Novelis' strong Q2 performance saves the day for parent Hindalco

Hindalco’s domestic operations reported stable volumes during the July-September quarter (second quarter, or Q2), but its profitability was bound to feel the heat of declining base metal prices.

On a consolidated basis though, the steady showing of its US arm, Novelis, saved the day for Hindalco. Novelis’ operating profit (about two-third of overall) grew by 5.8 per cent and provided some cushion to the consolidated operating profit, which fell by only 9 per cent year-on-year (YoY) in Q2. The trend may continue in the near term.

In the domestic aluminium segment, Hindalco maintained sales volumes, which, at 328,000 tonnes, was up 1 per cent YoY, even as the domestic market contracted by 6 per cent YoY in Q2. While this is a positive, global aluminium prices dropped by 14 per cent YoY, averaging at $1,761 per tonne. Consequently, aluminium premiums (price over benchmark), too, remained weak. Hence, this segment’s profit at Rs 849 crore was down by 38 per cent YoY.

Total copper metal sales, too, improved 5 per cent YoY, but again, the segment’s profit at Rs 263 crore was down by about 35 per cent YoY, primarily because of the monsoon-related impact on operations and lower realisations of byproducts such as diammonium phosphate and sulfuric acid. Treatment charge and refining charge (TC/RC margins) — a profitability indicator — also remained weak.

The outlook for aluminium and copper prices remains challenging, looking at global headwinds and uncertainties related to the US-China trade war. However, analysts say strong performance by Novelis in a challenging environment for aluminium producers and Hindalco’s integrated domestic operations will support consolidated earnings.

Novelis, which is a convertor of raw metal into value-added aluminium products, continues to focus on improving operational efficiencies, innovations, and is upgrading its automotive recycling facility in Greensboro, Georgia.

Analysts say the demand for aluminium from the US auto industry remains favourable and there are supply constraints for aluminium cans too. The management has been guiding for a sustainable per tonne profitability of over $400.

Novelis had reported an adjusted per tonne profit of $448 in Q2 of 2019-20 (FY20), up 2 per cent YoY. Analysts at Motilal Oswal, while remaining conservative on Novelis’ per tonne profitability, still estimate it at $442 and $401 in FY20 and 2020-21 (FY21), respectively. Analysts believe the stock trades at attractive valuations of 5.7x enterprise value/operating profit and 9x price-to-equity, based on FY21 estimates.

Progress on the acquisition of Aleris, which Hindalco is positive of closing in the stipulated time of January 21, 2020, is another trigger.