CMP: INR156 TP: INR216 (+38%) Buy To generate free cash flows for first time in 10 years

Transcription

1 BSE SENSEX S&P CNX 28,005 8,624 Stock Info Bloomberg HNDL IN Equity Shares (m) 2, Week Range (INR) 157/59 1, 6, 12 Rel. Per (%) 13/108/71 M.Cap. (INR b)/ (USD b) 322.2/ 4.8 Avg Val,(INR m) 1,140 Free float (%) 62.3 Financials Snapshot (INR b) Y/E Mar E 2018E Sales 1,001 1,014 1,090 EBITDA NP EPS (INR) EPS Gr(%) BV/Sh. (INR) P/E (x) P/BV RoE (%) RoCE (%) Shareholding pattern (%) As On Jun-16 Mar-16 Jun-15 Promoter DII FII Others FII Includes depository receipts Stock Performance (1-year) Hindalco Inds. Sensex - Rebased Aug-15 Nov-15 Feb-16 May-16 Aug August 2016 Update Sector: Metals Hindalco CMP: INR156 TP: INR216 (+38%) Buy To generate free cash flows for first time in 10 years Regained cost advantage expect re-rating; raising target price Smelting margins more about logistics than LME prices In the short term, LME prices play an important role in the operating profits of an aluminum smelter. Yet, as Hindalco s higher smelter margins at 20-30% lower allin metal prices show (Exhibit 2), smelting is not all about LME prices. In reality, logistics play an important role in the overall cost of production. For one ton of metal, a producer needs to move tons of coal, 6 tons of bauxite, 500kg of carbon materials, and more. In all, a producer moves tons of material to produce one ton of aluminum. Thus, getting the supply chain right becomes the most important strategic decision for a smelter. Indian smelters regaining cost advantage Indian smelters were in the first quartile of the global cost curve about a decade ago but lost this position because mining was affected badly by policy paralysis under the UPA2 government. Coal India was not able to produce enough coal. Even bauxite mines were often closed. Aluminum smelters were forced to import coal and bauxite/alumina. Transportation costs destroyed economics, pushing Indian smelters into the second/third quartile of the global cost curve. Under the current government, however, the situation has turned around. There is adequate availability of coal (Exhibit 3). Hindalco has been able to get its prolific bauxite mine at Baphali Mali Hills and its Utkal Refinery running as well. Utkal refinery s cost of production has declined from USD225/t in FY14 to USD166/t in FY16. Conveyors from the bauxite mines to refinery and from Coal India s Krishnashila linkage coal mine are running. Nearly half the material is now transported by conveyors compared with nil months ago. This is resulting in tremendous savings considering its smelters are located far away from ports. With adequate raw material availability, Hindalco has been able to fully ramp up both its Aditya and Mahan smelters (Exhibit 4). The specific energy consumption of these two smelters is much lower (Exhibit 5). Fixed costs too have declined, benefiting from operating leverage. Hindalco has, therefore, been surprising us with lower cost of production for three successive quarters, despite the additional INR200/ton cess on coal. According to the management, cost of production has fallen to USD1,400/ton and there is good visibility of 80% of cost due to the recently won 4.5m ton linkages (Exhibit 6). Another noteworthy factor is improvement in the quality of coal. Coal India has done tremendous work in improving the quality of its coal under pressure from the Ministry of Power. This is evident from the falling specific consumption of coal of all Indian power plants as per the data published by CEA (Exhibit 7). While higher global energy prices have pushed up aluminum prices by about 10% from historical lows (Exhibit 2), Hindalco s cost of production has declined. Sanjay Jain (SanjayJain@MotilalOswal.com); Dhruv Muchhal (Dhruv.Muchhal@MotilalOswal.com); Investors are advised to refer through important disclosures made at the last page of the Research Report. Motilal Oswal research is available on Bloomberg, Thomson Reuters, Factset and S&P Capital.

