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What if RNRL Wins Court Case against RIL – Analysis – Part -2

October 8, 2009

This is the second part of two post series. In the first part we have already covered what happens if RNRL Loses the Court Case against RIL. In this post we shall cover what will happen to RNRL stock price on the company winning the case.

Scenario II – RNRL wins the court case
There can be four scenarios on this front.

Scenario A: (No opportunity loss on gas availability and Marketing Margins in line with GAIL- US $0.135/mmbtu)

RNRL would not be allowed to market the gas to a third party other than ADAG affiliates. If the government disallows RNRL from charging exorbitant Marketing Margins (ie. US $4.2/mmbtu minus US $ 2.34/mmbtu) and allows it to charge Marketing Margins in line with GAIL’s Marketing Margins, Fair Value works out to Rs32/share (including Rs12/share from the gas business and the balance Rs20/share from its other businesses and assets). Thus, there would be a significant downside of 62% in the stock price from current levels under this scenario.

Scenario B: (No opportunity loss on gas availability and Marketing Margins at
US $1.86/mmbtu).

Assuming that there will be no opportunity loss on account of the delay in building the power plant for RNRL and it is allowed to charge Marketing Margins of US $1.86/mmbtu (ie. US $4.2/mmbtu minus US $2.34/mmbtu). The Fair Value under this scenario would be Rs187/share (including Rs167/share for its gas business and the balance Rs20/share for its other assets and businesses). Thus, there would be a substantial upside of 121% in the stock price from current levels under this scenario.

Scenario C: (Opportunity loss on gas availability and Marketing Margins at
US $0.135/mmbtu)

In this scenario, assuming RNRL wins the case, but no compensation for loss in terms of time value of money. Assuming that Reliance Power would take four years to erect the power plant. Thus, gas supplies would commence only from the fifth year and continue till the 21st year, ie. for a period of 17 years. Thus, there will be decay in the value due to time value of money. Assuming Marketing Margins are in line with GAIL, RNRL’s gas business would fetch a Fair Value of Rs7/share, in turn leading to total value of Rs27/share. Thus, there would be a significant downside of 69%

Scenario D: (Opportunity loss on gas availability and Marketing Margins at US $1.86/mmbtu)

In this scenario where RNRL wins the court case, but there is no compensation for the delay in the erection of the power plant and RNRL is allowed to earn Marketing Margins of US $1.86/mmbtu, Fair Value of the gas business would be Rs91/share, leading to a total value of Rs111/share.

With the government likely to keep a check over the flow of gas towards Priority Sectors, we believe government’s stance on the matter would have a major bearing on the final verdict.

On the bourses, at the current price of Rs85/share, the stock is already factoring in higher probability of around 71% (in case no compensation for time value of money is meted out) of winning the court case. Thus, the risk-reward ratio is highly unfavourable.

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