Vedanta's fortunes are in for a change

As base metals prices rebound and crude oil prices firm up, the lower cost of output should aid earnings

Natural resources major Vedanta is seeing a revival in its fortunes after being hit by last year’s crash in commodity prices. Even after adjusting for one-offs, the company reported a consolidated loss of Rs 944 crore in FY16, compared with a net profit of Rs 1,895 crore in FY15. Consequently, since August 2014 till the end of FY16, the Vedanta stock was on a downward spiral during which it hit a lows of Rs 58.10 in February this year.

However, base metal and oil prices have started showing some uptick now, something the market has also sensed. The stock, which has been rising in the past two months, closed at Rs 116.70 apiece on Friday, up 3.27 per cent over the previous day’s close (partly led by brokerage upgrades).

Aluminium per-tonne prices on the London Metal Exchange (LME) have risen to $1,600 levels from $1,450 in January 2016. LME zinc price is also up 26 per cent in 2016 to $2,050 a tonne levels. Brent has doubled from $26.39 a barrel in January to $50 levels, and should benefit Vedanta's subsidiary Cairn India.

While the volatility in commodity prices moving forward is not to be ruled out, looking at the slowing growth in China, prices are much higher.

Notably, the cost of production has come down remarkably. In the past decade, the per-tonne cost for Indian smelters doubled to around $2,000 in FY15 due to shortage of domestic coal/bauxite, spike in crude oil prices and high inflation, say analysts at Motilal Oswal Securities.

According to them, these factors are now turning favourable and the cost of production has declined to below $1,400 by the end of FY16 for new smelters. Vedanta’s per-tonne cost stood at $1,431 in the March’16 quarter, and $1,572 for FY16. The company’s aim is to bring it down to $1,400 levels in FY17.

With power availability from the grid improving, analysts at CLSA expect aluminium volumes to grow 28 per cent annually over FY16-19. As the new Jharsuguda/Balco smelters ramp up, they see aluminium cost outlook improving with falling coal prices. CLSA also sees power business volumes growing 20 per cent annually over FY16-19, as the new units in Talwandi Sabo/Balco ramp up, and iron ore output rising by 47 per cent in FY17 with ramp-up of Goa mines.

International iron ore prices are also improving and the removal of export duty for low-grade iron ore by the government should benefit Vedanta. The outlook for zinc remains healthy with Hindustan Zinc (its subsidiary) already driving Vedanta’s performance.

Thus, it’s not surprising that CLSA has upgraded Vedanta by two notches to ‘buy’ and the company’s FY17-18 earnings estimate by 54-62 per cent.