VEDANTA LTD : RISING FROM THE ASHES !!

Scrip Code: 500295 / VEDL

CMP:  Rs. 116.80; Market Cap: Rs. 31,910.55 Cr; 52 Week High/Low: Rs. 190.95 / Rs. 58.15.

Total Shares: 273,20,67,720 shares; Promoters : 176,46,76,160 shares –63.34 %; Total Public holding : 96,73,91,560 shares – 35.40 %; Book Value: Rs. 129.90; Face Value: Rs. 1.00; EPS: Rs. 18.46; Div: 350 % ; P/E: 6.32 times; Ind. P/E: 10.78; EV/EBITDA: 16.45 times.

Total Debt: Rs. 77,952.03 Cr; Enterprise Value: Rs. 1,07,66,293 Cr.

VEDANTA LIMITED: VEDANTA Ltd was incorporated in 1954 and is based in Panji, Goa, India. It got converted into public limited company on March 25, 1981. It was formerly known as SESAGOA LTD and then changed its name on merger with Sterlite Industries as SESASTERLITE Ltd in 2013, again in 2015 the company changed its name to Vedanta Ltd. VEDANTA is an India-based global diversified natural resources company with operations in metals across zinc, lead, silver, oil and gas, iron ore, copper, aluminum and commercial power. It is also engaged in exploration, mining and processing of iron-ore. The Company operates in three business segments namely iron ore, metallurgical coke and pig iron. The pig iron business focuses on the domestic Indian market, especially to foundries and steel mills in western and southern India. It also exports to the Middle-East and South East Asia. The Company came with an IPO on November 1981, with 22,05,000 equity shares of Rs. 10 each at a premium of Rs. 2.50 per share. Vedanta gave its first bonus in the year 1978 in proportion of 2:3, then in 1986 in proportion of 2:5, in 1993 in ratio of 1:1, in 2004 in ratio of 1:1 and lastly in August 2008 in ratio of 1:1. Vedanta had last split the face value of its shares from Rs. 10 to Rs. 1 in August 8, 2008. VEDANTA is India's largest producer & exporter of iron ore in the private sector which currently accounts for 1.5 % of world trade in iron ore & is amongst lowest cost iron ore mining company in the world. Its mining operations in India include Codli, Sonshi/Surla & Bicholim mines located in Goa & Narrain mine located in Karnataka. Sesagoa exported approx. 5 mn tons of iron ore, fines and lumps to Japan, China, Europe. It also has mining interests in Western Cluster Iron Ore project, Liberia. In addition, the company produces basic, foundry and spheroidal grades of pig iron to steel mills and foundries as well as slag as a by-product to the cement industry and metallurgical coke, primarily low ash coke for foundries, blast furnaces & ferrous alloy industries. It operates Tuticorin smelter and India Copper Mines of Tasmania. Its custom smelting assets include a copper smelter, a refinery, a phosphoric acid plant, a sulfuric acid plant, a copper rod plant and two captive power plants at Tuticorin in Southern India, and a refinery and two copper rod plants at Silvassa in Western India. Its Iron Ore business consists of exploration, mining and processing of iron ore, pig iron and metallurgical coke and power generation. Its Aluminium operations include a refinery, a smelter and power plants at Lanjigarh and Jharsuguda. Its other activities include operation of its Vizag General Cargo Berth Private Limited in which it owns a 100 % interest. Further it engages in generation & distribution of power to Goa Electricity department & owns 30 MW power plants in Goa that utilizes the waste heat gases from its coke making & pig iron facilities as well as 30 MW waste heat recovery power plant. The company sells its iron ore primarily in China, Japan, Korea, India, and Europe. In April 2007, Anil Agarwal – Vedanta Resources acquired a controlling stake of 51 % in SESA GOA from Mitsui & Co, Japan, for US$ 981 million. In April 2011, the Company acquired 10.4% stake in Cairn India Ltd (CIL) from Petronas International Corporation Ltd (Petronas). In March 2011, Sesa Goa acquired the assets of steel plant unit of Bellary Steel and Alloys Limited (BSAL). VEDANTA LTD is compared with OMDC, MOIL LTD, Hindustan Zinc Ltd, Sandur Manganese Ltd, Greenearth Resources Ltd, NMDC Limited, Godawari Power & Ispat Limited in India and globally with Rio Tino Plc of Australia, Vale of Brazil, BHP Billiton Plc of UK, Anglo American Plc of South Africa, Glencore Plc of Austrila, Anshan Iron and steel Group of China, Metalloinvest of Russia, Severstal's Karelsky Okatysh of Russia, Metinvest of Ukrain, Ferrexpo of Ukraine, Cliffs Natural Resources of USA, Sokolov-Sarbai Mining Production Association of Kazakhstan, APAC Resources Limited of Hong Kong.

