maintain our REDUCE rating on sesa goa says Kotak Sec,

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Realizations take a hit. Sesa’s 2QFY11 EBITDA of Rs3.0 bn (+98.7% yoy, -80.4%
qoq) was 19.8% lower than our estimate and impacted by (1) surprisingly lower-thanexpected
iron ore realization and (2) higher-than-expected inland transportation costs.
Net income of Rs3.8 bn was in line with our estimate and helped by tax write-back.
We will review our estimates post quarterly earnings call. Maintain REDUCE rating on
account of (1) our view on softening of iron ore prices; (2) regulatory uncertainties and
(3) diversion of cash flows into unrelated areas.


Operational results significantly lower than our estimate
2QFY11 EBITDA of Rs3.0 bn (+98.7% yoy, -80.4% qoq) was significantly lower than our estimate
of Rs3.8 bn. Iron ore realization of US$76/ ton (+49% yoy, -16.8% qoq) was lower than our
estimate of US$82/ ton. Increase in gap between realized prices and spot iron ore prices is
surprising given that Sesa derives higher proportion of revenues from better Fe grade Orissa and
Karnataka mines in the Sep quarter. Transportation cost of Rs1.7 bn was 44.6% higher than our
estimate, presumably on account of higher shipments from Orissa mines; on a per ton basis
transportation cost of US$18.5. Iron ore EBITDA was modest US$23/ ton, a significant decline
from US$59/ ton in 1QFY11.
Iron ore shipments of 2.0 mn tons (+24.7% yoy) was in line with our estimate. Net income of
Rs3.8 bn (+131.3% yoy) was in line with our estimate and helped by (1) MTM gain on FCCB of
Rs364 mn and (2) tax write-back leading to effective tax rate of 4.6% versus our expected 22.5%.
Potential change in regulations and unnecessary diversification will be a continued overhang
We believe that the following concerns will continue to weigh on Sesa’s stock performance
(1) imposition of ban on iron ore exports by the Karnataka Government. Near-term volumes may
be hit by this ban, while medium-term expansion plans may be impacted by lack of environment
clearances (Sesa has EC approval for iron ore mining up to 25 mn tons); (2) potential changes in
MMDR Act that may call for sharing of 26% of profit generated with the population displaced from
the mine and (3) unrelated and value-destructive move to acquire 20% in Cairn India. Not only
Sesa is overpaying for the asset, the move appears to be driven to fund group aspirations. Note
that total cash outflow for Sesa to acquire interest in Cairn India will range from US$2.88-3.29 bn.
We will review our earnings estimates post quarterly earnings call
We will seek clarifications on (1) reasons for weak operational performance especially realizations;
(2) EC status for mine expansion program; and (3) status on likely lifting of ban on iron ore exports
by the Karnataka Government. We maintain our REDUCE rating on the stock. Our target price of
Rs340 has further downside on incorporation of Cairn India financials.