Metal prices hold key to Sterlite’s fiscal 2013 outlook

Price realizations played a key part in ensuring that Sterlite Industries (India) Ltd did well in the March quarter, compared with the December quarter. The metal firm’s sales rose by only 5% sequentially to Rs. 10,763 crore, but operating profit rose 16.1% to Rs. 2,705 crore and operating margin improved 238 basis points (bps). One basis point is one-hundredth of a percentage point.

Its merger with Sesa Goa Ltd will be closely watched, especially as the merged entity will contain all of Vedanta Aluminium Ltd, the group’s new aluminium venture whose project has been delayed and is running up losses. In the quarter, Sterlite suffered a charge due to a litigation it lost, which was offset in part by foreign exchange-related gains. The net result was a 15.1% quarter-on-quarter (q-o-q) increase in profit before tax—after exceptional items—to Rs. 2,473 crore.

Among its various segments, the Indian zinc business’ performance is known to investors from the results of Hindustan Zinc Ltd. This business is expected to see only a slight increase in production in fiscal 2013, but expects to benefit from lower coal prices and higher price realizations.

Sterlite’s global zinc business saw its earnings before interest, taxes, depreciation and amortization (Ebitda) rise 8% sequentially, primarily due to better realizations, despite the cost of production being higher. This business is expected to underperform in fiscal 2013 as production is expected to fall 10-12%. Ebitda is an approximate measure of a firm’s operating cash flow based on its income statement.

The copper business saw a slight weakening in treatment and refining charges (Tc/Rc), to 15.2 cents per pound, compared with 15.9 cents in the December quarter. That is a concern, as most of Sterlite’s copper output is through the custom smelting route, where it purchases copper concentrate for processing, and its profits depend mainly on Tc/Rc. Its cost of production increased significantly due to higher energy costs and lower by-product realizations. That affected profit margin on a sequential basis. The start of a captive power plant should help lower energy costs, once it stabilizes. Its aluminium business (under Bharat Aluminium Co. Ltd, or Balco) did well mainly because of better realizations, as output was stagnant q-o-q. A new smelter is expected to go on stream in the December quarter, and a 300 megawatts (MW) power plant will start operations in the June quarter.

Vedanta Aluminium saw its sales increase 15%, sequentially, while its Ebitda doubled. It incurred a net loss of Rs. 542 crore, compared with a net loss of Rs. 893 crore in the December quarter. Its power business saw both revenue and profit improve due to better power output, lower costs, and firm realizations.

Sterlite’s performance was affected by an increase in its cost of production, primarily due to rising energy prices. A fall in energy costs could be a positive trigger, but a more important one is how prices on the London Metal Exchange (LME) behave. Fears of slower economic growth in China, a major consumer of metals, has dampened the outlook for commodity prices. If these fears are borne out, and LME prices turn weaker, it will affect Sterlite’s performance in fiscal 2013. Another event that can affect valuations is the completion of the Sesa merger, which will add iron ore and oil to the portfolio and increase exposure to Vedanta Aluminium.