SELL India - IC - HDFC...(OBR + other provisions = 1.lt 3x net cash). We initiate coverage with an anti-consensus SELL. Our TP of Rs 199 is based on a dividend discount model. Without

INITIATING COVERAGE 19 DEC 2018

Coal India SELL

HDFC securities Institutional Research is also available on Bloomberg HSLB <GO> & Thomson Reuters

Value (trap)?COAL India’s business leaves barely enough cash flow, after paying for capex (with back ended benefits) & dividends. Our unflattering view on COAL derives from the grim reality that it serves the mission to supply coal at low prices to India’s power sector, with little regard for profits (let alone maximization). Capital allocation, too, is driven by this motive and incremental NOPAT is -ve. Cash richness (~21% of mkt cap) is an optical illusion (OBR + other lt provisions = 1.3x net cash). We initiate coverage with an anti-consensus SELL. Our TP of Rs 199 is based on a dividend discount model.

Without a profit motive, metrics such as ev/E, P/E or NPV/DCF (based on reserve life) are inappropriate. For minority shareholders, only profit distribution matters. Hence, we value COAL using a dividend discount model (DDM).

Conventional valuations (4.2x ev/E and 8.4x PE on 1-yr fwd basis) offer an alluring 50/40% discount vs. 3-yr avg. Earnings will grow strongly in FY19, driven by the Jan-18 price hike and evacuation levy. FY19YTD production/offtake is up a creditable 8.8/6.5% YoY. The street is bullish, with 25 BUYs vs. only 3 NEUTRALs and 2 SELLs. Our view is that low valuations reflect belated (but still inadequate) realisation that COAL is a veritable value trap.

A reversal in government policy (to substantially align prices with global prices and to invest surpluses profitably) is a huge (but unlikely) risk to our SELL call.

Reforms +ve, but COAL still lacks pricing power Profit growth lags volumes: Despite inheriting

slowing (and constrained) output growth, the BJP regime (& COAL) have ramped up production and dispatches @5% CAGR over FY14-18. However, cost creep, volatile e-auction pricing/mix and poor FSA pricing have kept profits in check during FY15-18. Thus, EBITDA CAGR at -2% lagged volumes.

Pricing power restricted: COAL has little leeway toalter prices for ~80% of its volumes. E-auction pricingoffers some solace, with a market-based pricediscovery, but faces tough competition from otherhigher quality international coals.

Scenarios: We use a scenario based approach tocapture the broad range of potential outcomes. Ourbase case TP (DDM-based) is Rs 199/sh. Our bull caseuses a mix of multiples and DDM for a value of Rs450/sh, while our bear case TP is Rs 175/sh (DDM-based).

Financial Summary (Rs bn) FY18 FY19E FY20E FY21E FY22E Net Sales 847.9 1,012.6 1,041.5 1,083.9 1,230.5 EBITDA 160.0 292.6 275.6 266.1 320.1 APAT 120.5 198.3 178.9 171.2 205.8 Diluted EPS (Rs) 19.4 31.9 28.8 27.6 33.2 P/E (x) 14.1 7.9 8.7 9.1 7.6 EV / EBITDA (x) 8.6 4.1 4.2 4.3 3.4 RoE (%) 53.4 83.3 60.0 50.3 52.4 Source: Company data, HDFC sec Inst Research

INDUSTRY MINING

CMP (as on 18 Dec 2018) Rs 252

Target Price Rs 199 Nifty 10,909

Sensex 36,347

KEY STOCK DATA

Bloomberg COAL IN

No. of Shares (mn) 6,207

MCap (Rs bn) / ($ mn) 1,563/22,067

6m avg traded value (Rs mn) 1,329

STOCK PERFORMANCE (%)

52 Week high / low Rs 317/228

3M 6M 12M

Absolute (%) (7.8) (8.2) (5.9)

Relative (%) (5.3) (10.4) (14.1)

SHAREHOLDING PATTERN (%)

Promoters 78.3

FIs & Local MFs 13.0

FPIs 5.7

Public & Others 3.0 Source : BSE as of Sep 30

Prashanth KP Kota [email protected] +91-22-6171-7346

COAL INDIA : INITIATING COVERAGE

Page | 2

Key Debates that we explore in this note Key Debate 1: Why is a conventional valuation approach used for resource cos not relevant for COAL? ............................... 3

Key Debate 2: What should be the investment pitch for COAL ? ............................................................................................ 10

Key Debate 3: What is the near term earnings outlook? .......................................................................................................... 12

Key Debate 4: Point estimate of valuation or scenarios? ....................................................................................................... 14

Key Debate 5: Didn’t COAL (or govt) live up to reform expectations from the BJP (Modi) government? ............................... 21

What’s priced in? ......................................................................................................................................................... 26


Page | 3

Key Debate 1 Q. Why is the conventional approach of equity analysis used for resource cos. not relevant for evaluating COAL?

HDFC View:

A) COAL is allocated resources by the govt withouthaving to commercially bid for them.

B) COAL has limited pricing freedom despite its pricesbeing much lower than global benchmarks.

C) COAL’s core capital expenditure is not yieldingincremental NOPAT. To add to the trouble, COALplans to foray into capital intensive other businesseswith not much clarity on the return potential.

D) The large cash balance on the books is restricted innature. This will deplete as stripping ratio reverses toaverage in the long term.

E) There is hardly any residual cash flow left after payingfor dividends and capex.

Due to these unique set of factors, we believe conventional multiple based approach is redundant.

A. Reserves are allocated by the govt, profit motive takes a backseat

Reserves are allocated to COAL by govt.: To beginwith, the larger question to be asked is, whether it isfair for the minority shareholders to expect COAL tobe managed for the sole purpose of shareholderwealth maximization? COAL was born out of the Coalmines nationalization in 1973. Unlike a private miningenterprise, COAL doesn’t spend anything meaningfulto get access to coal reserves; it is the state whichallocates mines to the company. This is where thedivergence in objectives of majority / minoritybegins. Since the state allocates the resources, it is

not unfair for the state to have the company managed in a way that suits its obligations.

We point to the company’s vision and missionstatements in this context, which have no particularemphasis on shareholder wealth maximization: COAL’s Mission: ‘To produce and market the

planned quantity of coal and coal productsefficiently and economically in an eco-friendlymanner with due regard to safety, conservationand quality.’

COAL’s Vision: ‘To emerge as one of the globalplayers in the primary energy sector committedto provide energy security to the country byattaining environmentally & socially sustainablegrowth through best practices from mine tomarket.’

State & other stakeholders make most of the COALP&L: India has abundant coal reserves that are stateowned and COAL is the principle vehicle thatharnesses these resources for the state. The minorityshareholders are a small cog in the wheel. The state& other stakeholders are a large beneficiary of thiscoal mining enterprise, as we show below.

FY12-18 cumulative P&L–State & Others take it all

Source: Company data, HDFC sec Inst Research

Conventional approach of multiple based valuation is not appropriate for COAL due to the unique set of factors that underpin COAL’s fortunes.

Although COAL is able to increase prices, it will not do unless there is a need to cover costs.

(1,000)-

1,000 2,000 3,000 4,000 5,000 6,000 7,000 8,000 9,000

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Page | 4

B. COAL’s pricing methodology has no profit maximization motive

Pricing is at a discount: COAL’s GCV adjusted coal prices are at a significant discount to the import parity prices of the other international coals. On paper, COAL is supposed to have complete freedom on pricing, as coal is a de-regulated commodity. But we have hardly seen the company raise prices to maximize profits despite the substantial cushion.

