This is a company which has built its reputation on aggressive growth, quarter after quarter and year after year. It is known for its ambitious projects with massive investments. Its stock has traditionally been a bellwether for the market and the company's founder is credited with creating the equity investment cult in the country.
Given these, it must be difficult indeed for Reliance Industries to now accept the fact that such aggressive growth is no more a given and that other Johnny-come-lately stocks are now stealing the thunder. The company and its stock — which lost 35 per cent of its value in 2011 — have been under a cloud for more than a year now. That is, ever since it first let the world know that technical problems were affecting gas output from its prolific KG-Basin fields.
The results for the third quarter of 2011-12 announced on Friday along with a share buyback plan confirm that the company, which went public in 1977, is now going through a mid-life crisis, so to say.
There appear to be four major reasons why the sheen is beginning to wear off the company and its stock. Let's look at each in detail.
Plumbing the depths
The KG- Basin gas fields were supposed to take Reliance to a different level as a large oil and gas exploration and production (E&P) company much like the Shells and BPs of the world. Yet, almost three years after it commenced gas production, the KG-Basin now appears to be a millstone around the company for more reasons than one, dragging down its valuations.
The technical problems in the deep water field have caused gas output to fall by a third from the peak of around 60 million standard cubic metres a day. There are those who believe that the output fall is linked to the relatively low price of $4.20 that it gets per million metric British thermal unit compared to higher international prices. This school of thought holds that output will bounce back once the current tariff period, which extends until 2014, runs out.
If the problems are indeed technical, the entry of BP, an acknowledged expert in operation of deepwater oilfields, should do the trick. Reliance is richer by $7.2 billion from the partnership with BP and if the British multinational is able to fix the technical problems, it will be a win-win deal. Of course, it's another matter that if gas output starts to rise from 2013, it would once again set off speculation on what caused the dip in the first place.
Docile on investment
A study of Reliance's growth since it was founded will show that it has consistently been on the investment mode. In the 1980s, it was setting up the petrochemicals complex in Patalganga, in the early nineties it was the Hazira complex, the late nineties and early noughties were the first refinery in Jamnagar and the middle of the last decade was spent commissioning the second refinery in the same place. In between, there were forays into telecom, insurance and retail.
Yet, after the second Jamnagar refinery was commissioned in 2008, Reliance has not been involved in any major project. This is reflected in the rising cash pile in its balance sheet. The company has around Rs.75,000 crore invested in fixed deposits, government securities and mutual funds. The returns from these investments are piffling compared to what might have been had this money been ploughed back into the business.
Yes, Reliance went after shale gas assets in the U.S. but these are not the big-bang investments that it is known for. With the company in constant investment-mode, there was a certain buzz around the stock in the last two decades. That is now absent. It is almost as if the company has mellowed with onset of middle-age!
Absent in new economy
The separation of business between brothers Mukesh Ambani and Anil Ambani in 2006 may have left the cash cow in the elder brother's hands. But it snatched the promising, new age business of telecom from him.
The businesses of oil refining and petrochemicals may spew out cash in a good year but the fact remains that they are basically commodity plays. And commodity industries are subject to price cycles. Margins in the oil-refining business are not as attractive as say, in oil retailing or E&P. This is one reason why multinationals such as Royal Dutch/Shell and BP are more focussed on E&P and retailing rather than in refining. Reliance runs a very efficient refining business with state-of-the-art equipment, yet it has to subject itself to price cycles.
This is where a presence in a totally different business would have been an advantage. The foray into retail was born out of this thinking just as it was also prompted by the booming middle-class, but for various reasons Reliance failed to capitalise on the opportunity.
Legal tangles
Finally, the biggest overhang on the Reliance stock — the perception that it is falling out of favour with the government. Along with its love affair with investors, the one major distinguishing trait of Reliance over the years has been its ability to stay on the right side of the powers-that-be.
Yet, if the differences with the Petroleum Ministry over the amount spent in the KG-Basin and other associated issues such as margins on gas marketing are any indication, that equation seems to be going wrong somewhere. Given the excessive regulatory grip over the oil industry, it is crucial that Reliance stays in the favoured circle of the powers-that-be.
Overcoming the blues
It is a question of time before Reliance gets over its mid-life blues. For each of the issues discussed above, Reliance appears to have found the answer. In the KG Basin, the partnership with BP will, hopefully, take care of the technical problems. A rise in output coinciding with probably a higher gas price post-2013 will be the best thing to happen.
The company is also addressing the twin issues of not having a presence in the new economy and finding an avenue for its surplus cash. The joint venture with American giant, D.E. Shaw, for financial services and the ambitious investments lined up for telecom through Reliance Infotel, which has a national wireless broadband licence, are two examples.
Also on the anvil are plans for entering the lucrative business of digital education. Its indirect entry into the media business through the recent investment in Network 18 also probably indicates its interest, especially in television and digital media. These are the kind of forays that Reliance is known for.
This year will be a crucial one for the company as it implements its plans for the new businesses. The next few months will show how successful Reliance has been in combating its mid life blues.
