ECO131 Reliance Aramco Deal Analysis Assignment Sample

Principles of Economics

Introduction to Reliance Aramco Deal Analysis

Reliance industries are in talks to sell 20% of the shares of its oil-to-refinery section of its business to Saudi Arab’s state owned Aramco ltd. The deal has signaled a major shift in the decade long successful business model of reliance. The deal has been initially fixed at $75 billion which is around 5.3 lakh crore Indian rupees. The deal is fixed as to first five years the Aramco will have an economic interests in the stakes and after 5 years, the stakes will be transferred to the oil giant when this division will become a subsidiary of reliance India limited (Economictimes, 2019).

Reliance industries limited is an Indian multinational company headquartered in Mumbai, India. It works in multiple avenues as energy, textiles, petrochemicals, telecom, logistics, life sciences, renewable energy, infrastructure, natural resources, retail, textiles and it continues to acquire or buy stakes in other businesses also. Reliance is known to bring the telecom revolution in India when mobile services were made accessible to the common man and secondly when internet was made accessible at very lower rates. Reliance one of the most profitable companies in India and is the largest trading company by market capitalization in India. In June 2020, reliance’s market capitalization exceeded 150 b dollar mark on Bombay stock exchange (Timesofindia, 2020), making it the first Indian company to do so. The total revenues of the company were $92 b and net income being $6.2 b in 2020. The company was ranked 92^nd in the fortune 500 2020 ranking and being the largest exporter for India with 8% of total merchandise exports (RIL, 2020).

Saudi Aramco

Saudi Aramco is a multinational state owned petroleum and natural gas company based in Dhahran, Saudi Arabia. It is one of the largest companies of the world and largest oil and natural gas Company, having fields with second largest proven oil reserves and largest daily crude oil production. The net revenues of the company were $356 b in 2018 with net income of $111 b. The company commenced trading on Tadawul stock exchange and crossed 2 trillion market capitalization on second day of trading. It manages more than 100 oil and gas fields in Saudi Arabia; it operates world’s largest offshore and onshore fields (Bloomberg, 2018).

Reliance has announced that it will henceforth forge partnership with major business giants of the world with its telecom and retail business. So the business model of reliance is being changed by the board. The board of reliance is interested in multiple businesses and not depending on a single one which can be seen with its recent deals of Acquiring British toymaker Hamleys’ worth 68 million pounds (economictimes, 2020), selling 25% of reliance jio’s stakes to 11 foreign investors worth 1, 18,000 crores Indian rupees (Gill, 2020), and talks are on to acquire the retail chain future group in near future.

The Concept of Trade-Off and Its Importance in The Deal

Trade off is described as the opportunity cost for making a particular deal or choice, means the loss of the alternative over the preferred choice (Retief et al, 2013). For example, in an economy, companies chose to manufacture 100 cars instead of 200 computers which could be made with the same resources. Here it is to be noted that opportunity cost includes the finance, machinery, human resource and all other resources, not necessarily be able to contribute in both the choices.

A trade off can be graphically shown with Pareto frontier which shows the least or greatest amount of one thing which can be attained for various amounts of other things, which is also shown by production possibility frontier in production theory. In finance, the capital asset pricing model is an efficient frontier to show the highest level of possible return that a portfolio (resource in this case) can generate on a particular level of risk (Retief et al, 2013). Reliance has been seen as diverging its business from a single energy sector to multiple sector and the capital asset pricing model tells the systematic relationship between the expected returns and risk of the investment. The opportunity cost in this case will be the abandoned sectors in which reliance has not invested for the sake of its recent investments.

The opportunity cost in the case of the investments of reliance depends upon the duration of perspective plan reliance has made for its investments. It must be noted that capital asset pricing model is only for investment purposes whereas reliance has acquired various businesses for operating them to obtain profit. Reliance has total assets of $160 b as of 2020 and is diversifying its business in various sectors which it has done in the past also (RIL, 2020). Opportunity cost has been described as a basic relationship between scarcity and choice.

In the case of its shareholders, reliance has presented itself as a strong contender in comparison to others for increasing return as to make other investment options negative in opportunity costs. It has presented bigger plans to give its shareholders the best portfolio to keep on or invest in reliance.