How prices are set by COAL: Out of curiosity, we tried to look at what the company’s official position on pricing is and we found this in one of the Parliamentary Standing Committee reports:

‘While fixing the prices of coal, the coal companies take into consideration general increase in price of commodities in the market leading to increase in the cost of input in the production of coal as reflected in Wholesale Price Index (WPI) and All India Consumer Price Index (AICPI),

Capacity of the company to absorb the increase in cost,

Landed cost of imported coal,

Impact of revision in wages of nonexecutive employees and revision in pay of executives as per Government guidelines as and when such revision takes place,

Requirement of additional resources mobilization for fresh investments in new projects to augment coal production to achieve planned production target.

Need for capital investment in new projects and modernization of existing mines to augment coal production to bridge the demand supply gap.’

While revising the prices of coal, COAL considers its impact on overall economy particularly the impact on Power Sector is worked out separately and it is ensured that the impact is minimum.

Coal India price vs Imported Coal prices


0.30 0.50 0.70 0.90 1.10 1.30 1.50 1.70

Apr-

15Ju

n-15

Aug-

15O

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5De

c-15

Feb-

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r-16

Jun-

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g-16

Oct

-16

Dec-

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Apr-

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Aug-

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c-17

Feb-

18Ap

r-18

Jun-

18Au

g-18

Oct

-18

Dec-

18

Domestic coal (CIL, G4) SA - RB1 (CFR, India)Domestic coal (CIL, G11) Imported Coal (Indonesia)

Rs/mn cal

COAL’s coal prices are at a significant discount to international coal prices. Although COAL is able to increase prices, it will not do unless there is a need to cover costs.


Page | 5

Pricing Comparison

COAL FSA-Core

COAL FSA-Non core

COAL e-auction Indo Coal SA Coal Comments

Underlying GCV (kcal/kg) 4,450 4,450 4,450 4,200 4,800 Approximate Base Price (Rs/t) 1,024 1,228 2,400 2,840 5,467 Indo coal @$40 cif/71 USINR Royalty Applicable (Rs/t) 143 172 346 0 0 @14% Assessable Value (Rs/)t 1,167 1,400 2,746 2,840 5,467 GST 58 70 137 142 273 @5% for coals GST comp cess (Rs/t) 400 400 400 400 400 Sales Price (Rs/t) 1,626 1,870 3,283 3,382 6,143 Ex-mine/Port/Factory Handling charges 100 100 100 250 250 Approx Road Distance (km) 500 500 300 300 300 Freight per ton km 750 750 1,200 1,200 1,200 @ Rs1.5/4 per ton km for rail/road Sales price @ end-user site 2,476 2,720 4,483 4,582 7,340 Sales Price (Rs/000 k cal) 0.56 0.61 1.01 1.09 1.53 Expensive By 0% 10% 81% 96% 175% Source: Company data, Bloomberg, HDFC sec Inst Research

Coal India has taken a total of 9 price hikes in the last 18 years for the linkage consumers mainly to offset cost inflation. Although, they had the cushion to do

more, the typical hike averaged ~12% and e-auction price which is more benchmark/market driven has been volatile as expected.

COAL FSA Price Hikes (%) E-auction Pricing (Rs/t)

Source: Company data, HDFC sec Inst Research Source: Company data, HDFC sec Inst Research

1,540 1,846

2,599 2,544

2,182 2,450

1,858

1,536 1,839

2,496

500

1,000

1,500

2,000

2,500

3,000

FY10

FY11

FY12

FY13

FY14

FY15

FY16

FY17

FY18

H1F

Y19

Rs/t

9%

16%

10%11%

12%

20%

10%

6%

11%

0%2%4%6%8%

10%12%14%16%18%20%

Feb-

01

Jun-

04

Dec-

07

Oct

-09

Feb-

11

Jan-

12

May

-13

May

-16

Jan-

18

COAL’s coal prices are at a significant discount to international coal prices. FSA prices have been altered just 9 times in 18 years of deregulation. E-auctions prices are market driven, volatile.


Page | 6

C. Capex not driving profits higher

Capex on an uptrend: COAL’s capex has been steadily increasing over the years. Increase in capex means good execution at the SoE, but the incremental benefit due to this capex are either back ended or most of it is sustenance in nature. Capex is being incurred for plant & machinery, land acquisition, mining infrastructure, railway sidings and so on. More land is needed to scale up production, while more plant, equipment & machinery are needed for increasing output at a time when the manpower is declining. Some amount of expenditure is also in the form of investment in JV projects related to the rail lines, power/fertilizer JVs, the solar project etc.

NOPLAT declining at constant coal prices: The benefits due to the capex are not obvious as the incremental profit due to the increased production is at best enough to cover cost inflation. As a result, the incremental NOPLAT adjusted for the price hikes over FY15-22E period is negative.

Proposed investments into other businesses: COAL has announced plans to invest into projects like UMPP, fertilize/urea plant, solar plant etc. This is disillusioning given the core capex itself isn’t yielding incremental NOPAT. Our capex est. over the forecast period FY19-22E include only Rs 40bn towards investments into JVs/other businesses, while the actual potential outlay required for these projects announced so far could be “substantial” according to the company.

COAL Yearly Capex COAL NOPLAT* Progression

Source: Company data, HDFC sec Inst Research Source: Company data, HDFC sec Inst Research; * NOPLAT adjusted for price increases of May-16, Jan-18 i.e. NOPLAT across periods based on FY15 prices.

COAL has been spending significant amount of capex and this is only going to increase. Yet, the FY15-18-22E NOPAT has barely moved up. Although it is called capital expenditure it is sustenance in nature or back ended, or unproductive.

-

20,000

40,000

60,000

80,000

100,000

120,000

FY15

FY16

FY17

FY18

FY19

E

FY20

E

FY21

E

FY22

E

Land Plant & Machinery Invst into JVs Others

Rs mn

0

20

40

60

80

100

120

FY15

FY16

FY17

FY18

FY19

E

FY20

E

FY21

E

FY22

E

NOPLAT Indexed FY15 NOPLAT Level


Page | 7

D. Cash richness is a myth

Cash Richness: As of FY18 end, COAL’s net cash was Rs 325bn (excluding the Rs 105bn cash tied up under escrow accounts for mine closure plan, shifting & rehabilitation fund). This translates into Rs 52/sh (~21% of CMP) of COAL. However, we believe we need to treat the long term provisions towards 1) employee benefits, 2) stripping activity adjustment account & 3) other provisions totaling Rs 435bn as quasi debt. Adjusting for these long term provisions against cash, COAL is in reality net debt positive to the tune of Rs 110bn as of FY18 end.

Stripping activity adjustment provision should reverse in the future: COAL expenses the mining overburden removal cost in its P&L based on the life of mine strip ratio. However, the actual expenditure incurred each year (actual strip ratio)

has historically been lower than what is based on the life of mine estimate. The difference between the two is the provision towards stripping activity adjustment account. In reality, as time progresses and mines get older, COAL’s strip ratio will increase beyond the average life of mine ratio and the company will incur more cash outgo than it would expense in P&L. As this starts to happen, the provision will start to shrink and along with it the cash balance. COAL is actually experiencing this now in many of its older mines. However, the provision is still increasing because the company is growing and significant incremental production is coming from younger mines which currently have a lower strip ratio than that of life of mine.

COAL headline net cash position (Rs bn) COAL net cash position adj for LT provisions


(30)

(20)

(10)

-

10

20

30

40

-200

-150

-100

-50

0

50

100

150

200

FY12

FY13

FY14

FY15

FY16

FY17

FY18

Netcash adj for LT provisions Per share -RHS

Rs bn

Adjusted for LT provisions, COAL is a net debt company.

-

20

40

60

80

100

0

100

200

300

400

500

600

FY12

FY13

FY14

FY15

FY16

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Headline netcash Per share - RHSRs bn


Page | 8

E. Nothing left on the table post capex & dividends

Our cumulative cash flow analysis for the FY12-18 period reveals, prices have been set by COAL at such a level that the resultant P&L/cash flows are hardly enough to meet the costs, capex & and the residual is paid out as dividends.

