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December 31, 2010

Contents : Update

Coal India: Stumbling over environment hurdle


News Round-up

  •  With the Centre developing cold feet on increasing diesel prices, the finance ministry may give in to the petroleum ministry demand for increasing the govt.'s share in petroleum subsidy. (BSTD)

  • Despite the high statistical base last year, wholesale food inflation for the week ended Dec. 18 touched a 10 month high of 14.44%. (BSTD)

  • Growth of six core infrastructure sectors slumped to the lowest level since Sept. 2002 to 2.3% in Nov. 2010, primarily due to a steep fall in cement production durin the month. (BSTD)

  • The Reliance Anil Dhirubhai Ambani Group is rebranding all its businesses as "Reliance" rather than maintaining individual identities for each services. (ECNT)

  • The environment ministry have deferred clearances for JSW Steel's (JSTL IN) USD 5.55bn capacity expansion proposal at Bellary plant & sought details of coal linkage & disaster management plans among other things. (BSTD)

  • SBI (SBIN IN) plans to raise USD 2.66bn through bonds to fund its business growth. (BSTD)

  • MOIL (MOIL IN) is in talks with Gabon's govt. over acquiring possible mining concessions in central African state. Gabon is the world's second largest producer of manganese. (BSTD)

  • ONGC (ONGC IN) has hired an ultra-deep water drilling rig from Vantage Drilling Co. for USD 1.1bn for five years. (BSTD)

  • Sahara Group has bought Grosvenor House Hotel in Central London for USD 733.33mn, making it the one of the largest acquisitions in the hospitality space by an Indian company. (BSTD)

  • HCL Infosystems (HCLI IN) would acquire 20% stake in Dubai firm Techmart Telecom Distribution FZCO, through its Singapore based SPV. (BSTD)

  • KS Oils Ltd. (KSO IN) board has approved the allotment of 16.4 million equity shares of INR 1 each to its promoters. (BSTD)

  • Lanco Infratech (LANCI IN) has won a new USD 222.22mn road project in Uttar Pradesh. (BSTD)

Source: ECNT= Economic Times, BSTD = Business Standard, FNLE = Financial Express, THBL = Business Line


Coal India (COAL) - Metals & Mining

DECEMBER 31, 2010


Coverage view: Attractive

Price (Rs): 308

Target price (Rs): 345

BSE-30: 20,389

Stumbling over environment hurdle. Coal India Ltd continues to be plagued by environment hurdles, now manifested in the form of Comprehensive Environment Pollution Index (CEPI) that threatens 39 mn tons out of 486 mn tons of production targeted in FY2012E. We believe that the environmental hurdle remains a key bottleneck for projected volume growth and have maintained a conservative 4.7% CAGR in volumes versus the company target of 6% volume growth.


Management indicates production slippages on account of CEPI
CIL management has indicated that the production for the next two years will likely fall short of their original targets if stricter environmental norms and proposed classification of no-go mining areas continue to inhibit the required capacity ramp-up. We, however, highlight that lower-thanguided production is factored to an extent in our estimates as we build in production of 443 mn tons in FY2011E and 463 mn tons in FY2012E as against official company target of 460 mn tons and 486 mn tons, respectively; though we do not entirely rule out downside risks to our numbers if the standoff between Ministry of Coal and Ministry of Environment and Forest does not find an early resolution.

Comprehensive Environmental Pollution Index (CEPI)
– a new environment hurdle
CIL management has indicated that a continuation of CEPI norms could impact production targets by 16 mn tons and 39 mn tons in FY2011E and FY2012E, respectively. CEPI was introduced by Ministry of Environment and Forest (MoEF) in 2009 to assess the environmental quality of industrial clusters in India. In January 2010, MoEF imposed a temporary moratorium on development projects in 43 clusters which also includes seven coalfields of CIL. The moratorium was put in place till August 2010 but was further extended by MoEF (in October 2010) till March 2011 thus further delaying the award of environmental clearance for these projects.

