Hindalco: Adjusting to the new environment; metal volumes may stagnate

Capex cut, focus on profitability, healthy balance sheet should help overcome medium-term hurdles

Hindalco’s recent investor meet offered key takeaways for the non-ferrous metals major and for the global commodities industry.

The company expects domestic aluminium as well as copper demand to double over the next decade to 9 million tonnes per annum (TPA) and 2 million TPA, respectively. But, in the near to medium term, metal volumes will stagnate. Energy intensity for aluminium and copper production and downstream is very high, so the company’s access to coal and its captive power capacity are critical. 
 

The firm has decided to focus on value addition and customer solutions to improve margins and thus combat a cyclic downturn. The company is looking at expanding its speciality product portfolio and ramping up production.
 

Aluminium has many uses such as in refectories, ceramics, paints, fire safety etc. In copper, it is creating 50,000 TPA of recycling capacity, and capacity of 25,000 TPA inner grooved copper tubes and 5,000 TPA of alloy rods for the railways. These moves will help it increase earnings before interest, taxes, depreciation and amortiation (Ebitda) in the medium term. 
 

For Novelis, the worst may be over but recovery is likely to be slow. The management guidance is that at $376, the number for the third quarter of the 2022-23 financial year (Q3FY23), Ebitda per tonne was likely the lowest margin to be hit, and it is confident of slow and steady recovery from here. 
 

The cyclical low was due to higher operating costs and lower volumes due to de-stocking in the can market and also due to a slowdown in the speciality segments serviced by Novelis. Normalisation should be complete by end Q4 FY24.

 

The company has started to pass on cost inflation and hedged energy cost in Europe to some extent but higher energy costs will still impact overall performance by $25-30 million per quarter. The next target is Ebitda/tonne of $400-420 and there’s a target of $525 per tonne by Q4FY24. 
 

In the next three years, the company will spend $3.3 billion for growth in Novelis and $1.1 billion on domestic business capex, including capex towards Chakla coal mines ($186 million) which will improve coal security. This is substantial downsizing from last year’s guidance of $8 billion with $4-5 billion capex plans pushed beyond FY26. Debt will stay flat and working capital costs should decrease. 
 

Indian operations had net debt or Ebitda of 0.27x while the Novelis net debt or Ebitda stands at 2.57x and guidance is that it will stay close to that, going forward. The consolidated net debt/Ebitda stands at 1.6x and the long-term target is to keep it below 2x. All the incremental capex will be funded via free cash flow. 
 

The previous guidance was for 75 per cent spend in capex, 15 per cent in debt reduction and 10 per cent on dividend payment.

However, the capital allocation policy in Novelis has now shifted to capex around 90 per cent and the rest to dividends. Given that the balance sheet is strong and there’s no major debt maturity over the next two years, there’s no financial risk. 
 

At present, the stock is trading at Rs 403.35. Most analysts have ‘buy’ or ‘hold’ recommendations, with price targets or fair value calculations in the range between Rs 455 to Rs 530. This suggests there’s significant upside and little risk in the long term.