While commissioning of expansion projects will boost growth rates FY13 onwards, stock valuations are also attractive.
In the last nine years, Steel Authority of India Ltd’s (SAIL’s) saleable steel volumes may have remained in the region of 11 million tonnes (mt), but all this is set to change. With its Rs 70,000-crore expansion plan under implementation, the state-run company’s capacity is expected to nearly double to 24.6 mt. The expansion projects are expected to get commissioned in phases, starting from the fourth quarter of 2012. All projects will be commissioned by 2014. In this context, the next two years will be crucial, as the benefits of this will be reflected both in revenue and profitability.
Though the market is worried about a moderation in domestic steel demand, global prices and cost pressures in the near term, SAIL’s share price has corrected 55 per cent in the past year, pricing most of these concerns.
| GAINING STRENGTH | |||
| In Rs crore | FY11 | FY12E | FY13E |
| Sales volumes (mln tonne) | 11.3 | 12.0 | 13.4 |
| Blended realisations * | 34,268 | 38,991 | 37,615 |
| Net revenue | 43,418 | 47,346 | 50,981 |
| Net profit | 4,705 | 3,890 | 4,938 |
| Ebitda (%) | 17.3 | 12.7 | 17.0 |
| EPS (Rs) | 11.4 | 9.4 | 12.0 |
| P/E (x) | 7.5 | 9.0 | 7.1 |
| ROE (%) | 12.7 | 9.8 | 11.4 |
| E: Estimates * Rs/tonne ROE is Return on Equity Source: Alchemy Share & Stock Brokers | |||
At Rs 88.15, the stock is trading at a price-to-earnings (PE) 3.7 times (adjusted for cash of Rs 15,600 crore in September, capital work-in-progress and debt) its 2012-13 estimated earnings and offers a dividend yield of three per cent. Even on an equity-based replacement-value method, the stock looks attractive. For instance, at current prices, the market is valuing SAIL’s existing 13.6-mt integrated capacity at just Rs 21,000 crore (net equity value; adjusted for cash balance, work-in-progress and debt), compared to Rs 35,000 crore (considering debt-equity of 1:1) for its new 11-mt capacity. Investors with a long-term perspective may consider the stock.
Improving visibility
India’s largest steel manufacturer, SAIL has benefited from the rising domestic demand. In light of the country’s long-term prospects, the growth opportunity for companies like SAIL is immense. “SAIL is in the midst of its expansion plan. This will position the company to take advantage of the estimated 10 per cent growth in annual domestic consumption,” said Kunal Motishaw, analyst at Alchemy Research, in his report on the company.
For SAIL, lack of new capacities has been the biggest hurdle, as it has been operating its plant at over 100 per cent capacity utilisation. This year, volumes are expected to remain in the region of 11.5-12 mt. However, things will change 2012-13 onwards, as new capacities will become operational. By the end of 2013-14, the company is expected to clock volumes of 17-18 mt, almost 60 per cent higher than 2010-11 volumes. Even six mt of additional capacity (and 2010-11 realisations) will mean an addition of Rs 22,000 crore to the company’s revenue in two years.
Value-added products
Higher capacities should take care of revenue visibility, which could get a boost if realisations also improve. The latter could improve, if there is an increase in steel prices globally, in addition to the success of the company’s plans to focus on value-added products. For instance, the ongoing expansion includes modernisation of existing facilities and investment in new capacities, which will have a better product mix. It recently entered into a joint venture (JV) with Posco, South Korea’s third-largest steel producer, for setting up a three-mt plant in Bokaro, which will provide backward integration and manufacture value-added products. The company also finalised a JV company with Japan’s Kobe Steel to make iron ore nuggets, again a step towards making value-added products. With these measures, the company aims to take the proportion of value-added products to 50-55 per cent, from 39 per cent, over the next two-three years, targeting the automobile and white goods industries.
Even if the company is able to push its realisation up by Rs 1,500 per tonne on the expected volumes, that will add Rs 2,000 crore to its annual operating profits. This is possible given the current realisations of SAIL at an average of Rs 36,680 per tonne, compared to Tata Steel’s realisations at Rs 42,000 and JSW Steel’s Rs 38,000, which have large exposure to value-added products.
That apart, the company is also working towards bringing down its employee cost. Its employee cost per tonne is over six times higher than JSW Steel’s and twice of Tata Steel’s. While this cost will look more reasonable on an expanded capacity, the company is also looking at a possible voluntary retirement scheme to rationalise such costs. Meanwhile, given that SAIL imports a large chunk of its coal requirements, the recent fall of 10-15 per cent in prices gives some relief.
Overall, benefits from a higher share of value-added products, cost reduction and economies of scale will be felt over the next two years on the company’s margins and return on equity, expected to improve significantly. On the flip side, the key monitorable risk is the coal price, as the company still remains dependent on imports. Second, the trend in steel prices.
