Falling energy costs, rising demand augur well for aluminium companies

Analysts say the 12-month outlook for the segment appears positive; Hindalco, Nalco to benefit

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Hindalco shares closed flat on February 21, shedding gains made early in the day as investors awaited details of subsidiary Novelis’ plan for an Initial Public Offering (IPO). While this is a positive development for Hindalco, analysts are unsure how exactly Hindalco shareholders will benefit. The stock closed at Rs 512, after hitting a high of Rs 535 in the first 15 minutes of trade.

Hindalco shares are still to recover from the sell-off on February 13 after Novelis announced a delay and cost overrun in its Bay Minette project.

However, analysts feel that things are beginning to look up for the aluminium industry as demand has started to pick up.

Also read: Hindalco subsidiary Novelis files documents with SEC for proposed US IPO

One key driver of demand has been the global push towards renewable energy, as aluminium is widely used in renewable energy technologies such as solar panels, wind turbines, and electric vehicles.

“Europe is still in doldrums, US is improving gradually, but as economies recover, the 12-month outlook seems positive,” Tushar Chaudhari, Research Analyst, Prabhudas Lilladher said. Demand is also coming from segments like auto which are growing and have demand for aluminium.

One factor that could keep a lid on aluminium prices is the expected increase in supply.

“Since energy prices have come down in Europe, a lot of smelters which closed down after the Ukraine war might also come back at some point in time in the next 12 to 18 months. So there is a big supply coming in,” says Go India’s Rakesh Arora.

Analysts expect aluminium prices to stay at around $2,000 -$2,400 per ton for at least the next 12 to 18 months due to a surplus in the segment as a result of increase in capacity in China. That will not be a big problem as long as demand remains strong. While high aluminium prices are good for margins, it also tends to hurt demand when price rise beyond a point.

Also read: Vedanta Aluminium launches e-commerce platform

What does this mean for listed players?

Analysts expect companies across the segment to benefit from this rising demand and lower pricing. Arora adds that additionally as energy costs are coming down, cost of production is also coming down for companies. “Some of the companies are adding backward linkage, like Nalco is adding coal mines. Vedanta is also adding coal mine and bauxite mine and aluminium. These companies would see margin expansion despite stable aluminium prices,” he added.

In the near term, Chaudhari says that market seems to be in balanced mode.  “Once external demand improves – from US and Europe – then probably we can see some deficit and aluminium prices moving up but in the near term doesn’t look like that, we will have to wait and watch,” he says.

In terms of valuations, analysts say that mostly valuations are reasonable. Currently the biggest listed players in the segment are Hindalco and Nalco.

Chaudhari says that while Hindalco is currently fairly valued (5XFY2026), Nalco too, has benefitted from the recent PSU rally though latest quarterly numbers were disappointing.

“But region-wise volumes are seeming to be growing and they are pretty confident on having a better number. I think valuation-wise Hindalco is much better favorable than Nalco,” he adds. Over the last five years, Hindalco stock has risen nearly 2.5x while Nalco has given returns of more than 3x.

According to Rahul Kalantri of Mehta Equities, aggressive buying in aluminium shares look unlikely in the first half of 2024 due to continued challenges from China. He is neutral on the sector from a six-month perspective, but sees things improving after that.

Over the next six months, he has a neutral view on the sector and expects the sector to perform well in the long term.

What does the IPO mean for Hindalco?

According to analysts at Nuvama, the move is “sentimentally positive” and could help improve valuations for Hindalco but add that holding discount could impact valuations. This most analysts say could be in the range of 10-15 percent depending on the finer details of the IPO.

“There is no straight answer and it will depend a lot. Both sides of outcomes are possible.  on the margin, it is slightly positive. There’s a chance that the valuation could be better,” Arora adds.

Brokerage house Jefferies has retained its buy rating on the stock with a target price of Rs 610, down from Rs 725 earlier following the capex issues at Novelis.

The big cost escalation at Novelis has deteriorated cashflow outlook and will impact project return ratios, the brokerage said, but added that valuations were reasonable.

Disclaimer: The views and investment tips expressed by investment experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.