RIL: Balance Sheet Healthier Now, but Global Slump may Affect Margins

The quarter to September ’11 results of Reliance Industries was mostly in line with market expectations. A strong performance in the refining segment compensated for the weak performance in petrochemicals and oil and gas segments enabling the company to post a 15.8% net profit growth. However, the most noteworthy development of the quarter was the improvement in RIL’s balance sheet following the deal with BP.
With the deal to sell 30% participating interest in 21 oil blocks to BP having been consummated, RIL’s cash balance has swelled. It ended the quarter with cash and cash equivalent of . 61,490 crore lowering its net debt-to-equity ratio to a mere 0.06 — which is as good as being debt free.
The company’s cash generation of . 17,828 crore for the first half of FY12 remained far ahead of its capital investments of . 6,691 crore. Hence, the company can be expected to become net cash positive by the end of the December ’11 quarter.
The company’s decision to route the impact of the BP deal through its balance sheet rather than the profit and loss will also positively impact its return ratios. RIL reduced the book value of its fixed assets by close to . 33,250 crore on the stake sale, instead of showing that as a one-time gain and boosting reserves. As a result, the company will show better numbers when calculating ratios such as return on equity (RoE), return on capital employed (RoCE) or asset turnover in future.
The company was able to post its highest-ever quarterly profits in the September ’11 quarter, thanks to a $10.1 per barrel refining margin, refineries running at a 110% capacity and a 40% jump in petrochemical revenues. However, on a sequential basis, the incremental profit was very low. The September quarter profit grew just . 42 crore from the June ’11 quarter, compared to . 285 crore improvement in the June versus March ’11 quarter. In fact, the operating profit for the September quarter at . 9,844 crore was lower than . 9,926 crore for the June ’11 quarter. This raises concerns of stagnation in profits, going forward. Similarly, the company’s year-on-year growth performance has been showing a slowdown effect at the operating profit level. Although RIL’s net profit grew 15.8% in the September ’11 quarter against the year-ago period, the growth in operating profit was merely 4.8%.
It was mainly the jump in other income, thanks to growing cash balances and reducing depreciation besides lower depletion charges that boosted its bottomline. At the operating profit level, year-on-year
growth has been falling steadily from 21% in the December ’10 quarter to 7.7% in March ’11 to 6.3% in June ’11 and now 4.8% in the quarter to September. At a time when there is a great deal of uncertainty on global economic growth, the improving strength of its balance sheet will be a key positive factor for RIL. However, the risks of profit stagnation are growing. Its sagging output from KG-D6 block is unlikely to see any improvement in the next one year. Significant refinery capacity additions in 2012 and 2013 globally are expected to keep refinery margins in check.
A slowdown in global economic growth could weaken demand for petrochemicals and increase pressure on margins that is already visible. Of its various projects, the company’s investments in US shale gas appears to be the best bet to make a notable positive contribution to its earnings within the next one year, mainly due to the production shale oil or condensates.