SAIL: Divestment no deterrent

Improving prospects on volume, profitability and product mix will more than offset the small equity dilution planned by the government

Steel Authority of India (SAIL) has again come into the spotlight, with government plans for divesting stake in  public sector undertakings (PSUs) gaining momentum. The divestment has also become necessary with the Securities and Exchange Board of India’s directive of a minimum of 25 per cent public shareholding in government companies.

In SAIL’s case, the requirement is to divest only five per cent stake. So, it is not a matter of concern for the stock, especially with the company’s fortunes expected to improve. Experts say timing of the disinvestment remains uncertain and one cannot gauge the impact on share price. Still, market participants will be looking at SAIL’s longer-term growth outlook and, hence, might not be concerned at the small amount of divestment, they add.

Even if the divestment takes place in the next few months and there is a minor correction in the stock, given the 70 per cent rise since the beginning of March, investors with a medium-term horizon should accumulate SAIL.

Improving prospects
SAIL’s prospects are improving as clarity on completion of capacity expansion is increasing. The outlook on volume is improving and analysts expect Ebitda (earnings before interest, taxes, depreciation and amortisation) per tonne to increase in the coming days.

The company in the past had underperformed on volume, primarily due to delay in expansion of existing capacity. However, as the expansion projects stabilise and demand improves, the situation is changing. For the month of May, sales growth was 11 per cent to 1.06 million tonnes, compared to 0.96 mt in the same month last year. Analysts at IL&FS Institutional Equities believe volume growth for FY15–17 is likely to outperform peers. They add that the commissioning of a basic oxygen furnace at Rourkela in the first half of FY15 is likely to be a key volume driver this financial year. SAIL recently announced the commissioning of this furnace, with a new plate mill at its Rourkela plant. Commissioning of new blast furnaces at the IISCO and Bhilai plants in FY15 are also likely to drive volumes from FY16, believe analysts.

Profitability gains
The new furnaces and systems are also going to boost profitability. Analysts at Prabhudas Lilladher add the coke rate per tonne would come down by 12 per cent from the current 512 kg to 450 kg with the commissioning of three new blast furnaces, closure of old ones across plants and installation of coal dust injection systems. SAIL is targeting an overall cut of 20 per cent or $50 a tonne in energy cost, a tenth of current steel prices.

The major concern earlier was with the high employee costs. These have continued to increase, from Rs 5,456 crore (34 per cent of total expenses) in FY10 to Rs 9,594 crore (49.7 per cent of total expenses) in FY14. These are also likely to have peaked. Analysts at Prabhudas Lilladher, quoting SAIL’s management, say employee cost per tonne would remain stable on the back of natural attrition of 4,000 employees a year on a net basis, replacement of high-cost retiring workers with lower cost personnel and higher scale of production after the expansions.

The continuous effort on improving the mix in favour of value-added products while expanding capacity will boost its long product (steel) portfolio. This, with the expected revival in infrastructure demand, would mean SAIL benefits more than the industry. Estimates suggest the company is looking at raising the share of value-added products in sales from 43 per cent currently to 60 per cent in FY17.

The benefits of all these measures and plans will start flowing gradually, as economic growth picks up. Since near-term valuations look rich, medium to long-term investors could accumulate the stock on any dips.