>RELIANCE INDUSTRIES (CLSA)

A multi billion dollar setback

Contrary to our expectations, the final judgement of the Bombay High Court in the Reliance-RNRL court case has directed Reliance to adhere to the letter of the private MOU between the Ambani brothers. This would require Reliance to supply 28-40mmscmd of gas to ADAG at $2.34/mmbtu potentially shaving off Rs160- 225/sh (US$4.6-6.4bn) from our target price of Rs1950/sh and 9-21% from FY10- 12CL EPS. Reliance has the option to appeal the verdict in the Supreme Court.

■ Bombay High Court asks Reliance to adhere to the exact letter of the MOU.
The Bombay High Court has ruled that the mid-2005 private agreement between the Ambani Brothers conceptualising the family de-merger is binding on Reliance; this is similar to the court’s Sept-07 pronouncement. Further, it has asked Reliance and RNRL to adhere to the exact letter of the private agreement on pricing, quantity and tenure and has directed them to enter into a suitable bankable contract within a month.

■ A negative surprise.
The judgement will require Reliance to sell 28mmscmd of natural gas to ADAG at $2.4/mmbtu for 17 years. Given that the government has mandated $4.2 as a floor price for contractual levies (royalties, profit share, taxes), this is akin to a direct transfer from Reliance to ADAG and comes as a significant negative surprise. Our reading of the earlier orders (albeit by a different judge) indicated that it was guiding both parties to be reasonable and viewed $2.34 as an unreasonably low price in the current environment. The MOU had also allowed ADAG to get a further 12mmscmd if the proposed contract with NTPC did not fructify; however the current court judgement does not explicitly rule if this should also be at $2.34.

■ Rs160-225/sh impact on FY10-end SOTP.
It is unclear how the case will progress if there is no agreement within a month; while Reliance has the option to appeal in the Supreme Court, the judgement suggests that RNRL may seek a change in the demerger scheme to force an agreement or even file for damages. In the interim, it is useful to note that should the government continue to adhere to its stance of $4.2/mmbtu being a floor price for contractual levies, it will shave off Rs160/sh from our FY10-end target price (Rs1950/sh) for Reliance and ~$600m annually from earnings. Should the contract begin even before ADAG’s power plants are ready (not likely before 2012), it will impact FY10-12CL EPS by 9-15%. If Reliance is required to sell 40mmscmd at $2.34, these rise to Rs225/sh and US$800m (14-21%) respectively.

■ Higher E&P upside holds the key.
While the court judgement is a setback, this may yet reverse in a future Supreme Court judgement. Reliance’s stock, however, is also discounting a resilient refining/petrochem outlook (we expect margins to contract) and significant E&P upside (we build in Rs327/sh, $10bn) on which, we note, there are no ADAG encumbrances (it has an option to buy up to 40% of all future Reliance gas but
at market prices). Ascribing higher E&P upside requires more disclosure or intensive drilling, though. Reliance’s decision to sublet a rig to ONGC is disappointing, therefore.


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