At the current coal prices, cost structure & capex needs, the operating cashflow of the company is just enough to meet the capex & dividends over the forecast FY19-22E period.

FY12-18 & FY18-22E cumulative cash flow breakdown


388

1,088

325 382

1,034

2 3 46 2 337

733

177 360

530

17 340

0

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FY11

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At the current prices, there is not much free cash flow left on the table after paying for capex and dividends. In this context, we believe the Dividend Discount Model is the right way to approach the company’s valuation.


Page | 9

HDFC SEC Valuation Approach for COAL

Now, the tricky part is how to value a company under the above circumstances, primarily from the point of view of minority shareholders? We believe a practical way to approach this company is to just focus on what eventually comes into the hands of

shareholders. It might sound we are taking a narrow view of things, but this is what is practical and reasonable in our view. We use the dividend discount model to value COAL.

COAL Valuation Dividend Yield at CMP vs. HDFC TP VALUATION - BASE CASE Cost of Equity Calculation 11.8% -Market Return Assumption 12.5% -Rf 7.8% -Beta 0.85 Dividend Discount Model Sustainable Long Term Growth Rate in Dividends 3% Cost of Equity 11.8% FY21 E DPS 17.5 Equity Value per share 199 Multiple Based Target price FY21E EBITDA applicable 306,537 Multiple 7.50 EV 2,299,030 Net Debt -426,264 Long term Provisions 535,764 Market value 2,189,530 Equity Value per Share Rs 353

Weightage -DDM 100% -Multiple Based 0%

HDFC TP 199

Source: HDFC sec Inst Research Source: Bloomberg, HDFC sec Inst Research

5%

6%

7%

8%

9%

10%

FY21E Dividend Yield on

CMP

Expected Return

less growth

FY21E Dividend Yield on our PT

Expected Return

less growth

Our dividend discount model PT is Rs.199/sh. We have a SELL rating on the stock. At the CMP of COAL, the dividend yield is not attractive enough. The stock price needs to fall below our PT for the stock to become attractive again.

At the CMP of COAL, the dividend yield is not attractive enough. Either the dividends have to go up materially (not possible at the current coal prices) or the stock has to correct. For the COAL share price to become fairly valued on Dividend Yield basis, the stock needs to correct below our PT of Rs199.


Page | 10

Risks to our SELL Call/ what needs to change, so that COAL becomes attractive again: We need concrete evidence from the company (/govt.) that COAL is like any other enterprising company which is managed for profit, for shareholder wealth maximization. We agree the company has to first fulfill its obligation of being able to deliver enough coal to satisfy the growing power needs of the country, but at the same time if this is done in a way that leaves substantial free cash flow on the table post capex & dividends,

the stock will get back investor respect (read higher valuation). This is not possible without a significant (15-20%) price hike for linkage coal. Despite being in majority, the current dispensation has taken (relatively) mild price hikes only belatedly (Jan-18). Our view is that such bold decisions are unlikely. Also, the company has to demonstrate more prudence when it comes to committing large investments into sectors other than coal i.e. into power / solar / fertilizers etc.


Page | 11

Key Debate 2 What should be the investment pitch for COAL ? The conventional pitch vs. A more practical, realistic and a balanced HDFC Sec pitch

Conventional sell side pitch for COAL

COAL is the world’s largest coal mining company with abundant proven reserves (52 bn tons of proved geological reserves, life of mine of 90+ yrs). Due to favorable geological conditions, COAL’s stripping ratio is ~2x, considerably lower than the global range (4-10x), hence cost of production at < US$15/t, is in the 1st quartile of the global cost curve.

COAL’s pricing is at a significant discount to international traded coal prices, implying a strong pricing cushion. COAL enjoys dominant position in the Indian market with close to zero off take risk, as the company can literally sell all it can produce.

After a not so great year in terms of earnings, costs and volume in FY18, we have seen a significant turnaround in earnings (YTDFY19 EBITDA up 103% y/y) driven by price hike and evacuation levy. We expect the earnings momentum to accelerate further over the coming quarters in FY19E.

We forecast FY18-22E volume CAGR of 5%, EBITDA/PAT cagr of 17/14%. At the current market price, the stock is trading at an EV/EBITDA/PE multiple of 4.2/8x, which are at a 51/43% discount to 3yr avg multiples. With an attractive return ratio profile, (FY19-22E ROE avg of ~60%), dominant market position, strong net cash position (Rs 320bn as at FY18 end, Rs 50/sh) and an attractive dividend yield of ~7%, the stock provides a compelling opportunity.

HDFC Sec pitch

While the conventional pitch is easy to accept, it is equally true that it has not worked for COAL’s investors over the eight years since listing. Upon a closer look we feel the aside conventional framework is not suitable to evaluate a company like COAL. We believe a more practical, reasonable and a balanced view needs to be taken.

Coal is an important national resource for an energy hungry country like India. The govt. of India (via Ministry of Coal) allocates mines to COAL on nomination basis. COAL’s primary responsibility is to be able to make coal available to the financially weak power sector at an affordable cost, while dealing with its own legacy issues (large workforce, lower levels of mechanization and so on).

Although on paper, pricing of coal is market driven, COAL has little leeway to alter prices for ~80% of its vol. For the rest, COAL’s high ash/low calorific coal faces competition from other better quality international coals that can be imported into India.

COAL generates strong margins, return ratios, but none of it is relevant for the minority shareholders and only dividend matters. Also, the Rs 325bn net cash of COAL (FY18 end) needs to be netted off against LT provision of Rs 435bn.

We have a dividend discount model based TP of Rs 199 and a SELL on COAL. Our upside case uses a mix of DDM & multiple based approach and yields a TP of Rs 450, while our downside scenario is driven off DDM with a TP of Rs 175.

Conventional multiple based valuation approach is not suitable to value COAL. A more practical, realistic and a balance approach needs to be taken


Page | 12

Key Debate 3 What is the near term earnings outlook?

Strong FY19 followed by a weak FY18: After a rather weak FY18 mainly due to cost creep, COAL’s earnings have shown improvement YTDFY19E– driven by 1) price hike announced effective Jan 9th 2018, 2) imposition of evacuation charges @Rs 50/t except for

the coal that is transported via the rapid loading system, 3) H1FY19 coal off take growth of 8%. H1 was a strong period, and we expect a similar trend in H2FY19E as well, as we show our workings below.

