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4QFY22 result inline, FY23 guidance disappoints

No surprises in its 4QFY22 result

Revenue stood in line at INR88b (up 27% YoY and 10% QoQ) in 4QFY22, led by higher LME prices, but was partly offset by flat lead prices.

EBITDA stood in line at INR50b (up 28% YoY and 14% QoQ). Power and fuel costs stood at INR8b, up 10% QoQ, led by higher coal prices. Other expenses rose 11% QoQ to INR19b, but was partly offset by inventory accumulation.

PAT grew 18% YoY and 8% QoQ to INR29b, marginally below our estimate of INR30b due to lower than estimated other income and higher taxes, which includes taxes for the prior period also. Other income was lower as the benefit of falling interest rates in the previous quarters is behind us.

Revenue/EBITDA/PAT stood at INR294b/INR162b/INR97b in FY22, up 30%/ 39%/22% YoY. The growth was driven entirely by 34%/22% YoY growth in LME zinc/lead prices as metal sales volumes remained flat YoY.

Total metal sales volumes were a paltry 2% higher YoY (at 993kt) in FY22, despite 6% higher zinc sales at 793kt. The same was offset by 9% lower lead sales at 200kt. The management said FY21 had higher lead sales volumes due to higher concentrate availability, which has now normalized.

FY23 guidance disappoints

The management has guided at a flat production growth in FY23, which hints at the possibility of it reaching peak mine output, unless large-scale expansion is achieved for sustainable mine production

Mined metal production to be marginally higher at 1,050-1,075kt.

Silver production to touch 700-725t (v/s 647t in FY22).

The cost of production of zinc should be in the USD1,125-1,175/t range (v/s USD1,136/USD1,122/t in 4Q/FY22).

Project capex has been guided at USD125-150m, indicating no massive jump in projects either.

We note that the management has guided at an elevated cost structure. We believe this is largely on account of their expectation of high coal and other input costs. HZ is primarily dependent on imported coal as coal linkages met only 3% of its total requirement in FY22. With thermal coal prices rising 2.35x in the last one year, the cost of production will only escalate further. Since the beginning of FY23, the imported price of 5500NAR Richards Bay thermal coal has risen 10% to INR22,000/t. A sharp jump in met coke prices will also impact the HZ’s cost of production

Its silver production guidance also disappoints as the top end of the guidance (725kt) is 15% lower than our FY23E estimate

Production growth continues to elude

The management has guided at a refined production of 1,000-1,025kt in FY23. This has resulted in a 8% cut in our FY23 volume estimate.

We believe the growth may have been delayed due to delay in the expansion of its mining operations as the company’s mining output has hit a peak of 16mt.

Any further smelter/refining output growth will require Zawar mines to boost its output to 8mt from 4mt currently and Rajpura Dariba (RD) mines to raise its output as well. The management expects new mining concessions to be put up for auction by the government soon. However, this is a long term plan. Its short term plan is to increase mining output at Zawar and RD mines.

The pyro smelter at HZ can operate at both ‘lead’ and ‘zinc and lead’ mode. In FY21, the availability of lead concentrate was higher and the smelter was run on ‘only lead’ mode. However, with improvement in the availability of zinc concentrate in FY22, the smelter was operated on ‘zinc and lead’ mode, leading to a YoY decline in lead production. The management is planning to debottleneck the smelter to increase tonnage.

The Fumer project continues to be delayed due to non-availability of visa for Chinese specialists needed for its commissioning. The management said the visa issues have now largely been sorted out. It expects commissioning of the Fumer plant by end of 1QFY23 and a full ramp up by the beginning of 3QFY23. This is likely to provide 30kt of additional refined zinc in 2HFY23, provided the Fumer plant ramps up.

Valuation driven entirely by LME

HZ operates in the first quartile of the cash cost curve among all smelters globally, implying that it is among the lowest cost producers of zinc. Despite this position, it is facing severe cost pressures, especially from rising coal costs, for which it has no alternate.

In our recent meeting with the Chairman, it guided at a USD50/t reduction in the cost of production from FY22-24, indicating strong cost headwinds.

We also note that during the meeting with the Chairman, the company had guided at refined metal production of 1,200kt in FY24, which we believe is likely to be deferred further, unless it achieves its mine production growth targets.

We have cut our zinc and lead mined metal production for FY23 by 10% each and silver production by 12%. We have also cut our FY23 zinc/ lead/silver sales volume by 8%/10%/8%, factoring in the lower management guidance.

However, we have raised our FY23 zinc/lead LME price assumption by 37%/3%, given the tight zinc market, which is driving LME prices higher. LME zinc prices are only 3% lower than its all-time high of USD4,619.5/t. With higher energy prices in Europe and low physical stocks in the US, prices are likely to remain elevated for some time before normalizing.  We raise our FY23 EBITDA/EPS estimate by 14%/3% and by 18%/4% for FY24 given the increase in LME prices. The same is partly offset by a decline in FY23 volumes as a result of the disappointing guidance.

The stock is trading at 6.5xour FY23 EV/EBITDA estimates. The probability of zinc prices correcting from current levels is higher than an up move as the energy and inventory situation normalizes globally. Despite a 37% rise in zinc prices and raising our TP to INR370 per share (from INR325 earlier), we maintain our Neutral rating, an upside of 8% from current levels.

Delay in volume growth remains a key concern along with rising costs. Slowdown in China is the key risk to zinc prices.

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