Investment Rationale:

VEDANTA LTD has iron ore reserves and resources of 374m tons in Goa and Karnataka. Goa's ore is medium grade and easy to extract without blasting and crushing. The iron ore from Karnataka is of high grade but found in rocky form, which necessitates blasting and crushing. VEDL is India's largest private sector iron ore exporter and is an important Indian arm of Global natural resource player VEDANTA Resources PLC; in February 2012 Vedanta restructured its subsidiaries by announcing merger of Sterlite Industries into Sesa Goa in a 5:3 swap ratio, and later changed its name from SESAGOA to VEDANTA LTD. VEDANTA LTD contributes 27 % of India’s domestic crude oil production. India has 78 % of market share in Zinc, 48% in Aluminium and 34 % in domestic market in copper. VEDL managed to register strong performance in the aluminium division led by a decline in coal costs and higher realisation. However, aluminium production volumes were lower on a QoQ due to lower contribution from Korba‐II smelter and Jharsuguda‐I smelter. The ramp up at Jharsuguda‐II smelter too was slower than expected. It is estimated that the volumes to increase at Jharsuguda‐II smelter on the back of higher availability of power from 2,400MW power plant and lower coal costs. Aluminium production volumes were lower by 3.4 % QoQ and 1.3 % YoY. The impact of lower production on revenue was offset by some inventory liquidation. Aluminium sales volume was marginally higher on a QoQ basis. Realisations too were higher on a QoQ basis with an increase in import duty on aluminium from 5 % to 7.5 %. The impact of lower product premiums was offset by increase in share of value added products. Value added products accounted for 56 % of overall volumes. Outperformance in operating profit was largely led by a decline in cost of production. Lower coal costs coupled with a decline in alumina costs led to 6.3 % qoq decline in blended CoP. On a per ton basis, alumina costs declined by 8.7 % qoq and power costs were lower by 6.3 % qoq. The decline in alumina costs was largely due to lower production of high cost alumina and consumption of external cheaper alumina. The company was benefited from the sharp fall in alumina prices globally. Power costs declined due to increase in availability of linkage coal and a decline in e‐auction coal prices. Aluminium CoP at Jharsuguda declined 3.7 % qoq in Rupee terms and 5.9 % in Dollar terms on account of the above two reasons. CoP at BALCO too decline by 4.6 % QoQ in Rupee terms and 6.9 % in Dollar terms. Post the commissioning of the 300MW CPP at BALCO II, the company has put the high cost 270MW CPP on standby. Alumina production during the quarter was lower by 3.2 % QoQ and 23 % YoY due to the closure of one stream at its refinery. Aluminium business registered an operating profit of Rs. 355cr in Q4 FY16 against a loss of Rs. 11 Cr in Q3 FY16. Costs are expected to be lower in Q1 FY17 due to carry over of cheap alumina. However, this impact would be offset by an increase in global alumina costs. As a result, the company has restarted its 2nd stream of alumina refinery. It is targeting higher alumina production in FY17 as the company has received environmental clearance to raise its alumina production capacity from 1mtpa to 4mtpa. It plans to increase its capacity from 1.5mtpa to 2mtpa via de‐bottlenecking. The company has guided for volumes of 1.2mtpa in FY17, 30% higher on a yoy basis post the approval to use IPP as CPP and rampup at Korba‐II. Of the 1.25mtpa Jharsuguda smelter (4 x 313kt), 1st pot line started‐up on 1st April 2016 (to be ramped‐up in 3‐6 months). 2nd line is expected to commence ramp up from end‐Q2 FY16 and subsequently ramp up of 3rd line from Q4 FY16. Ramp up of 4th line would be Evaluated later. The 325ktpa Korba–II smelter has commenced ramp‐up in April 2016 and is expected to boost volumes on the back of commissioning of power plants. 2nd unit of 300MW of 1,200MW BALCO power plant commissioned in March 2016. The conversion of IPP to CPP would allow the company to utilize the low cost power produced at SEL for aluminium manufacturing without paying a fee to the government. The ramping up process at Jharsugudai II is under way and the company would rampup Capacities in FY17. The Chotia coal block has received all the necessary approvals and has started operations by end‐FY16. Laterite mine is also expected to start contributing from FY17. It also expects CoP to reduce from the current range due to lower coal costs, shutdown of high cost facilities, lower alumina costs and various cost saving measures taken by the company. VEDENTA’s copper business will have some improvement led by strong Tc/Rc margins and higher volumes. Its copper business continued to report strong performance in operating profit. Tc/Rc margins have been on the upswing over the last one year due to higher supply of concentrate. Tc/Rc margins increased on a QoQ basis to 24.8c/lb during the quarter. Last quarter performance during the quarter was impacted by flood in the region. Copper production was higher by 5.2 % yoy and 14.6 % qoq. CoP too decreased on a qoq basis on account of higher production. The sequential decline in operating profit was largely due to one‐time benefit of export incentives in Q3 FY16. The management expects Tc/Rc margins to be marginally lower on a yoy basis in FY17, in line with the