Sector update | Metals

September 13, 2013 Bhavesh Chauhan

Tel: 022- 39357800 Ext: 6821 bhaveshu.chauhan@angelbroking.com

Sector update
Global positives fuelling rally in metal stocks lately: Over the past one year, we have seen declines in stock prices alongside frequent earnings downgrades for Metals and Mining sector companies. This is because global and domestic metal and base metal prices have broadly slid during CY2013 (upto August 2013). However, Metals & Mining stocks have rallied by 5-35% over the past one month on the back of positive news flows across the globe, especially China, alongside INR depreciation against the USD. Some gains for steel companies likely: For steel companies, these factors make a case for increase in realizations and better volume growth (due to higher export prospects and also import substitution due to INR depreciation). However, domestic steel demand remains weak in the near-term. Steel consumption growth declined to multi-year lows to 3.3% yoy during FY2013. Further, real steel consumption in India rose by just 0.3% yoy during April August 2013 due to low demand from construction and automotive sectors. Nevertheless, we expect a 3-4% improvement in realizations for domestic steel companies during 2HFY2014, compared to announced price hikes of 6-7%. Base metal stocks to benefit the most due to weak INR: Base metal companies (mainly aluminium and zinc producers) price their products based on LME spot prices which are dollar-denominated. These companies are likely to be the real beneficiaries on the back of INR depreciation against the USD as there is high level of consolidation in the aluminium and zinc sectors in India. Hence, INR depreciation makes a strong case for increases in realizations of zinc and aluminium companies, but not of steel companies where low domestic demand coupled with fragmented domestic industry play a spoilsport. We upgrade some stocks: For steel makers, a weakening rupee raises landed cost of steel imports, thus giving higher pricing power to domestic steel players. It also raises coking coal costs (a key raw material in steel making) which partially offsets the impact of price hikes. Steel companies have also announced price hikes in the range of 3-7% effective September 2013. However, weak domestic demand (April- August real consumption grew only 0.3% yoy) alongside fragmented domestic industry is likely to partially spoil the party; these hikes will be partially rolled-back in the form of discounts, in our view. Nevertheless, we continue to like companies with captive assets, strong visibility on earnings growth over the coming few years, low leverage levels and inexpensive valuations. Tata Steel, Hindustan Zinc and NMDC still remain our preferred bets.

Vinay Rachh
Tel: 022- 39357600 Ext: 6841 vinay.rachh@angelbroking.com

Please refer to important disclosures at the end of this report

Metals | Sector update

Improvement in macro-economic data from some major regions: News flows on the macro-economic data have been positive across some major economies, especially China, which consumes ~40-50% of metals such as steel, aluminium, zinc etc. Some global lead indicators such as Manufacturing PMI indices and Baltic Dry Index have shown an uptrend lately.

