Limited upside for Hindustan Zinc
Zinc price outlook remains firm and planned decline in output will reverse in the 2nd half
Hindustan Zinc’s performance for the June quarter, as expected, was weak due to lower production. The planned cut in mined metal production from its Rampur Agucha mine led to lower refined zinc production, which at 101,000 tonnes declined 46 per cent yearon-year (y-o-y) and 34 per cent sequentially. This was partly supported by increasing zinc realisations (sequentially) and raising silver production (y-o-y), which also saw better realisations.
Average zinc prices at $1,918 a tonne on the London Metal Exchange (LME) have improved from $1,679 in the March quarter though still lower than $2,190 seen in the June 2015 quarter. Thus, zinc segment sales declined 38 per cent y-o-y and 14 per cent, sequentially. However, silver sales at ~332 crore grew 28 per cent y-o-y. Silver prices have been on an uptrend and at $16.8 per ounce were up two per cent y-o-y and 12.8 per cent sequentially. Silver production at 89 tonnes, too, was 20 per cent higher over the June 2015 quarter though lower than 122 tonnes in the year-ago quarter. Thus, despite lower production, the decline in overall revenues was cushioned and net sales at ~2,501 crore (though down 30 per cent y-o-y) were better than Bloomberg estimates of ~2,470 crore.
On the operating front, the company has made many adjustments. Earnings before interest, taxes, depreciation and amortisation (Ebitda) of ~1,130 crore included credit of ~190 crore as the company adopted the new accounting norms, Ind-AS. Bloomberg estimates had pegged Ebitda at ~1,010 crore. Further, the company has changed its depreciation method from straight-line to written-down value method, increasing depreciation by ~170 crore. Tax rate, too, increased as tax exemptions for its Pantnagar plant expired in March 2016. Thus, net profit at ~1,037 crore declined 51.8 per cent sequentially and 46.6 per cent y-o-y and came lower than consensus Bloomberg estimate of ~1,081 crore.
The road ahead for the business, however, looks good. Zinc production is likely to be better in the second half of the financial year and the company expects to end FY17 with slightly higher production. Notably, zinc prices have been rising, and the outlook remains firm. The zinc deficit story will play out over 2016-17 given new mine supplies are difficult with long gestation periods, say analysts at Kotak Institutional Equities.
However, the upside for the stock may be limited. With an earnings upgrade and higher valuation multiple, analysts at Elara Capital have increased their target price to ~197 (from ~169) based on six times FY18 estimated enterprise value (EV)/Ebitda. Global peers, according to Elara, are also trading at an average six times one-year forward EV/Ebitda. The new price target of analysts at Kotak also stands at ~200. These are, however, not far from current levels following the sharp run-up of about 40 per cent from January lows to ~194 levels now.