In last nine years, SAIL's saleable steel volumes may have remained in the region of 11 million tonne, but all this is set to change. With its Rs 70,000 crore expansion plan under implementation, the company’s capacity is expected to nearly double to 24.6 million tonne. The expansion projects are expected to get commissioned in phases starting the fourth quarter of 2012 and complete by 2014. In this context, the next two years will be crucial as the benefits of this will be reflected both in the revenues and profitability.
Though the market is worried with regard to moderation in domestic steel demand, global steel prices and cost pressures in the near term, SAIL’s share price has also corrected almost 55% in last one year pricing most of these concerns.
At Rs 88.15, the stock is trading at 3.7 times (adjusted for cash of Rs 15,600 crore September 2011, capital work-in-progress and debt) its FY13 estimated earnings and offers a dividend yield of 3%. Even on a replacement-value method, the stock looks attractive. For instance, its ongoing 11 million tonne integrated expansion is estimated to cost Rs 35,000 crore (roughly Rs 3,180 crore), while at current prices, the market is valuing its existing 13.6 million tonne integrated capacity at just Rs 19,800 crore (excluding cash balance). Investors with a long-term perspective may consider the stock.
Improving visibility
India’s largest steel manufacturer, SAIL has benefited from the rising domestic steel demand. In light of the country’s long-term prospects, the growth opportunity for companies like SAIL is immense. "SAIL is currently in the midst of its expansion plan. This will position the company to take advantage of estimated 10% growth in annual domestic consumption," says Kunal Motishaw, analyst at Alchemy Research, in his report on the company.
For SAIL, lack of new capacities has been the biggest hurdle as it has been operating its plant at more than 100% capacity utilisation. In the current year as well, the volumes are expected to remain in the region of 11.5-12 million tonne. However, things will change 2012-13 onwards as new capacities will become operational. By the end of 2013-14, the company is expected to clock volumes of about 17-18 million tonnes, which is almost 60% higher than FY11 volumes. Even assuming 6 million tonne of additional capacity (and FY11 realisations), it will mean an addition of Rs 22,000 crore to the company’s revenue over the next two years.
Boost from value-added products
Higher capacities should take care of revenue visibility, which could get a boost in case realisations also improve. The latter could improve if there is an increase in steel prices globally in addition to the success of the company's plans to focus on the value added products. For instance, the ongoing expansion includes modernisation of existing facilities and investment in new capacities, which will have better product mix. It recently entered into a joint venture with Posco (South Korea’s third largest steel producer) for setting up a 3 million tonne steel plant in Bokaro, which will provide backward integration and manufacture value added steel products. The company also finalised a joint venture company with Kobe Steel (a large Japanese steel producer) for making iron ore nuggets, which is again a step towards making value added products. With these measures the company aims to take the proportion of value added products from the present 39% to 50-55% over the next 2-3 years, targeting the automobile and white goods industries.
Even if the company is able to push its realisation up by Rs 1,500 per tonne on the expected volumes that will add about Rs 2,000 crore to its annual operating profits. This is possible given the current realisations of SAIL at an average of about Rs 36,680 per tonne compared to Tata Steel's realisations at Rs 42,000 per tonne and Rs 38,000 per tonne in the case of JSW Steel, which have large exposure to value added products. That apart the company is also working towards bringing down its employee cost. Its employee cost per tonne is over 6 times higher compared to JSW Steel and twice compared to Tata Steel. While this cost will look more reasonable on an expanded capacity, the company is also looking at a possible VRS to rationalise such costs. Meanwhile, given that SAIL imports a large chunk of its coal requirements, the recent fall of 10-15% in prices provides some relief.
Overall, the benefits from higher share of value added products, cost reduction and economies of scale will be felt over the next two years on the margins and return on equity, which will improve significantly. However, the key monitorable or risk is the coal prices as the company still remains dependent on the imports and secondly, the trend in steel prices.