2 To generate free cash flows for the first time in 10 years Hindalco s primary smelting business has turned free cash flow positive (post capex and interest) even at historical low all-in metal prices. Novelis has already turned free cash flow positive, with a guidance of USD250m for FY17 (Exhibit 9), on strong tailwinds from auto demand (Exhibit 8). With declining financial leverage, it is now looking to refinance USD1.1b bonds maturing in FY17 with lower cost borrowings. This will help save USD20m-25m of finance cost annually. Novelis has already attained annual EBITDA of USD1.1b. The copper business in India is a pure conversion business, which generates steady ~USD250m EBITDA. A small business of special grade alumina consistently delivers USD70m-80m EBITDA. Hindalco is now inching to generate about USD2b of EBITDA. As most of this is from conversion businesses, it would be less volatile. Raising target price to INR216; Re-iterate Buy On a consolidated basis, we expect Hindalco to generate INR35b-49b of annual FCF (Exhibit 10), leading to corresponding reduction in net debt. The management s focus on operating and logistics efficiencies is enthusing. Hindalco has recently exited from small but loss-making projects like copper mines in Australia and Aditya Alumina to plug unnecessary drain on cash. We believe Hindalco will get re-rated, with (1) better visibility of cost structure of primary smelting, (2) improving RoE, (3) deleveraging, and (4) clear focus on consolidation. After a long investment cycle, Hindalco has now created three new greenfield sites (Aditya, Mahan and Utkal), which can be leveraged for low cost brownfield expansions. We are increasing our EV/EBITDA target multiple to 6.5x (earlier 6x), which translates into an increase in our target price to INR216. Exhibit 1: Hindalco s target price derivation FY15 FY16 FY17E FY18E EBITDA 89, , , ,322 EV/EBTIDAx Target EV 862, ,595 Net Debt 564, , , ,046 EQ = (EV-net Debt) 344, ,549 A. INR/share(EQ) Investments (quoted) 52,586 52,586 B. INR/share (investments) C.discount factor (%) Implied Price (A+B*(1-C%)) TP (Wtd. Average) - INR/sh. 216 Assumptions USD/INR LME 1,889 1,592 1,609 1, August

3 Despite 30% fall in metal prices over 18months, margins are higher Exhibit 2: All-in aluminum prices and EBITDA per ton EBITDA USD/t All-in aluminum - USD/t 800 2,239 2, , QF12 4QF12 1QF13 2QF13 3QF13 4QF13 1QF14 2QF14 3QF14 4QF14 1QF15 2QF15 3QF15 4QF15 1QF16 2QF16 3QF16 4QF16 1QF17 Coal India s aggressive production targets have eased supply and prices Exhibit 3: Coal supply by Coal India as against production target Coal India's coal demand - mt MoC 's target - mt FY16 FY17E FY18E FY19E FY20E, Ministry of Coal Hindalco has fully rampedup its new smelters. Exhibit 4: Capacity utilization of new smelters (%) Mahan 83 Adiya QF15 2QF15 3QF15 4QF15 1QF16 2QF16 3QF16 4QF16 1QF17 Exhibit 5: Specific electricity consumption in Hindalco s old and new smelters Specific electricity cons - kwh/t of aluminum 16,000 14,000 14,000 Old smelters Mahan Aditya 18 August

4 Exhibit 6: Hindalco returns to 1 st quartile of global cost curve India s specific consumption of coal in thermal power generation is declining on improving coal quality (led by crushing, sampling) Source: MOSL, Rusal Exhibit 7: Specific consumption of coal in thermal power generation kg/kcal FY11 FY12 FY13 FY14 FY15 FY16 Source: MOSL, CEA Strong demand growth from substitution of steel in Autos is enriching product and margin mix. Exhibit 8: Novelis share of auto products in total shipment Share of auto products in mix - % FY13 FY14 FY15 FY16 FY17E FY18E Novelis is guiding for USD250m FCF generation in FY17 Exhibit 9: Novelis FCF generation 98 FCF (USD m) FY12 FY13 FY14 FY15 FY16 FY17G 18 August

5 We expect Hindalco to generate positive FCF (post interest and capex) for the first time in a decade Exhibit 10: FCF (post interest and capex) INR b FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17E FY18E Exhibit 11: Metal sector valuations Rating Price MCAP EPS (INR) P/E (x) EV/EBITDA (x) P/B(x) (INR) (USD M) FY16E FY17E FY18E FY17E FY18E FY17E FY18E FY17E FY18E Steel Tata Steel Neutral 379 5, JSW Steel Buy 1,749 6, JSPL Neutral 81 1, SAIL Sell 46 2, nm nm Non-Ferrous Hindalco Buy 156 4, Nalco Buy 48 1, Vedanta Neutral 170 7, Mining Coal India Buy , Hindustan Zinc Neutral , NMDC Sell 100 5, August

