Tata Steel --Not cheap enough; consensus estimates for FY12 have downside ::, Credit Suisse,

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● After a five-year period where demand grew at a strong 14%
CAGR we fear medium-term growth outlook is now in single digits,
and the weakness seen lately is not just a soft patch. Most
demand segments, especially, infrastructure are hitting a plateau.
● The significant capacity addition in India (34% of FY11 production
in two years) will thus be difficult to absorb locally. Exports likely to
pick-up but will have US$25-30/t lower margins (no import duty),
and India turning net exporter will also erode domestic margins.
● Further, we are likely to see a growing disconnect between
investors and management on greenfield expansions: these erode
value. Continuing high capex at Tata is thus a concern. Tata’s
reported FY11 European EBITDA/t was boosted by ~$15 due to
carbon credits: our estimates are not as pessimistic as they seem.
● Tata Steel has rarely been cheaper on P/B in the last decade.
However, the industry itself has changed dramatically (Fig 1):
RoCEs are down sharply. With further downside to consensus,
and a steel value chain unwind on, we don’t see a trading
opportunity yet too. We cut our EPS; and target price from Rs525
to Rs500, and maintain Underperform.
Our sector view is detailed in Still not cheap enough; significant
compression in RoCEs.
● Indian steel market slowing: After a five-year period where
demand grew at a strong 14% CAGR we fear medium-term
growth outlook is now in single digits, and the weakness seen
lately is not just a soft patch. After seeing rapid acceleration most
infrastructure segments are hitting a plateau: e.g., power capacity
addition of 20 GW/year now adds zero to steel demand. Industrial
capex is also slowing, hurting demand for capital goods.
● India turning net exporter to hurt margins: The significant
capacity addition in India (34% of FY11 production in two years)
will thus be difficult to absorb. Exports are possible given the low
cost structures in India, but without the 5% import duty, EBITDA
will be US$25-30/t lower. Worse, even domestic margins would
lose duty protection if India is no longer a net importer. Lastly, we
are likely to see a growing disconnect between investors and
management on Greenfield expansions: these will erode value.
● Cheap, but not cheap enough: The stocks have fallen and on
P/B they have rarely been cheaper in the last decade. However,
the industry itself has changed dramatically: RoCEs are down
sharply as the transition of raw material contracts to
quarterly/monthly from annual has shrunk smelting margins and
added to working capital requirements. They are thus not value
investments yet. With further downside to consensus, and a steel
value chain unwind on, we don’t see a trading opportunity yet too.


Our estimates for Tata Europe are not unreasonably low
For Tata Steel Europe, other operating income of US$200 mn in FY11
boosted reported EBITDA/t by US$15, a large part of it was due to
carbon credit sales which would be non-recurring. Our numbers are
therefore not as pessimistic as they may seem. We think consensus
numbers are at risk.


We cut or FY12/13 estimates by 7% and reduce our target price to
Rs500. With 16% downside to current market price, we maintain our
UNDERPERFORM rating