change in global trends. The management expects maintenance shutdown of 10 days in FY17. HZL registered a sharp decline in topline due to both, lower volumes and lower realisation. The miss in topline was largely due to a sharp decline in zinc metal output. Mined metal output for the quarter was lower by 30.1% yoy and 17.5% qoq to 188,000tons. The decrease was on account of lower production primarily from Rampura Agucha open pit as per the mine plan, which was partially offset by record production from all the underground mines especially Sindesar Khurd. The sharp decline in output from Rampura Agucha led to a 29% yoy decline in refined metal zinc volume. However, higher contribution from Sindesar Khurd led to a sharp jump in integrated silver and lead output. Product premium was marginally lower for Zinc metal and higher for lead metal. The company has guided for subdued metal production in H1 FY17 as per mine plan, while maintaining its full year guidance of marginal growth in mined metal production. The mine expansion plan is on track and the company expects to raise its mined metal output by 1.2mtpa over the next three years. HZL reported 33.9% yoy decline in operating profit on account of lower realisations and lower volumes. This was quite lower than our estimate due to a sharp fall in zinc volumes. Costs were also higher due to a decline in average grade of ores. Power and fuel costs too decreased due to lower prices of e‐auction coal. CoP in Rupee terms was higher by 10.8% qoq and 14.2% yoy to Rs. 58,044/ton. The management expects costs to be lower going forward due to operating leverage. The Company has re‐negotiated several contracts to optimize costs and expect this to translate into significant savings in FY17, taking benefit from the recent commodity price downturn. In the international zinc division, production was lower by 17 % qoq due to lower production from Skorpion (maintenance shutdown) and closure of Lisheen mine. Costs declined by 21.3 % qoq in Q4 FY16 due to higher volumes at Skorpion and various cost initiatives. However, the decline in costs was lower than expected. FY16 production volumes stood at 226kt, out of which Black Mountain accounted for 63kt and Skorpion accounted for 82kt. The company expects FY17 volumes at 170‐190kt. It is focused on cost reduction initiatives by including labour and equipment productivity improvements. It expects FY17 costs to be US$1,200‐1300/ton from US$1,431/ton in FY16. The first ore production is expected 2018 and mines will reach rated capacity of 250ktpa in a year post ramp‐up. The capex will be US$400mn of which US$200mn will be spent in FY17. Vedanta managed to ramp up its iron ore operations in Q4 FY16. The company managed to sell 2.6mn tons of iron ore against 1.5mn tons in Q3 FY16. Production too was strong at 2.8mn tons against 1.4mn tons in Q3 FY16. The company exited Q4 FY16 at a run rate of 0.8mn tons per month. The jump in sales was supported by a rebound in global iron ore prices and removal of export duty on ore less than 58 % from 1st March ’16. The company has managed to reduce its costs on the back of operational efficiencies, contract re‐negotiations and resolution of transportation issue. The company is now in the 1st quartile for global cost curve for its Goa operations. It has guided for FY17 production of 5.5mn tons from Goa and 2.3mn tons from Karnataka. The company is pursuing to increase its environmental clearance in Karnataka from 2.3mn tons. Over the last two months commodity prices have bounced back from their lows on the back of inventory restocking, Dollar weakness and lower concerns over Chinese demand. It is believed that the base metal prices have formed a bottom and are likely to stay around current levels. Vendanta has managed to bind its loose ends over the last six months. Increase in availability if cheap coal has aided the company to reduce its costs sharply. This coupled with volume ramp up of low cost capacities would boost the company’s earnings over the next two years. Conversion of IPP to CPP would push aluminium volumes higher. It is expected that going forward VEDL’s debt to decline as capex outflow would be low and cash generation would be quite high at HZL and Cairn. Cost rationalization would further help the company in delivering strong numbers. In 2011, Vedanta Group acquired 58.5 per cent controlling interest in Cairn India from its UK parent, Cairn Energy plc, 20 per cent of this was acquired by Vedanta Ltd and 38.5 per cent by Twinstar Mauritius Holdings Ltd (TMHL) - a special purpose vehicle wholly owned by Vedanta Resources plc (VED). In July 2015, VEDL announced a merger with its subsidiary Cairn India, in which minority shareholders of Cairn India will receive 1 equity share of Vedanta for each Cairn India held and which is expected to be completed in this month of JUNE 2016. The effective merger ratio is of 1:1.04 after adjusting the preference shares allotted to Cairn’s shareholders, so Cairn India shareholders will get 104 Shares of Vedanta for every 100 shares of Cairn India held. This deal will make VEDL to have access to Cairn India’s Rs. 21,000 CR Cash. The merger with Cairn India did face some hurdles due to the widening spread but now it is expected to be completed by end of JUNE 2016. Post the change, the valuation of Vedanta would be at 4.9x FY18 EV/EBIDTA, which is attractive.  

