>RELIANCE INDUSTRIES: RIL has been diversifying into broadband, retail, financials and defence sectors.

■ Existing business under pressure: Reliance’s existing upstream and downstream businesses are under pressure owing to falling gas production and a decrease in downstream margins. We anticipate the trend will continue near term. The recent net fair value reduction of its stake in the KG-D6 gas block by partner BP Plc (BP/ LN, 496p, OW) in its CY11 earnings release also confirms our view that gas production has been below expectation.


■ Benefits of new businesses not obvious. RIL has been diversifying into broadband, retail, financials and defence sectors, but is yet to spell out its strategy for the latter two; however, its has moved ahead with its retail and broadband foray. The outlook for these businesses, however, is not robust. The retail business has yet to turn profitable, while the broadband business requires significant infrastructure ramp-up. The experience with the rollout of 3G data services, a lead indicator for the success of RIL’s broadband business, in our view, has been that it is yet to become popular from a mass-market perspective.


■ Gas production to continue declining for another year at least. We expect gas production to continue falling in the absence of any maintenance/workover. We further anticipate production ramp-up to kick in only in FY15, given the lead time required for data gathering, analysis, drilling and construction spread mobilisation. We believe the current production could reach as low as c30mmscmd before workover can arrest the decline with about 10-15mmscmd additional production from FY15 onward.


We expect another year of flat to poor earnings growth. Following the weak Q3FY12, we anticipate a flat to sequentially lower Q4FY12 as well, as detailed in our report "Reliance Industries: Lacking a near-term trigger", 12 January 2012. We forecast a c5% EPS decline in FY13, followed by EPS growth of 18% in FY14 as expansions kick in.


■ Valuation and risk. We continue to value RIL on the basis of the sum of its refining, petrochemical, E&P and other small businesses. We value refining and petrochemical on an average of 6x EV/EBITDA and 10x PE on FY14e earnings. E&P and other businesses like retail and broadband are valued on a DCF basis. The combined businesses give us an unchanged valuation of INR800/share, and we downgrade the stock to UW (from N). The near-term risk to our rating is the technical support emerging from the up-to INR104bn buyback at up to INR870/share.


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