Nov 102008


How good is the RPL for investors?


Mukesh Ambani, a Chemical Engineer and MBA from Stanford, spent billions of dollars to build one of the classiest and greenest refinery complex in the world, considered world’s sixth largest, with a capacity of 580,000 bpsd (barrels per streaming day) and 900,000 tons of Polypropylene plant which is nearly completed. Note the following: It was about to come on stream in December 08, but it has been delayed until January 09. Almost US$ 5.5 billions or Rs 24000 crores has been spent so far.


The stock prices have gyrated in sheer speculation from Rs 80 to Rs 250 without anyone knowing what , when and how much the company being invested in will make money. This baby almost 5 years in mother’s womb will come into this world when

1. Oil prices were riding high – a positive for the company to enlarge the margin in absolute terms

2. Polypropylene prices were falling flat

3. Unprecedented credit crisis was catching every businessman by the throat

4. Easy money was disappearing fast .

5. Debt market was getting extremely difficult when its debt rose to almost 12000 crores

6. Equity market collapsed which was the easiest source to replace debt.

7. Interest rates are rising when the debt load was becoming burdensome on its own

8. Credit Default Swaps, Interest Rate Swaps and Forex swaps have become almost dead when RPL’s exposure has increased to almost 7000 crores, although Mr. Mukesh Ambani was very specific in asserting that it was only for its own hedge position.

9. RPL was investing almost Rs 2400 crores in FMP other Mutual Funds to earn daily dividend when the redemption pressure was building on them at the fastest pace. There is no guarantee that he will get the cash as and when needed.

10. RPL was having only Rs 2 crores in kitty against its investment of over Rs 24000 crores in the plant.

11. The parent company Reliance Industries Ltd. (RIL) that own 70% of shares of RPL, is finding marked slowdown in its business at Patalganga, Maharashtra. 400 employees have taken up VRS (Voluntary Retirement) and 800 more are about to take.

12. All 5 plants at Patalganga were closed down recently – though RIL says it was for maintenance purpose. No one closes all plants at same time for maintenance. And it never happened in the past. This news caused sharpest fall in stock prices of RIL over – 10% in a day.

13. The positive news is the plant comes on stream when the world is lacking refining capacity, especially in USA. It will take 3 to 6 years to build similar factory. The plant is situated in Special Economic Zone ready to export to USA if needed for next 5 years at higher margin.

14. The product mix of this refinery is also in conformity with the recent green regulations. Like organic food, the products like Jet-Kero command higher margin. How long we do not know.

15. In short, this baby is borne when there is no more milk around, neither with the mother RIL nor with the foster parents – Investors nor at the hospital (banks). No one wants to play with this soon to cry baby or kiss her with playful message like Aa loo loo, Aa loo loo, gili gili gili gili.


For the convenience of the readers here, I have kept RPL Report for YE 31-03-2008 in the download section (side bar). Readers are also encouraged to download POKAT Reader, a flipping type of PDF reader (free), by which you can read the entire report like a book flipping pages on the computer effortlessly and zooming only the page you want to read. The link is



Let us take the earnings of the company which is the key for the support of share prices. So far, the stock prices of RPL were based on the name of Reliance, Ambani, past successes and penchant of Ambani’s family to give bonus shares from time to time (Indian investors are mad at the bonus event which is nothing but stock price neutral event).

Full production capacity of 580,000 bpsd

(GRM = Gross Refining Margin)

GRM @ $ 12.50/brl as per press report (RPL says only $5.20/brls as per old report. Essar Oil reported GRM at 6.59 for Sep 08 and $12.54 for June 08 in Q2 report)





For 360 days = C3 * 360





900,000 Capacity

Presuming working at 90% capacity = 810,000 MT @ 1450/Mt (Ruling price $1600 – 10% for recession effect)




ADD Bye Product Sales @ 15% of Refining Operation




Gross Revenue (treating GRM part as Revenue)




LESS Cost of Sales and exp. for Polypropylene @ 80%




LESS Cost of Sales, Admin & Misc for refining @ 80%




Earning before dep+Int+Taxes =EBDIT




TOTAL in Rupee terms ($ 1 = Rs 48)




In crores of Rupees =


6,765 cr

6,765 cr

LESS: Depreciation on straight Line basis @ 10%


2,400 cr

2,400 cr

Interest Cost – Long Term

(Earlier the interest during construction stage was capitalized. Once the plant become operational, it will have to be debited to P/L account.)