PnL (Rs mn) 1QFY18 2QFY18 3QFY18 4QFY18 FY18 1QFY19 2QFY19 3QFY19E 4QFY19E FY19E Net sales 184,043 174,785 207,085 251,087 817,000 225,978 207,127 245,377 273,278 951,754 -y/y 3% 12% 5% 12% 8% 23% 19% 18% 9% 16% Other op inc 7,574 6,698 9,348 17,852 41,472 16,631 14,854 13,721 15,666 60,871 Total Sales 191,617 181,483 216,433 268,939 858,472 242,609 221,981 259,098 288,944 1,012,625 -y/y 4% 12% 6% 16% 10% 27% 22% 20% 7% 18% Expenditure -Stock changes 8,817 16,289 5,475 (13,785) 16,795 11,635 13,844 (11,635) (13,844) - -Stores and spares 14,806 14,461 17,548 21,481 68,296 15,739 16,093 22,375 25,819 80,026 -Emp Exp 80,716 91,550 87,532 166,539 426,336 95,982 89,535 90,000 85,714 361,231 -Power & Fuel 6,178 6,605 6,072 6,310 25,164 5,940 6,383 7,970 9,194 29,486 -Social Overhead 1,104 1,092 632 2,010 4,838 375 547 1,000 3,158 5,080 -Repairs 2,916 2,391 3,130 5,958 14,395 2,811 3,191 4,000 6,865 16,867 -Contractual Expenses 30,980 25,525 32,211 38,954 127,670 31,761 27,358 37,191 50,011 146,322 -Other Expenditures 10,742 8,841 9,960 12,613 42,155 11,105 10,568 10,458 12,132 44,262 OB adj (1,069) 578 9,226 24,847 33,583 8,835 8,023 8,023 11,852 36,733 -Provisions 1,209 1,842 (1,530) 2,204 3,732 1,102 7,297 - (8,399) - -Exceptional adj -75,000 -75,000 0 Total expenditure 156,397 169,174 170,254 192,130 687,962 185,284 182,838 169,382 182,502 720,006 EBITDA pre-ex 35,220 12,310 46,179 76,810 170,510 57,325 39,142 89,716 106,442 292,620 -y/y -17% 66% 20% 88% 14% 63% 218% 94% 39% 72% EBITDA ( ex OBR) 34,151 12,888 55,405 101,657 204,093 66,160 47,165 97,739 118,294 329,352 -y/y -24% 46% 19% 82% -25% 94% 266% 76% 16% 61% Depreciation 6,699 7,146 7,511 9,308 30,667 7,452 8,069 8,996 12,216 36,733 Other Income 12,057 6,123 8,406 19,991 46,588 12,121 20,099 5,000 6,542 43,762 EBIT 40,577 11,286 47,074 87,493 186,430 61,993 51,172 85,720 100,769 299,649 Interest 1,210 1,007 974 1,127 4,318 1,103 8 974 2,232 4,318 Exceptional items 12 -9 0 0 0 PBT 39,367 10,280 46,100 86,377 182,103 60,890 51,164 84,746 98,537 295,331 Tax Expenses 15,860 6,576 16,052 -1,420 37,067 23,025 20,317 29,661 24,674 97,678 PAT pre-ex 23,507.8 3,704.1 30,047.9 63,047.6 120,287 37,864.4 30,847.1 55,085 73,862 197,653 -y/y -23% -38% 4% 132% 30% 61% 733% 83% 17% 64% Source: Company data, HDFC sec Inst Research

We see strong earnings momentum for the company over the coming quarters. This is also a period when govt. announces dividend. This should be an opportune time to sell into stock price rallies.


Page | 13

Consensus Earnings (EBITDA) Momentum HDFC Sec Earnings Momentum (Rs mn)

Source: Bloomberg, HDFC sec Inst Research Source: HDFC sec Inst Research

COAL qtrly volumes (mt) EBITDA progression


90

95

100

105

110

115

120

125

130

135

Jan-

18

Feb-

18

Mar

-18

Apr-

18

May

-18

Jun-

18

Jul-1

8

Aug-

18

Sep-

18

Oct

-18

Nov

-18

Dec-

18

FY19E FY20E

-8%-5%-3%0%3%5%8%10%13%15%

80 90

100 110 120 130 140 150 160 170 180

1QFY

152Q

FY15

3QFY

154Q

FY15

1QFY

162Q

FY16

3QFY

164Q

FY16

1QFY

172Q

FY17

3QFY

174Q

FY17

1QFY

182Q

FY18

3QFY

184Q

FY18

1QFY

192Q

FY19

3QFY

19E

4QFY

19E

Volume (mt) -y/y-RHS

-100%

-50%

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100%

150%

200%

250%

10,000

30,000

50,000

70,000

90,000

110,000

1QFY

152Q

FY15

3QFY

154Q

FY15

1QFY

162Q

FY16

3QFY

164Q

FY16

1QFY

172Q

FY17

3QFY

174Q

FY17

1QFY

182Q

FY18

3QFY

184Q

FY18

1QFY

192Q

FY19

3QFY

19E

4QFY

19E

EBITDA (Rs mn) y/y-RHS

Consensus earnings momentum has been strong in the first 3 quarters of the year, weakening somewhat in Q4

-

50,000

100,000

150,000

200,000

250,000

300,000

350,000

1QFY

18

2QFY

18

3QFY

18

4QFY

18

1QFY

19

2QFY

19

Last 12 month EBITDA Next 12 month EBITDA


Page | 14

Key Debate 4 Do we have a point estimate of valuation or it is best to capture the broad range of potential outcomes through a scenario based approach?

HDFC Sec View: While COAL is now being managed with the profit maximization motive taking a backseat, there is a possibility (unlikely in our view)

that the rational economic sense will prevail. There is also a possibility that the things worsen from here. In each of these scenarios, the potential outcomes are diverse and have significantly different valuation implications. We believe it is prudent to adopt a scenario based analysis to best capture the broad range of outcomes.

A. Our base case primarily represents the actual scenario currently and our outlook under the current constraints.

Assumptions - Base Case FY18 FY19E FY20E FY21E FY22E Sales Volumes (mt) 580.5 620.6 651.4 683.7 717.7 -y/y 7% 5% 5% 5% -FSA (mt) 460.0 521.0 547.0 574.4 603.1 -E-auction (mt) 106.2 84.8 89.1 93.5 98.2 -Washed (mt) 11.5 11.9 12.4 13.0 13.5 -Others (mt) 2.85 2.85 2.85 2.85 2.85 Realizations (Rs/t) 1,408 1,534 1,499 1,483 1,611 -FSA (Rs/t) 1,291 1,349 1,335 1,322 1,441 -E-auction (Rs/t) 1,839 2,500 2,337 2,313 2,522 -Washed (Rs/t) 3,023 2,384 2,352 2,320 2,289 -Others (Rs/t) 3,249 3,000 3,000 3,000 3,000 Total Revenue (Rs mn) 847,909 1,012,625 1,041,448 1,083,861 1,230,547 EBITDA post OBR (Rs mn) 159,947 292,620 275,620 266,069 320,082 -y/y 83% -6% -3% 20% -EBITDA/t (Rs/t) 276 472 423 389 446 PAT (Rs mn) 120,453 248,565 229,055 221,421 256,030 -y/y 106% -8% -3% 16% EPS (Rs/sh) 19.4 40.0 36.9 35.7 41.2 Dividend per Share (Rs/sh) 16.5 17.0 17.5 18.0 18.6 -y/y 3% 3% 3% 3%

Our base case assumptions are conservatively optimistic. Under these assumptions the company has the ability to grow dividends@3% pa. The free cash flow left on the table after paying for dividends and capex is close to nil.


Page | 15

FY18 FY19E FY20E FY21E FY22E FCF Workings EBITDA post overburden exp 84,947 292,620 275,620 266,069 320,082 Other Income 24,044 43,762 41,352 44,503 47,140 Tax -74,329 -97,678 -88,068 -84,308 -101,354 Interest -370 -4,318 -4,318 -4,318 -4,318 Working Capital Changes 138,450 -22,218 -3,319 -5,112 -19,133 Capex -88,625 -90,000 -90,000 -90,000 -90,000 FCF 84,117 122,168 131,267 126,834 152,417 Buyback 0 0 0 0 0 Dividend -123,238 -126,631 -130,430 -134,343 -138,373 FCF post dividend -39,121 -4,463 837 -7,509 14,043 Source: Company data, HDFC sec Inst Research

Base Case Valuation HDFC TP Derivation

Cost of Equity Calculation 11.8% -Market Return Assumption 12.5% -Rf 7.8% -Beta 0.85 Dividend Discount Model Sustainable Long Term Growth Rate in Dividends 3% Cost of Equity 11.8% FY21 E DPS 17.5 Equity Value per share 199 Multiple Based Target price FY21E EBITDA applicable 306,537 Multiple 7.50 EV 2,299,030 Net Debt -426,264 Long term Provisions 535,764 Market value 2,189,530 Equity Value per Share Rs 353 Weightage -DDM 100% -Multiple Based 0% HDFC TP 199 Source: Bloomberg, HDFC sec Inst Research

We have a base case TP of Rs199/ share and a SELL rating on the stock, yet on our earnings we are ahead of consensus. Our Sell rating is primarily a function of the differentiated valuation (Although it is Valuation 101) methodology we use vs. the street.


