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Hindalco: Stronger metal? - Views on News from Equitymaster
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Hindalco: Stronger metal?
Aug 4, 2005

Performance summary
The good run on the quarterly numbers front has continued for domestic aluminium major, Hindalco. The company reported a strong bottomline growth, which was led by a significant improvement in operating margins. This was despite the topline growth being not too enthusing, but nonetheless quite respectable. The company continues to benefit from the strength being witnessed in the aluminium and copper cycles.

(Rs m) 1QFY05 1QFY06 Change
Net Sales 20,616 22,078 7.1%
Expenditure 16,006 16,034 0.2%
Operating Profit (EBDITA) 4,610 6,044 31.1%
EBITDA margin (%) 22.4% 27.4%  
Other income 515 336 -34.8%
Interest 440 461 4.8%
Depreciation 1,057 1,169 10.6%
Profit before tax 3,628 4,750 30.9%
Tax 1,272 1,501 18.0%
Profit after Tax 2,356 3,249 37.9%
Net profit margin (%) 11.4% 14.7%  
No. of Shares (m) 92.5 92.8  
Diluted earnings per share* 101.9 140.0  
Price to earnings ratio (x)   9.4  
(* annualised)      

The non-ferrous metals powerhouse
Hindalco, an AV Birla Group company, is India’s largest aluminium producer and has the distinction of being one of the lowest cost producers of the metal in the world. It is an integrated player, having captive bauxite mines, power units and high value-added output comprising semi-fabricated aluminium products. The aluminium business of the company contributes to about 61% of the company’s revenues but its share in operating profits hovers in the range of 85%-90%. The company also has copper as its business segment (acquired from Indo Gulf), which contributes to the balance of the revenues and profits.

What has driven performance in 1QFY06?
Copper drags topline:  Hindalco ended the June quarter with a topline growth of 7% YoY. It must be noted that the company derives its revenues from two segments – aluminium and copper. However, while the copper business was a drag on the revenue front as it registered a decline of 4% YoY, the saviour was the 15.5% YoY growth witnessed in the aluminium business. During the quarter, while average copper prices were higher by about 22% YoY, average aluminium prices were higher by about 7% YoY.

However, in the case of copper, volume sales showed negative growth YoY on account of lower production by the company. Copper production during the quarter suffered, owing to a planned maintenance and preventive shutdown of its copper smelters for a few days. While copper realisations were higher by about 12% during the quarter, the 15% lower sales volumes affected the topline of the copper business (down 4% YoY). As far as the aluminium business is concerned, the company not only witnessed improved volume sales during the quarter, the average aluminium realisations were also higher by about 6%. This culminated into the strong growth of the aluminium segment.

Aluminium leads margin growth:  The quarter witnessed a significant 500 basis points improvement in operating margins for the company. This was led in particular by better margins of the company’s aluminium business, which surged from 34% in 1QFY05 to 39% in 1QFY06. Higher sales of value added products have also played their part in helping the company reap better realisations. Further, the copper business also contributed on this front, despite the reduction in copper import duty from 15% to 10%, thanks to the improvement in copper Tc/Rc margins, the average spot prices of which were higher by about 70% YoY during the quarter.

Bottomline surge:  Despite the lower other income, which has been attributed to the higher base of 1QFY05 when the company had booked some profits on its investments, the company managed a 38% YoY growth in bottomline. This was partially aided by controlled interest expense on account of lower working capital requirements and the reduction in tax outgo on account of the lower corporate tax rates announced in the Budget.

What to expect?
At Rs 1,320, the stock is trading at a price to earnings multiple of 9.4 times its annualised 1QFY06 consolidated earnings. We have a positive view on the company, considering the scenario prevailing in the aluminium and copper industries. It must be noted that while these industries too are being driven by the Chinese consumption, the fact that global supply has as yet failed to match up the demand makes us comfortable with respect to our positive view towards these industries. Further, Hindalco’s continued focus on increasing value added sales would provide the company with some stability in terms of earnings and margins as this segment is relatively insulated from the sharp volatilities witnessed in metal prices. Also, with copper Tc/Rc charges now well out of the trough and showing signs of considerable strength, the copper division, which until 3QFY05 was a drag on the company’s financials, would aid the company’s growth going forward. We believe that growth in power, transport, construction and packaging sectors augur well for the company. Moreover, with increased metal production capacities, it is well placed to continue to capitalize on the economic and industrial upturn.

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