JPMorgan: Sell JSW target Rs 980

• Increasing steel prices should aid H2FY11, but Sept quarter to be
materially weaker: We expect EBITDA/MT to decline to $135/MT in
Q2FY11 from $187/MT in Q1 on the back of lower steel prices (we expect ASP
to decline by Rs2500/MT q/q) and cost increase (mainly coking coal). While
admittedly, the forward-looking environment is relatively better with steel
prices increasing (company has increased prices by $22/MT in Sept), and we
expect further price increases in Oct (given the increasing CIS steel prices), we
do not expect raw material costs to decline substantially. We expect FY11
EBITDA/MT at $173/MT.
• Can capacity growth translate into profitable volume growth?: While JSW
has strong capacity growth, we believe increasing overcapacity in flat steel in
the domestic market, combined with likely elevated imports, means Indian steel
companies would not find it easy to push volumes, particularly in flat steel.
JPM sales volume estimate for FY12 at 8MT is lower than consensus
expectations. We expect premiums (which include freight, import duty and
ready availability premiums) for domestic HRC to continue to reduce across the
board for the Indian steel sector, driven by increasing domestic capacity and
imports.
• Steel environment- Mini cycles means profitability for non-integrated
companies remains range-bound: Removal of Chinese export rebates has
resulted in steel prices increasing by $70-80/MT from the lows of the year of
$550/MT. However, the power cuts in China have so far not pushed up prices
materially. We believe for non-integrated steel companies, we are unlikely to
see sharp margin expansion for the time being.
• Key near-term events include: Start of iron ore mining at Chile and coking
coal mining in the US. JSW has seen some delays and now expects the same to
start over the course of the next three months. We believe the company remains
committed to the steel project at Bengal and we wait for more clarity on the
possible funding structure of the same (does the company go for a subsidiary
structure, or via the parent company itself remains to be seen). We do not expect
any material improvement in the US pipe operations in the near term. More
clarity on the proposed mining bill would also be key to JSW, as the company
currently does not have large captive mining operations.
• Balance sheet improved post stake sale, however, valuations at 6.8x FY12E
($186/MT EBITDA) expensive: JSW remains among the more expensive steel
stocks globally. Valuations at 9.2x FY11E and 6.8x FY12E EV/EBITDA are
among the more expensive globally. We remain UW with a June-11 PT of
Rs980.