Why Vedanta Is Best Placed To Gain From Commodity Surge
Anil Agarwal’s Vedanta expected to benefit from higher commodity prices and capacity expansion.
Billionaire Anil Agarwal’s oil-to-mining giant Vedanta Ltd. is in a sweet spot.
Prices of zinc are at their highest in more than a decade and aluminium is close to its highest in over five years, aided by China’s winter cuts to curb pollution. Crude oil has rebounded as well. The resources major is well positioned to gain from the commodity surge as it adds capacity in the three businesses that contribute the bulk of its operating profits.
Shares of Vedanta rose 22 percent in the last one year. The stock has the potential to gain another 20 percent, according to the consensus of estimates tracked by Bloomberg as of Feb. 21. All 24 analysts recommend a ‘Buy’.
The company is expanding capacity of its aluminium, oil & gas and zinc businesses, which will help it improve volumes in a deficit market, IIFL Institutional Equities said in a report. The three businesses, the brokerage said, are expected to contribute about 87 percent of the operating income in the year ending March 2019. Cost-saving measures are already helping it improve margins, it said.
Aluminium, oil & gas and zinc accounted for bulk of its Rs 5,270-crore earnings before interest and tax in the quarter ended December— zinc, lead and silver at 64 percent; oil & gas at 15 percent; and aluminium 8.6 percent, according to Bloomberg data. The company’s operating income, net profit and margins improved in the ongoing financial year.
Decade-High Zinc Prices
Chinese mining restrictions hurt supply, pushing up prices. That led to a higher realisation for Vedanta. LME Zinc is at its highest in a decade at about $3,550 a tonne. And it’s expected to rise further with depleting inventories, IIFL said.
Kotak Institutional Securities thinks zinc prices may have peaked and could fall. Yet, that’s unlikely to impact Vedanta’s zinc earnings because its subsidiaries Hindustan Zinc Ltd. and Gamsberg are expected to commission two large projects. Kotak said it could result in a strong volume growth of 40 percent to 1.6 million tonnes in two years.
Crude Rebound To Aid Margins
Crude has surged from about $47 a barrel in June last year to above $64. Higher prices directly boost operating margin for Cairn India, now merged with Vedanta Ltd. Cairn India also plans a $1.1 billion capex. That, Kotak said, is estimated to yield 218 million barrels of oil equivalent.
Aluminium Deficit
Shutdowns in China mean there will be a supply deficit in the medium term if production doesn’t resume, said IIFL. Aluminium prices though are off their recent peaks but have risen 15 percent to $2,200 a tonne in a year to trade near 2011 levels.
The Chinese government’s post-winter cut action will be key determinant for 2018 outlook, it said.
Volume growth and lower material costs, especially alumina, are expected to aid earnings growth of the aluminium business, according to the Kotak research report.
The recent Supreme Court verdict seeking fresh auctions of all iron-ore mines in Goa will not have much impact on Vedanta, IIFL said. Iron ore contributes about 2 percent of the company’s overall operating income.
Risks
The brokerage listed Vedanta’s foray in unrelated businesses as a key risk. The company announced a non-core investment of $158 million (Rs 1,000 crore) in Avanstrate Inc, a Japanese manufacturer of LCD glass substrate. It plans to set up a LCD panel plant, the brokerage said citing media reports.
Vedanta also emerged as the highest bidder (Rs 4,500 crore) for Electrosteel Steels, which has been referred for insolvency resolution, the Economic Times had reported.