Exhibit 1: China Manufacturing PMI

51.2 51.0 50.8 50.6 50.4 50.2 50.0 49.8 49.6 49.4 49.2

Exhibit 2: US Manufacturing PMI

57 55 53 51 49 47

Dec-12

Jan-13

Jun-13

Mar-13

Nov-12

May-13

Aug-13

Oct-12

Sep-12

Feb-13

Apr-13

Jul-13

45

Feb-13

Sep-12

May-13

Dec-12

Jan-13

Jun-13

Jul-13 Jul-13 Jul-13

Mar-13

Source: Bloomberg, Angel Research

Source: Bloomberg, Angel Research

Exhibit 3: Eurozone Manufacturing PMI

52 51 50 49 48 47 46 45

Exhibit 4: UK Manufacturing PMI

59 57 55 53 51 49 47 45

Feb-13

Nov-12

May-13

Feb-13

Sep-12

Sep-12

Jul-13

May-13

Dec-12

Dec-12

Jun-13

Jan-13

Aug-13

Jan-13

Jun-13

Mar-13

Mar-13

Nov-12

Source: Bloomberg, Angel Research

Source: Bloomberg, Angel Research

Exhibit 5: Germany Manufacturing PMI

53 52 51 50 49 48 47 46 45

Exhibit 6: Baltic Dry Index

1700 1500 1300 1100 900 700 500

Nov-12

Dec-12

Jan-13

Jun-13

Mar-13

Nov-12

Feb-13

Sep-12

May-13

Dec-12

Jan-13

Jun-13

Mar-13

Source: Bloomberg, Angel Research

Nov-12

Aug-13

Oct-12

Apr-13

Source: Bloomberg, Angel Research

September 13, 2013

May-13

Jul-13

Aug-13

Oct-12

Sep-12

Feb-13

Apr-13

Aug-13

Apr-13

Oct-12

Oct-12

Apr-13

Aug-13

Oct-12

Apr-13

Metals | Sector update

Steel companies Outlook

Iron ore prices have risen while coking coal prices have declined
Globally, sea-borne iron ore prices have increased from June 2013. The current iron ore prices are in the range of US$130-140/tonne. Going forward, we do not expect significant decline in iron ore prices as current iron ore prices are just above marginal cost of production from Chinese miners. However, we do not expect any meaningful rise in iron ore prices considering anticipated increases in supplies by three global iron ore giants, Rio Tinto, BHP Billiton and Vale. Domestic iron ore prices have also come off sharply over the past three quarters due to sluggish steel demand in India. Nevertheless, we do not expect iron ore prices to slide meaningfully from the current levels given that steel prices have risen from September 2013. Contracted coking coal prices (a key imported raw material) have declined steeply over the past two years. A decline in coking coal prices is expected to benefit Indian steelmakers during FY2014; however, it will be partially offset by INR depreciation against the USD.

Exhibit 7: Global Iron ore prices have risen recently..

165 155 145

Exhibit 8: ..while coking coal prices continued to slide

325 305 285 265 245 225 205 185 165 145 125
Sep-11 Sep-12 Jul-11 Jul-12 May-12 May-13 Jan-12 Mar-12 Jan-13 Nov-11 Nov-12 Mar-13 Jul-13

(US $/tonne)

125 115 105 95 85

Dec-12

Jan-13

Jun-13

Mar-13

Nov-12

May-13

Aug-13

Oct-12

Sep-12

Feb-13

Apr-13

Jul-13

(US$/tonne)

135

Iron ore fines CFR 63.5% Fe

Hard coking coal price

Source: Bloomberg, Angel Research

Source: Industry sources, Angel Research

Domestic steel demand remains weak

Overcapacity in the steel industry, slowing global demand, and falling coking coal prices have resulted in a decline in steel prices globally until May 2013, post which steel prices have increased modestly across regions. Domestic steel prices continued to decline until August 2013 due to subdued demand in the country. Steel consumption growth declined to multi-year lows to 3.3% yoy during FY2013. Further, real consumption in India rose by just 0.3% yoy during April August 2013 due to low demand from construction and automotive sectors.

September 13, 2013

Metals | Sector update

Exhibit 9: India Steel production and consumption trend

8,000 7,000 6,000 800 700 600 500 400 300 200 100 0 (100) (200)

(000 tonnes)

5,000 4,000 3,000 2,000 1,000 0

Dec-11

Dec-12

Apr-12

Aug-12

Apr-13

Net production

Real consumption

Net imports - RHS

Source: Bloomberg, Angel Research

..however, INR depreciation has paved way for steel price hikes
Over the past three months, INR has depreciated sharply against the USD. A weakening rupee raises landed cost of steel imports, thus giving higher pricing power to domestic steel players. Steel companies have also announced price hikes by 7-8%. However, weak domestic demand (April- August demand grew only 0.3% yoy) alongside fragmented industry is likely to partially spoil the party; these hikes will be partially rolled-back in the form of discounts and effective realizations are likely to rise by 3-4% in our view. Also, some companies such as JSW Steel and Essar Steel are likely to opportunistically raise their steel exports given the INR depreciation against the USD amidst stable global prices.

Exhibit 10: Indian HRC prices and..

