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ROEs of Indian metals companies reflect several sweeping changes
seen over the past eight years—the boom and bust in the global
commodity cycle, significant domestic expansions by Indian metals
companies, large foreign acquisitions changing the margin and
leverage profiles of erstwhile cash-cows, and a series of equity
dilutions to control leverage. The sum total of these factors has been
a steady deterioration in the sector’s ROEs, from above 30% in
FY04-05 to 15% currently. Note that there are distortions such as
Hindustan Zinc (whose business fundamentals have remained fairly
robust, but lack of avenues for deployment of cash has resulted in a
ballooning of the equity base and a depression in ROE) and Tata
Steel (large losses in FY10).
Margins of the largely pure-play and integrated Indian metals
companies of the mid 2000s peaked at various times prior to the
meltdown in 2008. A revival in the steel cycle in 2003 saw margins
of Indian steel-makers following global trends and moving upward
over FY04-05. Non-ferrous majors’ margins peaked in FY06-07 as
LME prices touched new highs. Two large foreign acquisitions—the
non-integrated low-margin European steel-maker Corus by Tata
Steel, and that of Novelis’s convertor business by Hindalco—saw
EBITDA margins of these companies halve in FY08. Domestic
expansions by several metals companies also reduced their rawmaterial
integration, pushing costs upward. This was further
exacerbated by increasing energy costs and wage inflation on public
sector pay revisions. This has eaten away some of the margin gains
from the rebound in metal prices following the recession. Going
forward, we expect Indian metals companies’ margins to remain
more or less unchanged, given the limited upside to global metals
prices.
The flurry of expansion projects and super-sized foreign acquisitions
have had an impact on the balance sheets of Indian metals
companies, with leverage of several companies shooting up from
0.5-0.7x to more than 2x over FY04-11. Gross debt on the balance
sheets of metals companies has gone up by nearly 4x over this
period, with the debt uptake being skewed towards a few players.
This has outstripped the 3x expansion in EBITDA over this period,
indicating that a larger proportion of EBITDA was going towards
servicing interest costs.
Most of the Indian metals companies are undertaking significant
expansion, and this has reflected in the 9pps increase in the
proportion of CWIP in overall assets over the last three years. This
will remain a drag on asset turnover and return ratios for the next
two years, till expansion projects start bearing fruit. On the positive
side, equity dilutions to pare off debt have seen their peak, and we
should not see any major dilutions in the near term. On the whole,
we see ROEs of metals companies remaining flat over the medium
term.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
ROEs of Indian metals companies reflect several sweeping changes
seen over the past eight years—the boom and bust in the global
commodity cycle, significant domestic expansions by Indian metals
companies, large foreign acquisitions changing the margin and
leverage profiles of erstwhile cash-cows, and a series of equity
dilutions to control leverage. The sum total of these factors has been
a steady deterioration in the sector’s ROEs, from above 30% in
FY04-05 to 15% currently. Note that there are distortions such as
Hindustan Zinc (whose business fundamentals have remained fairly
robust, but lack of avenues for deployment of cash has resulted in a
ballooning of the equity base and a depression in ROE) and Tata
Steel (large losses in FY10).
Margins of the largely pure-play and integrated Indian metals
companies of the mid 2000s peaked at various times prior to the
meltdown in 2008. A revival in the steel cycle in 2003 saw margins
of Indian steel-makers following global trends and moving upward
over FY04-05. Non-ferrous majors’ margins peaked in FY06-07 as
LME prices touched new highs. Two large foreign acquisitions—the
non-integrated low-margin European steel-maker Corus by Tata
Steel, and that of Novelis’s convertor business by Hindalco—saw
EBITDA margins of these companies halve in FY08. Domestic
expansions by several metals companies also reduced their rawmaterial
integration, pushing costs upward. This was further
exacerbated by increasing energy costs and wage inflation on public
sector pay revisions. This has eaten away some of the margin gains
from the rebound in metal prices following the recession. Going
forward, we expect Indian metals companies’ margins to remain
more or less unchanged, given the limited upside to global metals
prices.
The flurry of expansion projects and super-sized foreign acquisitions
have had an impact on the balance sheets of Indian metals
companies, with leverage of several companies shooting up from
0.5-0.7x to more than 2x over FY04-11. Gross debt on the balance
sheets of metals companies has gone up by nearly 4x over this
period, with the debt uptake being skewed towards a few players.
This has outstripped the 3x expansion in EBITDA over this period,
indicating that a larger proportion of EBITDA was going towards
servicing interest costs.
Most of the Indian metals companies are undertaking significant
expansion, and this has reflected in the 9pps increase in the
proportion of CWIP in overall assets over the last three years. This
will remain a drag on asset turnover and return ratios for the next
two years, till expansion projects start bearing fruit. On the positive
side, equity dilutions to pare off debt have seen their peak, and we
should not see any major dilutions in the near term. On the whole,
we see ROEs of metals companies remaining flat over the medium
term.
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