Page | 16

HDFC Sec vs. Consensus

Rs mn HDFC SEC CONSENSUS % DIFF

FY19E FY20E FY21E FY19E FY20E FY21E FY19E FY20E FY21E Revenue 1,012,625 1,041,448 1,083,861 981,090 1,036,104 1,131,452 3% 1% -4% EBITDA 292,620 275,620 266,069 227,208 243,273 260,586 29% 13% 2% PAT 198,315 178,805 171,171 162,946 169,959 183,295 22% 5% -7% Source: HDFC sec Inst Research


Page | 17

B. Our bull case assumes rational commercial business motive takes front seat for COAL.

Assumptions: Bull Case

FY18 FY19E FY20E FY21E FY22E Sales Volumes (mt) 580.5 620.6 669.6 722.4 779.5 -y/y 7% 8% 8% 8% -FSA (mt) 460.0 521.0 549.6 593.6 641.0 -E-auction (mt) 106.2 84.8 104.7 113.1 122.1 -Washed (mt) 11.5 11.9 12.4 13.0 13.5 -Others (mt) 2.85 2.85 2.85 2.85 2.85 Realizations (Rs/t) 1,408 1,534 1,549 1,533 1,753 -FSA (Rs/t) 1,291 1,349 1,335 1,322 1,520 -E-auction (Rs/t) 1,839 2,500 2,537 2,512 2,888 -Washed (Rs/t) 3,023 2,384 2,352 2,320 2,289 -Others (Rs/t) 3,249 3,000 3,000 3,000 3,000 Total Revenue (Rs mn) 847,909 1,012,625 1,104,672 1,181,918 1,449,441 EBITDA post OBR (Rs mn) 159,947 292,620 326,061 335,232 471,152 -y/y 83% 11% 3% 41% -EBITDA/t (Rs/t) 276 472 487 464 604 PAT (Rs mn) 120,453 248,565 262,870 268,157 358,812 -y/y 106% 6% 2% 34% EPS (Rs/sh) 19.4 40.0 42.4 43.4 58.1 Dividend per Share (Rs/sh) 16.5 18.0 18.9 19.8 20.8 -y/y 3% 3% 3% 3% FCF Workings EBITDA post overburden exp 84,947 292,620 326,061 335,232 471,152 Other Income 24,044 43,762 41,382 45,095 49,475 Tax (74,329) (97,678) (104,723) (107,327) (151,978) Interest (370) (4,318) (4,318) (4,318) (4,318) Working Capital Changes 138,450 (14,395) (10,830) (8,865) (32,866) Capex (88,625) (90,000) (100,000) (100,000) (100,000) FCF 84,117 129,991 147,572 159,817 231,465 Dividend (123,238) (134,080) (140,784) (147,823) (155,214) FCF post dividend (39,121) (4,089) 6,788 11,994 76,251 Source: Company data, HDFC sec Inst Research

In our bull case we expect the company to be managed in a way that leaves free cash flow on the table after paying for capex & dividends. In this scenario, we inherently assume profit maximization motive returns.


Page | 18

Bull Case Valuation HDFC Bull case TP Derivation

Cost of Equity Calculation 12.6% -Market Return Assumption 13.5% -Rf 7.8% -Beta 0.85 Dividend Discount Model Sustainable Long Term Growth Rate in Dividends 5% Cost of Equity 12.6% FY21 E DPS 19.8 Equity Value per share 260

Multiple Based Target price FY21E EBITDA applicable 377,992 Multiple 8.75 EV 3,307,430 Net Debt -455,459 Long term Provisions 618,155 Market value 3,144,734 Equity Value per Share Rs 507


HDFC TP 450 Source: Bloomberg, HDFC sec Inst Research

Under the upside circumstance we think, it is a good idea to value the stock again back on multiples. However, to be conservative we use a mix of multiple based and divided discount based approach. We have an upside case valuation of Rs450/sh.


Page | 19

C. In our bear case we expect the company to be managed in a way that leaves NO free cash flow on the table after paying for capex & dividends. We also assume lower volume growth & unfavorable volume mix vs. base case. This reduces the dividend paying potential of the company.

Assumptions: Bear Case

FY18 FY19E FY20E FY21E FY22E Sales Volumes (mt) 580.5 620.6 645.3 664.7 684.8 -y/y 7% 4% 3% 3% -FSA (mt) 460.0 521.0 541.8 558.1 574.8 -E-auction (mt) 106.2 84.8 88.2 90.9 93.6 -Washed (mt) 11.5 11.9 12.4 13.0 13.5 -Others (mt) 2.85 2.85 2.85 2.85 2.85 Realizations (Rs/t) 1,408 1,534 1,481 1,466 1,592 -FSA (Rs/t) 1,291 1,349 1,335 1,322 1,441 -E-auction (Rs/t) 1,839 2,500 2,203 2,181 2,378 -Washed (Rs/t) 3,023 2,384 2,352 2,320 2,289 -Others (Rs/t) 3,249 3,000 3,000 3,000 3,000 Total Revenue (Rs mn) 847,909 1,012,625 1,020,078 1,042,076 1,161,036 EBITDA post OBR (Rs mn) 159,947 292,620 259,862 240,205 288,163 -y/y 86% -11% -7% 20% -EBITDA/t (Rs/t) 276 479 410 369 428 PAT (Rs mn) 120,453 248,565 217,917 203,518 233,723 -y/y 109% -12% -6% 15% EPS (Rs/sh) 19.4 40.5 35.6 33.4 38.3 Dividend per Share (Rs/sh) 16.5 16.0 16.3 16.6 17.0 -y/y -3% 2% 2% 2% FCF Workings EBITDA post overburden exp 84,947 292,620 259,862 240,205 288,163 Other Income 24,044 43,762 40,487 43,646 45,764 Tax (74,329) (97,678) (82,582) (75,490) (90,367) Interest (370) (4,318) (4,318) (4,318) (4,318) Working Capital Changes 138,450 (40,471) (600) (2,913) (17,826) Capex (88,625) (90,000) (90,000) (90,000) (90,000) FCF 84,117 103,915 122,849 111,130 131,416 Buyback 0 0 0 0 0 Dividend (123,238) (119,182) (121,566) (123,997) (126,477) FCF post dividend (39,121) (15,267) 1,283 (12,867) 4,939 Source: Company data, HDFC sec Inst Research

In our bear case we expect the company to be managed in a way that leaves NO free cash flow on the table after paying for capex & dividends. We also assume lower volume growth & unfavorable volume mix vs. base case. This reduces the dividend paying potential of the company.


Page | 20

Bear Case Valuation HDFC Bear case TP Derivation

Cost of Equity Calculation 11.4% -Market Return Assumption 12.0% -Rf 7.8% -Beta 0.85 Dividend Discount Model Sustainable Long Term Growth Rate in Dividends 2% Cost of Equity 11.4% FY21 E DPS 16.3 Equity Value per share 174

Multiple Based Target price FY21E EBITDA applicable 279,551 Multiple 7.50 EV 2,096,635 Net Debt -409,068 Long term Provisions 613,307 Market value 1,892,396 Equity Value per Share Rs 305


HDFC TP 175 Source: Bloomberg, HDFC sec Inst Research


Page | 21

Key Debate 5: Didn’t COAL (or govt) live up to reform expectations from the BJP (Modi) government?

