Vedanta's Q3FY19 results (Downgrade to Neutral) - Related party transaction overshadows earnings

Q3FY19 Result Highlights: Aluminium disappoints

Vedanta (VEDL IN) reported in-line EBITDA of Rs56.4b, up 8.4% qoq due to higher profits from zinc business on account of higher volumes and prices partially offset by loss in aluminium due to lower realisation and higher cost. However, VEDL’s investment of ~US$500m in buying economic interest in a structured investment in Anglo American Plc from its parent company, Volcan overshadows the earnings.

• Oil & Gas Segment reported a ~3% qoq decline in EBITDA to Rs19.7b driven by decline in net oil realization to US$65.1/bbl (v/s 69.5in Q2FY19)
• Aluminium segment reported EBITDA of Rs2.6b (US$79/t), down 34% qoq. However, it includes one-time income of Rs3.46b (US$98/t) on reversal of liability. Adjusted of that, EBITDA stood at a loss of Rs840m. EBITDA was hit adversely due to lower aluminium realisation (down US$130/t qoq to US$2,093/t) and higher adj CoP (up US$33/t qoq to US$2,112/t) due to higher power costs.
• At Q3FY19-end, Net debt ex-HZ excluding acceptances was Rs521bn, up 5% qoq.

Key Positives: lower zinc CoP, ramp up in steel plant

Key Negatives: loss in aluminium; delay in commissioning of Gamsberg mine; planned investment of ~US$500m via parent company, Volcan

Change in estimates: Cut FY19 EBITDA by 4%; introduced FY21E

View: Downgrade to Neutral with revised TP of Rs213

Volume growth continues to bode well for Vedanta. We expect Vedanta to record EBITDA growth of ~25% in FY20E driven by volume growth in zinc (both India and International), and oil & gas, lower CoP of aluminium and restart of Copper business in FY20E. We have reduced FY19 EBITDA by 4% to factor in lower profitability in aluminium and delay in ramp up of Gamsberg mine, leading to lower zinc volume. VEDL is set to invest ~US$500m in buying economic interest in a structured investment in Anglo American Plc from its parent company, Volcan Investments. The return of this investment depends on share price movement of Anglo American Plc which will not be liked by investors. Though we have not changed our FY20E EBITDA, we reduce our FY20E EV/EBITDA multiple from 6.0x to 5.0x for standalone earnings and from 6.0x to 5.5x for major subsidiaries. As a result, we revise downward our target price to Rs213 (earlier Rs244) based on FY20E SOTP. We downgrade the stock from Outperformer to Neutral.