Stock Review: STERLITE INDUSTRIES

 

   The turmoil in financial markets over the past few trading sessions has lowered the market capitalisation of Sterlite Industries significantly giving investors a good opportunity to enter. Tumultuous market conditions aside, the stock looks attractive at current valuations as a result of the strong zinc business driving earnings momentum.

BUSINESS

For investors looking to cash in on the rise in commodity prices, Sterlite is a good bet. The company is India's most diversified player in the non-ferrous space. Under the umbrella of Vedanta Resources, the company aspires to be a global resource conglomerate over the next few yearswith operations in mining and power .

Nearly half of its revenue comes from the copper smelting and refining business, where it currently occupies the second place in the domestic industry. Through its subsidiaries Hindustan Zinc and BALCO (Bharat Aluminium Company), Sterlite has operations in aluminium, zinc, lead and silver. Over the past few quarters, the company has been increasing its revenues from the zinc, lead and silver businesses. It became the largest global zinclead player after it completed the takeover of Anglo American's zinc assets in February 2011. The deal took its reserves to 478 million tones and increased zinc-lead capacity to 1.5 million tonnes per annum.

GROWTH DRIVERS

Margins for copper smelters were squeezed in FY11 due to decreased production at copper mines. But with production at copper mines expected to rise, treatment and refining charges (TC/RC) will also improve as seen in Sterlite's Q1 results. LME zinc and lead prices rose to record highs earlier this year. Despite the sharp rise, Chinese demand, which is expected to grow at 10% is likely to keep prices firm. Also, demand in India, where Hindustan Zinc has the largest market share, is expected to grow at 7% during the year.

Silver is obtained as a by-product from the refining of lead, making its cost of production almost zero. The recently-commissioned 100,000 tonnes per annum lead smelter at Dariba, Rajasthan, will not only increase lead production from this quarter, but will also feed the company's new 350-tonne silver refinery and enhance silver production as well. Though silver prices have more than doubled in the past year, the consensus is that the rally is far from over.
After the sharp decline in base metal prices on the LME last week as a result of the turmoil in financial markets , the prices are likely to rise again on expectations of another round of quantitative easing by the US Federal Reserve. If this happens, Sterlite Industries is well placed to cash in on the rise in prices.

CONCERNS

There are some concerns with Sterlite's power subsidiary — Sterlite Energy — on account of high procurement costs for coal. In the aluminium business, higher input costs are squeezing margins. Also, its associate company Vedanta Aluminium is still awaiting mining clearances in Orissa.

FINANCIALS

Despite higher power and fuel costs, Sterlite beat analysts' expectations in the first quarter by delivering over 60% growth in sales and profit year-on-year, the highest growth in over five quarters. This was mainly on account of the improvement in copper TC/RC and the growth in the zinc business.
As on March 2011, the company's cash balance was at 9,912.4 crore. It has a debt to equity ratio of 0.24. Post correction, its market capitalsation is only 1.5 times its trailing 12 months net sales. The stock gives a return on equity of 6.4% and a return on capital of 7.61%. At 133, Sterlite Industries is available at a price which is eight times its trailing 12 months earnings per share and is fairly valued.