Reforms have worked very well: We often hear a view from the market participants that COAL (govt) hasn’t lived upto the reform expectations that the market had when the Modi govt came to power in May 2014. The stock price underperformance over the last 5 years is often misunderstood for lack of progress on reforms. But we believe there is no merit to this argument, and as we outline some of them

below, COAL (or govt) has undertaken significant reforms in coal and power sectors.

We would also like to highlight that the initial few years of the last 5 yrs, COAL (or govt’s) energy and resources had to be utilized in cleaning up the legacy issues that the sector & eco system around it were stuck in due to decades of slack.

Key Initiatives/Reforms/Outcomes in & around the Coal Sector in the last 4-5 years Measure Comment

Transparency in Allocation of Resources

After the SC's verdict cancelling the allocation 214 coal blocks allotted since 1993, the govt. conducted a transparent auction of coal blocks with clearly laid out eligibility criteria. This resulted in bids being made by companies, which would fetch coal royalty close to import parity price of coal for the states. This was the best of its kind auction of resources in the history of independent India and a win-win deal for the govt finances as well as the coal starved industry.

Coal Production Turnaround

COAL’s production spiked from 464mt in FY14 to ~625mtpa in FY19E. An addition of 160mt of incremental coal/yr in a span of 5 years is a commendable achievement.

Off take Turnaround Rake availability was a concern limiting Coal India's ability to dispatch. Although still a constraint, COAL has been able to evacuate 150mtpa incremental coal now vs. FY14.

Productivity Improvement

COAL's productivity improved from 1,334 tons per man year in 2014 to 1,899 in FY18, due to better manpower utilization & mechanization.

Management Quality COAL management & the investor relations team is the best in class in the industry not just in India, but even when compared across resources companies in the world.

Completion of long pending crucial rail projects

Evacuation of coal from the Korba, Mand-Raigarh, North Karanpura, IB valley coal fields, has been a long pending issue due to evacuation bottlenecks. There was a need to build rail lines to evacuate from here and the concept has been on paper for about 2 decades now. Post 2014, the work on these has been accelerated and now at a point where key sub-sections of these lines are already operational, and the full stretch to be completed in less than a year in most cases.

Soubhagya Scheme Under this ambitious rural household electrification program, the aim was to electrify about 3crore households which had no electricity. The private sector DISCOMs, State Power Departments shall be eligible for financial assistance. The administration has completed 73% of the target in just about a year's time.

COAL (or govt) didn’t have a clean slate when the reform process began in FY15. Yet, they have been able to achieve significant progress in and around the coal sector.


Page | 22

Measure Comment

UDAY Scheme

The state governments were facilitated to take over 75% of the ailing discom’s debt. This was expected to alleviate the financial burden on these distribution companies which were finding it unviable to buy electricity despite demand for power. About 87% of the total discom debt that was to be converted to state govt bonds has been converted until now. This has certainly helped the power sector in terms of increase in demand, and our conversation with the COAL management indicates that UDAY has helped the discoms ability to buy more power to meet the end-user demand.

Power generation growth

Power generation in India grew at a CAGR of 7% since FY14. While 7% number in itself doesn't look big, the addition of 237k GWH of electricity generation is a commendable achievement.

SHAKTI Scheme This policy aims to allocate FSAs to power plants in a transparent way. When fully implemented, coupled with COAL’s production ramp up it has the potential to reduce imports.

Auction of coal linkages to non-regulated sector

Non-core sector coal consumers historically had problems of access to coal. To address this issue, COAL has auctioned 50+ mtpa coal linkages to this segment in a transparent manner.

Rationalization of resources

Source rationalization of coal linkage for optimizing coal movement as per the requirement of the consumers and logistics.

Accidents in Operations

Any mining activity is prone to fatal accidents. Fatal accident rate is a KPI of operational safety. COAL has done an excellent job of reducing the average fatal accident rate from 60/yr to in 2010-14 period to about 36/yr during 2015-17.

Land Acquisition The yearly rate of land possession (crucial for production growth) undertaken by COAL increased from ~2,000ha in FY10-15 to about ~4,000ha in the FY15-18 period.

Source: Company data, Ministry of Coal, MOSPI, CEA, UDAY/SAUBHAGYA Portals, REC, Ministry of Power, PRS Legislative, PIB, MoEF, HDFC Sec Inst Research Coal India Production (mt) Coal India Overburden Removal (mn cu mtr)

Source: Company data, HDFC sec Inst Research; Green bars-Delta in each yr over FY14


462

621

32 76 92 105 15

8

0

100

200

300

400

500

600

700

FY14 + in FY15

+ in FY16

+ in FY17

+ in FY18

+ in FY19E

FY19E

Mt

400500600700800900

1,0001,1001,2001,3001,400

FY13 FY14 FY15 FY16 FY17 FY18 FY19E

Mn cu mtr

In a span of 4 years, COAL has added a phenomenal ~150mtpa of output. To put this into context, it took the earlier regime 3 decades to add 300mtpa. Over burden removal increased by ~50+% in the last 4 years.


Page | 23

COAL Yearly Land Possession (ha) COAL Yearly Capex (Rs bn)


Coal India Off take (mt) Manpower- Year end

Source: Company data, HDFC sec Inst Research; Green bars-Delta in each yr over FY14


25

4149

58

87 8580

2.0

12.0

22.0

32.0

42.0

52.0

62.0

72.0

82.0

92.0

FY13

FY14

FY15

FY16

FY17

FY18

FY19

E

Rs bn

1,779 2,294

2,684

5,378

3,826 3,687

5,000

-

1,000

2,000

3,000

4,000

5,000

6,000

FY13

FY14

FY15

FY16

FY17

FY18

FY19

E

Ha

357,

926

346,

638

333,

097

322,

404

310,

016

298,

757

283,

757

200,000

220,000

240,000

260,000

280,000

300,000

320,000

340,000

360,000

FY13

FY14

FY15

FY16

FY17

FY18

FY19

E

470

621

18 63 71 110 15

0

0

100

200

300

400

500

600

700

FY14 + in FY15

+ in FY16

+ in FY17

+ in FY18

+ in FY19E

FY19E

Mt

Land acquisition is crucial and the most challenging component of coal mining in India. COAL has almost doubled the quantum of land acquired per year. Capex momentum has improved materially, which means strong execution. Evacuation of coal was a big issue earlier, the current regime has done a phenomenal job in this area. Huge legacy manpower at COAL, is being reduced progressively without hurting production.


Page | 24

Output per Man shift – Opencast mines (tons) Output per Man shift – Underground mines


Coal fired power gen (Gwh) India’s energy deficit i.e. gap bet potential demand & actual supply

Source: CEA, HDFC sec Inst Research Source: Company data, Source: HDFC sec Inst Research

11.512.2

13.1

14.415.3

14.1

16.1

6.0

8.0

10.0

12.0

14.0

16.0

18.0

FY13

FY14

FY15

FY16

FY17

FY18

FY19

E

Tn

0.77 0.760.79 0.8 0.8

0.86

1.0

0.5

0.6

0.7

0.8

0.9

1.0

FY13

FY14

FY15

FY16

FY17

FY18

FY19

E

Tn

659,231 713,847

800,333 862,015

910,135 951,754

1,008,288

400,000

500,000

600,000

700,000

800,000

900,000

1,000,000

1,100,000

FY13

FY14

FY15

FY16

FY17

FY18

FY19

E

Gwh9%

4%4%

2%

1% 1%

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

FY13

FY14

FY15

FY16

FY17

FY18

Productivity improvement has been robust. Due to the various initiatives taken up by the company (/govt) around the coal sector, there has been a robust increase in power generation. Energy deficit has shrunk close to nil now.


