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Hold Hindustan Zinc Ltd For Target Rs.281

Dividend to support an otherwise expensive valuation

* Hindustan Zinc beat EBITDA estimates by 5.6%, driven by a 4.5% beat on the topline with the help of higher-than-expected premium on LME in Q3 as domestic demand rebounded sharply; reflected in reduction in exports to 26% vs. 70% in Q1.

* The zinc concentrate market was in a deficit of 220kt in CY20 due to a temporary closure of Vedanta’s Gamesberg zinc mine. This in turn has dragged down TCs to USD100/t and is likely to impact smelter output in the near term.

* Demand recovery in China is strong, but it is still weak in other economies due to resurging Covid-19 and related lockdowns. Recovery in those economies and further stimulus in China post winter will be key to a further upgrade in our zinc price forecasts.

* We raise our TP to Rs281 as we assume a 19% increase in EBITDA for FY22E on the back of a 13% hike in Zinc price assumptions and 3% uptick in metals volume. The recent 23% rally in the stock in last one month caps further upsides, but a dividend yield of 7.4% for FY22/23E should provide support.

* To attain 1.2mt run rate in Q4: Management highlighted that they will achieve a run rate of 1.2mt MIC volumes in Q4 and should be closer to 1.2mt for FY22. We have baked in 1.1mt volume and further 697t silver sales for FY22E. Any further uptick in volumes will drive our EPS upgrade.

* Leveraging the balance sheet: Management highlighted that the balance sheet shall not be leveraged beyond the temporary mismatch of cash required, generally at the time of making dividend payouts. This is one of the concerns that was raised when the company sought to raise debt to fund capex while sitting on cash of Rs270bn.

* Growth projects back on track: Post-Covid revival in zinc prices has resulted in management again considering the 1.35-1.5mt expansion at Rajasthan and Gujarat greenfield smelters, though the timelines for the same have not been outlined.

* Outlook and Valuation: The stock trades at 6.7x our FY22 EV/EBITDA estimate, which we believe captures any upside in the near term. However, a dividend yield of 7.4% supports valuations. We believe that strong dividend declaration will continue due to the leverage at the promoter entities. This will ensure the stock remains attractive on the dividend yield even at the current price. We maintain Hold on the stock. The key upside risk to our call is stronger-than-expected global recovery, which will drive commodities prices up and higher-than-estimated sales tonnages.

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