Provision for Exchange Loss on LT Loans in F/Currencies

(Rupee has devalued by 8% (average) since the loans raised)

Interest Cost (Short Term)

Until now, there was no working capital (WC) requirement. Once the plant become operational, WC will be

US$ 1.392 Bln or Rs 6.682 Cr for 1 month

(10 days for transportation of crude + 20 days of production and distribution and credit)


US$ 218 Mln or Rs 1,047 Cr @2 months for Polypropylene

= Rs 7,729 Cr – Bank Finance 7000 cr

Interest Cost @ 14% at current rate = 980 cr



















1,200 cr





800 cr












980 cr


















2,980 cr

Net Profit before Taxes


1,385 cr



LESS Taxation @ 0 % (Corporate tax) due to extra depreciation allowed from income tax of view (Straight line depreciation is added with extra depreciation of 50% for Initial depreciation and two more shift allowance). The income on PP being in SEZ may not be subject to tax



Profit After Tax (PAT) attributable to Share Holders



1,385 cr

No of shares outstanding



450 cr

Earning per Share (EPS) on full capacity basis



Rs 3.08 /share

PE ratio allowable for RPL

Industry wise PE ratio is 7 to 8 times

Allowing max 20% premium for private company

Maximum P/E ratio allowable for RPL is 9.6 times


9.6 times


Maximum Fair Value Equity Price (PE x EPS) for RPL




Margin of Error




Possible Fair Value Price of RPL on Upside




Possible Fair value Price of RPL on Downside




Momentum Price on Upside/.Downside (Factor +/- 1.5)

When the momentum gains on upside or downside, the stock overshoots by 30% to 50% on either side minimum. On low value stocks (below Rs 35) the volatility is more towards 50%



Rs 31 to Rs 54

Key Numbers and Ratio of Listed Companies in Oil Refining Industry

All figures are for Year ended 31-Mar-2008

In Crores Rs

Essar Oil






Gross Revenue







Gross Revenue per Share














Taxes paid







Profit after Taxes







PAT % of Gross Revenue







Net Worth







No. of Shares







Total Debt







Total Debt to Equity







Market Cap on 08/11/07







Book Value







Stock Price 2008/11/07







EPS 2008/03/31







PE Ratio 2008/11/07







Projected Revenue







Projected EPS







Both Essar and RPL will have to charge significant interest on their debt to P/L account. Until now, it was capitalized. There will also be interest payable on working capital requirements from this year onward due to refineries having become operational. Taking 2 months of Gross Revenue as new Working Capital related debt, it may work out to Rs 1000 crores per year considering high PLR in India today. This is in addition to interest payable on Long Term loans. While arriving at RPL’s profit earlier, we have accounted for Rs 980 crores as interest on working capital

2. RIL will be extremely pressured to raise more capital in difficult market. Essar too will be under pressure but to less extent.

3. Both Essar and RPL will have to provide depreciation chargeable to P/L from this year onwards due to their plant having become operational. No Depreciation was provided earlier.

4. Gross Revenue for RPL is based on average crude price of $80/barrels + PP business.

5. Gross Revenue per share for Essar and RPL is projected one based on full 12 months of operation




It may be noted that RIL may not clock as much revenue as projected. We do not know yet, whether PP facility will be fully operational this year or made operational due to price pressure.


Derivative Exposure of Reliance Petroleum Ltd

Refer to the annual report for 31-03-2008. It is available for download from Company’s website. Its PDF copy is kept in download section of the side bar. Before jumping to any conclusion, please read the official report.