Page | 25

COAL e-auction volumes (mt) Thermal coal imports as a % of overall demand

Source: Company data, Source: HDFC sec Inst Research Source: Company data, Source: HDFC sec Inst Research

49.158.0

46.9

66.3

94.2106.2

0

20

40

60

80

100

120

FY13

FY14

FY15

FY16

FY17

FY18

Mt

18%

24%

19%18% 17% 18%

0%

5%

10%

15%

20%

25%

FY14

FY15

FY16

FY17

FY18

FY19

E-auction volumes have increased materially, which meant India’s imports as a % of demand remained flat.


Page | 26

What’s Priced In? COAL share price vs. Dispatches COAL share price vs. E-auction premium

Source: Company data, Bloomberg, HDFC sec Inst Research Source: Bloomberg, Ministry of Coal, HDFC sec Inst Research

COAL share price vs. IIP COAL share price vs. Indonesia coal

Source: Company data, HDFC sec Inst Research Source: Bloomberg, HDFC sec Inst Research

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

225

250

275

300

325

350

375

400

425

450

Jun-

14Se

p-14

Dec-

14M

ar-1

5Ju

n-15

Sep-

15De

c-15

Mar

-16

Jun-

16Se

p-16

Dec-

16M

ar-1

7Ju

n-17

Sep-

17De

c-17

Mar

-18

Jun-

18Se

p-18

Dec-

18

COAL share price CIL Desptaches y/y - RHS

0%

20%

40%

60%

80%

100%

120%

140%

225250275300325350375400425450

Jun-

14Se

p-14

Dec-

14M

ar-1

5Ju

n-15

Sep-

15De

c-15

Mar

-16

Jun-

16Se

p-16

Dec-

16M

ar-1

7Ju

n-17

Sep-

17De

c-17

Mar

-18

Jun-

18Se

p-18

Dec-

18

COAL share priceCIL E-auction premium over notified price - RHS

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

200225250275300325350375400425450

May

-15

Aug-

15N

ov-1

5Fe

b-16

May

-16

Aug-

16N

ov-1

6Fe

b-17

May

-17

Aug-

17N

ov-1

7Fe

b-18

May

-18

Aug-

18N

ov-1

8

COAL share price India IIP 3mma-RHS

25.0

35.0

45.0

55.0

65.0

75.0

200225250275300325350375400425450

Dec-

14

Apr-

15

Aug-

15

Dec-

15

Apr-

16

Aug-

16

Dec-

16

Apr-

17

Aug-

17

Dec-

17

Apr-

18

Aug-

18

Dec-

18

COAL share price Indo coal 4200kcal fob- RHS

COAL share price has tracked the monthly coal dispatch growth, IIP growth, e-auction price premium & the Indonesia 4200kcal coal well in the past.


Page | 27

Indexed Performance since Jan 27th Indexed Performance since COAL life peak in 2015

Source: Bloomberg, HDFC sec Inst Research Source: Bloomberg, HDFC sec Inst Research

COAL 12m fwd EVEBITDA Multiple Progression COAL 12m fwd PE Multiple Progression

Source: Company data, Bloomberg, HDFC sec Inst Research Source: Company data, HDFC sec Inst Research

50

70

90

110

Jan-

18

Feb-

18

Mar

-18

Apr-

18

May

-18

Jun-

18

Jul-1

8

Aug-

18

Sep-

18

Oct

-18

Nov

-18

Dec-

18

COAL NIFTY

NIFTY Metals BBG World Mining Index

0

100

200

300

400

500

Aug-

15

Nov

-15

Feb-

16

May

-16

Aug-

16

Nov

-16

Feb-

17

May

-17

Aug-

17

Nov

-17

Feb-

18

May

-18

Aug-

18

Nov

-18

COAL NIFTY

NIFTY Metals BBG World Mining Index

-

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

Jun-

11De

c-11

Jun-

12De

c-12

Jun -

13De

c-13

Jun-

14De

c-14

Jun-

15De

c-15

Jun-

16De

c-16

Jun-

17De

c-17

Jun-

18De

c-18

EVEBITDA (x) 3 yr Avg

5.0

7.5

10.0

12.5

15.0

17.5

20.0

22.5

25.0

Jun-

11De

c-11

Jun-

12De

c-12

Jun-

13De

c-13

Jun-

14De

c-14

Jun-

15De

c-15

Jun-

16De

c-16

Jun-

17De

c-17

Jun-

18De

c-18

P/E (x) 3 yr Avg

Since the Jan 27th 2018 market peak, COAL share price has corrected by ~20%, yet outperformed the NIFTY Metals & Bloomberg World mining indices. From COAL’s peak share price of Rs.440, the stock has corrected by ~45% in the last 4.5 years. COAL underperformed the NIFTY/NIFTY Metals & Bloomberg World mining indices during this period. A part of this u/p is probably because the stock ran up ahead of fundamentals in 2014 in expectation of cancellation & subsequent auction of all FSAs. COAL’s 12m fwd EVEBITDA/PE multiples have corrected significantly. This de-rating is here to stay, and in a way not a relevant metric to look at for this kind of a company.


Page | 28

VALUATION COMPS TABLE

Company CMP (LC)

TP* (LC)

% Upside

Mcap ($ mn)

EVEBITDA (x) PB (x) PE (x) 2019E 2020E 2019E 2020E 2019E 2020E

India Coal Coal India 252 199 -19% 16,973 4.1 4.2 4.94 4.38 8.6 9.0 Asia/Global Coal Adaro Energy 1,240 2,271 81% 2,740 2.9 2.8 0.70 0.67 5.9 5.6 ITMG 20,000 30,814 46% 1,561 2.6 2.7 1.52 1.54 6.1 6.2 PTBA 4,230 4,865 13% 3,367 5.6 5.8 2.59 2.44 9.3 9.2 China Shenhua 17.6 22.6 25% 53,303 4.2 4.2 0.87 0.82 8.1 8.4 South 32 3.3 3.9 21% 12,181 4. 2 4.5 1.07 1.02 8.6 10.0 Average 3.9 4.0 1.37 1.31 7.6 7.9 Global Mining NMDC 96 133 42% 7,285 4.3 4.0 0.99 0.90 7.8 7.4 Rio Tinto 3,724 4,180 13% 80,743 5.6 5.6 1.69 1.60 11.0 11.4 BHP Billiton 1,651 1,741 8% 121,674 6.3 6.5 1.99 1.95 12.8 13.9 Glencore 293 394 36% 52,157 4.7 4.8 0.98 0.94 7.5 7.5 Average 5.2 5.2 1.42 1.35 9.8 10.0 Global Average 4.3 4.2 1.63 1.53 8.2 8.5 Source: Bloomberg, HDFC sec Inst Research HDFC Sec vs Consensus

Rs mn NEW OLD % CHG

FY19E FY20E FY21E FY19E FY20E FY21E FY19E FY20E FY21E

Revenue 1,012,625 1,041,448 1,083,861 981,090 1,036,104 1,131,452 3% 1% -4%

EBITDA 292,620 275,620 266,069 227,208 243,273 260,586 29% 13% 2%

PAT 198,315 178,805 171,171 162,946 169,959 183,295 22% 5% -7% Source: HDFC sec Inst Research

On multiple based comparison to Indian as well as global peers, COAL’s valuation seems reasonable. But as we debate above this approach is redundant for a company like COAL. Our earnings estimates for FY19/20E are ahead of consensus. The divergence in our PT vs. consensus PT of Rs340/sh average stems from the valuation approach we use.


