Despite rupee fall cushioning the revenue decline and expectations of aluminium prices improving, raw material costs may keep a tab on profitability.
The Nalco stock has lost over half its value since March 2011 due to declining aluminium prices on account of the global uncertainty, and weak performance. Rising production costs, owing to high raw material prices, have hit the company’s profitability. Nalco saw its operating margin dip to a seven-year-low of 9.5 percent in the September 2011 quarter.
The rupee depreciation has provided some respite, as it may limit the decline in revenues for domestic aluminium players like Nalco. A silver lining also comes from analysts’ expectations that aluminium prices will bounce back in the coming quarters as low prices have led to production cuts. They feel that operating margins, too, have bottomed out. However, coal still continues to be a cause for concern. Other raw materials like caustic soda, having been contracted at higher prices, will continue to impact profitability for the next few quarters. Therefore, over two-thirds of the analysts, according to Bloomberg data, have either a hold or a sell rating on the stock.
| TOUGH TIMES AHEAD | |||
| Rs crore | FY2011 | FY2012E | FY2013E |
| Revenue | 5,959 | 6,804 | 7,617 |
| % ch y-o-y | 17.69 | 14.18 | 11.96 |
| Ebitda | 1,488 | 1,247 | 1,662 |
| Ebitda (%) | 24.96 | 18.32 | 21.82 |
| Net Profits | 1,069 | 781 | 1,032 |
| % ch y-o-y | 28.43 | -26.98 | 32.13 |
| EPS (Rs) | 4.15 | 3.03 | 4.00 |
| PE (x) | 12.28 | 16.81 | 12.74 |
| Source: Capitaline plus , HSBC Global Research E-Estimates | |||
Prices and currency
Due to global concerns, aluminium prices on the London Metal Exchange have slid to under $2,000 levels, almost 30 per cent lower than the April 2011 price. This has left half the industry in the red, as the average aluminium production costs come close to $2,000 a tonne which should lead to production cuts from manufacturers. As a result, analysts are revising their aluminium price estimates.
Tarang Bhanushali at IIFL estimates the average aluminium prices for 2011-12 at about $2,310 a tonne and for 2012-13 at $2,250.
For domestic players, the rupee depreciation is cushioning the decline in revenues in spite of low aluminium prices. Bhanushali estimates that while producers in other countries will see a 10-15 per cent fall in revenues, domestic producers would see just a 1-3 per cent decline.
Raw material costs
Coal, however, continues to be a cause of concern. According to reports, Nalco had to shut 120 of its 931 pots in September and October. Though coal supplies may have improved now, supplies within the country still remain limited. The rupee depreciation, which is limiting the decline in revenues in spite of lower aluminium prices, will, however, lead to higher imported coal costs, even as global coal prices in the quarter have declined by $30 to $230 a tonne.
Further, Jigar Mistry and Anoop Fernandes of HSBC Global Research believe that Coal India is likely to bear the incremental profit sharing costs as determined by the proposed mining bill, which could raise linkage coal costs by 8-8.5 per cent a tonne. They add that other raw materials have been contracted at higher prices, the impact of which will continue to be seen in the next 9-12 months.
Capacity constraints
Nalco added 525,000 tonne of alumina refining capacity in September 2011, which has increased total alumina capacity to 2.1 million tonnes a year. However, aluminium capacity continues to remain at 0.46 million tonnes a year. Its plans to increase aluminium capacity in India and Indonesia, besides its diversification into nuclear power will not be coming up soon.
On the raw material front, Nalco is expected to increase bauxite mining from 6.3 million tonnes to 6.8 million tonnes a year by July 2012. The benefits from its 70-million-tonne-a-year Utkal coal block are expected to accrue only in 2013-14.
Outlook
Though the operating margins may have bottomed out in Q2, the improvement will be gradual due to coal constraints and other raw material costs. The operating margins are estimated to fall to 18.3 per cent in 2011-12 (compared to 25 per cent in 2010-11) and then inch up to 21.8 per cent in 2012-13.
