The recent rally in aluminum prices has further lifted earnings outlook for HNDL. Any supply disruptions in bauxite due to political issues in Guinea can drive cost push, which should further benefit HNDL as it has captive bauxite. Notwithstanding some near-term semis related risks for autos, Novelis should continue to benefit from structural shift towards aluminum in autos and packaging. We raise FY22-23e EPS by 7-13% on higher aluminum prices and retain Buy.
Aluminum on a tear: LME aluminum prices have risen 13% in the last month and are up 49% CYTD to $2,950/t, a 13-year-high. The recent political instability in Guinea has raised concern on bauxite availability. Alumina prices have jumped from $426/t at end-Aug to $508/t at spot and could go higher if bauxite supply is impacted. Any bauxite-led cost push in aluminum should be beneficial for HNDL as the company has 100% captive bauxite in India. HNDL also started 0.5-mtpa Utkal alumina refinery in July and has plans to replace the higher cost alumina from an older facility; however, it is possible it might sell this alumina in external market if prices remain elevated.
Near-term outlook for commodities improving: While China inflation spiked and credit growth slowed again in August, JEF global commodities team believes we may be approaching a positive inflection point with reasons to be optimistic over a 3-6 month horizon.
Novelis on strong footing: The downstream Novelis business has been witnessing strong demand across segments. Notwithstanding some risk to autos due to chip shortages, the demand shift towards SUVs, pick-up trucks and EVs is boosting demand for aluminum. The can segment is benefiting from shift in packaging from plastics and glass. Novelis’ cash flows are likely to be under slight pressure though due to higher working capital requirement amid rising aluminum prices.
Earnings upgrade: We raise our FY22-23 aluminum price assumptions by 9-11% to $2550-2600/t (still 12% below spot). This results in FY22-23e Ebitda upgrade of 5-8% and EPS rising by 7-13%. Our FY22-23e EPS are 4-12% above street. External sale of incremental alumina from Utkal can add further ~3% to Ebitda and ~5% to EPS. Despite higher working capital need, we see net debt falling by Rs 14/30 per share in FY22/FY23.
FY23E PB of 1.2x is reasonable for 15% ROE: Stock has outperformed Nifty by ~75% CYTD but its 1.2x FY23e PB looks reasonable for 15% ROE in FY23e; the stock peaked at 1.7x PB in 2010-11 for similar ROE. We raise our TP to Rs 610 based on FY23e EV/Ebitda of 5.5x for India and 7.0x for Novelis; our price target implies 1.6x FY23e PB.