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Tata Steel (TATA)
Metals & Mining
Solid operational performance. Tata Steel’s standalone and consolidated EBITDA was
1.7% and 7% ahead of our estimate. However, below EBITDA line items such as high
tax provision and loss on impairment of assets led to net income miss. Corus’
performance, on expected lines, was extremely weak. Tata Steel can deliver significant
earnings growth and stock performance over the next two years from cost-push based
steel price increase, growth from India brownfield expansion and overseas raw material
projects. We reinstate coverage with a BUY rating and end-FY2012E TP of Rs710.
Indian operations shine with unexpected spike in steel realization
Tata Steel reported 3QFY11 standalone EBITDA of Rs28.2 bn (+30.8% yoy, +7.3% qoq), 1.7%
ahead of our estimate. Unexpected 8.8% qoq increase in realization to US$993/ ton (our estimate
was US$958/ ton) drove most of the surprise at the EBITDA level. Such a spike in realizations was
against the industry trend; Tata Steel management attributed this to qoq increase in long product
prices (Rs29,150/ ton, +6% qoq); in addition other steel products may have also contributed. Flat
product realizations declined sequentially. EBITDA/ ton increased to US$372, up 12.2% qoq. Net
income of Rs15.1 bn (+27% yoy, -26.7% qoq) missed our estimate on higher tax payout.
Consolidated net income missed our estimate, operational performance was strong
Tata Steel reported consolidated EBITDA of Rs34.2 bn (-6.7% qoq, +16.1% yoy). However, net
income of Rs8.3 bn (adjusted for extraordinary items) missed our and Street estimates. We
attribute the miss to two factors (1) Rs1.2 bn impairment charge in other income line after a fire in
Imjuiden plant destroyed a few facilities and (2) high effective tax rate of 39.7%.
Corus performance weak but on expected lines
On expected lines Corus reported a weak quarter with EBITDA of US$88 mn and EBITDA/ ton of
US$25 (-55% qoq, -33% yoy), though still better than our estimate. Lag impact of increase in raw
material prices (+9% qoq) on the P&L hurt profitability on a sequential basis. Performance was
helped by carbon credit sales of US$54 mn which in turn was partly offset by US$31 mn
impairment charge on certain Imjuiden assets. Tata indicates that carbon credit sales may recur as
long as plant capacity utilization is above 75%. Expect Corus profitability to improve in 4Q.
Maintain BUY on attractive valuations
Tata Steel trades at 5.9X FY2011E and 5.1X FY2012E EBITDA (adjusting for CWIP) and 8.8X
FY2012E earnings. Tata Steel’s brownfield expansion and investments in raw material projects can
deliver significant value in the medium term. Reinitiate with a BUY rating and end-FY2012E target
price of Rs710. We assign 6.5X to Tata Steel India’s FY2012E EBITDA and 5.5X to Corus.
Debt increases by 11% to US$13.2 bn
Tata Steel’s consolidated gross debt and net debt increased by ~US$1.1 bn qoq to US$13.2
bn and US$11.8 bn, respectively. The following factors may have led to the increase (1)
increase in working capital requirements in Europe due to increase in raw material prices, (2)
US$250 mn increase due to fluctuation in various foreign currency debt of Tata Steel India.
Tata Steel indicates that all its FX debt is fully hedged and (3) gross block which increased by
about a US$1 bn. Note that Tata Steel has aggressive capex plans of about US$2.3 bn for
FY2012E and US$2.1 bn for FY2013E.
Update on strategic projects
DSO and New Millennium Corp. Tata Steel and New Millennium Corporation (NML) are in
exclusive talks with respect to development of two of the latter’s iron ore projects –
LabMag and KeMag which cumulatively have reserves of up to 5.6 bn tons. This
exclusivity agreement will expire on Feb 28, 2011. As far as the Direct Shipping Ore
project is concerned, environmental approval for the first phase has been obtained and
commercial iron ore production will likely commence by 2QCY12E.
Orissa project. Ground work to start construction for the Orissa project is already
underway. Tata Steel has secured the project site with boundary wall and fence and
started piling, besides foundation at the sinter plant has commenced. Construction of
other utilities is under progress. Initial phase of the Orissa plant will start with steelmaking
capacity of 3 mtpa.
Few changes to our estimates
We build in our economists’ revised Re/US$ forecast of Rs45.6, Rs45.5 and Rs44 for
FY2011E, FY2012E and FY2013E, respectively, from Rs45.5, Rs44.5 and Rs44.1 earlier. We
have also fine tuned our HRC price assumption for India business over the next two years
and build in higher raw material prices. We also model recent issuance of 57 mn share at
Rs610 from its follow-on public offering. All factors results in 6.5% and 3.9% reduction in
our FY2012E and FY2013E EPS. Our EBITDA estimates remain largely unchanged. Exhibit 1
details the key changes to our estimate. BUY with FY2012E fair value of Rs710/ share.
