 "Near-term demand worries to weigh on Hindalco stocks; volumes may improve")
Hindalco’s first quarter (Q1FY23) results indicate healthy domestic volumes for aluminium and copper, and lower cost of production. Subsidiary Novelis saw weak volume trends but it managed to push operating profit margins on a better mix and pricing hikes. The weak global outlook on aluminium is a cause for ongoing concern.
Hindalco’s domestic operating profit of Rs. 2,470 crore was down 4 per cent quarter-on-quarter (Q-o-Q), though realisations per tonne declined 9 per cent Q-o-Q for aluminium. This was due to 5.6 per cent Q-o-Q volume growth to 341 kilo tonnes (kt), and 3 per cent reduction in cost of production. Management guidance says that costs would reduce further given better coal availability. The copper business also reported 1 per cent volume growth Q-o-Q at 118 kt of sales. A planned plant shutdown resulted in 11 per cent Q-o-Q drop in operating profit to Rs. 530 crore.
Novelis saw a negative impact of destocking across markets with volume reduction. But operating profit was up 3 per cent Q-o-Q due to higher sales to the auto industry and price hikes. Given inventory liquidation downstream, guidance is for volume improvement. The operating profit guidance has also been hiked by approximately 10 per cent for second half of the financial year (H2FY24) with possibility of Q4 being even better.
The China smelters are coming back online, increasing supply in a weak global market. London Metal Exchange for aluminium could be flat or down and this would impact Hindalco’s domestic business as well.
Management expects volumes to improve and operating profit per tonne to stay above $200 for aluminium operations – lower prices could be offset by lower cost of production. Further improvement could come through on operationalisation of captive coal mines but this may take two years. Copper volumes will improve in Q2FY24 with its own production rising. The capex outlay for India at Rs. 4,500 crore with Q1FY24 spend of Rs. 800 crore. Novelis has capex plans for $1.6–1.9 billion (capex of $333 million in Q1FY24). Management hopes to fund this mostly through internal accruals.
Consolidated net debt increased to Rs. 38,500 crore from Rs. 34,000 crore in FY23 due to higher inventory and $333 million capex for Novelis. The consolidated net debt to operating profit stands at 2.7 times. It rose Q-o-Q due to an increase in working capital in India and in Novelis.
While the long-term narrative remains bullish, the next few quarters will probably see more suffering in the sector due to weak demand, even if this is offset to some extent by lower costs. Most commodity traders don’t expect a price recovery in non-ferrous metal until well into FY25. Once Hindalco’s captive coal production starts, its cost will reduce further but the timelines indicate this won’t happen till late into FY25 or maybe FY26. The company has a clean balance sheet and its strategy of steady capex will pay off in the next cycle since this is downstream oriented and will improve the value-addition.
But immediate gains are not so likely and the stock has seen selling. Analysts are positive with 12-month target prices indicating potential upside of 5-20 per cent.