RIL Rights Issue: Should You Subscribe??

From the Desk of DreamLadder: May 20, 2020

RIL Rights Issue: Should You Subscribe??

RIL’s jumbo rights issue worth Rs.53,125 crores has opened today (May 20, 2020) for the subscription. If you have Reliance shares as on May 14, 2020, you are entitled to apply for this. You can apply for any number of shares in this issue but for you guaranteed allotment is your entitled rights ie. one share for every 15 shares currently held. Anything more than that will be decided by the company.


If you don’t want to apply for these rights shares, you can sell it in the market (Till May 29, 2020). Rights shares would be allotted at Rs.1257/share by paying 25% now. Rest amount would be paid in 2 tranches – 25% in May 2021 and rest 50% in Dec 2021. Point to be noted here that Ambani family, Promoter of RIL, has under-written the entire rights issue, pledging to buy shares that are unsubscribed.

Now, the bigger question is…. How to play this???

RIL stock has witnessed phenomenal run since recent crash and has already rebounded ~65% from the lows seen on March 23, 2020 on deleveraging efforts. Management has also indicated that with strong visibility of equity infusions and rights issue, RIL is set to achieve net-zero debt status ahead of its aggressive timeline (had guided to achieve this by FY21) shared earlier in August 2019.


First, we need to look at the net debt position (debt minus Cash in hand) of RIL which stood at Rs.1.6 lakh crores at the end of March 20, as it undertook capex for expanding Telecom and Retail ventures during last few years.


Marquee names likely to help in faster deleveraging

Marquee investors like FB, Silver Lake, Vista, General Atlantic have already invested Rs.67,195 cr for ~15% stake in Jio Platforms in last one month with last transaction happened at an enterprise value of Rs.5.2 lakh crores at 20.8x its Q4FY20 annualized EBITDA (~Rs.25,000 cr).


The pace at which these transactions have come, when entire world is facing Covid-19 pandemic, vindicates that RIL is better placed to drive its consumer business with the partnership of global tech majors. Partnership with FB can help RJio monetize customers through non-telco revenue streams and position itself as a consumer/technology company. Investment by these marquee names can help RIL in deleveraging.


RJio Platform: Contributes 45-50% to overall RIL valuations

RJio is already a zero-debt company due to the creation of the InvIT structure of Rs.70,700 crores in FY20 wherein the company has transferred its tower and fiber assets, capital reorganization in which Rs.1.1 lakh crores was transferred to the parent company, and stake sales to the above marquee names.


Several reputed brokerages have assigned Enterprise Valuation of Rs.5.0-5.6 lakh crores to RJio based on 12-13x FY22 EV/EBITDA. This is based on assumption that we would continue to have 3 major players in telecom space. However, failure of Vodafone Idea, if occurs (albeit low probability!!) could further add to its subscriber base and can translate into higher valuations.


Hydrocarbon business: Bear-case valuation on weak margin recovery

Hydrocarbon business is under pressure as margin recovery in refining business is likely to be slow and unlikely to go back to the normalized levels anytime soon for the industry.


Although Saudi Aramco deal which is less likely to get closed had valued OTC (Oil To Chemicals) business at an EV of $75 bn (Rs.5.3 lakh crores @71 INR/USD during Aug 2019), we can assign EV of Rs.3.2 lakh crore valuation to its Refinery & Petrochemical business by assigning 6x EV/EBITDA on FY22 consensus estimates. This is a kind of bear-case estimates (as street used to assign 7-8x EV/EBITDA multiple to its core business) and any faster margin recovery could translate into further upside.


Retail business – recovery is likely to be slow post lifting of lockdown

Retail business (except grocery) has seen revenue loss due to complete shutdown of its retail network. Grocery contributes ~35% at EBITDA level while other segments like Consumer Electronics and Fashion & Lifestyle contribute around 50% and 15%, respectively. By assigning 20x EV/EBITDA multiple to its FY22 estimates, we can assign ~Rs.4.1 lakh crore of EV of Reliance Retail.


SOTP Valuations:

Adding the value of these three businesses, we estimate the Enterprise Valuation of the entire business at Rs.12.5 lakh crores. Deducting the debt outstanding of Rs.90,000 (Rs.1.63 lakh crores at the end of FY20), we reach to the equity valuation of Rs.11.6 lakh crores or Rs.1700/share. 

We see value at CMP and hence recommend to subscribe to the rights issue.

Sum-of-the-part (SOTP) EV/EBITDA (x) Value (Rs. Tn)
Core (Refinery & Petchem) 6x                               3.20
Jio Platform 12-13x                                5.20
Retail 20x                               4.10
Total Enterprise Value                             12.50
Net Debt                               0.90
Total Equity Value                             11.60
Fair Value/Share (Rs.)                             1,700

RIL-RE spiked today: Is there any arbitrage opportunity??

Today’s activity in RIL-RE (Reliance Industries – Rights Entitlement) segment gives some indication about the latent demand for the rights issue. It closed at Rs.212, almost 40% up from the derived price on previous close (Rs.152=Rs.1409 minus Rs.1257). Trading volume was also higher – 2.91 cr RIL-RE shares traded vs. 2.55 cr for RIL shares.

People are asking question that is there any arbitrage opportunity? Our answer is NO. I will now explain the maths…. Ideally, this instrument should trade at the difference between the current market price minus Rs.1257 + a small premium of few rupees, as rights will entitle you to buy RIL share. 

However, you have to pay only 1/4th now and 3/4th later next year (May & Dec). So, there has to be a cost of carry premium on about 900 Rs. for about 12/18 months, just like any futures contract. Hence, we don’t see any arbitrage opportunity here in RIL – Rights Entitlement instrument.

Disclaimer: The views expressed here are based solely on information available publicly/internal data/other reliable sources believed to be true. Facts presented have been verified, however, the same may contain human errors/ errors from database. The information is provided merely as a complementary service and do not constitute an offer, solicitation for the purchase or sale of any financial instruments, inducement, promise, guarantee, warranty, or as an official confirmation of any transactions or contract of any kind.