Oligopoly Market of Oil and Natural Gas and The Deal

Oligopoly is a market structure with small number of firms, and no form has the adequate power to influence the supply and prices of the product and services. In any given market, there are multiple concepts present at one time. Oligopoly firms are also found out by the market share and concentration by a few firms (Rosenberg & Halloran, 2014). For example the banking system or the Cinema chains. In the case of oil and energy market, oligopoly can better be understood with an additional assumption that companies themselves fix the prices of the resources and not the countries, OPEC group in this case. It is evident that the world’s oil and energy prices and supply are oligopoly in nature and that selling stakes to Aramco by reliance can be because of two reasons-

• Reliance unwillingness to work in oligopoly market as it is uninfluenced by the company in practice and theory, reliance believe in being a monopolist which is shown by its telecommunication revolution in India.
• Depending on a single factor of business is always risky, be it a country or a business.

To clearly understand the uninfluenced on the oligopolistic market by companies, Sweezy gave his kinked demand curve in oligopolistic market, which says that price band in the market be fixed and any deviation up or down in the prices by a company will ultimately result in loss for it (Rosenberg & Halloran, 2014).

In the above figure, the prices fixed at point P for the oligopolistic companies with a fixed amount of demand. If a company raises prices above P, It will result in loss of total revenue as increased prices will affect buying more than proportionate, and any decrease in prices will not attract that level of increase in demand to positively or neutrally affect the total revenue and will result in loss of revenue. Thus reliance probably doesn’t want to work in such a market and is a looking for a varied range of businesses at the cost of varied management needs.

Another difficulty that oligopoly contains is the prisoner’s dilemma that each company faces, which encourages each member to cheat. Prisoner’s dilemma is a paradoxical condition in which each partner tends to act in its own interests and for profit. It is set up in such a way all the participants choose to protect them at the cost/loss of other which ultimately results in worst results for all than the condition in which they had cooperated to each other. It is one of the most known concepts of game theory (Forst & Lucianovic, 1977). An individual company will always have an interest/incentive to choose the way which will create less optimal outcome ultimately. Though people have now developed many methods of overcoming this dilemma and come out with better results for all participants.

Conclusion on Reliance Aramco Deal Analysis

The expected $ 75 billion deal between Saudi Aramco and reliance limited has been a big leap for reliance to change its fundamental working framework in the markets, whereas for Aramco it is a deal in the only business in which it deals. Reliance has been on a strategy to diversify its business with different acquisitions which can also be seen in Tata sons. The trade off which is also opportunity costing concept and oligopoly has been discussed with regard to this deal. As Warren Buffet says not to put all the eggs in one basket which reliance seems to be doing. With this deal, some of the economic concepts have been understood and that how they are applicable in the real world economy.

References for Reliance Aramco Deal Analysis

Bloomberg.com (2018). The aramco accounts: inside the world’s most profitable company. Retrieved from https://www.bloomberg.com/news/articles/2018-04-13/the-aramco-accounts-inside-the-world-s-most-profitable-company

Economictimes.indiatimes.com (2019) RIL to sell 20% in oil-to-chemicals unit to aramco at $75-B enterprise value. Retrieved from https://economictimes.indiatimes.com/industry/energy/oil-gas/aramco-to-take-20-pc-in-rils-refinery-chemical-biz-at-75-bn-enterprise-value/articleshow/70639516.cms?from=mdr
RIL.com (2020) Integrated annual report 2019-20. Retrieved from https://www.ril.com/getattachment/299caec5-2e8a-43b7-8f70-d633a150d07e/AnnualReport_2019-20.aspx

Forst, B & Lucianovic, J. (1977) The prisoner's dilemma: theory and reality. Journal of Criminal Justice. 5(1) pp. 55-64. DOI https://doi.org/10.1016/0047-2352(77)90025-3

Gill, P. (2020) Mukesh Ambani's Reliance closes deals with four more investors securing ?30,062 crore. Retrieved from https://www.businessinsider.in/business/news/reliance-closes-deal-with-4-investors-gets-rs-30062-cr/articleshow/76904650.cms#:~:text=Mukesh%20Ambani's%20Reliance%20closes%20deals%20with%20four%20more%20investors%20securing%20%E2%82%B930%2C062%20crore,-Prabhjote%20Gill&text=Reliance%20Industries%20has%20closed%20four,Atlantic%20have%20now%20been%20finalised.

Retief, F., Saunders, A., Geneletti, D & Pope, J. (2013) Exploring the psychology of trade-off decision-making in environmental impact assessment. DOI https://doi.org/10.1080/14615517.2013.768007

Rosenberg, S. & Halloran, P. (2014) Firm behavior in oligopolistic markets: evidence from a business simulation game. Journal of Business Case Studies 10(3).

Timesofindia.indiatimes.com (2020) Reliance Industries becomes first indian firm to hit $150 billion market valuation. Retrieved from https://timesofindia.indiatimes.com/business/india-business/reliance-industries-becomes-first-indian-firm-to-hit-150-billion-market-valuation/articleshow/76504963.cms

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