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The JSW Steel scrip has been among the top gainers in the steel pack, having gained 64 per cent from its 52-week intra-day low of Rs 451.50 on August 19 to Rs 743 currently. While the overall negative market sentiment had taken the stock to its lows, the bounce-back has been phenomenal, too, as the Street realised the concerns were overdone and global indicators were positive. Stocks of other steel makers like Tata Steel, SAIL and JSPL have gained 30-50 per cent. But, the gains for JSW were also driven by higher output and improving business dynamics.
For instance, JSW produced 985,000 tonnes of steel in August (up 29 per cent year-on-year) despite challenges on the iron-ore availability front. Though India’s steel consumption was up just 0.8 per cent in August, JSW fared better because of its ability to export its produce. While the rupee appreciation of around 10 per cent since its all-time low on August 28 may have taken away some benefits on realisation front, JSW also gains as a large portion of its dollar debt is un-hedged. Giriraj Daga at Nirmal Bang says for every rupee change in the dollar value, the company’s financials (mark-to-market profit/loss) are impacted by about Rs 200 crore. Importantly, iron ore availability is expected to improve (and reflect positively on margins) as mining operations in Karnataka state gain momentum.
Not surprisingly, majority of analysts remain positive on the stock. Out of 13 analysts polled by Bloomberg in September, six have Buy, six Hold and only one has a Sell rating, with consensus target price of Rs 715. Deutsche Bank, JP Morgan and Anand Rathi, though, have upgraded price targets to Rs 800-plus, while Macquarie is the latest to recommend with a price target of Rs 800.
However, after a strong run up on the bourses, the stock is likely to see some resistance. Hence, investors with a medium-term perspective might consider it on correction.
Macro challenges
The overall macro situation has not improved significantly, as global and domestic demand for steel is still benign. Analysts are a bit cautious, with some expecting global prices to soften, as China’s steel inventory at mills and traders have reportedly started rising in September.
However, the downside for Indian steel makers may not be significant. Analysts at Axis Capital say, “We expect global prices to remain range-bound with a downward bias in the near term due to overproduction.
Domestic steel prices have improved by Rs 1,500-2,000 in September and should remain largely immune to any potential decline in global prices, as domestic prices are currently at a discount of $80-100 a tonne to landed prices.” If the recent uptick in Chinese and US economic data sustains, it should provide further comfort.
The challenges on the iron-ore procurement continue. “Capacity utilisation at the Vijayanagar plant was at around 80 per cent due to iron ore shortage caused by inordinate delays in opening category A & B mines even after the Supreme Court order in April to resume mining operations,” observed the company in a press release.
The company, to meet its production guidance and to fulfill the shortfall in iron-ore supply, is sourcing iron ore from outside of Karnataka. Abhisar Jain at Centrum Broking expects higher purchase of ore from other states and the seaborne market to increase iron ore cost further. He estimates blended iron ore cost of Rs 3,550 a tonne for FY14 with iron ore sourcing from outside Karnataka accounting for 20 per cent for Vijaynagar and 45 per cent for the consolidated operations (including JSW Ispat). While this may prove to be a stress in the short-term, the costs are peaking out. Also, with domestic prices up recently, it should cushion margins.
Analysts at JP Morgan observe that domestic cost pressures have peaked out, and from here iron ore availability should improve gradually allowing higher utilisations. The coke oven and pellet plant commissioning at the 3.3 million tonnes Dolvi units (acquired Ispat units) should lift margins closer to the standalone average of Rs 7,000 a tonne. Thus, the margins on consolidated basis should rise in FY15.
On a consolidated basis, analysts allay concerns on the increased dollar debt exposure post-merger with JSW Ispat (40 per cent debt exposure in dollar is un-hedged), given the company’s export focus, as well as the rupee’s recent appreciation. JSW is aiming to export three million tonnes of steel this year, which is worth about Rs 12,000 crore. Though some impact is not ruled out (mainly on un-hedged dollar loans), Abhisar Jain at Centrum feels this can limit upside for the stock.
With JSW’s on-going expansions completing in FY14, cash flows are expected to improve and lower stress on balance sheet from FY15 (net debt-equity ratio stood at 1.38 times at end June). Analysts at JP Morgan say completion of capex spending and improvement in Ebitda from current levels will increase free cash flow generation.
