Sterlite Industries: Digging for solutions

Stock may recover on the likely redressal of concerns, mainly non-availability of bauxite.

Troubles never come alone. This, unfortunately, holds true for Sterlite Industries. Weakness in metal prices, accompanied by Vedanta Aluminium’s inability to secure a licence for Niyamgiri mines, and then rumours that the company will front Vedanta’s bid to secure a majority stake in Cairn India dragged the stock.

However, a lot of uncertainty has been cleared now. According to analysts at Nomura Financial Advisory and Securities, the company derives close to 90 per cent of its value from stakes in Hindustan Zinc, Sterlite Energy, cash and equivalents, with the aluminium business contributing just five-seven per cent. Even Vedanta Aluminium contributes just Rs 70 lakh, accounting for 3.5 per cent of its total value.

Of late, zinc prices have been stabilising at $1,900-2,000 a tonne despite high inventory. With prices recovering from troughs, analysts expect the zinc business to account for more than half of the company’s profits in FY12. Meanwhile, Sterlite Energy is expected to commission its 2,400-Mw power plant in the next few quarters, which will add to the earnings growth.

The energy business is expected to provide the required boost to earnings and valuations. Nomura analysts estimate that the every 50 paise per unit increase in merchant rates has the propensity to raise Sterlite’s 2012 earnings by Rs 309 crore, while every 100-Mw rise in merchant sales will raise earnings by around Rs 60 crore. In terms of valuations, every 50 paise increase in merchant rates will raise valuation by Rs 2,300 crore. As Vedanta Aluminium plans take a back seat, the proposed sale of power at a discounted rate will be freed for merchant sales and could actually add to earnings, say analysts.

The non-availability of bauxite from Niyamgiri would mean that the cost estimates (at around $1,000 a tonne) for manufacturing low-cost aluminium would be thwarted and the costs will now be $1,400-$1,500 a tonne, changing the additional profit estimates. But, other businesses are expected to compensate for the shortfall.