Outlook and Valuation:  

Vedanta is formed with the merger of Sesa Goa and sterlite Industries. Vedanta is one of the largest natural resource companies globally with exposure to all the major commodities. It has refined zinc and lead capacities of 1.5mtpa in HZL and Zinc International, Crude oil production capacity of 225-240 kboepd, Iron ore production capacity of 17mtpa, Aluminium capacity of 2.3mtpa and 8.8GW (including current expansion) of power capacity. VEDANTA LTD contributes 27 % of India’s domestic crude oil production. India has 78 % of market share in Zinc, 48% in Aluminium and 34 % in domestic market in copper. VEDANTA has been focusing on operational improvement in various segments. In aluminium segment, it has been trying to improve its efficiency by reducing the cost of production. Lower alumina prices supported initially, however, with price rise, the company has started focusing more on ramping up its refinery. As 2400 MW power plant got CPP status, power cost also is likely to come down gradually. Both of these will result into lower cost of production. The management is expecting the CoP to come down to US$1250/ tonne in FY17 itself. In iron ore segment too, rise in global prices is likely to complement the company’s efforts to reduce the cash cost to US$14/ tonne. Both these segments have been under stress for a long time and operational improvement there would be positive. The capacity ramp up will help in better performance. The falling oil prices led to Rs. 12,304 crore of impairment charges on the balance sheet. However, the commencement of production capacity of 1.2 mt Aluminium (Jharsuguda Smelter), 9,000 MW Power plant along with ramping up of Iron Ore operations in Goa and Karnataka will provide necessary boost to the top line. The company has been able to reduce its debt level from Rs. 52,000 Cr in FY15 to Rs. 50,400 Cr in FY16. Overall on debt front, company has increased portfolio duration thereby reducing its interest cost from 8.2 % to 7.9 %. However, savings from interest will be partially offset by depreciation which is expected to increase by 20 %. The value of goodwill may also change post completion of the merger with Cairn India depending on the market conditions. Company is undertaking several costs saving initiative wherein it has been able to save $250 mn in FY16 and is targeting to save another $250-30 mn in FY17. On account of revaluation of assets and capitalization in Aluminum & Power Business Company has recorded higher depreciation in Q4 and is expected to increase by 20 % in FY17 also. Taxes have been lower in Q4FY16 on account investment income in HZL set off against carried forward tax losses. Going forward management expects tax to be close to MAT rate. Management has highlighted that reduction in oil cess from Rs. 4,500 per tonne to 20 % ad-valorem and increase in aluminium import duty from 5 % to 7.5 % will positively impact its business segments respectively. The company has Gross debt of Rs. 77,952 and net debt of Rs. 25,286 crore as on March 31, 2016, which are lower than Rs. 80,952 crore at December 31, 2015. Gross debt and net debt were lower over the quarter primarily on account of refinancing. Out of the total debt of Rs. 77,952 crore, the Rs/US$ split is 52 % and 48% each. During FY16, the company capex amounted to $600 million. FY17 capex is expected to be around $1.0 billion. FY17 maturities of $2.3 billion are a combination of $1.3 billion of