Company Update | Metals

February 27, 2012 Bhavesh Chauhan

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

Sesa Sterlite
Promoter gains, Minorities to lose
Vedanta Resources, the promoter of Sesa Goa and Sterlite Industries, has approved to merge the two companies in order to simplify the groups holding structure and to lower its debt. The merger will create a new entity Sesa Sterlite, wherein existing shareholders of Sterlite Industries will receive three shares of Sesa Goa for every five existing shares of Sterlite Industries. The merged entity will takeover the remaining 70.5% (Sterlite Industries holds 29.5%) stake of Vedanta Aluminium (VAL) from Vedanta Resources by issuing 72.3mn (2.4% of the merged entity) existing shares of Sesa Goa, valuing VALs equity at `2,332cr and the enterprises value at `30,000cr. The merged entity will also assume VALs net debt of `19,695cr. Madras Aluminium Company (MALCO) will also be merged with Sesa Sterlite through the issue of 78.7mn (2.7% of the merged entity) existing shares of Sesa Goa, valuing MALCOs equity at `1,790cr. Vedanta Resources will also transfer its 38.8% stake in Cairn India at a nominal consideration of US$1 along with the associated acquisition debt of US$5.9bn. The debt of Vedanta Resources will decrease by 61% to US$3.8bn post the deal. Vedanta Resources will hold 58.3% in Sesa Sterlite (currently, Vedanta Resources holding in Sesa Goa is 55.1% and that in Sterlite Industries is 53.3%). As per Vedanta Resources, the combined entity is expected to generate synergies of `1,000cr per year. The deal is subject to approval by at least 75% of the shareholders by value and 50% by number of voters. We believe the merger will take at least 6-8 months, until then the stocks of Sesa Goa and Sterlite Industries will continue to trade independently. Sesa Sterlites debt to rise significantly: Currently, Sesa Goa has net debt of `4,272cr and Sterlite Industries has net cash of `9,183cr. However, Sesa Sterlites debt is expected to increase on account of takeover of US$5.9bn of debt related to Cairn India and US$4.0bn debt related to VAL. VAL continues to make losses; No turnaround seen in the near future: While Cairn Indias takeover in the merged entity is value-neutral in our view, loss-making VALs debt of `19,695cr will increase leverage for Sesa Sterlite without any corresponding increase in profits in the near future. VAL continues to make losses (loss of `2,346cr during CY2011), given its high cost of production and lower utilization levels (currently 30%). We expect VAL to continue to make losses in FY2013 on account of lack of captive bauxite/coal mines and high interest costs. Vedanta Resources emerges a winner: Vedanta Resources will clearly emerge as a beneficiary with the transfer of loss-making VAL to Sesa Sterlite along with the associated debt. The deal implies an enterprise value of `32,695cr for VAL, which is significantly higher than our estimates. On account of VALs takeover, Sesa Sterlites debt (hence enterprise value) increases without any corresponding increase in earnings in the near future (implying higher forward EV/EBITDA). Hence, in our view, the deal is negative for Sesa Goas and Sterlite Industries minority shareholders. We value Sesa Goa and Sterlite Industries on an SOTP basis with target prices of `202 and `121, respectively, and recommend Neutral on both the stocks.

Please refer to important disclosures at the end of this report

Sesa Sterlite | Company Update

Components of the deal

(a) The merger will create a new entity Sesa Sterlite, wherein existing shareholders of Sterlite Industries will receive three shares of Sesa Goa for every five existing shares of Sterlite Industries. (b) Currently, Sterlite Industries owns 29.5% stake in VAL. The merged entity will takeover the remaining 70.5% stake of VAL from Vedanta Resources by issuing 72.3mn (2.4% of the merged entity) existing shares of Sesa Goa, valuing VALs equity at `2,332cr and the enterprises value at `30,000cr. The merged entity will also assume VALs net debt of `19,695cr. (c) MALCO will also be merged with Sesa Sterlite through the issue of 78.7mn (2.7% of the merged entity) existing shares of Sesa Goa, valuing MALCOs equity at `1,790cr. (d) Vedanta will also transfer its 38.8% stake in Cairn India at a nominal consideration of US$1 along with the associated acquisition debt of US$5.9bn. The debt of Vedanta Resources will reduce by 61% to US$3.8bn post the deal. Vedanta Resources will hold 58.3% in Sesa Sterlite (currently, Vedanta Resources holding in Sesa Goa is 55.1% and that in Sterlite Industries is 53.3%). As per Vedanta Resources, the combined entity is expected to generate synergies of `1,000cr per year. The deal requires over 13 approvals from various Indian and U.K. regulatory authorities and is expected to be completed in CY2012. The deal is subject to approval by at least 75% of the shareholders by value and 50% by number of voters. We believe the merger will take at least 6-8 months, until then the stocks of Sesa Goa and Sterlite Industries will continue to trade independently.

