Reliance Industries – from Refining oil to an already refined Telecom sector

Reliance Industries Limited (“RIL” or “the Company”) is the second largest company in India (according to market capitalization) and is a leader across a spectrum of Industries, including petroleum refining and marketing, textiles, retail, telecom and e-commerce.

The petchem and refining businesses form the backbone of Reliance Industries contributing a combined total of 63.4% to the EBITDA of the company in Q1 FY20, followed by its digital services business, which contributed to 22.3% of the EBITDA for Q1 FY20.

In their most recent AGM in August 2019, Reliance Industries Limited chairman Mukesh Ambani announced plans of making RIL a zero-net debt company in 18 months. At the end of 31 March 2019, RIL had a Net Debt of Rs.1.54 Lakh crore (Net debt is calculated by reducing free cash flow from the total borrowings figure mentioned below).In order to achieve the above Reliance has been trying to monetize its assets in more ways than one. RIL recently sold its entire stake in its East-West Pipeline for Rs.13,000 crore to Brookfield Asset Management. The asset was a loss making entity for Reliance due to high interest costs on debt. Reliance also entered into a joint venture (JV) with BP with 51% being held by RIL and 49% with BP. The JV will take over 1,400 retail fuel stations owned by Reliance and Reliance will receive Rs.7,000 crore from BP for the same. The duo aim to set up 5,500 additional fuel stations within the next 5 years.

RIL-ARAMCO DEAL

Reliance has also agreed to sell off 20% of its oil refining and petrochemicals business to Saudi Aramco, the Saudi Arabian Government owned petroleum and Natural Gas Company. This stake sale of the largest refinery in the world is seen as a strategic move for both companies and perhaps the two countries. RIL has benefitted by receiving a high enterprise valuation of US $75 billion for its asset. Reliance will get a steady supply of crude oil from Saudi Aramco, and the tie-up should also help the company secure preferential pricing of crude, with its supplier now being an investor in the business. Saudi Aramco on the other hand gets 20% of the largest refinery in the world along with a presence in India, the third largest consumer of crude oil in the world.

JIO & DIGITAL SERVICE 

Talking of its digital services business, Reliance Industries Limited has been a game changer in the Indian telecom services industry. From its launch in September 2016, Reliance Jio has in just 2 years become the second largest operator in terms of subscribers with 322 million users. It is second only to the newly merged Vodafone Idea company. Jio has completely revolutionized the telecom sector in India, offering the cheapest data in the world and leading to a price war which is slowly and steadily killing its competitors. Notably Jio was the only profitable telecom operator in Q1 FY20.

The company has now planned to venture into the broadband segment with its new offering titled Jio Fiber. Jio Fiber will offer fiber based broadband connections all across India coupled with Landline and DTH services. RIL has the largest fiber footprint in the country. As a launch offer, RIL plans to give subscribers free 4K tv’s as well as 4K set-top boxes. Apart from this Jio Fiber also aims to offer services such as interactive gaming, home security and music.

RELIANCE SEGMENTAL REVENUE AND PROFITABILITY

JIO SELL OFF

Reliance has spent close to US $40 billion in establishing the digital infrastructure required for Jio and has taken massive debt to facilitate making and acquiring the fiber and tower assets. RIL recently decided to transfer these assets into two separate SPV’s (Special Purpose Vehicles) Jio Digital Fiber Pvt. Ltd. comprising of the digital fiber assets and Jio Infratel Pvt. Ltd. comprising of the tower assets. This spin-off has resulted in Jio reducing its liabilities by Rs.1.07 Lakh crore.

Post demerger into the SPV, the tower assets have been moved to an InvIT sponsored by RIL’s wholly owned subsidiary Reliance Industrial Investments and Holdings Ltd (RIIHL). The trust currently owns 51% of Reliance Jio Infratel where RIL owns the remaining 49%.

RIL has found a buyer in Canada’s Brookfield Asset Management which has decided to invest Rs.25,215 crore in the Jio infratel Pvt. Ltd infrastructure trust. Brookfield will hold all units of the trust, while RIIHL will hold no units but will continue to be a sponsor. The money from Brookfield will be used to buy out RIL’s 49% stake in the trust as well as repay debt of about Rs.12,000 crore to Jio. The deal will eventually see Brookfield own 100% of the assets of the tower infrastructure trust.

The tower trust is the largest tower asset owner in the country with 170,000 towers, followed by Bharti Infratel and Indus Towers. Brookfield will seek to obtain tenants for the towers and all expansion will be undertaken by Brookfield itself. As per reports, out of the 170,000 towers, about 40,000 towers are mono-poles and will require capex to support other tenants. The hive off has also resulted in recognition of a lease liability of Rs.6,633 crore for reliance for the use of the assets.

In furtherance to this, RIL is actively seeking similar investors for its digital fiber assets in a bid to monetize the fiber assets and reduce debt. Jio Digital Fiber Pvt. Ltd. has a fiber network about 700,000 km long and its value has been pegged between US $6billion – $8 billion.

These monetization activities come at a time when RIL will need money not only to reduce its debt, but also for the capex it will require to switch to 5G services and for the upcoming 5G spectrum auction. 

WHY IS ALL THIS HAPPENING RIGHT NOW?

With the world pushing towards EV and cleaner sources of fuel and energy, RIL can’t afford to have a dependency on the petchem and refining business in future. It’s important for RIL to divest its stake in these businesses when the time is still right and oil continues to dominate the world.

The heavy investments which have been made to build refineries and the cost of constant upkeep and innovation will start bearing down on RIL when oil dependency starts to decline.

The deal with BP can be seen as step towards change. BP acquired UK based Chargemaster, the largest charging company in the UK, in June 2018. RIL said that the JV with BP will aim to not only provide petrol, diesel and CNG options at its service stations but offer LNG and EV charging options as well, utilizing BP’s acquired experience.

DATA- NO LONGER THE NEW OIL

Reliance is betting big on Jio to be its future and has made large investments in setting up the infrastructure required for Jio to thrive. Its foray into the broadband and Direct to Home (DTH)  furthers their plan to be the digital service provider for the country. With 5G services right around the corner, Reliance claims that its infrastructure can be upgraded for the same with a minimal outlay.

This minimal outlay has been pegged at a fresh Rs. 20,000 crore which will be invested in the telecom business by Reliance. The question however is this – how profitable will the already heavy investment that has been made in fixed assets for digital services prove to be in future? In today’s time, the high pace of innovation can render an asset obsolete at the blink of an eye, the Google Loon project for example which aims at providing cellular data connectivity to disaster affected areas or areas without cellular infrastructure, has provided connectivity to people by floating a hot air balloon eliminating the need for physical cables and cellular towers. Though it is in a very nascent stage, if this or a similar technology is developed well and quickly, it provides an opportunity for a new company to do to Jio, what Jio did to Airtel and Vodafone when it gave free calls and cheap data by leveraging newer VoLTE technology.

Clearly Reliance is a company which is changing its very core business at a fast pace and only time will tell how it does in future. For me, it is entering a highly competitive telecom and broadband sector where it may not have a monopoly and must rely on superior offering which is a very difficult proposition to say the least. While RIL stock may move higher on the back of its petrochemical and refining business, I have my doubts about how well the company will do in its telecom / broadband business going forward. It is difficult to assess future prospects of RIL until JIO is listed as a separate company and its accounts including its debt obligations are verifiable.