Relief for Tata Steel as revenues rise faster than liabilities in FY21

Debt reduction led to sharp improvement in leverage ratio

Tata Steel has sprung a surprise in FY21, after close to a decade of struggle with high debt and stagnant revenues.
 
For the first time since its debt-fuelled acquisition of Corus (now Tata Steel Europe), revenues grew faster than liabilities in the last financial year, raising hope of a sustainable turnaround in its balance sheet and stock performance.
 
Gross debt fell 24 per cent year-on-year (YoY) to Rs 88,500 crore at the end of March this year, while consolidated revenues rose 5 per cent in FY21 to Rs 1.56 trillion.
 
The debt reduction led to a sharp improvement in the leverage ratio. The company’s debt-to-equity ratio declined to 1.4x — the lowest since the acquisition of Corus in 2007.
 
The company reported net profit of around Rs 7,500 crore in FY21, against a headline net profit of Rs 1,556 crore a year ago. The uptick in the revenues — thanks to higher steel prices — and a decline in debt led to an improvement in the asset utilisation ratio. Every Rs 100 worth of assets generated Rs 86 worth of net sales for the company in FY21, up from Rs 74 a year.
 
However, it’s still halfway from the record high of Rs 166 in FY09.

 
“Tata Steel has been a key beneficiary of rising steel prices. As expected, it reported its highest-ever consolidated operating profit in the March ’20 quarter, on the back of higher prices. Net debt fell to its lowest level since March 2018, say analysts at Motilal Oswal Financial Services.
 
The debt reduction came from internal accruals. The company generated an all-time cash flow of Rs 44,300 crore from operations in FY21, more than 2x the cash flow of Rs 20,000 crore a year ago. Bulk of the cash flow was used to repay loans and only a third used for capex.
 
Analysts see further deleveraging by Tata Steel in the current financial year. Motilal Oswal Financial Services analysts, for example, expect consolidated net debt to decline a further Rs 18,800 crore in FY22, despite the resumption in capex for the 5-mtpa expansion of the Kalinganagar plant.
 
Prior to this decline, borrowings always grew faster than revenues, making it tough for the company to show profits consistently. Gross debt doubled between FY09 and FY20, from Rs 59,000 crore to Rs 1.16 trillion at the end of March 2020.
 
Consolidated net sales were flat during the period at Rs 1.48 trillion.
 
Some analysts, however, have cast doubt on the ‘optimistic’ Street assumption regarding higher margins for steel makers in FY22.
 
“Financial gains to large steel makers in FY21 largely came from higher metal prices, rather than greater volumes. However, price-led earnings growth looks unsustainable given the lacklustre demand growth in India and the fading away of fiscal and monetary stimulus in developed countries and China,” says Dhananjay Sinha, MD and chief strategist of JM Finance Institutional Equity.
 
He says the industry needs both firm prices and volume growth for a secular growth in earnings and stock prices, as in the 2004-2008 period. This is now missing. “Higher exports helped counter lacklustre domestic demand for large steel makers, especially in the closing quarter of last financial year and the first quarter of this one,” said CRISIL analysts in their latest report.
 
Tata Steel’s global steel production was down 7 per cent in FY21, while deliveries were down 1 per cent. 
 
According to Sinha, domestic steel demand has grown at a lacklustre 2.5 per cent per annum over the last five years, and there have been few triggers to spur demand. Even globally, steel demand has shown low single-digit growth, which raises the question mark over sustainability of the rally in steel prices, and on the Street’s assumption of higher margins and profitability for steel makers. This could throw some challenges for the Tata Steel management in FY22.