The current rally in the stock markets is just refusing to let steam with buying interest being witnessed across almost all the sectors. This time around, stocks from the old economy sectors such as cement, steel and aluminium are also generating a good amount of interest. Against this backdrop, let us cast a glance at three of the best commodity sector companies viz. Gujarat Ambuja, Tisco and Hindalco and see how do they compare against each other.
Gujarat Ambuja: Gujarat Ambuja is the third largest cement producer in the country with a total capacity of 12.5 m tonnes (9% of industry capacity). Over the years the company has gained the reputation of being the lowest cost producer of cement in the country and has operating margins that are almost double the industry average. The company is also the single largest exporter of cement in the country (53% of India’s cement exports come from Gujarat Ambuja) and as a result is able to utilize its capacities effectively by selling the surplus production in the export markets.
Tisco: With a capacity of 4 m tonnes and a 13% market share, Tisco is India’s largest private sector steel company. The company has the enviable distinction of being one of the lowest cost producers of steel in the world and as a result enjoys operating margins that are among the best in the industry. In order to sustain its impressive margins, Tisco is gradually changing its product revenue mix in favour of cold rolled (CR) products, which realise better margins. The company is also concentrating on the value added segment front in order to beat the steel cycle.
Hindalco: Similar to its counterparts in the steel and cement sector, Hindalco, is also one of the lowest cost producers of aluminium in the world, mainly on account of the integrated nature of its business. The company is also the largest producer of aluminium in the country. Hindalco, added copper to its business interests, acquiring the same from Indo Gulf. The company has embarked upon an ambitious capacity expansion program, which would entail a massive capex of around Rs 18 bn. This will increase its aluminium capacity by around 100,000 tonnes while its alumina (raw material for the manufacture of aluminium) capacity will increase by 2,10,000 tonnes.
Having looked at the profile of the three majors in brief, a comparative view would highlight the commodity nature of the business. For a commodity company, there is a cyclical pattern. There is a boom period when demand, prices and capacity utilisation is at the peak and then, there is a trough, during which profits are on the lower side. One of the key differences between a commodity company and say, a FMCG company is the quantum of fixed cost. Whether it is peak or trough, a commodity company has a certain level of capital expenditure (like maintenance), irrespective of the demand scenario. So, when demand falls, fixed costs being the same, operating margin is severely affected.
Given this backdrop, the three companies compared here are at different phases of a commodity cycle. While Tisco is close to the peak of cycle, Gujarat Ambuja is coming out of a trough (in terms of prices) and Hindalco is also close to peak prices in the international markets. This is reflected in the comparative numbers below.
A comparative view...
*FY03 numbers **Projected FY04 earnings
|Sales CAGR(3 years)
Though operating and net margins of Tisco is lower compared to Hindalco and Gujarat Ambuja on the face of it, it was the highest in the last decade. Higher profitability is also reflected in superior return ratios as compared to the other two commodity majors. On the other hand, though Gujarat Ambuja’s margins are higher relatively, was among the lowest in the last five years (due to a 7% fall in cement prices in FY03). As a result, return on assets and net worth has fallen significantly.
But in terms of demand, Gujarat Ambuja has outperformed the other two by a significant margin. While steel demand has been growing at around 4% in the domestic market, aluminium demand as well as prices have been subdued post the September 11 attacks. But it has to be remembered that aluminium is a relatively higher value-add commodity than steel and cement. In terms of future growth prospects, while cement demand is expected to grow by around 8% in the next three years, for steel and aluminium, pricing scenario may not be favorable post FY04. This brings us to valuations.
Gujarat Ambuja, with a P/E of 14.8x of its projected FY04 earnings is trading higher than the other two. Tisco trades at a significant discount, which could be due to expectations of a decline in prices. Hindalco’s capacity expansion plans as well as copper acquisitions seem to have enthused markets. However, considering that all the three stocks are from commodity sectors, valuations appear a bit stretched.