How hot is the recent earnings of metal stocks?

With rise in steel and base metal (London Metal Exchange- LME) prices and recovering demand from the user industries, top metal companies such as Tata Steel, JSW Steel, SAIL, Hindustan Zinc, Vedanta and Hindalco recorded impressive earnings in Sep-21. The reported net profit for the quarter of most of these companies is either at record or multi-year high. Here’s a closer look at how well metal players have recovered from the pre-covid volatile years and what lies ahead. To give a perspective, we compare the recent quarter results with the performance in quarter ended September 2019, which passes the test of both seasonality and pre-Covid times.

Steel

Tata Steel, JSW Steel and SAIL reported bumper net profits. Compared to Sep-19, for the private players, the net profit is up 180-250 per cent while SAIL turned around from losses. This has been significantly on the back of higher steel prices (up from around ₹37,000 per tonne to over ₹60,000). Also, sale volumes that went up by 75-90 per cent, were another contributor. The inflation in input prices like coking coal, have been offset by higher prices, and so the margins improved by 13 to 18 percentage points.

Zinc

Hindustan Zinc’s revenue from the Zinc metal (65-70 per cent of overall revenue) in Sep-21 at ₹3,926 crore was up 28 per cent compared to Sep-19. This is despite the fall in volumes sold from 168 kilo tonne (kt) in Sep-19 to 164 kt in Sep-21. The company’s lead segment also saw flat sale volumes due to lower production. But the revenue from this segment too went up by 32 per cent, thanks to the price rise.

The average zinc & lead LME prices during the period were up 27 per cent and 15 per cent, respectively.

On a consolidated level, the benefit of higher prices was to an extent offset by lower/moderate volumes of these metals and higher cost of production when compared to the pre-Covid period.

Having said that, the company recorded higher operating profit for the quarter at ₹3,281 crore (₹2,066 crore in Sep19) with margins at healthy 56 per cent (versus 47 per cent earlier).

Aluminium and Copper

Aluminium known for its volatile price nature, fell to about $1,400 per tonne in April 2020. By the second quarter of FY22, the average price was higher by 50 per cent compared to Sep19.

While Hindalco’s revenue was up significantly due to rise in realisation, Vedanta’s was also supported by 20 per cent growth in volumes. Novelis – a US subsidiary of Hindalco that contributes more than half of the group’s revenue – played a big role in the revenue growth.

Shipments at this offshore unit went up by 16 per cent during the period led by strong demand for sustainable aluminium beverage packaging. For Vedanta, the aluminium segment trumped oil and gas segment to become the top contributor to the EBITDA compared to Sep-19 quarter.

With recovery in the major copper consuming sectors such as telecommunications and automobiles in India, demand for the metal grew, as is reflected in the sales volumes of the domestic players.

From Sep-19 to Sep-21, copper sale volumes grew 34 per cent for Hindalco. The revenue of Hindalco from the copper segment stood at Rs 9,587 crore (up 115 per cent). The improvement would have been triggered by the rally witnessed in the refinery charges (RC) or treatment charges (TC) for copper which in turn was led by 62 per cent rise in the metal’s LME prices from Sep-19.

Backed by higher realisations, the net profit of the metal behemoths – Hindalco and Vedanta stood at ₹3,417 crore and ₹4,615 crore for the period ending Sep-21, which are 3.5 times and 2.1 times higher than Sep-19 profits.

The road ahead

While cyclical nature of the sector makes it difficult to draw direction of growth, for now, it is safe to assume that the metal companies stand at better position, especially in terms of balance sheet, than they were before Covid.

Pent-up demand and gradual recovery in the economy contributed to the demand for base metals in the last quarter. Going ahead, the Government's focus on higher infrastructure spending may give a leg-up to the demand for base metals. With significant contribution to the earnings of these metal players, the price movements of these metals warrant a close watch.

Higher coking coal prices and production curbs from China and healthy demand is expected to keep the steel prices firm. However, higher input costs may drag the margins going ahead to an extent.

Despite rally in the stock prices, the valuations of these companies are cheaper relative to historical levels due to better earnings. However some discount versus historical levels are justified considering metal prices are at their peak. Investors also need to track any impact to metals/global growth in CY22 from the real estate driven slowdown in China.