Synergy with Aleris is underway; cyclicality in porfolio additions is a negative; ‘Reduce’ retained.
We met with the management of Hindalco Industries. The company’s domestic focus remains on value addition, the total investment for which amounts to $1 bn and includes plans to increase exposure in scrap recycling and extrusions. However, not enough details have been yet considered, especially in the area of BUY vs BUILD. In the absence of foray in these two downstream areas, downstream capacity of the existing assets looks saturated.
Hindalco is also working on debottlenecking the capacity of Utkal Alumina from 1.5mtpa to 2mtpa. Incremental efforts on cost optimisation are based on captive mining in Gare IV/4 and IV/5 as well as ramp-up in mining in Dumri. Importantly, there is visible demand accretion in beverage cans seen in North American business. However, the improved pricing contract in cans will (only) partly offset the possible volume/contract realisation headwinds seen in auto volumes. Maintain Reduce with target price of Rs 177/share.
Process of integration and synergy capture from Aleris is on
Hindalco expects to realise $150 mn in additional Ebitda from Aleris through synergies (from the $360 mn) which Aleris is expected to achieve in first year of operations post acquisition. Nearly half of the synergies should be realised in a timeframe of 3-5 years, and Novelis will need to invest $250-300 mn for the same. Zhenjiang facility of Aleris is strategically located near Novelis’ existing Changzhou plant (within 80 km) in China. Novelis will invest in additional cold roll capacity in Zhenjiang to complement the auto HR capacity of the existing Changzhou facility. These synergies are palpable and we would like to track them over the years – as of now, Aleris’ China facilities are extremely under-utilised.
What we don’t like
In the current emerging weakness in auto volumes (cyclicality is taking shape), Aleris acquisition only reduces can percentage in the overall portfolio from 61% currently to 47% post acquisition. The additions to the portfolio – such as auto, aerospace, building and construction – all have cyclical elements imbibed in them and will have volumes impacted by business cycles. The expected Ebitda move in Aleris from the current $202 mn to future $360 mn is largely driven by ramp-up in auto volumes out of Lewisport, which is not risk-free in the current environment.