Challenging environment to dent profitability of domestic steel makers in FY20: ICRA

The domestic steel consumption growth is expected to decelerate to about 5 to 6 per cent in the current financial year as compared to 7.9 per cent in FY19 on the back of an unprecedented slowdown in economic activity as reflected by the GDP growth tapering down to five per cent in Q1 FY20.

Consequently, the margin outlook for steelmakers has weakened in Q2 due to a sharp fall in steel prices and firm raw material costs, though some recovery is expected in Q3 FY2020. As per ICRA, the demand environment is expected to improve somewhat in the second half of FY20 following a likely pick-up in infra spending.

"Industry operating environment remains challenging in FY20 thus far," said Jayanta Roy, Senior Vice-President and Group Head of Corporate Ratings at ICRA.

"Our analysis of prevailing trends of 22 companies comprising 60 per cent of industry size indicates that reduced demand and steel prices amid firm raw material costs have restricted the revenues and operating margins of the industry in Q1 FY20."

Given the challenging operating environment prevailing at present, ICRA estimates the industry's operating margin to decline to around 18 per cent in FY20 compared to 23 per cent in the previous fiscal.

Roy said the decline in steel prices and seasonally weak demand are also likely to keep Q2 financial performance muted for domestic steelmakers. However, a likely pick-up in infra spending in the second half and softer coking coal prices could benefit steelmakers for the remainder of the year.

"Profitability may recover somewhat in Q3 with a sharp fall in coking coal prices in August and expectation of better demand from the construction sector during that quarter," he said.

Globally, steel production growth remained healthy at 4.6 per cent in January to July on the back of high output growth in China. However, due to rising trade tensions, slowing Chinese demand and increasing concerns on the global macroeconomic health, steel production growth is expected to soften in H2 CY2019.

China's steel exports have remained low due to its healthy domestic consumption, providing a respite to other economies including India.

While the steel imports by India de-grew by 6 per cent in April to July, even steeper fall of 23 per cent in steel exports and unrelenting imports from free trade agreement (FTA) countries including Japan and South Korea, are likely to keep India a net importer of steel in the near term.

Nevertheless, given the fact that domestic steel prices are currently trading at a significant discount of 16 per cent to the landed cost of Chinese hot-rolled coil and at a discount of 8 per cent to the landed cost of Japanese hot-rolled coil, India's steel imports will remain low at an absolute level in coming months.