Macquarie Research:: NMDC -Not capturing higher iron ore prices

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NMDC
Not capturing higher iron ore prices
Event
 3Q FY11 results in line: NMDC reported 3Q FY11 results that were in line
with our estimates. Iron ore prices have been rising in the global markets, and
NMDC has also announced an increase of 5 % in 4Q prices. However, given
an overhang of a 26% tax on mining earnings and increasing costs with a
discount to global pricing, downside risks remain. Maintain Underperform.

Impact
 Strong 3Q FY11 results, although pricing disappointed: NMDC reported
net sales at Rs26.6bn, up 65% YoY and 4% QoQ. However, the results saw a
decline in pricing during the quarter, at $92/t as compared with $102/t last
quarter, due to a higher proportion of fines sales. EBITDA, at Rs20.2bn, is up
87% YoY and down 2% QoQ. PAT, at Rs15.2bn, is up 77% YoY and 1%
QoQ.
 FY11 estimates on track – FY12 can see slippages in volume: With an
increase in price in 4Q, NMDC needs to sell 7.2mtpa at an EBITDA of $83/t to
meet our estimates for FY11. In FY12, we are building in a ramp-up in its
production to 29mt and pricing of $125/t. We believe that despite strong iron
ore prices, NMDC can see slippages in volume growth that can result in a
downside to FY12 numbers.
 Exuberance in global iron ore prices has moderate affect: NMDC’s pricing
formula dictates that it can pass only a 66% increase to its domestic
customers in case of a sharp increase in global prices. We believe that this
gap will continue to widen, as an increase in export duty of iron ore fines to
15%, if implemented, would put upward pressure on export prices, and NMDC
would be unable to increase prices in line.
 Costs continue to remain up: The company reported costs at $20/t,
although a decline from $25/t in 3Q11 but still higher than $17/t in 3Q FY10.
The cost base has seen a shift up as royalty and freight costs have increased.
We expect its cost to be at $20/t on normalized basis, as compared with $18/t
reported in FY10.
Earnings and target price revision
 No change.
Price catalyst
 12-month price target: Rs241.00 based on a Sum of Parts methodology.
 Catalyst: Continued dichotomy between global prices and domestic pricing.
Action and recommendation
Maintain Underperform: NMDC is currently trading at 11x on FY12E
earnings. The recent issue of transport permits in Karnataka and the Naxal
menace has slowed new mine ramp-up, diversification into steel making and
reduced chances of acquiring new resources as competition from other steel
mills remain the biggest risks. We continue to recommend exposure to Jindal
Steel and Power (JSP IN, Rs634.65, Outperform, TP: Rs962) as a better way
to play resources.