Maintain ADD with a target price of Rs345/share
We maintain our ADD rating with a target price of Rs345/share. Our target price is based on 12.5X FY2012E EPS adjusted for overburden removal and interest income and implies an EV/EBITDA of 9.2X on FY2012E EBITDA (adjusted for overburden removal). CIL currently trades at 15X FY2012E EPS (reported) and 9.7X FY2012E EBITDA (reported). We highlight that if CIL were to achieve volumes of 435 mn tons in FY2012E, 5% lower than our estimate of 458 mn tons, earnings would be impacted by 14% to Rs18/share from Rs21/shar currently, eroding Rs42/share from our target price of Rs345/share (see Exhibit 2). We maintain our estimates as we remain optimistic that the debate between environment and development will likely find a plausible solution that does not put to risk India’s energy requirements.

In our view, CIL will likely continue to command premium multiples to account for (1) expectations of narrowing discount to global coal prices, and (2) constantly improving employee efficiency metrics that will further propel margin expansion. Lower-than-estimated volumes and possible imposition of mining tax could be a key risk to our earnings and valuation estimates.


CEPI – affected coal blocks and subsidiaries

CEPI has identified 43 clusters in India as critically polluted and has temporarily stalled development projects in these clusters. These clusters include seven coalfields of CIL including Chandrapur, Korba, Jharia, Talcher, Singrauli, Raniganj and IB Valley. The directly affected CIL subsidiaries are ECL (Raniganj), BCCL (Jharia), SECL (Korba), NCL (Singrauli) and MCL (Talcher and IB Valley). CIL’s coalfields, identified as critical under CEPI, contributed 295 mn tons or 68% of FY2010 production and account for ~66% of CIL’s total extractable reserves of 21.75 bn tons (see Exhibit 4). We also highlight that a significant portion of near-term capacity addition of CIL was supposed to be undertaken in the Talcher and IB Valley coalfields of MCL and continuation of CEPI norms could impact near-term ramp-up of capacity and hence production growth.

‘No Go’—another stumbling block

Pursuant to a proposal dated July 8, 2010, MoEF introduced initiatives for the identification of environmentally sensitive areas classified as ‘No Go’ where coal mining activities would not be permitted. ‘No Go' areas for mining have been defined as those that have over 30% gross forest cover or over 10% weighted forest cover. Several significant coalfields where CIL is currently carrying on mining activities have been classified as ‘No Go’ including large mines such as North Karanpura in Jharkhand, IB Valley in Orissa and Chhattisgarh, Singrauli Coalfield in Madhya Pradesh and Uttar Pradesh and Talcher coalfield in Orissa.


Ratings and other definitions/identifiers

Definitions of ratings

BUY. We expect this stock to outperform the BSE Sensex by 10% over the next 12 months.

ADD. We expect this stock to outperform the BSE Sensex by 0-10% over the next 12 months.

REDUCE. We expect this stock to underperform the BSE Sensex by 0-10% over the next 12 months.

SELL. We expect this stock to underperform the BSE Sensex by more than 10% over the next 12 months.

Our target price are also on 12-month horizon basis.

Other definitions

Coverage view. The coverage view represents each analyst’s overall fundamental outlook on the Sector. The coverage view will consist of one of the following

designations: Attractive, Neutral, Cautious.

Other ratings/identifiers

NR = Not Rated. The investment rating and target price, if any, have been suspended temporarily. Such suspension is in compliance with applicable regulation(s) and/or Kotak Securities policies in circumstances when Kotak Securities or its affiliates is acting in an advisory capacity in a merger or strategic transaction involving this company and in certain other circumstances.

CS = Coverage Suspended. Kotak Securities has suspended coverage of this company.

NC = Not Covered. Kotak Securities does not cover this company.

RS = Rating Suspended. Kotak Securities Research has suspended the investment rating and price target, if any, for this stock, because there is not a sufficient fundamental basis for determining an investment rating or target. The previous investment rating and price target, if any, are no longer in effect for this stock and should not be relied upon.

NA = Not Available or Not Applicable. The information is not available for display or is not applicable.

NM = Not Meaningful. The information is not meaningful and is therefore excluded.





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