Coal India: Higher costs take the sheen out of volume surge

Inability of the company to pass on cost increases through price hikes have led to lower-than-expected profits in the quarter

The largest producer of coal in the world, Coal India has posted a better-than-expected performance for December 2012 quarter. As against an expectation for sales of Rs 16,958 crore, it reported Rs 17,325 crore, while net profit at Rs 4,395 crore was also ahead of consensus estimates of Rs 4,225 crore.

Better sales were on account of higher off-take at 120.45 million tonnes as compared to 110.27 million tonnes in December 2011 and 101.74 million tonnes in the previous quarter, which is a positive given despatch constraints recently faced by the company. Blended coal realisation increased from Rs 1,391 per tonne to Rs 1,438 per tonne, thanks to the price hike taken in last year in February.

However, despite the increase in production to 117.37 million tonnes in the quarter as against 114.62 million tonnes last year, the company will not be able to meet its production target of 464 million tonnes as it has produced only 308.91 million tonnes in the first nine months.

While there are reasons to be happy about higher off-take and production, the same cannot be said about the quality of earnings.

Operating profit of Rs 4,288 crore for the quarter was not only lower than expectations of Rs 4,444 crore but lower than that of December 2011 quarter of Rs 4,554 crore, despite sales growing by nearly 13%. Operating profit margin fell from 29.7% to 24.75% during the same period on account of higher diesel and wage cost. Employee and welfare expenses along with contractual expenses increased from Rs 7,215 crore to Rs 8,526 crore.

Despite the rise in cost, Coal India has been prevented from taking a price hike during the December quarter on account of various reasons, ranging from political to inability of its consumers to bear the increase.

However, more than the results, the market is looking at the coal pricing issue, which is expected to be decided soon. Reports say that government is considering pooling of prices of coal produced by Coal India and that of imported coal which the company will be required to access from global sources and provide it to domestic consumers like power producers.

While independent directors along with the second largest shareholder, The Children’s Investment (TCI) Fund, are reportedly opposed to such a move, outcome of this will decide future price movement of the stock. The other factor that will decide stock price movement is the likely liquidity overhang as government plans to further dilute its stake in the company to meet its divestment target in the next fiscal.

Sentiments could get a boost if Coal India is allowed to offset cost pressures/higher cost of imported coal through prices hikes and if it gets approvals to start production at new mines.