The Hindu Business Line : Hindustan Zinc: Buy

FIRM prices coupled with volume growth and cost savings from its newly added capacities make the Hindustan Zinc stock attractive. In addition, the earnings growth along with strong operational and financial contours lends greater visibility to the stock. Although the stock has nearly doubled since our last recommendation in October 2005, we maintain our bullish view on the stock. Exposures may be considered with a one-two year perspective. Investors could use any declines linked to the broad market to accumulate the stock, which trades at 12 times its annualised earnings for FY06. Returns are, however, likely to be moderate.

Zinc prices have been on a continuous up-trend over the last few years, driven primarily by the emergence of China with a voracious appetite for metals. Prices have rallied by over 35 per cent in the last two months to their historic highs on the back of continuing shortage of zinc concentrates (primary raw material for making zinc), smelter shutdowns and rising demand. Rising energy costs have dented profitability of many smelters, which are likely to effect further production cuts. Demand for the metal, on the other hand is witnessing a sharp spike, with galvanised steel sector accounting for a large chunk.

With 100 per cent of the concentrate requirements met from its captive sources, Hindustan Zinc is better positioned to absorb supply shock and a downturn in metal prices, if any. The newly added capacities are expected to bestow the twin benefits of higher volumes and lower operating costs on the company over the next few years. The company's 154 MW captive power plant is fully operational and is likely to result in a lower energy bill over the next few quarters.

Hindustan Zinc's performance in the third quarter also inspires confidence. The company's revenues increased by 60 per cent, while earnings more than doubled on a YoY basis.

Improved realisations and reduction in production costs were largely instrumental in the company recording impressive numbers. The spiralling prices have had their positive impact on its operating profit margins (OPMs) too. OPMs registered a jump to 56.5 per cent as against 37.5 per cent in the corresponding quarter last year. With a relatively low level of debt and comfortable cash flows from operations, Hindustan Zinc is well-placed to fund its growth without widening its equity base.

The company also produces lead, which is consumed mainly by the battery segment. India, which is emerging as the preferred destination for sourcing auto components, is likely to witness higher demand for batteries.

With rising automobile production in the domestic market, the company is going to be the prime beneficiary.

While the sector fundamentals remain intact, any cut in the customs duty for zinc in the forthcoming budget might be a concern to the company.

This apart, any unexpected downward pressure on prices remains a risk to the company's business, and hence, our recommendation.

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