Hindalco: Better domestic show, Novelis outlook can help stock re-rate

Rebound in aluminium price, positive Novelis outlook boost confidence in stock

Hindalco is one of the key Indian beneficiaries of the significant rebound in base metal prices on the London Metal Exchange (LME). The company has continued to report reasonable financial performance, despite the challenges posed by the Covid-19-triggered demand disruption and slowdown. 

The stock is among the top picks of brokerages, which are anticipating further upside with an improvement in the operating environment.

The aluminium price on the LME had seen a low of close to $1,421 a tonne in April; it averaged $1,497 in the June quarter (Q1) versus $1,690 in the March quarter. With the start of economic activities worldwide, the LME aluminium price is now close to $1,722 a tonne. Credit Suisse has already raised its LME assumptions for the rest of FY21-22 in line with global forecasts from $1,640 to $1,725 per tonne. 

Even the LME copper price has rebounded to $6,667 a tonne, from the low of $4,618 in March. Though Q1 had seen the overall domestic market decline 53 per cent to 91,000 tonne and weakness in treatment and refining margins, as well as realisations of products, such as sulphuric acid and DAP, improving demand reflected in rebounding the LME price should boost the segment’s prospects.

The domestic performance of Hindalco for Q1 had already induced confidence. Despite challenges in the domestic business (a 57 per cent fall in domestic aluminium consumption), Hindalco still was able to report aluminium metal sales of 303,000 tonne versus 320,000 tonne in the year-ago quarter, helped by higher exports. Hindalco also sustained Ebitda at Rs 856 crore (versus  Rs 853 crore in Q1) in the Aluminium India business.

 

 

Its US subsidiary Novelis — which remains a convertor and, hence, insulates Hindalco’s consolidated performance from volatility in LME prices — has seen its contribution to consolidated Ebitda rise regularly to 70 per cent in Q1. Despite the slowdown in FY20, Novelis reported adjusted Ebitda of $1,443 million (up 5.5 per cent). Though Novelis felt the heat in its US and Europe markets because of Covid-19, the business has been rebounding. 

It had seen record high automotive volumes in China during Q1 and in other geographies, the automotive demand recovered to pre-Covid levels. Demand for beverage cans remains strong. Among the newly acquired portfolios from Aleris, the performance of the aerospace sector is likely to stay muted, whereas building and construction is seen improving, say analysts. 

Specialty continues to do well, led by strong demand from electronics and electric vehicles. The management expects per tonne profitability to stay in the $450-475 range versus the FY20 figure of $399.

Overall, analysts at Motilal Oswal Securities (MOSL) say the outlook for Novelis is positive, led by resilience in the beverage can business and global demand recovery in automobiles — a high margin segment. With improving profitability in the India business, MOSL has raised its target price to Rs 233 (from Rs 186 earlier).

Credit Suisse, assuming Ebitda per tonne of $410 for Novelis in FY22 and higher aluminium price, too, has raised its FY22 earnings estimate by 34 per cent and the target price to Rs 240. Hindalco remains its top non-ferrous pick because of the focus on deleveraging and improving profitability at Novelis.

Clearly, there is upside for the stock, which at Rs 194.25 has doubled from lows of March. Analysts at HSBC say improving India performance and strong Novelis outlook can help the stock rerate. The company’s enterprise value/Ebitda multiple has already rebounded sharply from multi-year lows. The stock still trades at a discount to its long-term average.