Add Coal India - Glimpse of parity.: Kotak Sec

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Coal India (COAL) 
Mining 
Glimpse of parity. We initiate coverage on Coal India Ltd (CIL), the world’s largest
coal producing company, with an ADD rating and target price of Rs345/share.CIL,
which accounts for 82% of India’s domestic coal production, is well placed to capitalize
on the burgeoning demand for coal in India. This will likely translate into parity prices
over time—in stark contrast to the extant 45% energy-adjusted discount
at which CIL currently sells coal in the domestic market.

Initiate coverage with ADD rating and target price of Rs345/share
We initiate coverage on CIL with an ADD rating and target price of Rs345/share. At our target
price CIL will trade at 16X on FY2012E earnings, reflective of the 17% CAGR in earnings between  FY2010 and FY2015E. In our view, CIL will likely continue to command premium multiples to
account for (1) expectations of narrowing discount to global coal prices, (2) stable volume growth
driven by India’s insatiable appetite for coal, and (3) constantly improving employee efficiency
metrics that will further propel margin expansion.

45% discount to parity prices likely to narrow over time
CIL currently sells coal at a 45% energy-adjusted discount to global coal prices and aspires to
narrow the discount through a mix of e-auction sales and negotiated pricing for high quality
washed coal. In our view, the deep discount to parity prices presents an opportunity for CIL,
which is transitioning from its traditional cost-plus pricing towards market-determined pricing.

17% CAGR in net income over the next five years, room for more
We estimate CIL’s net sales and net income to grow at a CAGR of 10% and 17% to Rs724 bn and
Rs208 bn, respectively, by FY2015E, primarily led by robust volumes (+4.7% CAGR) and periodic
price revisions (+5.3% CAGR). We do concede that large-scale investment in washing capacities
could further improve blended realizations during the same period. CIL is well funded to meet its
capacity expansion plans with a liquid balance sheet and cash of Rs397 bn as of September 2010.

Key risks—proposal for mining tax could erode earnings significantly
The pending proposal for imposition of a 26% tax on mining profits could erode CIL’s earnings by
as much as 20% in FY2012E. Development of new mines carries execution risks in the form of
delays in environmental clearances, land-acquisition bottlenecks and other approvals. A changing
production mix in favor of underground mines, traditionally a weak area for CIL, will likely bring
with it incremental operational challenges