Sesa Goa: Win-win deal

Acquisition will ensure iron reserves for Vedanta.

The UK-based Vedanta's acquisition of Sesa Goa has once again highlighted the need amongst large metal players to gain control of key raw materials like iron ore.

Sesa Goa has 207 million tonnes in iron ore reserves and Vedanta is paying $981 million to acquire a 51 per cent stake in this company.

This acquisition is being done on an enterprise value per tonne of iron ore reserves at about $8, say analysts. The deal reflects the strong demand conditions in the iron ore industry.

Just a day earlier, the UK-based Anglo American bought a 49 per cent stake in a Brazilian iron ore company, at about $3.5-4 per tonne of iron ore reserves.

However, the Brazilian company is still understood to be in the ramp-up stage and its ability to mine these resources at an economical cost is still uncertain.

In contrast, Sesa Goa has a well-established client base in key markets like China and its mining operations are globally cost-competitive, point out analysts. Vedanta would be looking to ramp up Sesa Goa's sales, which stood at 9.55 million tonnes in FY06, to about 15 million tonnes over the next few years.

On January 29, the Japanese parent of Sesa Goa, had indicated a review of its stake in the Indian company. The Sesa Goa stock has averaged Rs 1,759 from this review decision and prior to the latest announcement.

Vedanta would also be coming out with an open offer at Rs 2,036 per share, for purchasing an additional 20 per cent stake in Sesa Goa.

On Tuesday, the Sesa Goa stock fell 2.5 per cent to Rs 1698.5, which is a 17 per cent discount to the open offer price. Now that the deal is done, the upside in the stock price is limited for the medium term. Thus, investors could exercise the open offer and exit from the stock.

Exide Industries: Heavy metal

Exide Industries' performance in the March 2007 quarter was adversely affected by rising cost of raw materials, namely lead metal on a y-o-y basis.

As a result, the company's operating profit grew 34.1 per cent y-o-y to Rs 75.9 crore in the last quarter, as compared to a 37.8 per cent growth in net sales to Rs 528.89 crore. Its operating profit margin also declined 40 basis points y-o-y to 14.35 per cent in the last quarter.

This pressure on operating margins was due to adjusted raw material costs as a percentage of net sales rising 200 basis points y-o-y to 63.7 per cent in the March 2007 quarter. However, for FY07, its operating profit margin improved 40 basis points y-o-y to 16.5 per cent.

Exide is expected to shortly complete the expansion in its capacity by setting up a one-million unit plant, which will be an export oriented unit (EOU).

However, with the stock trading at 23 times FY07 earnings, it appears expensive despite its insurance stake, considering that the profitability of the core business depends a lot on how lead prices move.

HDFC Bank: Still counting

Once again this quarter, the HDFC Bank has come out with a sterling set of numbers. Net interest income grew 51 per cent y-o-y in Q4 FY07, aided mainly by an improvement in net interest margin to 4.5 per cent. In the previous four quarters, the net interest margin has been slightly over 4 per cent.

The growth in advances for FY07 was muted at 29.6 per cent, about the same as the banking industry. In the previous year, advances had grown 48.1 per cent.

The growth rate in retail advances has come down to 33.4 per cent due to a higher base in the previous year, when retail advances had grown nearly 80 per cent.

The bank was able to improve its net interest margin in March due to higher float funds and an increase in lending rates, which improved the yield on assets.

A lower reliance on bulk deposits and a higher proportion of current and savings accounts (CASA) helped lower the cost of funds. The bank's CASA was around 55 per cent of total deposits in Q4 against an average 50 per cent through the year.

Core operating profit also did well, rising nearly 69 per cent y-o-y in Q4, but other income growth slowed down to about 30 per cent. In the March 2006 quarter, other income had risen 38.2 per cent. Despite the increase in provisioning of Rs 121 crore on credit card receivables, personal loans etc, its net profit grew by 30 per cent y-o-y in Q4.

The bank's high CASA and a conscious strategy to go slow on bulk deposits will help HDFC Bank protect its margins going forward. It is aggressively opening branches after RBI's permission, and has opened 101 branches in Q4, which should ensure deposit growth. At its current price, HDFC Bank trades at about 4.4 times the estimated FY08 book value.