Shares of Coal India, world's largest coal producer, flat on a YTD basis, could be a 'Value Trap' according to Choice Institutional Equities, as the 'attractiveness' based on cheap valuation is an 'optical illusion', rating the stock as a 'Sell'.
"The stock trades at cheap valuation multiples of ~5x/9x/1x FY27E forward EV/EBITDA, P/E and EV/CE respectively. These headline multiples make the stock look attractive, but we believe it is a Value Trap as these metrics conceal more than they reveal," said a Choice Institutional Equities note.
The brokerage has cited five key 'pillars' to its investment thesis which has gone into the bearish call on Coal India.
1) Pricing: The brokerage said the discounted pricing compared to imported coal, and an unfavourable sales mix has made CIL's business model 'questionable', making the brokerage believe that its motto is 'not profit driven'. At the current Fuel Supply Agreements (FSA), Coal India does not recover its cost of production, Choice Institutional Equities said.
2) Big capex, flat EBIT momentum: The note has compared Coal India's situation to 'running on a tread mill to cover distance'. Over FY26E-29E, CIL will spend a whopping Rs 80,000 crore, which amounts to around 53% of the operating cash flow on capex, yet its EBIT growth is expected to be negative over FY24-29E, said Choice Institutional Equities.
3) Restrictions on cash: Coal India's net cash balance of around Rs 32,800 crore amounts to 14% of its market capitalisation, but there are provisions worth Rs 74,500 crore which may need to be set off against this cash balance.
4) Falling GCV: The Gross Calorific Value (GCV) of Coal India's output has been trending lower over the past 10 years, hurting realisations and profitability. Choice Institutional Equities said it sees 'no reason' to believe this trend would reverse.
5) After capex, all free cash flow paid as dividends: Choice Institutional Equities said it believes a realistic way to value Coal India would be to focus on its dividend paying potential.
The brokerage in its note said that the base case scenario for its target price is Rs 290/share, while the upside (10-15% probability event) assigns a value of Rs 500/share, and the downside scenario (10-15% probability event) values the stock at Rs 225/share.
Coal India is allocated coal mines without having to bid for them, hence, according to the brokerage, the PSU is fulfilling the government's mandate of supplying coal to the nation.
However, Choice Institutional Equities added that any 'reversal' in government policy to align coal prices with a 'profit maximization motive' will challenge its Sell recommendation.
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