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Hindalco: Research meet extracts - Views on News from Equitymaster
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Hindalco: Research meet extracts
Sep 29, 2005

We recently met the management of Hindalco to get a first hand understanding of the various developments taking place within the company and the sectors it operates in i.e. aluminium and copper. Below are the extracts of the same.

What is the company’s business?
Hindalco, an A. V. Birla group company, is the largest producer of primary aluminium in the country with a capacity of 345,000 metric tonnes (MT). It became the largest producer of copper post the expansion of its copper smelter capacity from 250,000 tonnes per annum (tpa) to 500,000 tpa. Hindalco is also one of the lowest cost producers of aluminium in the world. It is an integrated player, having captive bauxite mines, power units and high value-added output comprising semi-fabricated aluminium products. As far as its copper business is concerned, here too the company has acquired copper ore mines thus moving on the path of backward integration. The company got a presence in copper, on the back of its acquisition of the copper business of Indo Gulf, another group company. Further, FY05 saw Hindalco merge Indian Aluminium (Indal) with itself.

The company's topline is a factor of two segments - aluminium and copper. While, approximately 39% of the revenues are contributed by its copper division, the contribution to EBIT is a mere 11%, with the balance coming from the aluminium segment, indicating the low margins being witnessed in the copper division. However, one primary concern for all commodity companies is the cyclicality factor. These companies are worst affected during times of economic slowdowns.

The company remains positive on the prospects of the aluminium sector over the next 2 to 3 years. It believes that while demand could slow down, there is little possibility of it changing direction. Aluminium supply continues to lag demand. The company refrained from forming any view on the Chinese economy. It must be noted that with China controls almost 25% to 30% of the global aluminium production and demand, it has an important role to play in the future of the sector. However, the company pointed out that if China were to slow down, the impact would be much higher on alumina than on aluminium. Nonetheless, currently, with alumina being in deficit of about 7 million tonnes per annum (MTPA), the chances of sharp aluminium price correction seems less. Further, the company informed us that as far as its volume sales contracts are concerned, there was no fixed pattern and the company keeps its options open and acts depending on market conditions.

On the expansion front, the company is planning expanding its alumina and aluminium capacities as mentioned by it in its FY05 Annual Report, which includes the brownfield expansion of its alumina capacity at Muri from 110,000 tonnes per annum (TPA) to 450,000 TPA by FY07. Further, the expansion of the alumina capacity at Belgaum from 350,000 tonnes per annum (TPA) to 650,000 TPA is awaiting certain mining approvals. The other projects under consideration include the JV with Alcan in Utkal Alumina where Hindalco holds 55% and the alumina capacity set up would be 1 MTPA, which would later be scaled up to 1.5 MTPA. This project is likely to be commissioned only in 2009. Another fully integrated project - Aditya Aluminium - with an initial alumina capacity of 1 MTPA (to be expanded to 1.5 MTPA) and 260,000 TPA of aluminium (to be expanded to 325.000 TPA) is also being considered. Further, on enquiring about any expansion plans in its value added segments, where the company is already running at full capacity, the management was of the view that it is not planning to raise any capacity there as the supply suffices the demand currently and it was not in favour of dumping and spoiling the market dynamics.

This is one segment where the company is relatively bullish. After witnessing a lull in the past few years in the domestic market, things seem to be stabilising now. It must be noted that the advent and strong growth of mobile (wireless) telephony saw the demand for jelly filled telecom cables (JFTC) take a hit. BSNL and MTNL are the two big consumers of JFTC. However, the company expects to achieve growth from the non-telecom segment, which includes winding wires and power cables. Further, the company is looking at the exports market to grow, as the domestic market is small. Also, considering the 2.5 MTPA deficit in the Asian copper market, the sector is likely to have good times ahead.

However, it must be noted that the important thing for a copper company like Hindalco is TcRc (treatment charges refining charges), the parameter that decides the profitability of the copper business. TcRc in brief is the difference earned by a copper smelter, like that of Hindalco, in the process of converting copper ore to metal. Since the last few years, owing to depressed LME copper prices, mining activity had subsided, which had resulted in excess of smelter capacity and less of ore availability. However, with miners wanting to take advantage of the strong copper prices over the last 12 to 18 months, mining activity has surpassed the availability of smelters, thus making the scenario favourable for copper smelters. Just to put things in perspective, average TcRc has recovered from about 10 cents per pound (c/lb) to the current levels of 18-22 c/lb. This will improve the margins of the copper business going forward.

Our view
The research meeting with Hindalco management has re-affirmed our belief that the prospects for the company in the medium term are bright. With the demand-supply dynamics currently in favour of both aluminium and copper segments, we expect the company to register improved profitability over the next couple of years, with positive contribution by the copper business. We maintain our BUY recommendation on Hindalco.

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