Stock Review: COAL INDIA

The recent increase in coal prices, coupled with an improving demand outlook, has turned analysts more bullish on Coal India's stock. Most analysts have raised their share price target for the company to Rs 360-410, compared to the current price of Rs 344.50, wherein the stock is trading at a reasonable 16 times its estimated 2011-12 earnings. The valuation appears more reasonable if one considers the cash balance with the company. Analysts estimate Coal India to close the current financial year with cash equivalents worth Rs 43,200 crore, or about Rs 68 per share. Firm coal prices, leading position in the industry, robust operating margins, high return on equity of 37 per cent, strong cash flows from operations and increasing dividend payouts are other key factors that make the stock a good investment.

Pricing boost

Coal India, the largest coal producer in the world, supplies over 70 per cent of India's coal requirements and that too at relatively cheap prices (about 30 per cent), compared to international prices. In a bid to narrow the gap between local and global prices and offset rising costs, the company recently raised coal prices by over 30 per cent for customers across different sectors, barring those from the power, defence and fertiliser sectors.

According to analysts, this implies about 14 per cent rise in the company's realisation. However, if sales from e-auction and of washed coal, where realisations are much higher, are included, the blended realisations should rise by about 20 per cent. In absolute terms, it will lead to additional sales of about Rs 6,200 crore or add about Rs 2 per share to its EPS in 201112 (now estimated at Rs 21.5). Factoring the additional earnings, its stock has moved up partially in recent past.

Easing concerns

However, the upward revision in earnings alone is not responsible for the rise in Coal India's share price. The additional revenues have eased analysts' concerns regarding the impact of impending wage increase in June 2011 and the recent cut in its production estimates for 2010-11 on the company's financials. Analysts were earlier worried about the production growth and they had lowered the production estimates for 2011-12 also, given the environmental issues pertaining to some of Coal India's new projects. The company, too, had guided a lower production growth in 2011-12. However, environmental norms and project approvals were relaxed recently, following which the environment and forest ministry approved 14 projects of Coal India. These projects had been held up for over six months due to environment-related issues. Nut now, since they have been cleared, analysts see improved visibility in terms of volume growth over the next two years.

Analysts expect the company's production to grow by about 3.5 per cent to 445 million tonnes in 2011-12 and 5.6 per cent in 2012-13 to over 470 million tonnes. On the back of production growth and higher realisations, analysts have revised upwards their estimates for Coal India's net profit for 2011-12. However, analysts haven't changed their estimates for 2012-13. While they see further room for increase in production volume and coal prices in 2012-13, they are currently in a wait-and-watch mode.

Any further rise in coal prices or production volumes should have a direct impact on its share prices or fair value. "In a bull case scenario, assuming 5 per cent price increase by the middle of 2011-12, and higher volumes in 2011-12 due to relaxation could lift the net present value (of Coal India) to Rs 405 per share (as against Rs 360 per share), all other things being equal," wrote analysts at Bank of America Merrill Lynch in their recent report on the company.

With the company raising coal prices recently and its new projects being given environmental clearance, analysts have raised their earnings estimate and price target for the stock