Hindalco: Novelis – Restructured and growing:: Macquarie

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Hindalco Industries
Novelis – Restructured and growing
Event
 Strong 2QFY11 results by Novelis: Hindalco’s subsidiary, Novelis, reported
results for 2QFY11, which were slightly less than our estimates; however, it
remains on track to achieve US$1bn adjusted EBITDA as expected for FY11.
With the big turnaround now achieved, Novelis will still grow, but growth will
be more gradual. We believe that Indian operations’ expansion has become
the driving force, which makes Hindalco a bit more risky; hence we maintain
our Neutral recommendation and target price.


Impact
 Earnings momentum continues: Net sales of $2.5bn were up 16% YoY
driven by 6% increase in shipments. Operating EBITDA of $229mn is up from
$107mn, though slightly below our estimate of $249mn due to higher SG&A
costs. PAT at $61mn compared to $195mn last year and $50mn last qtr.

 Restructured and now looking to grow: Novelis expects to de-bottleneck
the existing units by 300kt at a very reasonable capex of US$100mn or so
over the next 3-4yrs. Also, it is expanding its Brazilian unit by 220kt at a capex
of US$300mn. It will continue to look for further growth options in the
developing world and is also open to inorganic growth. As of now, the volume
growth will be limited to 3-4% per annum.

 Strong turnaround, but fully discounted: Novelis has reported PAT of
US$111mn in 1HFY11 as against our full year estimate of US$251mn. We are
building in strong PAT growth of US$372mn and US$436mn for FY12 and
FY13, respectively but believe it is fully discounted in the present valuation.
 Market to see slower growth: Other than the contract renegotiations and
cost reductions, Novelis benefited due to sharp recovery in volume growth.
We are forecasting a slowdown in both Europe and the US economies (which
contribute 75% of the total volumes) and believe that demand growth should
moderate from current levels of 13.5% to less than 5%.
Earnings and target price revision
 We have made minor adjustments to our FY2011-13 estimates to reflect the
reported 1H11 Novelis numbers.

Price catalyst
 12-month price target: Rs240.00 based on a PER methodology.
 Catalyst: Further price increases by Novelis and strength in Aluminium prices

Action and recommendation
 Maintain Neutral: We believe that Hindalco can turn around very well on the
back of Novelis. However, its expansion plan of aluminium capacity in India at
a time when the aluminium market is highly oversupplied will result in low
returns. We believe current valuations fairly reflect the potential. We shall look
for better entry points and recommend switching into Sterlite Industries (STLT
IN, Rs187.55, Outperform, TP: Rs218.00), which is available at 9.3x FY12E
and 7.6x FY13E, a sharp discount to Hindalco.