Macquarie: Buy Gujarat NRE Coke -Well poised, hopefully it delivers; target Rs 106

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Gujarat NRE Coke
Well poised, hopefully it delivers
Event
 In-line 3Q FY11 results. GNC reported standalone 3Q results that are largely
in line though with some help from higher other income. It remains on track to
reach our full-year estimates and with the improving outlook appears well
poised to show a sharp increase in profitability. Maintain Outperform.

Impact
 3Q standalone results – recovery continues. Net sales at Rs4.4bn were up
80% QoQ driven by a 79% increase in sales volume and an 11% increase in
coke realisation. EBITDA at Rs527m was up only 13% QoQ as costs
increased as higher coal costs feed through and should show up in its mining
subsidiary’s profit. Net profit at Rs207m was up 107% QoQ.
 On track to achieve our full-year estimates. GNC - standalone has
achieved 63% of full-year EBITDA in the first nine months. Also, its mining
subsidiary has already achieved 45% of our full-year EBITDA in the first half.
It remains on track to achieve our full-year estimates on consolidated basis.
 All eyes on coke inventory. GNC is sitting on 300kt of coke inventory and
we expect that it will be considerably liquidated in the next three quarters.
GNC is also sitting on close to 750kt of unwashed coking coal, but is unlikely
to sell this but rather might resort to selling coal directly from the mine given
high prices and reduce transport to India and utilise this inventory.
 Bullish fundamentals for coking coal. Compared to our assumptions of
US$251/t for coking coal and US$464/t for coke for FY12, the current prices
stand at US$350/t for coking coal and US$550/t for coke. The production from
Queensland is still to recover fully and it will be really interesting to see where
coking coal prices are settled for 1Q FY12 (our assumption US$290/t).
 Dispelling doubts about GNC’s profits. We have compared GNC’s coke
profits with Sesa Goa’s (SESA IN, Rs319, Not Rated) coke business and find
an uncanny correlation between realisation and profitability of both.
Earnings and target price revision
 No change.
Price catalyst
 12-month price target: Rs106.00 based on a Sum of Parts methodology.
 Catalyst: Strengthening coking coal prices.
Action and recommendation
 Maintain Outperform. GNC has underperformed the market in the past few
months, even though its mining subsidiary’s stock has jumped up 50%. We
believe that given the lack of consolidated financial results, investors have
been caught looking at just standalone profits, which are becoming a smaller
and smaller proportion of profits. We believe that the current valuation is a
good opportunity to take entry before the results of the mining subsidiary