NMDC -Strong but not enough:: Macquarie

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NMDC
Strong but not enough
Event
 Below expectation: NMDC reported its 2QFY11 earnings which were lower
than our estimate, due to lower sales volume impacted by a ban on
transportation in Karnataka as well as the monsoon season. Given an
overhang of 26% tax on mining earnings and difficulty in increasing volume,
the risks are to the downside. We have marginally cut our earnings and target
price to Rs241 from Rs255. Maintain Underperform.
Impact
 Strong 2QFY11 results helped by pricing: NMDC reported net sales at
Rs24.46bn, 14% below our estimate of Rs28.5bn, down 2.3% QoQ, though
up 77% YoY due to strength in iron ore prices. EBITDA at Rs18.4bn was up
81% YoY and down 10% QoQ. PAT at Rs13.8bn is 20% below estimate,
down 8% QoQ and up 79% YoY.
 Reducing earnings estimates: We have reduced earnings for NMDC
between 5-13% respectively for FY11-13, as we believe that NMDC is lagging
behind in volume due to transportation issues. Also, NMDC has been a bit
slow in raising prices and hence lags during rising price scenarios.
 Costs have shifted up a notch: NMDC saw an increase of $10/t in its costs
from $15/t last quarter to $25/t in 2QFY11. Though these costs were impacted
by monsoons, a shift of royalty to ad valorem basis and an increase in freight
by railways have also impacted the cost base. We expect NMDC cost to be in
the range of $20/t on a normalized basis, an increase from $18/t reported last
year.
 26% tax an overhang: The new mining bill talks about a 26% tax on mining
profits to be distributed to traditional land owners. This directly affects NMDC
and could erase 20% of its NAV; thus, it is a key overhang on the stock.
Earnings and target price revision
 We are reducing our earnings estimates by -13%,-5% and -4% in FY11, FY12
and FY13, respectively and have reduced TP to Rs241.
Price catalyst
 12-month price target: Rs241.00 based on a Sum of Parts methodology.
 Catalyst: Near term weakness in iron ore prices
Action and recommendation
 Maintain Underperform: The company is currently trading at 17x on FY11E
on cyclically peak iron ore prices. The recent issue of transport permits in
Karnataka and Naxal has slowed down new mine ramp up, diversification into
steel making and reduced chances of acquiring new resources as competition
from other steel mills increase remain the biggest risks. We continue to
recommend exposure to JSPL (JSP IN, Outperform, TP: Rs962, CMP:
Rs692) as a better way to play resources.