6 Financials and Valuations Income Statement (INR Million) Y/E March E 2018E Net sales 808, , ,955 1,042,811 1,000,538 1,014,229 1,090,384 Change (%) Total Expenses 726, , , , , , ,062 EBITDA 81,897 80,584 82,863 89, , , ,322 % of Net Sales Depn. & Amortization 28,699 28,611 35,528 35,906 41,961 43,697 44,632 EBIT 53,199 51,973 47,335 53,540 64,091 89,000 98,691 Net Interest 17,579 20,791 27,016 41,784 50,467 51,533 45,917 Other income 7,831 10,122 10,172 11,047 12,113 10,199 12,323 PBT before EO 43,450 41,304 30,491 22,803 25,738 47,666 65,096 EO income (exp) -2,216-3,960-19,401-22,083-2,655 PBT after EO 43,450 39,088 26,531 3,402 3,654 45,011 65,096 Current tax 8,909 10,430 11,510 2,564 5,148 8,477 8,879 Deffered tax (net) -1,046-1,573-6,261 4,044 10,194 Tax 7,862 8,857 5,249 2,564 5,148 12,521 19,073 Rate (%) Reported PAT 35,587 30,231 21, ,494 32,490 46,023 Minority interests 2, ,957-2,378 Share of asso ,747 1,749 1,749 1,749 Adjusted PAT 33,970 32,485 25,710 27,943 24,717 36,894 47,772 Change (%) Balance Sheet (INR Million) Y/E March E 2018E Share Capital 1,915 1,915 2,065 2,065 2,065 2,065 2,065 Reserves 317, , , , , , ,047 Net Worth 319, , , , , , ,112 Minority Interest 17,091 17,593 17,805 9,561 3,888 3,888 3,888 Total Loans 410, , , , , , ,657 Deferred Tax Liability 36,050 34,677 31,750 25,552 17,306 21,350 31,544 Capital Employed 782, ,633 1,102,555 1,102,448 1,079,845 1,077,516 1,095,201 Gross Block 428, , , ,802 1,018,951 1,070,496 1,117,239 Less: Accum. Deprn. 186, , , , , , ,535 Net Fixed Assets 242, , , , , , ,704 Goodwill on consolidation 150, , , , , , ,901 Capital WIP 227, , , ,113 42,014 28,433 20,476 Investments 17,483 15,962 23,381 23,216 31,535 33,284 35,033 Working capital Assets 376, , , , , , ,813 Inventory 132, , , , , , ,462 Account Receivables 80,172 89,523 92,348 91,864 79,414 88,746 95,816 Cash and Bank Balance 81, , , , , , ,611 Others (incl. LT) 81,937 91,664 98, , , , ,924 Working capital liability 231, , , , , , ,726 Account Payables 110,522 96, , , , , ,175 Others (incl. LT) 121, , , , , , ,551 Net Working Capital 144, , , , , , ,087 Appl. of Funds 782, ,633 1,102,555 1,102,448 1,079,845 1,077,516 1,095,201 E: MOSL Estimates 18 August

