RIL may remain underperformer for now amid lack of fresh triggers

Reliance Industries’ stock has shed about 13.6 per cent over the last three months, even the Sensex is up over 20.9 per cent during this period
Even as the benchmark indices are touching lifetime highs, India's biggest listed company by market capitalisation is struggling to feature on the returns charts.

Reliance Industries’ stock has shed about 13.6 per cent over the last three months, even the Sensex is up over 20.9 per cent during this period. Analysts at JPMorgan in a December 9 report highlighted that the stock underperformed the Nifty by 31 per cent over the last three months, its worst three-month underperformance in 13 years.

The reason for the underperformance, according to analysts, is lack of fresh triggers. Mayuresh Joshi, head of equity research at William O’Neil, says positives for the stock in terms of monetisation, deleveraging, and valuations for the two high growth businesses of retail and digital have already been priced in. While there are promise and incremental gains across its key segments, including listing of digital and retail assets, these could play out in the medium-term, he adds. 

Some gains are expected to come from the oil-to-chemicals (O2C) vertical, which accounted for over 40 per cent of operating profit in the first half of 2020-21. Tarun Lakhotia and Hemang Khanna of Kotak Institutional Equities expect the company to benefit from a sustained sharp recovery in Asian margins for key petchem products in recent months from the lows of Q4CY19, which will help mitigate weakness in refining, even as it recovers gradually.

Supply shortages and improving demand from key user sectors — such as packaging, consumer and health care — have led to a sharp increase in spreads for polyethylene, polypropylene, and PVC over naphtha. Analysts, however, believe the gains here are not enough to offset the weakness in gross refining margins (GRMs) and paraxylene spreads, and a full recovery is still far away. According to a JPMorgan note dated December 1, “Given the nature of the pandemic and, more importantly, social distancing is here to stay, the recovery in refining margins and petchem spreads should be shallow and, more importantly, earnings back to FY20 levels could take two-three years.”

Both the refining and petchem segments were impacted due to Covid, with gross refining margins (GRMs) for the September 2020 quarter at $5.7 per barrel, down 39 per cent than the year-ago quarter. For the second half of the current financial year, RIL’s GRM is expected to improve marginally to $7 per barrel. 

After deleveraging, the extent of recovery in refining margins and positive surprises in petrochemicals will be critical to reverse the year-to-date earnings downgrade cycle, say Morgan Stanley analysts. The company’s recent announcement on the start of production from R Cluster ultra-deepwater gas field in block KG D6, according to Nitin Tiwari of Antique Stock Broking, is already factored in the stock price, with upstream assets contributing just 3 per cent to RIL’s enterprise value in the overall valuation.  The progress in the stake sale in the O2C business to Saudi Aramco, however, will be a key trigger. 

For the digital segment, the uptick may come from subscriber gains and more importantly price hikes. While Bharti Airtel has been gaining higher share of overall subscribers, including broadband, analysts believe Reliance Jio will continue to gain from subscriber churn at Vodafone Idea. The addition to the subscriber base at 400 million may come from the launch of Jiophone and Jio Fiber. However, price hikes are seen by the Street as potentially a major trigger after the deleveraging exercise (raised Rs 1.52 trillion for a 34 per cent stake). Given the scale and cost efficiencies, a price hike will flow directly into operating profit, as well as earnings, as interest costs remain at minimal levels. A hike shall help Jio’s average revenue per user (ARPU), which at Rs 145, is 10.4 per cent lower than Bharti’s ARPU.

On the retail front, while the company has indicated the end of the fundraising for the retail venture after selling 10.09 per cent stake for nearly Rs 47,265 crore, any further monetisation at higher valuation can act as a trigger. Closure of the Future Retail deal, which is under litigation, scale-up of Jiomart, and market share gains given the ongoing consolidation are key positives for this vertical. Increase in footfall, higher share of operational stores, and ongoing expansion should aid both revenues and margins; analysts expect the latter to hit the high single-digit mark from 6.3 per cent, now. 

While there are multiple medium-term triggers, without a price hike in telecom, there is little to support the stock price in the near term.

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