37,000 36,000

Exhibit 11: ..global prices have risen lately

800 750 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0

Aug-13

Oct-11

Feb-12

Oct-12

Feb-13

Jun-12

Jun-13

( ` /tonne)

34,000 33,000 32,000 31,000

(US$/tonne)

35,000

700 650 600 550

Feb-12 Mar-12

Feb-13 Mar-13

Sep-12 Oct-12

Jun-12 Jul-12

Apr-12 May-12

Apr-13 May-13

Dec-11

Nov-12 Dec-12

Jan-12

Aug-12

Jan-13

Jun-13 Jul-13

Aug-13

500

Dec-12

Aug-12

Jan-13

Jun-13

Mar-13

Nov-12

Indian HRC price

USA HRC/tonne

China HRC/tonne

Source: Company, Angel Research

Source: Company, Angel Research

September 13, 2013

May-13

Aug-13

Oct-12

Sep-12

Feb-13

Apr-13

Jul-12

Jul-13

(Yuan/tonne)

(000 tonnes)

Metals | Sector update

Exhibit 12: INR depreciation against the USD

75 70 65 60 55 50 45

Aug-12

Dec-12

Aug-13

Nov-12

May-12

Nov-12

Mar-13

May-13

Source: Bloomberg, Angel Research

Non-ferrous companies Outlook

INR depreciation to aid higher realizations
Most base metal companies price their products based on LME spot prices, which are dollar-denominated, given the high level of consolidation in the aluminium and zinc sectors. Hence, INR depreciation makes a strong case for increases in realizations for zinc and aluminium companies. However realizations of steel companies might not see a similar improvement due to low domestic demand and fragmentation in the industry (domestic) which could play a spoilsport. Over the past four months, aluminium prices have declined by 3% and zinc prices have remained flat at LME while INR has depreciated by 17%. However, despite several aluminium companies (globally) announcing production cuts, we are yet to see any meaningful decline in production (which can support prices). Nevertheless, we expect LME prices to improve in FY2015 as announced production cuts restore demand-supply mismatch during FY2015.

September 13, 2013

Aug-13

Apr-13

Apr-13

Jul-12

Jul-12

Oct-12

Sep-12

Sep-12

Feb-13

Jun-12

Jun-13

Jan-13

Jan-13

Jun-13

Jul-13

Metals | Sector update

Exhibit 13: Despite decline in aluminium price...

6.0 5.0 3,200

Exhibit 14: ...production cuts are not visible yet

4.0 3.5

(mn tonnes)

(US$/tonne)

4.0 3.0 2.0 1.0 0.0

2,700 2,200 1,700 1,200

(mn tonnes)

3.0 2.5 2.0

Dec-10

Dec-11

Dec-12

Jun-10

Jun-11

Jun-12

Aug-10

Aug-11

Aug-12

Apr-10

Apr-11

Apr-12

Sep-10

Feb-11

Oct-10

Oct-11

Feb-11

Feb-12

Oct-12

May-12

Aug-08

Dec-11

Mar-08

Nov-09

LME aluminium inventories

LME aluminium price - RHS

Mar-13

Aug-13

Aluminium production - World

Aluminium consumption - World

Source: Company, Angel Research

Source: Company, Angel Research

Exhibit 15: Aluminium production in China steady

1.9 1.8 1.7 1.6 1.5 1.4 1.3 1.2 1.1 1.0

Exhibit 16: Bauxite imports of inputs have risen

8.0 7.0 6.0 0.8 0.7 0.6 0.5 0.4 0.3 0.2 0.1 -

Feb-13

Jan-09

Jun-09

Oct-07

Apr-10

Oct-12

Apr-13 Mar-13

(mn tonnes)

(mn tonnes)

5.0 4.0 3.0 2.0 1.0 0.0

Feb-12

Sep-11

May-12

Sep-12

Feb-13

Jul-12

May-13

Dec-11

Dec-12

Jun-12

Jan-12

Mar-12

Aug-12

Jan-13

Mar-13

Apr-12

Nov-11

Nov-12

Oct-11

Oct-12

Apr-13

Jun-13

Aluminium production - China

Aluminium consumption - China

Source: Company, Angel Research

Source: Company, Angel Research

Exhibit 17: Zinc prices have declined during CY2013

1.3 1.2 1.1 1.0 0.9 0.8 0.7 0.6 0.5 0.4 2,300 2,200

Exhibit 18: World zinc production remains steady

1.2 1.2 1.1 1.1 1.0 1.0 0.9 0.9 0.8 0.8 0.7

(mn tonnes)

