NTPC (National Thermal Power Corporation) are ready to take their share (40mmscmd) in FY11F. If the court order is enforced, EPS in FY09 and FY10 could drop by 10% and 22%, respectively. The RPL (Reliance Petroleum Limited) refinery could begin operations in 2HCY08, but we expect it to announce commercial production only from April 2009.

Cautious view on commodity cycles

We maintain our view that although regional GRMs may remain healthy relative to the historical trend, the peak in the refining margin cycle is behind us. We forecast Singapore GRM will fall to USD 5/bbl in FY10, from USD 6.1/bbl in FY07. Petrochemical margins should remain healthy for the next 12 months, but a sharp downturn looks inevitable to us by 2009-10 as most new Middle East projects (ex Iran) are on track. We assume KG-D6 gas pricing at around USD 2.5/mmbtu for NTPC/RNRL, and USD 4.5/mmbtu for others.

Downgraded to Sell, target price Rs1,300 (from Rs1,250)

Our valuation for RIL's new E&P finds is USD 9.3 billion (Rs 311 per share), substantially below consensus. While RIL's track record in E&P has been solid, we believe the market is being too aggressive in valuing prospective resources, especially given the lag between making a discovery and generating positive cash flows. Even in our bull case scenario, the stock valuation would move up to Rs 1,681.

Valuation and target price

Our target price of Rs 1,300 is based on a sum-of-the-parts valuation using net shares (excluding treasury stock). We value the existing oil/refining/petrochemical businesses on an EV/EBITDA basis (4.5x, 6x, 5.5x respectively, total Rs 642 per share), the gas reserves and the new retail business on a DCF, and investments in IPCL at market price. We also value RIL's stake in RPL at a 20% holding company discount to the market price.