7 Financials and Valuations Ratios (INR Million) Y/E March E 2018E Basic (INR) EPS Cash EPS BV/Share (adj.) DPS Payout (%) Valuation (x) P/E Cash P/E P/BV EV/Sales EV/EBITDA Dividend Yield (%) Return Ratios (%) EBITDA Margins (%) Net Profit Margins (%) RoE RoCE (pre-tax) RoIC (pre-tax) Working Capital Ratios Fixed Asset Turnover (x) Asset Turnover (x) Debtor (Days) Inventory (Days) Payable (Days) Leverage Ratio (x) Current Ratio Interest Cover Ratio Debt/Equity Cash Flow Statement (INR Million) Y/E March E 2018E EBITDA 81,897 80,584 82,863 89, , , ,322 non recurring exp (income) 14,415 1,410-4,821-5,872-17,472-2, tax paid -10,901-13,478-9,586-11,280-7,830-8,477-8,879 Change in working Capital -9,322-38,740 9, ,960-3,185-7,416 CF from Op. Activity 76,090 29,776 78,079 71, , , ,008 (Inc)/Dec in FA + CWIP -125, ,711-94,236-59,776-39,891-31,964-32,588 Free Cash Flow -49,029-88,936-16,156 11,655 62,818 86,163 94,421 (Pur)/Sale of Inv. & yield -11,846 10,729 10,910 15,680 10,658 10,199 12,323 Others , CF from Inv. Activity -137, ,340-81,655-44,892-28,629-21,764-20,265 Equity raised/(repaid) 5, , Debt raised/(repaid) 89, ,356 48,689 28,323-19,714-42,977-43,078 Interest -28,531-36,728-46,919-50,253-50,308-51,533-45,917 Dividend (incl. tax) -4,110-3,977-3,149-2,488-2,575-3,383-3,383 CF from Fin. Activity 62, ,779 14,926-24,371-72,594-97,892-92,378 (Inc)/Dec in Cash ,215 11,351 2,168 1,486-1,530 14,366 Add: Opening Balance 80,680 81, , , , , ,245 Closing Balance 81, , , , , , ,611 E: MOSL Estimates 18 August

8 PRODUCT GALLERY Our recent reports on Hindalco Our recent reports on Metals sector Our recent reports on other Metals companies