February 27, 2012

Sesa Sterlite | Company Update

Exhibit 1: Shares outstanding (Current and post the deal) Company Sesa Goa Sterlite Industries VAL MALCO Cancellation of Sterlite shares by MALCO Total shares post Source: Company, Angel Research Current 87 336

(cr)
Post deal 87 202 7 8 (7) 296

Exhibit 2: Estimated transaction timeline

Event BSE and NSE approval Competition Commission approval High Court of India an Supreme Court of Mauritius approval Vedanta EGM Sesa / Sterlite / MALCO EGM Other required approvals Transaction completion
Source: Company

Expected date April 2012 April 2012 September 2012 May 2012 June 2012 CY2012 CY2012

Sesa Sterlites debt to rise significantly: Currently, Sesa Goa has net debt of `4,272cr and Sterlite Industries has net cash of `9,183cr. However, Sesa Sterlites debt is expected to increase on account of takeover of US$5.9bn of debt related to Cairn India and US$4.0bn debt related to VAL. Exhibit 3: Vedanta Resources debt to decline...
12.0 10.0 8.0 9.7

Exhibit 4: ...while Sesa Sterlites debt to increase

10.0 8.0 6.0 7.5

(US$ bn)

6.0 4.0 2.0 0.0 Pre -merger Vedanta's debt Post merger 3.8

(US$ bn)

4.0 2.0 0.0 0.9 Sesa Sterlite (1.9) Net debt Sesa Sterlite

(2.0) (4.0)

Source: Company, Angel Research

Source: Company, Angel Research, Note: Sesa Sterlite net debt post merger

February 27, 2012

Sesa Sterlite | Company Update

VAL continues to make losses; No turnaround seen in the near future: While Cairn Indias takeover in the merged entity is value-neutral in our view, loss-making VALs debt of `19,695cr will increase leverage for Sesa Sterlite without any corresponding increase in profits in the near future. VAL continues to make losses (loss of `2,346cr during CY2011), given its high cost of production and lower utilization levels (currently 30%). We expect VAL to continue to make losses in the near future on account of lack of captive bauxite/coal mines and high interest costs. Exhibit 5: VALs losses continue to mount
0 (100) (200) (300) (400)

(` cr)

(500) (600) (700) (800) (900)

(1,000) 3QFY2011 4QFY2011 1QFY2012 2QFY2012 3QFY2012

Source: Company, Angel Research

Vedanta Resources emerges a winner: Vedanta Resources will clearly emerge as a beneficiary with the transfer of loss-making VAL to Sesa Sterlite along with the associated debt. The deal implies an enterprise value of `32,695cr for VAL, which is significantly higher than our estimates. On account of VALs takeover, Sesa Sterlites debt (hence enterprise value) increases without corresponding (meaningful) increase in earnings in the near future (implying higher forward EV/EBITDA). Hence, in our view, the deal is negative for Sesa Goas and Sterlite Industries minority shareholders. We value Sesa Goa and Sterlite Industries on an SOTP basis with target prices of `202 and `121, respectively, and recommend Neutral on both the stocks.

February 27, 2012

Sesa Sterlite | Company Update

Exhibit 6: SOTP valuation of Sesa Sterlite

Subsidiary Sterlite Industries Balco Vedanta Aluminium Hindustan Zinc (20% holding company discount) Sterlite Energy Tasmania Copper mines International Zinc MALCO Sesa Goa Cairn India (20% holding company discount) less : Cairn debt Net equity value Fair value for Sesa Sterlite (`) Fair value for Sterlite (`)
Source: Angel Research

(` cr)
Valuation technique EV/EBITDA EV/EBITDA EV/EBITDA EV/EBITDA FCFE P/BV EV/EBITDA BV EV/EBITDA DCF Target multiple (x) Equity value % Stake Sterlite Industries value 3.0 3.0 4.0 5.0 1.0 1.0 3.0 3.5 11,135 2,268 (8,103) 67,677 1,475 1,009 1,422 10,392 70,907 100% 51% 100% 65% 100% 100% 100% 100% 100% 59% 11,135 1,157 (8,103) 35,138 1,475 1,009 1,422 1,712 10,392 33,355 (28,797) 59,894 202 121

Exhibit 7: Recommendation summary

Companies CMP Target Reco. Mcap Upside (` cr) P/E (x) P/BV (x) EV/EBITDA (x) RoE (%) RoCE (%) (`) price (`) (%) FY12E FY13E FY12E FY13E FY12E FY13E FY12E FY13E FY12E FY13E

Nalco Sesa Goa Sterlite Industries Hindalco HZL

60 204 116 140 136

53 Reduce 15,335 - Neutral 17,694 - Neutral 38,872 152 Accum. 26,774 - Neutral 57,253

(11) 9 -

21.7 5.7 7.3 8.5 10.4

18.4 4.6 6.4 8.9 8.9

1.3 1.1 0.8 0.8 2.1

1.3 0.9 0.8 0.8 1.7

11.0
2.0

8.4
1.5

6.2
22.3

7.0
22.5

3.8
21.2

5.3
13.3

2.5 5.4 6.7

2.0 5.7 4.9

12.1 10.3 22.0

12.4 9.1 21.3

11.3 7.4 20.9

11.2 6.8 20.4

Source: Company, Angel Research

February 27, 2012

Sesa Sterlite | Company Update

Research Team Tel: 022 - 3935 7800

E-mail: research@angelbroking.com

Website: www.angelbroking.com

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Disclosure of Interest Statement

Analyst ownership of the stock Sesa Goa Sterlite Industries No No Angel and its Group companies ownership of the stock No No Angel and its Group companies' Directors ownership of the stock No No Broking relationship with company covered 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%)

February 27, 2012

Sesa Sterlite | Company Update

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February 27, 2012