Thursday, July 16, 2009


Non ferrous 'power' house; initiate with Buy

Initiate with Buy rating and target price of Rs660/share
We initiate coverage on Sterlite Industries with a Buy rating and a 12-month target price of INR660/share implying a potential upside of 21% from current levels. Our Buy rating is premised on three key factors – (1) a 39% CAGR in earnings over FY10-FY12 driven by an aggressive organic growth pipeline in high-return zinc and power businesses, (2) potential to unlock further value by buying out government’s minority stakes in Balco and Hindustan Zinc, and (3) valuation discount of 30% versus global peers, creating an attractive arbitrage opportunity.

Aggressive expansion in zinc and power to derisk company
We expect aggressive expansion in zinc and power will allow Sterlite to progressively reduce its revenue and earnings focus on its legacy copper business where it is only a converter and see higher contribution from zinc where it generates EBITDA margins of almost 48% even at bottom-of-the-cycle zinc prices. Exposure to India: Slated to become among fastest growing metals market Sterlite is putting in place the strategic architecture to achieve global scale efficiencies in its aluminum, zinc and power businesses. We expect India to emerge as the world’s fastest growing aluminum market and among the fastest growing zinc markets in the decade of 2010, allowing it to optimally participate in India’s move to its fastest-growing phase of materials intensive growth.

Price target, valuation and key risks
Our SOTP-derived TP of Rs660/share, translates into a PE valuation of 9.4x FY2011 earnings. We value the zinc business at 8.3x FY11 EBITDA, copper business at 5x FY11 EBITDA—40% discount to target valuation of its zinc business, Balco at 7x FY11 EBITDA—in line with the current valuation of Nalco and we use a combination of P/B and NPV methodology for SEL. Key risks include sustained weakness in non-ferrous metal prices and appreciation of rupee (see page 13 onwards for valuation and risks details).

To see full report: STERLITE INDUSTRIES