Until 31-03-2008, the RPL was having twin liability under Term Loans. – Foreign Currency Term Loans equivalent of over Rs 10,000 crores (see the report for exact numbers) and Term Loan in Indian Rupees up to Rs 2200 crores. At the same time, the Derivative exposures amounted to over Rs 7700 crores in the form of Interest Rate Swaps (4413 crores), Currency Swaps (1447 crores), Options (1205 crores) and Forward Contracts (667 crores).


It also says the company had unrealized gains on 31-03-2008 (how much we do not know). It also says that Foreign Currency Exposures of over Rs 10,807 crores was NOT hedged. The question arises, when Term Loan in Rupee exposure on 31-03-2008 was just 2200 crores, and the company was not even operational, where was the need for the company to have derivative exposures of Rs 7700 crores?

rpl-derivatives11 Source: Annual Report for Year ended 31-03-2008 of Reliance Petroleum Limited



Let us not speculate and hope that everything is well on derivative fronts. It would be better if the company reports the latest status in Quarterly report preferably with Auditor’s comments, whether these contracts have been valued on MTM (Marked to Market) or HTM (Held Till Maturity) basis. What is the latest valuation? This is important due to acute credit crisis brewing on derivative front.

Where Mukesh Ambani could have possibly gone wrong?

Dhirubhai Ambani, Mukesh’s father, built Reliance group on “equity”. It resorted to temporary debt during construction process in the form of mandatorily fully convertible debentures that had maturity time roughly coinciding with the relative Plant coming on stream. He also realized that the Indian Investors were crazy for Bonus shares (which are neutral event everywhere in the world), so instead of paying hefty cash dividend, he used to distribute paper – Bonus shares. And it worked the magic.


When RIL set up its first Petroleum refinery (not RPL), it was financed based on Fully Convertible Debentures (FCD). At the same time, Birla floated MRPL and it was financed by high fixed rate bonds. The result was that MRPL was almost broke. It was finally sold over to ONGC for just Rs 2/share (current price Rs 40 or having seen much higher price)


Mukesh Ambani made the same error as Birla did. He relied more on debt than equity. He was also enticed by low rate foreign currency loans which amount to Rs 10000 crores or more. He is now caught in a dilemma

1. The oil prices have moved North in last 18 months – almost trebled

2. He could not have anticipated the kind of credit crisis unfolding now.

3. The Debt market is almost dead. It is difficult to raise new money. Jindal, Birla (Hindalco) and Tata (TISCO and Tata Motor) made high end acquisitions at the height of the market and at the height of product cycle.

4. Banks and Brokers collapsed

5. Equity market is almost dead. So much of money has been demanded by banks themselves that nothing is left for the other industries.

6. He has no doubt built one of the finest and classiest refineries, a grand achievement in his technical career of Chemical Engineer, he appear to have faltered on financial front. His MBA did not come to his help. He did not have intelligent and forward looking finance professionals who could have foreseen at least 50% of current events.


He does have advantage of having extra ordinary refinery when the world is facing shortage and there is not enough financial muscle for anyone to go for such refinery in near future of 5 to 7 years. There is no financing available except from Arabs and some sovereign funds. It is possible that he may override the restrictions on refining margins by processing the crude for US which severely lacks the refining capacity.
What could happen to RPL stock – Will it make money?


The product market, currency market, debt market and equity market are all against him. Howsoever capable he may be, he will be running uphill battle for a long time from now on. The best days for Reliance group are nearly over – nothing regrettable – all are in same boat. He has found Patalganga plant unviable, that is why, he is encouraging employees to leave RIL on VRS basis. His retail ventures have also failed; hi petrol stations have also closed down due to price control ( that means that old magic of influencing Government is now waning).


Look at the comparative numbers in the table. RPL has largest number of shares – 450 crores against 34 to 36 crores for BPCL and HPCL, 120 crores for IOC and Essar Oil, 176 crores for MRPL for almost similar size or higher size of operation. With huge yet manageable debt load, the effect on EPS is substantial.