9 N O T E S 18 August

10 Disclosures This document has been prepared by Motilal Oswal Securities Limited (hereinafter referred to as Most) to provide information about the company (ies) and/sector(s), if any, covered in the report and may be distributed Hindalco by it and/or its affiliated company(ies). This report is for personal information of the selected recipient/s and does not construe to be any investment, legal or taxation advice to you. This research report does not constitute an offer, invitation or inducement to invest in securities or other investments and Motilal Oswal Securities Limited (hereinafter referred as MOSt) is not soliciting any action based upon it. This report is not for public distribution and has been furnished to you solely for your general information and should not be reproduced or redistributed to any other person in any form. This report does not constitute a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual clients. Before acting on any advice or recommendation in this material, investors should consider whether it is suitable for their particular circumstances and, if necessary, seek professional advice. The price and value of the investments referred to in this material and the income from them may go down as well as up, and investors may realize losses on any investments. Past performance is not a guide for future performance, future returns are not guaranteed and a loss of original capital may occur. MOSt and its affiliates are a full-service, integrated investment banking, investment management, brokerage and financing group. We and our affiliates have investment banking and other business relationships with a some companies covered by our Research Department. Our research professionals may provide input into our investment banking and other business selection processes. Investors should assume that MOSt and/or its affiliates are seeking or will seek investment banking or other business from the company or companies that are the subject of this material and that the research professionals who were involved in preparing this material may educate investors on investments in such business. The research professionals responsible for the preparation of this document may interact with trading desk personnel, sales personnel and other parties for the purpose of gathering, applying and interpreting information. Our research professionals are paid on twin parameters of performance & profitability of MOSt. MOSt generally prohibits its analysts, persons reporting to analysts, and members of their households from maintaining a financial interest in the securities or derivatives of any companies that the analysts cover. Additionally, MOSt generally prohibits its analysts and persons reporting to analysts from serving as an officer, director, or advisory board member of any companies that the analysts cover. Our salespeople, traders, and other professionals or affiliates may provide oral or written market commentary or trading strategies to our clients that reflect opinions that are contrary to the opinions expressed herein, and our proprietary trading and investing businesses may make investment decisions that are inconsistent with the recommendations expressed herein. In reviewing these materials, you should be aware that any or all of the foregoing among other things, may give rise to real or potential conflicts of interest. MOSt and its affiliated company(ies), their directors and employees and their relatives may; (a) from time to time, have a long or short position in, act as principal in, and buy or sell the securities or derivatives thereof of companies mentioned herein. (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as a market maker in the financial instruments of the company(ies) discussed herein or act as an advisor or lender/borrower to such company(ies) or may have any other potential conflict of interests with respect to any recommendation and other related information and opinions.; however the same shall have no bearing whatsoever on the specific recommendations made by the analyst(s), as the recommendations made by the analyst(s) are completely independent of the views of the affiliates of MOSt even though there might exist an inherent conflict of interest in some of the stocks mentioned in the research report Reports based on technical and derivative analysis center on studying charts company's price movement, outstanding positions and trading volume, as opposed to focusing on a company's fundamentals and, as such, may not match with a report on a company's fundamental analysis. In addition MOST has different business segments / Divisions with independent research separated by Chinese walls catering to different set of customers having various objectives, risk profiles, investment horizon, etc, and therefore may at times have different contrary views on stocks sectors and markets. Unauthorized disclosure, use, dissemination or copying (either whole or partial) of this information, is prohibited. The person accessing this information specifically agrees to exempt MOSt or any of its affiliates or employees from, any and all responsibility/liability arising from such misuse and agrees not to hold MOSt or any of its affiliates or employees responsible for any such misuse and further agrees to hold MOSt or any of its affiliates or employees free and harmless from all losses, costs, damages, expenses that may be suffered by the person accessing this information due to any errors and delays. The information contained herein is based on publicly available data or other sources believed to be reliable. Any statements contained in this report attributed to a third party represent MOSt s interpretation of the data, information and/or opinions provided by that third party either publicly or through a subscription service, and such use and interpretation have not been reviewed by the third party. This Report is not intended to be a complete statement or summary of the securities, markets or developments referred to in the document. While we would endeavor to update the information herein on reasonable basis, MOSt and/or its affiliates are under no obligation to update the information. Also there may be regulatory, compliance, or other reasons that may prevent MOSt and/or its affiliates from doing so. MOSt or any of its affiliates or employees shall not be in any way responsible and liable for any loss or damage that may arise to any person from any inadvertent error in the information contained in this report. MOSt or any of its affiliates or employees do not provide, at any time, any express or implied warranty of any kind, regarding any matter pertaining to this report, including without limitation the implied warranties of merchantability, fitness for a particular purpose, and non-infringement. The recipients of this report should rely on their own investigations. This report is intended for distribution to institutional investors. Recipients who are not institutional investors should seek advice of their independent financial advisor prior to taking any investment decision based on this report or for any necessary explanation of its contents. Most and it s associates may have managed or co-managed public offering of securities, may have received compensation for investment banking or merchant banking or brokerage