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Income Statement Year ending March (Rs mn) FY18 FY19E FY20E FY21E FY22E Net Revenues 847,909 1,012,625 1,041,448 1,083,861 1,230,547 Growth % 8% 19% 3% 4% 14% Employee Expenses 426,336 361,231 371,417 383,830 432,576 Contractual expenses 127,670 146,322 162,155 179,771 199,377 Materials expenses 85,090 80,026 89,849 100,887 113,292 Other operating expenses 90,283 95,695 103,852 112,836 122,742 EBITDA 118,530 329,352 314,175 306,537 362,560 EBITDA % 14.0 32.5 30.2 28.3 29.5 EBITDA Growth % -21% 178% -5% -2% 18% Depreciation 30,664 36,071 45,781 50,775 55,769 Overburden removal adjustment 33,583 36,733 38,555 40,469 42,478 EBIT 54,283 256,549 229,839 215,293 264,313 Other Income (Incl EO Items) 57,304 43,762 41,352 44,503 47,140 Interest 4,318 4,318 4,318 4,318 4,318 PBT 107,269 295,993 266,873 255,478 307,135 Tax (Incl Deferred Tax) 37,067 97,678 88,068 84,308 101,354 RPAT 70,202 198,315 178,805 171,171 205,780 EO Loss/Profit (Net of Tax) (50,250) APAT 120,452 198,315 178,805 171,171 205,780 APAT Growth (%) 30% 65% -10% -4% 20% EPS 11.31 31.95 28.81 27.58 33.15 EPS Growth (%) -23% 182% -10% -4% 20%

Source: Company, HDFC sec Inst Research

Balance Sheet As at March (Rs mn) FY18 FY19E FY20E FY21E FY22E SOURCES OF FUNDS Share Capital - Equity 62,074 62,074 62,074 62,074 62,074 Reserves 136,392 208,076 256,450 293,278 360,685 Total Shareholders’ Funds 198,466 270,150 318,524 355,352 422,759 Minority Interest 3,625 3,625 3,625 3,625 3,625 Long Term Debt 10,544 10,544 10,544 10,544 10,544 Short Term Debt 4,833 4,833 4,833 4,833 4,833 Total Debt 15,377 15,377 15,377 15,377 15,377 Net Deferred Taxes -53,551 -53,551 -53,551 -53,551 -53,551 Other Non-cur Liab & Provns 554,332 591,065 629,620 670,089 712,567 TOTAL SOURCES OF FUNDS 718,249 826,666 913,596 990,892 1,100,777 APPLICATION OF FUNDS Net Block 275,774 304,703 303,922 298,147 287,377 CWIP 126,704 141,704 176,704 211,704 246,704 Investments 3,444 13,444 23,444 33,444 43,444 Other Non-current Assets 115,912 115,912 115,912 115,912 115,912 Total Non-current Assets 521,834 575,763 619,981 659,206 693,437 Cash & Equivalents 336,917 369,290 408,681 441,641 498,162 Inventories 64,439 73,011 74,899 77,806 88,687 Debtors 86,892 104,302 106,999 111,152 126,696 Other Current Assets 129,509 129,406 129,406 129,406 129,406 Total Current Assets 617,756 676,009 719,985 760,005 842,952 Creditors 45,169 48,935 50,200 52,148 59,441 Other Current Liab & Provns 376,171 376,171 376,171 376,171 376,171 Total Current Liabilities 421,340 425,106 426,371 428,319 435,612 Net Current Assets 196,416 250,903 293,614 331,686 407,340 TOTAL USE OF FUNDS 718,249 826,666 913,596 990,892 1,100,777



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Cash Flow Year ending March (Rs mn) FY18 FY19E FY20E FY21E FY22E Reported PBT 110,043 295,993 266,873 255,478 307,135 Non-operating & EO items -25,951 -43,762 -41,352 -44,503 -47,140 Interest expenses 370 4,318 4,318 4,318 4,318 Depreciation 30,468 36,071 45,781 50,775 55,769 OBR Adj 33,571 36,733 38,555 40,469 42,478 Working Capital Change 138,450 -22,218 -3,319 -5,112 -19,133 Tax Paid -74,329 -97,678 -88,068 -84,308 -101,354 OPERATING CASH FLOW ( a ) 212,623 209,457 222,788 217,118 242,073 Capex -88,625 -90,000 -90,000 -90,000 -90,000 Free cash flow (FCF) 123,998 119,457 132,788 127,118 152,073 Non-operating Income 24,044 43,762 41,352 44,503 47,140 INVESTING CASH FLOW ( b ) -64,581 -46,238 -48,648 -45,497 -42,860 Debt Issuance/(Repaid) -14,778 0 0 0 0 Interest expenses -370 -4,318 -4,318 -4,318 -4,318 Others 2,513 0 0 0 0 FCFE 132,894 158,901 169,822 167,303 194,895 Share Capital Issuance/buyback 0 0 0 0 0

Dividend -123,238 -126,631 -130,430 -134,343 -138,373 FINANCING CASH FLOW ( c ) -135,873 -130,949 -134,748 -138,661 -142,691 NET CASH FLOW (a+b+c) 12,169 32,270 39,392 32,960 56,521 EO Items / Others Beginning Cash & Eq 316,627 316,806 369,413 408,805 441,765 Closing Cash & Equivalents 316,806 369,413 408,805 441,765 498,286


Key Ratios FY18 FY19E FY20E FY21E FY22E PROFITABILITY (%) EBITDA Margin 14.0 32.5 30.2 28.3 29.5 APAT Margin 8.6 20.8 18.3 16.9 17.8 RoE 53.4 83.3 60.0 50.3 52.4 RoIC N/M N/M N/M N/M N/M RoCE 52.6 81.0 58.9 49.6 51.8 EFFICIENCY Tax Rate (%) 34.6 33.0 33.0 33.0 33.0 Asset Turnover (x) 0.6 0.6 0.6 0.6 0.6 Inventory (days) 34 28 28 28 28 Debtors (days) 47 40 40 40 40 Payables (days) 19 19 19 19 19 Cash Conversion Cycle (days) 63 49 49 49 49 Debt/EBITDA (x) N/M N/M N/M N/M N/M Net D/E N/M N/M N/M N/M N/M Interest Coverage N/M N/M N/M N/M N/M PER SHARE DATA EPS (Rs/sh) 19.4 31.9 28.8 27.6 33.2 CEPS (Rs/sh) 29.8 43.7 42.4 42.3 49.0 DPS (Rs/sh) 16.5 17.0 17.5 18.0 18.6 BV (Rs/sh) 32.6 44.1 51.9 57.8 68.7 VALUATION P/E 14.1 7.9 8.7 9.1 7.6 P/BV 8.4 5.7 4.9 4.4 3.7 EV/EBITDA 8.6 4.1 4.2 4.3 3.4 OCF/EV (%) 15.5 17.3 19.0 19.1 22.4 FCF/EV (%) 9.0 9.9 11.3 11.2 14.1 FCFE/Market cap (%) 7.8 10.2 10.9 10.7 12.5 Dividend Yield (%) 6.0 6.8 7.0 7.2 7.4



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Rating Definitions BUY : Where the stock is expected to deliver more than 10% returns over the next 12 month period NEUTRAL : Where the stock is expected to deliver (-)10% to 10% returns over the next 12 month period SELL : Where the stock is expected to deliver less than (-)10% returns over the next 12 month period

Date CMP Reco Target 19-Dec-18 252 SELL 199

RECOMMENDATION HISTORY

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17

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18

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18

Mar

-18

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18

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-18

Jun-

18

Jul- 1

8

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18

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18

Oct

-18

Nov-

18

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18

Coal India TP


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Documents

SELL India - IC - HDFC...(OBR + other provisions = 1.lt 3x net cash). We initiate coverage with an anti-consensus SELL. Our TP of Rs 199 is based on a dividend discount model. Without