Further, he will be forced to reverse split the shares (4 to 1) to reduce the floating share size ( he alone owns 70% through RIL). When Reliance was in habit of giving Bonus shares to boost its share value, he will be forced to change that practice. If share prices go too low, the stock becomes “Penny Stock” that does not permit US Pension and Retirement Funds to invest into this company.

He has to ensure that the stock price remains above US$ 5 level, that is Rs 250 or more ($ 8 or Rs 400 is better due to down market that we are in) to ensure that it does not degenerate into a penny stock – A Giant company with a Penny Stock?. It will hurt the image when he needs it most.


Even without derivative contracts (presuming all is well), the stock’s earnings do not give me enough confidence,. Why should I pay 27 times earnings, if others are trading at 6 to 7 times. May be we can consider 8 to 9 times, but not beyond. The stock is suitable for trading in Rs 30 to Rs 60 range.


Am I correct in my Assessment?

My assessment is reasonable, but I did not have the luxury of having full knowledge of the proper product mix and the precise time table for placing the entire plant into production. I have relied on macro factors that are usually ignored by others, like potential damaging effects of derivative contracts if they are not what is stated to be in nature. Further, read RPL Annual Report. It is sketchy and dwells into the glory of the past and its promoters. We know that already – go a bit further, Mukesh– give us some specifics what is going to be the product mix, capacity of each product, indicative time table and the markets.


What I would suggest, and not many may be equipped with that, is to read some industry standard research report on RPL from one of the leading brokers with this opinion, and then arrive at reasonable conclusion. If my assessment is found to be flawed, just amend it or ignore it altogether. Do not press panic button on the stock and run for the exit.



If I were you, I would do the following:

1. Reduce the position by 50% at least without waiting for anyone. If your cost is over Rs 120, may be you can hold and think of averaging later.

2. If you hear anything negative on derivative front, simply run for exit. It is really a cause of concern. There is nothing evident if we accept the company’s written statement at face value. Check the latest Quarterly report, and read the notes on accounts and Auditor’s comments.

3. Try to check the prospective EPS on RPL for the coming year from 2 or 3 leading bank or broker’s reports. If the projected EPS is more than Rs 15, stay with it – otherwise think of reducing the position in your portfolio. The time is so good, that there are hundreds of more valuable stocks than RPL in the market place today, and that list increasing day by day.

4. Do not invest too heavily into this counter, unless you have fairly reliable information from brokers or banks or company itself.

5. This is one of the finest Refining company in India, but the value is more important than name. Yes, with equal fundamentals, I would still trust Mukesh Ambani and not Essar Oil. But the things are beginning to become clear. At the moment, I believe Essar Oil is better choice than RPL

6. Even big names fail to perform – look at Birla (Hindalco), Ratan Tata (TISCO and Tata Motor). Easy money pushed these industrialists to venture into unknown with disastrous result. Even Warren Buffet is failing. His Berkshire profits were down by 77% and the derivatives have begun to hurt his insurance outfit as well. His best days are also over. No one is infallible in this market catastrophy.

7. Try to buy back this stock only after some positive news come out and other unknowns like derivatives are known to you. It is better to pay little more with full knowledge, than paying very low in total darkness.

8. If your investment is substantial, better contact RIL’s PR and seek necessary clarifications.



1. Reduce the position by 50% and buy back only after the stock falls below 50.

2. If your investment is over Rs 10 lacs, better consult your Investment advisor or broker who has more information on this stock.

3. Try to sell now even if you want to stay with the stock, with a view to buying back after 20-Nov because of Oil Futures are coming to settlement and huge short position is likely to be unwound. There are over 282000 contracts outstanding on NYMEX alone. (= 282 million barrels of Crude Oil Sweet). If oil rises, the refineries, airlines and auto may fall still further.

4. OPEC may reduce the output again in next 2 or 3 days. Already OPEC chief made this statement yesterday about production cut.

5. Buy back the stock after 20/24 Nov 2008 and see how the oil behaved or mis-behaved.

6. Raise the cash now and think of re-entering after 24 Nov. Meanwhile, take a few days off and spend the weekend with your family



Kalidas Ref: 08-013l

Hong Kong, 10-Nov-2008

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