Hindustan Zinc (Q1 FY13)

CMP Rs120, Target Rs137, Upside 14.2% 

• HZL’s topline of Rs27.5bn was lower by 12.4% on a qoq basis and 3.5% yoy. It was also lower than our estimate of Rs30.1bn on account of lower mined metal output. Mined metal output declined sharply by 16.1% qoq to 187,000 tons from 223,000 tons in Q4 FY12 due to lower output from Rampura Agucha mine. Output from Rampura Agucha mine dropped sharply as the company is currently in the process of transforming the mine from open cast to underground. The company had indicated that mined metal output would be lower in H1 FY13 due to the ongoing activities at the Rampura Agucha mine. However, the drop in output would be compensated in the second half of the year. The decline in output during the quarter was compensated to some extent by a ramp up at its Sindesar Khurd mine.
  
• As a result of lower mined metal output, production of zinc and lead refined metal also declined on a qoq basis. Zinc production volumes declined 15.3% qoq to 161,000 tons from 190,000 tons produced in Q4 FY12. Refined lead output too declined 16.2% qoq to 31,000 tons from 37,000 tons achieved in Q4 FY12. The refined metal output included 4,000 tons of zinc custom smelting and 2,000 tons of lead custom smelting. Silver production (excluding internal consumption) decreased by 4.2% qoq due to lower mined metal output.
  
• Operating profit decreased by 13.9% qoq to Rs14.3bn (lower than our estimate of Rs16.3bn) primarily due to lower output. OPM shrunk by 90bps to 52% due to an increase in cost of production. Raw material costs remained high as the company had to buy concentrate from the open market. Raw material costs for purchase from external sources which were Rs0.2bn last year increased to Rs0.5bn during the quarter. Consumption of stores and spares per ton of mined metal increased due to lower output. Net zinc metal cost without royalty, during the quarter increased sharply on a qoq basis in rupee terms to Rs45,759/ton from Rs41,693/ton in Q4 FY12. In dollar terms the increase was marginal from US$828/ton in Q4 FY12 to US$844/ton in Q1 FY13.
  
• PAT of Rs15.8bn was above our estimate of Rs14.4bn due to a jump in other income and lower tax rate. Other income which declined marginally in Q4 FY12 jumped 50.7% qoq to Rs5.7bn. The increase in other income was largely due to MTM gains on its debt investments. Cash balance increased from Rs179bn to Rs194bn.
  
• HZL over the last six months has commissioned the 0.1mtpa lead smelter in Dariba, the 350tpa silver refinery in Pant Nagar and has ramped-up of the SK mine from 1.5mtpa to 2.0mtpa. We believe this would play a pivotal role for the company over FY12-14E. We expect zinc and lead prices to stay subdued over the next two years as the market remains in an oversupply mode. However, the strength in the silver prices would boost margins for the company. HZL has been trading at a one year forward EV/EBITDA in the range of 3-8x for the past five years (Average one year forward EV/EBIDTA of 4.6x). We have taken a marginally lower multiple of 4.5x for our valuation, which is in line with the current weakness in the zinc cycle and sluggishness in demand. We maintain our BUY rating on the stock with a revised 9-month price target of Rs137.