Hindalco: Tiding well over Covid-led disruption with tight cost control

As Novelis remains a convertor of raw aluminium into value-added products, it is less impacted by movements in base metal prices.
The strong performance of Hindalco's India business, despite lockdown and weak base metal prices, was a positive surprise in the March 2020 quarter (Q4). The performance of Hindalco, a global producer of aluminium and copper, was boosted by better-than-expected volumes and cost efficiencies that supported profitability of domestic operations.

Going forward, expectations of lower costs provide comfort on the company's outlook, while some rebound in global base metal prices led by economic recovery in China also bode well for the India operations.

At the consolidated level, Hindalco is already getting support from its US arm, Novelis, which contributes significantly to operating profit. Novelis accounted for 64 per cent of earnings before interest, tax, depreciation and amortisation (Ebitda), and saw its quarterly adjusted Ebitda per tonne rise 15 per cent year-on-year to $472 in Q4.

As Novelis remains a convertor of raw aluminium into value-added products, it is less impacted by movements in base metal prices. Hence, the concerns had largely remained high on India operations.

In the standalone business (or India operations), analysts were expecting volumes and lower metal prices to significantly impact Hindalco's profitability in the backdrop of the lockdown. Average aluminium prices on the London Metal Exchange (LME) at $1,694 a tonne were down three per cent sequentially and much lower than $1,859 in the year ago quarter. Copper prices, too, were down 9 per cent year-on-year and the benchmark treatment and refining charges (Tc/Rc) in CY20 is settled at 15.9 cents per pound, a decline of 23 per cent from CY19.

However, the better-than-expected volumes and cost control measures helped deliver a strong operating performance, and in surprising the Street. The highest-ever quarterly production of 441,000 tonne by Utkal Alumina, the world’s most economical alumina producer, continues to deliver output at low costs. Successful revival and ramp-up of Muri alumina refinery can further strengthen Hindalco's integrated value-chain.

Company’s aluminium segment's operating profit (or Ebitda) at Rs 1,039 crore, improved 3 per cent year-on-year in Q4. Aluminium segment's Ebitda per tonne at $457 was helped by lower-than-guided costs due to improved coal availability and higher contribution from own mines as well as higher aluminium premiums, say analysts. Notably, Ebitda per tonne was 20 per cent higher than Credit Suisse estimates of $380 a tonne. What’s more, the management expects a 5 per cent reduction in costs in June 2020 quarter as well. and this is likely to support profitability further. Not surprising, Credit Suisse expects cost tailwinds to cushion India aluminium profitability even in a weak LME price environment in medium term. The foreign brokerage maintains its outperform ratings on the stock.

What can benefit further is the expected recovery in China's economy, which remains the largest consumer of the commodity.

While this can lend further support to international aluminium prices, the fears of Covid-19 impacting aluminium producers in South American countries too can lead to some recovery in the metal's prices.

Further, in the domestic arena, June’20 has started to witness increase in domestic demand and this sets the path for progressive (FY21) earning upgrades ahead, say analysts at ICICI Securities who feel Hindalco is best placed in the sector. The Covid-19-related disruptions are already factored in depressed FY21 earnings, say analysts.

The Hindalco stock, which has already seen close to 66 per cent rebound from March lows, closed marginally lower on Monday, even as leading indices fell sharply by 1.6 per cent. The results were announced post market hours on Friday.

Given the improvements, the stock can see further upside, feel analysts. Ashutosh Somani and Sushrut Ghalsashi at JM Financial say, “Hindalco remains our preferred bet in an otherwise highly leveraged metal space with a price target of Rs 192 per share.”

The key risk is if there is another big wave of Covid-19 outbreak, or increase in US-China trade tensions, both of which can derail global economic growth and thus metal prices.

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