(US$/tonne)

2,100 2,000 1,900 1,800 1,700

(mn tonnes)

Dec-08

Dec-09

Dec-10

Dec-11

Dec-12

Jun-09

Jun-10

Jun-11

Jun-12

Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Dec-11 Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12 Sep-12 Oct-12 Nov-12 Dec-12 Jan-13 Feb-13 Mar-13 Apr-13 May-13

Bauxite imports - China

Alumina imports - China - (RHS)

Mar-09

Mar-10

Mar-11

Mar-12

Sep-08

Sep-09

Sep-10

Sep-11

Dec-12

Jan-13

Jun-13

Mar-13

Nov-12

LME zinc inventories

May-13

LME zinc price- RHS

Aug-13

Oct-12

Feb-13

Sep-12

Apr-13

Zinc slab consumption - World

Zinc slab production - World

Source: Company, Angel Research

Source: Company, Angel Research

September 13, 2013

Sep-12

Jun-13

Jul-13

(mn tonnes)

Jun-13

Jul-11

Metals | Sector update

Exhibit 19: Chinese zinc production remains steady

500,000 480,000 460,000 440,000 420,000 400,000 380,000 360,000 340,000

Exhibit 20: Chinese zinc imports trend

80,000 70,000 60,000 50,000 40,000 30,000 20,000 10,000 0

(metric tonnes)

Dec-11

Dec-12

Jun-12

Jan-12

Mar-12

Aug-12

Jan-13

Mar-13

Apr-12

Nov-12

Feb-12

Oct-12

Feb-13

Sep-12

Apr-13

Jun-13

Jul-12

May-12

May-13

Jul-13

(metric tonne)

Feb-12

Sep-12

Feb-13

Jul-12

May-12

May-13

Dec-11

Dec-12

Jun-12

Jan-12

Mar-12

Aug-12

Jan-13

Mar-13

Apr-12

China Monthly Zinc Production China

Zinc Slab Production China

China zinc imports

Source: Company, Angel Research

Source: Company, Angel Research

We upgrade some stocks: A weakening rupee raises the landed cost of steel imports, thus giving higher pricing power to domestic steel players. It also raises coking coal costs (a key raw material in steel making); for a 20% INR depreciation, coking coal costs rise by `1,200/tonne. Steel companies have also announced price hikes ranging from `700-2,500/tonne. However, weak domestic demand (April - August real consumption grew only 0.3% yoy) alongside fragmented industry is likely to partially spoil the party; these hikes will be partially rolled-back in the form of discounts in our view. In light of these things, we have upgraded target prices of some stocks which we believe have some more steam left despite the run-up. We continue to like companies with captive assets, strong visibility on earnings growth over the coming few years, low leverage levels and inexpensive valuations. Tata Steel, Hindustan Zinc and NMDC still remain our preferred bets.

Exhibit 21: One month metal stock price performances

40.00 35.00 30.00 25.00
(%)

20.00 15.00 10.00 5.00

Sesa

0.00

Nalco

Hindalco

Nov-12

Oct-12

Sterlite

SAIL

Tata Steel

MOIL

HZL

Apr-13

Jun-13

BSE Metal Index

Source: Bloomberg, Angel Research

September 13, 2013

NMDC

COAL

JSW

Jul-13

Metals | Sector update

Exhibit 22: Recommendation summary

Companies MOIL Nalco NMDC SAIL Sesa Tata Steel Coal India Hindalco HZL JSW Steel CMP (`) 219 33 124 49 183 303 285 111 130 625 Target price (`) - Neutral - Neutral 148 Buy - Neutral - Neutral 389 Buy Reco. Mcap (` cr) 3,631 8,492 49,420 20,485 16,008 29,612 18,379 54,464 15,180 Upside 19 28 16 P/E (x) 8.6 10.5 7.8 9.8 6.8 9.2 11.4 8.4 8.3 9.1 8.4 10.0 7.4 8.7 6.2 5.7 10.7 7.1 7.4 8.1 P/BV (x) 1.2 0.6 1.6 0.5 0.8 0.8 2.8 0.6
1.5