We value standalone India operations of Tata Steel at 6.5X FY2012E EBITDA. This is higher
than historical levels, but we believe it is fair as it partly captures volume growth potential
for the India business. Put slightly differently, FY2012E EBITDA does not capture brownfield
expansion while the debt taken for this expansion is fully captured in the EV; assigning
higher multiple corrects this anomaly. We assign 5.5X to Corus and far-east operations, fair
noting lower profitability and lack of raw material security. We value listed investments at a
20% discount to the market price.
Our target price captures value from MOU signed by Corus for sale of Teeside Cast Products
(TCP) plant to SSI, Malaysia for US$500 mn; this adds Rs24 to fair value. However, our fair
value does not capture any upside from New Millennium Corp (Canadian iron ore project) or
Riversdale Mining investment. Note that Rio Tinto recently extended an open offer to
acquire Riversdale Mining at an equity value of US$3.9 bn. Tata Steel’s stake in Riversdale is
worth Rs40/share at Rio’s acquisition offer price.
Following factors underpin our BUY rating on Tata Steel
Cost-push based steel price increase will benefit Tata Steel India. We expect steel
prices to move up led by (1) a cost-push increase—iron ore prices have increased by 20%
in the past three months to US$187/ ton China CFR on modest revival in demand
combined with persistent supply issues and (2) seasonal increase in demand in 1HCY11E.
This should benefit integrated players such as Tata Steel, in our view. A US$10/ ton
increase in iron ore prices benefits earnings by 5%. We assume that Corus with a
converter business model will earn steady conversion margin and will have the ability to
pass on raw material price increase to consumers.
Commissioning of value-accretive India capacity expansion. Tata Steel India is on
track to commission 2.9 mtpa steel-making capacity expansion in Jamshedpur by end-
2011. This will reflect in strong 27% volume growth in FY2013E. Note that the expanded
capacity will be self-sufficient on iron ore and generate profitability in excess of US$300/
ton. More important, EBITDA contribution from Indian operations may increase to 70%
of the overall EBITDA by FY2013E from less than 50% in FY2008-09. In our view, this will
significantly de-risk earnings.
Benefits from overseas raw material projects may surprise on the upside.
Investments in raw material security, i.e. Riversdale Mining and New Millennium (iron ore
project in Canada) can potentially add US$300 mn to annual EBITDA. In any case, Tata
Steel’s holding is worth Rs40/share, based on Rio’s bid price for Riversdale. This value is
not captured in our target price and can be a positive catalyst.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Tata Steel (TATA)
Metals & Mining
Solid operational performance. Tata Steel’s standalone and consolidated EBITDA was
1.7% and 7% ahead of our estimate. However, below EBITDA line items such as high
tax provision and loss on impairment of assets led to net income miss. Corus’
performance, on expected lines, was extremely weak. Tata Steel can deliver significant
earnings growth and stock performance over the next two years from cost-push based
steel price increase, growth from India brownfield expansion and overseas raw material
projects. We reinstate coverage with a BUY rating and end-FY2012E TP of Rs710.
Indian operations shine with unexpected spike in steel realization
Tata Steel reported 3QFY11 standalone EBITDA of Rs28.2 bn (+30.8% yoy, +7.3% qoq), 1.7%
ahead of our estimate. Unexpected 8.8% qoq increase in realization to US$993/ ton (our estimate
was US$958/ ton) drove most of the surprise at the EBITDA level. Such a spike in realizations was
against the industry trend; Tata Steel management attributed this to qoq increase in long product
prices (Rs29,150/ ton, +6% qoq); in addition other steel products may have also contributed. Flat
product realizations declined sequentially. EBITDA/ ton increased to US$372, up 12.2% qoq. Net
income of Rs15.1 bn (+27% yoy, -26.7% qoq) missed our estimate on higher tax payout.
Consolidated net income missed our estimate, operational performance was strong
Tata Steel reported consolidated EBITDA of Rs34.2 bn (-6.7% qoq, +16.1% yoy). However, net
income of Rs8.3 bn (adjusted for extraordinary items) missed our and Street estimates. We
attribute the miss to two factors (1) Rs1.2 bn impairment charge in other income line after a fire in
Imjuiden plant destroyed a few facilities and (2) high effective tax rate of 39.7%.
Corus performance weak but on expected lines
On expected lines Corus reported a weak quarter with EBITDA of US$88 mn and EBITDA/ ton of
US$25 (-55% qoq, -33% yoy), though still better than our estimate. Lag impact of increase in raw
material prices (+9% qoq) on the P&L hurt profitability on a sequential basis. Performance was
helped by carbon credit sales of US$54 mn which in turn was partly offset by US$31 mn
impairment charge on certain Imjuiden assets. Tata indicates that carbon credit sales may recur as
long as plant capacity utilization is above 75%. Expect Corus profitability to improve in 4Q.
