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Novelis to delever as India readies for downstream

Hindalco Industries’ Q3FY21 standalone performance was inline with expectations. Aluminium production and sales are still running at ~95% of preCovid levels; management expects historical production to be reclaimed in another couple of quarters. Deleveraging remains the stated management priority, with next two years’ FCF out of Novelis being utilised for bringing down Novelis debt. However, internal accruals of Indian business will be reinvested to expand the downstream portfolio (Rs 7.3bn capex for 34kte extrusion plant at Silvassa announced). Hindalco has been rated ‘BBB ‘in MSCI ESG index improving from previous rating of ‘BB’. We maintain HOLD; potentially higher RoE on account of higher contribution to earnings from Novelis reflects in our 0.8x P/B (FY23E). Risk to Novelis earnings are elevated, we fear.

* Management suggests flat CoP QoQ; increased other expense suggests some additional incidence on account of captive mining in standalone operations. Integrated spreads moved up by US$96/te QoQ, against derived realisation increase of US$149/te. Standalone aluminium EBITDA hardly increased by US$74/te QoQ. Higher other expense, probably attributed to captive mining can explain the optical increase in costs and thereby a relatively muted EBITDA/te increase vis-à-vis increase in realisation QoQ. Aluminium VAP (excluding wire rods) sales volumes at 80kte (vs 75 kte), up 7% YoY. VAP sales as a percentage of total metal sales have risen to 25% vs 21% YoY. Export sales have also normalised (mostly) to pre covid levels. Higher VAP, and normalised exports helped achieve much higher realised metal premium QoQ. The same, though, has much more headroom to improve.

* Copper profitability continues to remain well below historical levels. Copper metal sales were down 13% YoY, while copper rod sales are up 12% YoY resulting in higher premium. DAP (fertiliser) sales volume was at an all-time high at 156kte, up 135%YoY, on the back of continuous robust demand. We believe, looking at the past performance of Dahej, management intervention is required to improve the operational efficiency of the smelter– perhaps through targeted capex.

* Incremental internal accruals in domestic business to be ploughed back for downstream expansion. Hindalco (India) debt, ex working capital required for copper business has reduced from Rs 180bn to ~ Rs 150bn QoQ. However, incremental internal accruals would be reinvested for downstream capacity expansion – the details of the same along with capital allocation details will be shared subsequently. Deleveraging though will continue in Novelis. Consolidated Net debt declined ~ Rs 42bn QoQ with majority of the contribution coming from assets sales of Lewisport and Duffel in Novelis Utkal Alumina refinery expansion (500ktpa) is delayed by one quarter and is now expected in Q1FY22.

* Maintain HOLD. Risks to Novelis earnings are elevated as scrap – LME spread starts to contract.

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