short-term debt and $1 billion of term debt $1.3 billion of short-term debt is expected to be met through a combination of rollover and replacement with term debt $1 billion of external term debt and $1 billion of intercompany loan to Vedanta plc to be met through a combination of refinancing, working capital initiatives and internal accruals $200 million cash and liquid investments at Vedanta standalone $200 million refinanced in April $1 billion of undrawn committed facilities. The company expects to repay the remaining inter-company loan of US$ 1.8 billion at Cairn SPV over the next three to four quarters, having already repaid US$ 400 million in January 2016. Given the company is focused on deleveraging, the board has opted to not declare any dividend out of $3.3 billion debt obligation, management highlighted that $1.2 billion is to be funded through rolled over short term debt, $1 billion will be funded through Internal operation and other sources and for the balance $1 billion the company is negotiating with various banks. Company has increased duration of its debt portfolio which is expected to reduce interest burden going forward. On the coal requirement front w.r.t 9,000 MW power facilities, the company is expecting to source 25 % from imports, 20 % from Linkage, 40 % through IPP Linkages and balance through auction. Vedanta's reported a loss at the PAT level due to exceptional item (non-cash impairment charge). Going forward, with a positive view on the company’s domestic zinc business (HZL) and on account of strong underlying fundamentals VEDANTA will do better and its profitability will be mainly driven by higher zinc prices and improved iron ore profitability and also due to improvement in aluminium and power operations. Higher depreciation and tax will limit the net profit jump. Based on the expected improvement in aluminium and iron ore business and also higher estimates for Hindustan Zinc, the valuation of VEDL on SOTP basis comes at Rs. 125. At the CMP of Rs. 116.80, the stock is trading at P/E of 10.52 x FY17E and, 6.99 x FY18E. The company can post EPS of Rs. 11.10 for FY17E and Rs. 16.70 for FY18E. It is expected that the company’s surplus scenario is likely to continue for the next three years keeping its growth story in the coming quarters also. 

KEY FINANCIALS	FY15	FY16E	FY17E	FY18E
SALES (₹ Crs)	73,710.00	64,434.00	76,274.00	85,737.00
NET PROFIT (₹ Cr)	(15,646.00)	(9,323.00)	3,304.00	4,965.00
EPS (₹)	21.90	7.30	11.10	16.70
PE (x)	4.80	14.30	9.30	6.20
P/BV (x)	0.60	0.70	0.70	0.60
EV/EBITDA (x)	4.70	7.10	6.20	4.90
ROE (%)	10.20	4.40	7.20	10.10
ROCE (%)	9.90	7.00	8.10	9.30

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*As the author of this blog I disclose that I do not hold  VEDANTA LTD in my any of the portfolios.

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This is a personal blog and presents entirely personal views on stock market. Any statement made in this blog is merely an expression of my personal opinion. These informations are sourced from publicly available data. By using/reading this blog you agree to (i) not to take any investment decision or any other important decisions based on any information, opinion, suggestion, expressions or experience mentioned or presented in this blog (ii) Any investment decisions taken if any would be his/hers sole responsibility. (iii) the author of this blog is not responsible. 

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