R eliance Industries Ltd (RIL) has been in the spotlight in recent times due to its steadily rising indebtedness. Its multi-billion-dollar investment in mobile telephony is yet to deliver adequate incremental revenues and profits to justify the amount of investment in the venture. This has resulted in a sharp increase in the company’s leverage ratio while its free cash flows have remained negative for the past few years, given that debt has gone up dramatically to $65 billion in FY19 from $19 billion in FY15 due to higher crude oil payables and financing of JioPhone and the East West Pipeline. In this backdrop, foreign brokerage Credit Suisse downgraded RIL, cutting its target price by a quarter just a week ago.
The concerns were justified. RIL reported a net debt-to-equity ratio of around 0.58x in FY19, one of the highest in recent years, while the interest coverage ratio declined to 5.6x in the last financial year, the lowest in at least 15 years. In its report, Credit Suisse said RIL’s free cash flows had been negative since FY15 and were likely to remain so till FY21, given the margin pressure in its bread and butter fuel refining and petrochemicals business In the same period, its interest payment has grown from $1.2 billion to around $4 billion and is equivalent to nearly 44 per cent of its FY19 earnings before interest and taxes.
Thus, Monday’s decision to rope in Saudi Aramco as a 20 per cent equity partner in the refining and petchem business would come as music to investors, who have been worried about the company’s investment in the Jio venture being funded through incremental borrowings. The deal values RIL’s refining and petchem business at an enterprise value of around $75 billion. This will bring a one-time cash inflow of around $15 billion for RIL. The company also plans to raise another $1 billion by selling 49 per cent in its fuel-retailing business to BP. Besides access to long-term crude oil supply from the world’s largest oil producer, RIL can use the sale proceeds to fund expansion or pare down its debt. It recently divested around $16.5 billion of its tower and fibre assets into two separate infrastructure investment trusts, where it plans to bring in outside investors. Of its subsidiaries, it plans to monetise Jio and Reliance Retail and unlock value in real estate and financial investments towards becoming a zero net debt company by March 2021.
Refining and petchem bring about 79 per cent of its consolidated earnings before interest and taxes (EBIT), while Jio accounts for 13.3 per cent of the company’s EBIT in the last financial year. However, both businesses have a similar share in RIL’s assets. The next challenge for RIL would be to improve the return on capital employed (RoCE) at Jio, which is at 3 per cent, after accounting for additional capex. This can happen only by raising mobile tariffs or monetising its user base. Speaking at the annual general meeting on Monday, RIL Chairman Mukesh Ambani said he did not have any doubt that the company would have one of the strongest balance sheets in the world. His shareholders would hope he walked the talk.