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Nalco: Margin woes persist - Views on News from Equitymaster
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Nalco: Margin woes persist
Oct 24, 2007

Performance summary
  • Topline falls by 9% YoY during 2QFY08, seemingly hurt by rising rupee and falling alumina prices.
  • A huge 17% drop in operating margins leads to 35% YoY fall in operating profits.

  • PAT shrinks 26% YoY, lower than the drop in operating profits, largely due to 62% growth in other income and fall in depreciation charges

(Rs m) 2QFY07 2QFY08 Change 1HFY07 1HFY08 Change
Net sales 14,416 13,082 -9.3% 29,271 24,734 -15.5%
Expenditure 5,665 7,397 30.6% 11,177 12,885 15.3%
Operating profit (EBDITA) 8,751 5,685 -35.0% 18,095 11,849 -34.5%
EBDITA margin (%) 60.7% 43.5%   61.8% 47.9%  
Other income 1,014 1,644 62.1% 1,848 2,954 59.8%
Interest (net) - 6   - 7  
Depreciation 771 683 -11.4% 1,558 1,375 -11.8%
Profit before tax 8,994 6,639 -26.2% 18,385 13,421 -27.0%
Tax 3,044 2,242 -26.3% 6,212 4,557 -26.6%
Profit after tax/(loss) 5,950 4,397 -26.1% 12,173 8,864 -27.2%
Net profit margin (%) 41.3% 33.6%   41.6% 35.8%  
No. of shares (m)         644.3  
Diluted earnings per share (Rs)*         31.8  
Price to earnings ratio (x)**         8.8  
(* annualised, ** on trailing twelve months earnings)

What is the company’s business?
Nalco is the largest alumina and second largest aluminium producer in India. It is Asia's largest integrated aluminium complex, encompassing bauxite mining, alumina refining, aluminium smelting and casting, power generation, rail and port operations. The company is amongst the lowest cost producers of the base metal in the world. It has a competitive edge vis-ŕ-vis its peers due to factors like rich bauxite reserves, captive power plants and rail and port operations. The company derives more than 50% of its revenues from exports.

What has driven performance in 2QFY08?
The double whammy: During 2QFY08, Nalco had to contend not only with the subdued prices of alumina globally but also bore the burden of a rising rupee. Consequently, the topline witnessed a fall of 9% YoY during the quarter. The company exports more than 60% of its total alumina production and thus with the rupee rising close to 11% against the US dollar this year, revenue growth suffered. The volume numbers on the other hand are not available with us currently and hence, we cannot comment on the same.

Power shocker for the margins: There has been a huge contraction to the tune of 17.5% in the company’s operating margins during the quarter. All the cost heads (as percentage of sales) have witnessed increases. Power related expenses have caused the maximum damage, as the company faced difficulties in procuring coal to charge its furnaces. This led to the company resorting to imported coal as well as relying on external sources of power, thus not only pushing up its raw material expenses but also its power and fuel costs. Staff costs too have jumped, reporting a 32% YoY increase.

cost break up
(Rs m) 2QFY07 2QFY08 Change
Raw materials 1,072 1,917 78.8%
% sales 7.4% 14.7%  
Power and fuel 2,157 2,618 21.4%
% sales 15.0% 20.0%  
Staff cost 901 1,193 32.4%
% sales 6.3% 9.1%  
Other expenditure 1,535 1,669 8.8%
% sales 10.6% 12.8%  

With the company sitting on a huge cash pile of Rs 37 bn at the end of FY07, other income growth has remained strong, witnessing a 62% YoY rise during the quarter and helping restrict the bottomline decline to 26% YoY. Depreciation costs too, by falling 11% YoY, have helped limit the damage.

In recent quarters
As seen from the table below, rising rupee and softening metal prices have been hurting the topline growth of the company. Further, facing power shortage has not helped matters either and this has resulted into a massive drop in margins in recent times.

over the last few quarters
  2QFY07 3QFY07 4QFY07 1QFY08 2QFY08
Net sales growth (% YoY) 37.7% 9.3% 1.9% -21.6% -9.3%
OPM (%) 60.7% 58.3% 56.2% 52.9% 43.5%
NPM (%) 41.3% 39.5% 37.7% 38.3% 33.6%

What to expect?
At the current price of Rs 281, the stock is trading at a multiple of 8.8 times its trailing twelve-month earnings. We are in the process of updating our research report on the company and will soon come out with our forward estimates for the same.

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