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  • Stock recommendation: Hindustan Zinc Ltd – ACCUMULATE – TP Rs.300

    Publish date: August 23, 2018

    Hindustan Zinc's (HZ) intent to ramp up its mined-metal capacity to 1.5MT in the medium term through expansion of SK and Zawar mines and taking several initiatives to curtail cost of production, is expected to improve its operating le
    verage. In the near term, FY19E metal production will be higher than FY18 as production improves in subsequent quarters led by ramp-up of underground mines (1.2MT run-rate will likely be hit by 4QFY19).


    Key Highlights

      • HZ continue to be one of the lowest cost producers globally, even though the recovery in commodity prices resulted in higher operating costs and offset the leverage of higher volume and cost optimization initiatives.
      • HZ's mined metal production increased 4.4% to 947,383 tons in FY18, driven by higher ore production from underground mines, partly offset by lower open-cast production and lower ore grades.
      • Declining feed grade, increased in coal (+38%), metcoke and diesel (+15%) prices, led to an increase in the cost of production to Rs63,583/tonne (ex-royalty), which further increased to Rs69,900/tonne in 1QFY19. Management expects the cost to decline to US$950-975/tonne, backed by improved sourcing of linkage coal and higher production
      • Expansion plans to 1.2MT remain on track but volume growth would be strong in FY20E post commissioning of shafts. Next leg of expansion projects to 1.5MT, with phase 1 taking the capacity to 1.35MT along with new hydro smelter of 240KT, at an estimated capex of Rs45bn and should be complete in three years' time.
      • Zinc market fundamentals continued to remain robust with global zinc consumption expected to grow by 2.5% to 14.8MT in 2018 while mine supply will be 13.7MT

    Outlook

    Zinc prices corrected in the recent past due to trade war and increase in zinc inventory (surplus in 1QFY19). However, as per ILZSG, zinc market is expected to remain in deficit in 2018 and we foresee the HZ to benefit from the favorable zinc environment, resulting in cumulative free cash flow of Rs210bn by end of FY20E. Besides this, given its presences in the lower end of the cost curve globally (backed by high grade captive mines), diversified revenue stream with an increasing contribution from silver and strong balance sheet augurs well for the company. At CMP, the stock trades at 6.5x/5.8x FY19E/FY20E EV/EBITDA, which in our view is fairly valued and offers limited upside. Hence, recommend Accumulate (earlier BUY).

    Downside risk

    Slower ramp-up in volumes and higher than expected cost of production.

    Upside risk

    Higher LME and rupee depreciation (every 1% movement in USD/INR, EBITDA impact is ~1.5%).


          

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