Hindustan Zinc strong in difficult environment

Increasing output and improved prices to add to company's earnings prospects

Hindustan Zinc has been on an uptrend since it hit a 52-week low in August last year. In seven months, it is up about 70 per cent and it hit a 52-week high of Rs 199.80 on intra-day basis last Thursday. Although gains in the past few sessions may be attributed to the 1,200 per cent dividend announcement, a large part of the rally has been fuelled by the company’s improving prospects.

The lows on the bourses had been because of falling zinc prices. Zinc prices on the London Metal Exchange (LME) that were at around $2,000 a tonne in June 2015 declined to around $1,400 a tonne in December 2015. The company’s performance during the period, nevertheless, came bettered expectations thanks to increasing zinc and lead production, which partially mitigated lower LME prices. Integrated zinc and lead metal production during the December quarter, for instance, increased by eight per cent year-on-year and 42 per cent year-on-year to 206,322 metric tonnes (mt) and 35,352 mt, respectively, on account of enhanced smelter efficiency and conversion of inventories. Even though there may be a few quarters of lumpy production due to mining plans, overall production is expected to continue increasing.

The company is in the process of gradually scaling up production from the current 0.9 mt per annum (mtpa) of zinc and lead to 1.2 mtpa in the next three to four years, as part of capex plans. Also, even as the bulk of its production is moving from opencast to underground mining, analysts feel the cost of production is unlikely to increase much.

Zinc prices have rebounded to $1,800 levels. The closure of large mines has helped curtail supplies. Falling premiums (extra price over benchmark rate that buyers pay) too have stabilised. Analysts at Macquarie are bullish on zinc’s prospects, and expect it to reach $2,400/tonne in FY18. However, they add even with prices as low at $1,750, the company is comfortably placed with 60 per cent Ebitda (earnings before interest, taxes, depreciation, and amortisation) margins. The company’s cost of production, including royalties, is pegged below $1,000 a tonne. Even assuming realisation of $1,750/tonne over the next four years, cash (surpluses) and dividends will be equal to 90 per cent of current market cap (indicating a minimum 18 per cent compounded growth), says Macquarie.

Though in the near-term the stock may correct as it goes ex-dividend (Rs 24 per share) on April 7, investors could utilise this to invest for the long-term given strong prospects.