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Hindalco: Market's on guard

Aug 2, 2002

While aluminium prices did climb after the global economic lows in October '01 to a high of $1,438/ tonne, non-ferrous metal prices -- similar to other commodities -- have been slipping with downturn in global capital markets, which could push back an economic recovery. Consequently, challenging times experienced in FY02 have continued into FY03 for the aluminium industry.

(Rs m) 1QFY02 1QFY03 Change
Net Sales 5,490 5,860 6.7%
Other Income 326 315 -3.4%
Expenditure 2,970 3,591 20.9%
Operating Profit (EBDIT) 2,520 2,269 -10.0%
Operating Profit Margin (%) 45.9% 38.7%  
Interest 104 79 -24.0%
Depreciation 370 413 11.6%
Profit before Tax 2,372 2,092 -11.8%
Tax 761 690 -9.3%
Profit after Tax/(Loss) 1,611 1,402 -13.0%
Net profit margin (%) 29.3% 23.9%  
No. of Shares 74.5 73.7  
Diluted Earnings per share* 87.4 76.1  
P/E Ratio   7.9  

For most of FY02, Hindalco Industries Ltd. (HIL) reported negative to low single digit topline growth. The high single digit growth seen in 4QFY02 was primarily led by higher volumes, as international prices ruled lower YoY. The company is likely to have commissioned the 33,000 metric tonne per annum (MTPA), 9th aluminium potline in December '01, which facilitated growth. For the quarter ended June '02, the company continued to benefit from higher aluminium production capacity, as compared to last fiscal. Production, during the concerned period, was higher across the board with sale volumes rising by 10% YoY. The same does indicate that realisations were lower. Encouragingly, production of downstream products -- close to consumers -- foils and wheels has increased considerably. Pricing power in these products is higher.

Products prices, on blended basis, have declined by 2.9% YoY. As mentioned earlier, stickiness in downstream product prices is higher compared to commodity prices. Much of the damage to realisations is likely from aluminium ingots/billets. International aluminium prices were lower by an estimated 10% YoY in 1QFY03. Aluminium -- a high but volatile margin business -- contributes an estimated 40% of gross sales. The salutary impact of presence in downstream business does reflect on blended realisations. Similar to 4QFY02, operating costs have increased due to higher volume sales, which also indicates that unit cost has not fallen commensurately with realisations. Manufaturing and staff costs have increased sizably. We indicated in our earlier report that rise in coal prices at start of FY02 has led to higher energy costs. Also, the company entered into a fresh wage agreement at start of 2002. The agreement is valid upto December '04 and entails an estimated 30% hike in wages.

Interest rates have been declining over the past 5 consecutive quarters. The company is likely to have benefited from the softening interest rate regime. That said, gross interest expense has incrased but net interest is lower due to capitalisation of interest. On the other hand, lower interest rates also affects other income of the company. Other income increased significantly in the previous fiscal, as debt funds performed well in the declining interest rate scenario.

Going forward, the company expects global aluminium consumption to grow by 1% YoY, while production could rise by 4%. Consequently, international prices could remain subdued. We expect aluminium prices to remain stable at existing levels. That said, China is a swing factor with demand growth in double digits leading to more comfortable regional demand-supply dynamics. HIL exports performed well, which could have been lifted by China. Domestic demand could get support, with improved growth in auto and construction sector.

At 599, the scrip is trading on a multiple of 7.9x 1QFY03 annualised earnings. The scrip trades in a band of 6x-9x earnings. Over the past few weeks, the stock price has declined from Rs 700 levels. On July 21, 2002, the board approved the amalgamation of the copper business of Indo Gulf Corporation Ltd. with itself. The amalgamation is likely for enhancing balance sheet size. Also, the company has declared an open offer for outstanding non-promoter shares in Indal at Rs 120/ share. Hindalco is likely to be among the front runners in bidding for National Aluminium Company Ltd. (Nalco). We reckon, the company could require an estimated Rs 75 bn. Markets are likely to have exited the stock, as financial risk profile could change considerably post acquisition of Nalco. Also, consolidated margins -- with copper and Indal -- is likely to be pulled down.

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