services, may have received any compensation for products or services other than investment banking or merchant banking or brokerage services from the subject company in the past 12 months. Most and it s associates have not received any compensation or other benefits from the subject company or third party in connection with the research report. Subject Company may have been a client of Most or its associates during twelve months preceding the date of distribution of the research report MOSt and/or its affiliates and/or employees may have interests/positions, financial or otherwise of over 1 % at the end of the month immediately preceding the date of publication of the research in the securities mentioned in this report. To enhance transparency, MOSt has incorporated a Disclosure of Interest Statement in this document. This should, however, not be treated as endorsement of the views expressed in the report. Motilal Oswal Securities Limited is registered as a Research Analyst under SEBI (Research Analyst) Regulations, SEBI Reg. No. INH Pending Regulatory inspections against Motilal Oswal Securities Limited: SEBI pursuant to a complaint from client Shri C.R. Mohanraj alleging unauthorized trading, issued a letter dated 29th April 2014 to MOSL notifying appointment of an Adjudicating Officer as per SEBI regulations to hold inquiry and adjudge violation of SEBI Regulations; MOSL replied to the Show Cause Notice whereby SEBI granted us an opportunity of Inspection of Documents. Since all the documents requested by us were not covered we have requested to SEBI vide our letter dated June 23, 2015 to provide pending list of documents for inspection. List of associate companies of Motilal Oswal Securities Limited -Click here to access detailed report Analyst Certification The views expressed in this research report accurately reflect the personal views of the analyst(s) about the subject securities or issues, and no part of the compensation of the research analyst(s) was, is, or will be directly or indirectly related to the specific recommendations and views expressed by research analyst(s) in this report. The research analysts, strategists, or research associates principally responsible for preparation of MOSt research receive compensation based upon various factors, including quality of research, investor client feedback, stock picking, competitive factors and firm revenues Disclosure of Interest Statement HINDALCO INDUSTRIES Analyst ownership of the stock No Served as an officer, director or employee - No A graph of daily closing prices of securities is available at and Regional Disclosures (outside India) This report is not directed or intended for distribution to or use by any person or entity resident in a state, country or any jurisdiction, where such distribution, publication, availability or use would be contrary to law, regulation or which would subject MOSt & its group companies to registration or licensing requirements within such jurisdictions. For Hong Kong: This report is distributed in Hong Kong by Motilal Oswal capital Markets (Hong Kong) Private Limited, a licensed corporation (CE AYY-301) licensed and regulated by the Hong Kong Securities and Futures Commission (SFC) pursuant to the Securities and Futures Ordinance (Chapter 571 of the Laws of Hong Kong) SFO. As per SEBI (Research Analyst Regulations) 2014 Motilal Oswal Securities (SEBI Reg No. INH ) has an agreement with Motilal Oswal capital Markets (Hong Kong) Private Limited for distribution of research report in Kong Kong. This report is intended for distribution only to Professional Investors as defined in Part I of Schedule 1 to SFO. Any investment or investment activity to which this document relates is only available to professional investor and will be engaged only with professional investors. Nothing here is an offer or solicitation of these securities, products and services in any jurisdiction where their offer or sale is not qualified or exempt from registration. The Indian Analyst(s) who compile this report is/are not located in Hong Kong & are not conducting Research Analysis in Hong Kong. For U.S. Motilal Oswal Securities Limited (MOSL) is not a registered broker - dealer under the U.S. Securities Exchange Act of 1934, as amended (the"1934 act") and under applicable state laws in the United States. In addition MOSL is not a registered investment adviser under the U.S. Investment Advisers Act of 1940, as amended (the "Advisers Act" and together with the 1934 Act, the "Acts), and under applicable state laws in the United States. Accordingly, in the absence of specific exemption under the Acts, any brokerage and investment services provided by MOSL, including the products and services described herein are not available to or intended for U.S. persons. This report is intended for distribution only to "Major Institutional Investors" as defined by Rule 15a-6(b)(4) of the Exchange Act and interpretations thereof by SEC (henceforth referred to as "major institutional investors"). This document must not be acted on or relied on by persons who are not major institutional investors. Any investment or investment activity to which this document relates is only available to major institutional investors and will be engaged in only with major institutional investors. In reliance on the exemption from registration provided by Rule 15a-6 of the U.S. Securities Exchange Act of 1934, as amended (the "Exchange Act") and interpretations thereof by the U.S. Securities and Exchange Commission ("SEC") in order to conduct business with Institutional Investors based in the U.S., MOSL has entered into a chaperoning agreement with a U.S. registered broker-dealer, Motilal Oswal Securities International Private Limited. ("MOSIPL"). Any business interaction pursuant to this report will have to be executed within the provisions of this chaperoning agreement. The Research Analysts contributing to the report may not be registered /qualified as research analyst with FINRA. Such research analyst may not be associated persons of the U.S. registered broker-dealer, MOSIPL, and therefore, may not be subject to NASD rule 2711 and NYSE Rule 472 restrictions on communication with a subject company, public appearances and trading securities held by a research analyst account. For Singapore Motilal Oswal Capital Markets Singapore Pte Limited is acting as an exempt financial advisor under section 23(1)(f) of the Financial Advisers Act(FAA) read with regulation 17(1)(d) of the Financial Advisors Regulations and is a subsidiary of Motilal Oswal Securities Limited in India. This research is distributed in Singapore by Motilal Oswal Capital Markets Singapore Pte Limited and it is only directed in Singapore to accredited investors, as defined in the Financial Advisers Regulations and the Securities and Futures Act (Chapter 289), as amended from time to time. In respect of any matter arising from or in connection with the research you could contact the following representatives of Motilal Oswal Capital Markets Singapore Pte Limited: Varun Kumar Kadambari Balachandran Varun.kumar@motilaloswal.com kadambari.balachandran@motilaloswal.com Contact : (+65) (+65) / Office Address:21 (Suite 31),16 Collyer Quay,Singapore Motilal Oswal Securities Ltd Motilal Oswal Tower, Level 9, Sayani Road, Prabhadevi, Mumbai August 2016 Phone: reports@motilaloswal.com 10