Hindalco Industries Rating: Hold; Q3FY20 results were in line with estimates

Drop in power costs helped in Ebitda expansion; copper underperformance likely to worsen; TP revised to Rs 199

Hindalco has reported in-line Q3FY20 (standalone) with drop in power costs helping in Ebitda expansion. Integrated aluminium Ebitda increased by $94/te q-o-q. Better realised prices and lower costs (-2% q-o-q) will allow aluminium Ebitda to expand further in Q4FY20. Significant increase in linkage availability (~70% of Q3FY20 requirement) allowed margin expansion. While copper business performance was also along the expected lines, the persistent underperformance of the segment is going to worsen in FY21e. This is due to (i) reduction in TcRc contracts, (ii) annual shutdown planned for H2FY21 (~ 45 days) and (iii) muted byproduct prices and a probable shutdown of the DAP plant. We maintain Hold with a revised TP of Rs 199/share as we roll over our valuations to FY22e.

Low power costs help aluminium Ebitda accretion

Higher linkage allocation in Q3FY20 allowed sharp drop in power costs along with reduction in prices of other consumable products (i.e CP coke, CT Pitch). While the restart of Muri refinery (from Dec 19) will not allow any meaningful reduction in RM costs, it will allow better absorption of Rs 700 mn of fixed costs and thereby, improve profitability. Dumri (captive mines) will start by Q1FY21 and will be critical in ensuring availability during the lean season for linkages.

Downstream and alumina capex will strive to improve profitability

Management reasserts focus towards adding downstream capacity and has earmarked $1.2 bn over the next six years – to increase extrusion capacity by 5/6x, allow supply of beverage can of Korea from India while allowing freed up capacity in Korea to cater to autos. Hirakud remains at the centre of Indian downstream ambitions and will become much bigger compared to traditional smelter sites. Further, Utkal alumina expansion is progressing as expected and should come on-stream by FY22e. The expansions are expected to reduce the volatility of India earnings while striving to improve return ratios.

Copper segment performance is expected to worsen in FY21e

The business has seen meaningful deterioration of profitability due to a combination of internal and external factors. With contract TcRc as an added headwind, FY21e might well see one of the lowest Ebitda contribution years before things normalise in FY22e. The capex behind continuous cast rods facility and its subsequent commissioning has yet to see any meaningful benefit as profitability stays muted (Ebitda of $428/te).

How Novelis continues to de-risk

While Q3FY20 standalone+Utkal Ebitda has declined ~25% y-o-y, consolidated Ebitda declined by ~11% y-o-y. Novelis has irreversibly reduced the cyclicality of the combined business. With further downstream expansion coming on-stream, the cyclicality will reduce further. The readjustment of the scrap LME spread remains a key risk to Novelis’ margins.