Maintain BUY on attractive valuations
Tata Steel trades at 5.9X FY2011E and 5.1X FY2012E EBITDA (adjusting for CWIP) and 8.8X
FY2012E earnings. Tata Steel’s brownfield expansion and investments in raw material projects can
deliver significant value in the medium term. Reinitiate with a BUY rating and end-FY2012E target
price of Rs710. We assign 6.5X to Tata Steel India’s FY2012E EBITDA and 5.5X to Corus.
Debt increases by 11% to US$13.2 bn
Tata Steel’s consolidated gross debt and net debt increased by ~US$1.1 bn qoq to US$13.2
bn and US$11.8 bn, respectively. The following factors may have led to the increase (1)
increase in working capital requirements in Europe due to increase in raw material prices, (2)
US$250 mn increase due to fluctuation in various foreign currency debt of Tata Steel India.
Tata Steel indicates that all its FX debt is fully hedged and (3) gross block which increased by
about a US$1 bn. Note that Tata Steel has aggressive capex plans of about US$2.3 bn for
FY2012E and US$2.1 bn for FY2013E.
Update on strategic projects
DSO and New Millennium Corp. Tata Steel and New Millennium Corporation (NML) are in
exclusive talks with respect to development of two of the latter’s iron ore projects –
LabMag and KeMag which cumulatively have reserves of up to 5.6 bn tons. This
exclusivity agreement will expire on Feb 28, 2011. As far as the Direct Shipping Ore
project is concerned, environmental approval for the first phase has been obtained and
commercial iron ore production will likely commence by 2QCY12E.
Orissa project. Ground work to start construction for the Orissa project is already
underway. Tata Steel has secured the project site with boundary wall and fence and
started piling, besides foundation at the sinter plant has commenced. Construction of
other utilities is under progress. Initial phase of the Orissa plant will start with steelmaking
capacity of 3 mtpa.
Few changes to our estimates
We build in our economists’ revised Re/US$ forecast of Rs45.6, Rs45.5 and Rs44 for
FY2011E, FY2012E and FY2013E, respectively, from Rs45.5, Rs44.5 and Rs44.1 earlier. We
have also fine tuned our HRC price assumption for India business over the next two years
and build in higher raw material prices. We also model recent issuance of 57 mn share at
Rs610 from its follow-on public offering. All factors results in 6.5% and 3.9% reduction in
our FY2012E and FY2013E EPS. Our EBITDA estimates remain largely unchanged. Exhibit 1
details the key changes to our estimate. BUY with FY2012E fair value of Rs710/ share.
We value standalone India operations of Tata Steel at 6.5X FY2012E EBITDA. This is higher
than historical levels, but we believe it is fair as it partly captures volume growth potential
for the India business. Put slightly differently, FY2012E EBITDA does not capture brownfield
expansion while the debt taken for this expansion is fully captured in the EV; assigning
higher multiple corrects this anomaly. We assign 5.5X to Corus and far-east operations, fair
noting lower profitability and lack of raw material security. We value listed investments at a
20% discount to the market price.
Our target price captures value from MOU signed by Corus for sale of Teeside Cast Products
(TCP) plant to SSI, Malaysia for US$500 mn; this adds Rs24 to fair value. However, our fair
value does not capture any upside from New Millennium Corp (Canadian iron ore project) or
Riversdale Mining investment. Note that Rio Tinto recently extended an open offer to
acquire Riversdale Mining at an equity value of US$3.9 bn. Tata Steel’s stake in Riversdale is
worth Rs40/share at Rio’s acquisition offer price.
Following factors underpin our BUY rating on Tata Steel
Cost-push based steel price increase will benefit Tata Steel India. We expect steel
prices to move up led by (1) a cost-push increase—iron ore prices have increased by 20%
in the past three months to US$187/ ton China CFR on modest revival in demand
combined with persistent supply issues and (2) seasonal increase in demand in 1HCY11E.
This should benefit integrated players such as Tata Steel, in our view. A US$10/ ton
increase in iron ore prices benefits earnings by 5%. We assume that Corus with a
converter business model will earn steady conversion margin and will have the ability to
pass on raw material price increase to consumers.
Commissioning of value-accretive India capacity expansion. Tata Steel India is on
track to commission 2.9 mtpa steel-making capacity expansion in Jamshedpur by end-
2011. This will reflect in strong 27% volume growth in FY2013E. Note that the expanded
capacity will be self-sufficient on iron ore and generate profitability in excess of US$300/
ton. More important, EBITDA contribution from Indian operations may increase to 70%
of the overall EBITDA by FY2013E from less than 50% in FY2008-09. In our view, this will
significantly de-risk earnings.
Benefits from overseas raw material projects may surprise on the upside.
Investments in raw material security, i.e. Riversdale Mining and New Millennium (iron ore
project in Canada) can potentially add US$300 mn to annual EBITDA. In any case, Tata
Steel’s holding is worth Rs40/share, based on Rio’s bid price for Riversdale. This value is
not captured in our target price and can be a positive catalyst.
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