EV/EBITDA (x) FY14E 2.9 2.9 3.6 9.5

42.0

RoE 14.5 5.9 21.8 5.0

12.9

RoCE (%) 13.5 6.0 20.5 5.4

12.5

(%) FY14E FY15E FY14E FY15E 1.1 0.6 1.4 0.5 0.7 0.7 2.4 0.5
1.3

FY15E FY14E FY15E FY14E FY15E 2.9 2.7 3.3 8.4

18.9

12.3 3.7 24.9 4.3

1.8

11.9 3.9 23.5 5.0

3.6

5.3 4.9 8.5

4.4

4.4 4.3 7.2

3.2

9.0 31.4 7.0

19.0

13.2 31.1 7.8

18.3

8.4 18.4 4.8

15.8

10.7 18.6 5.3

15.5

- Neutral 180,648 - Neutral 151 Buy - Neutral

0.8

0.8

5.2

4.9

9.3

9.7

8.9

9.0

Source: Company, Angel Research; Note: CMP as of September 12, 2013

September 13, 2013

Metals | Sector update

Research Team Tel: 022 - 39357800

E-mail: research@angelbroking.com

Website: www.angelbroking.com

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Analyst ownership of the stock MOIL Nalco NMDC SAIL Sesa Goa Tata Steel Coal India Hindalco HZL JSW Steel No No No No No No No No No No Angel and its Group companies ownership of the stock No No No No No No No No No No Angel and its Group companies' Directors ownership of the stock No No No No No No No No No No Broking relationship with company covered No No No No No No No No No No

Note: We have not considered any Exposure below `1 lakh for Angel, its Group companies and Directors.

Ratings (Returns):

Buy (> 15%) Reduce (-5% to -15%)

Accumulate (5% to 15%) Sell (< -15%)

Neutral (-5 to 5%)

September 13, 2013

Metals | Sector update

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Research Team Fundamental: Sarabjit Kour Nangra Vaibhav Agrawal Bhavesh Chauhan Viral Shah V Srinivasan Yaresh Kothari Ankita Somani Sourabh Taparia Bhupali Gursale Vinay Rachh Amit Patil Twinkle Gosar Tejashwini Kumari Akshay Narang Harshal Patkar Nishant Sharma Technicals: Shardul Kulkarni Sameet Chavan Sacchitanand Uttekar Derivatives: Siddarth Bhamre Institutional Sales Team: Mayuresh Joshi Meenakshi Chavan Gaurang Tisani Akshay Shah Production Team: Tejas Vahalia Dilip Patel Research Editor Production Incharge tejas.vahalia@angelbroking.com dilipm.patel@angelbroking.com VP - Institutional Sales Dealer Dealer Sr. Executive mayuresh.joshi@angelbroking.com meenakshis.chavan@angelbroking.com gaurangp.tisani@angelbroking.com akshayr.shah@angelbroking.com Head - Derivatives siddarth.bhamre@angelbroking.com Sr. Technical Analyst Technical Analyst Technical Analyst shardul.kulkarni@angelbroking.com sameet.chavan@angelbroking.com sacchitanand.uttekar@angelbroking.com VP-Research, Pharmaceutical VP-Research, Banking Sr. Analyst (Metals & Mining) Sr. Analyst (Infrastructure) Analyst (Cement, FMCG) Analyst (Automobile) Analyst (IT, Telecom) Analyst (Banking) Economist Research Associate Research Associate Research Associate Research Associate Research Associate Research Associate Research Associate sarabjit@angelbroking.com vaibhav.agrawal@angelbroking.com bhaveshu.chauhan@angelbroking.com viralk.shah@angelbroking.com v.srinivasan@angelbroking.com yareshb.kothari@angelbroking.com ankita.somani@angelbroking.com sourabh.taparia@angelbroking.com bhupali.gursale@angelbroking.com vinay.rachh@angelbroking.com amit.patil@angelbroking.com gosar.twinkle@angelbroking.com tejashwini.kumari@angelbroking.com akshay.narang@angelbroking.com harshal.patkar@angelbroking.com nishantj.sharma@angelbroking.com

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September 13, 2013

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