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Tata Steel: Voluminous growth! - Views on News from Equitymaster
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Tata Steel: Voluminous growth!
Jan 31, 2007

Performance summary
Tata Steel, one of the most cost efficient producers of steel in the world, announced results for 3QFY07. On a consolidated basis, topline and bottomline have grown by 18.9% YoY and 27.3% YoY respectively. The standalone results were even more impressive as topline grew by 21% YoY and bottomline by 41% YoY.

Consolidated financial snapshot
(Rs m) 3QFY06 3QFY07 Change 9mFY06 9mFY07 Change
Net sales 50,237 59,712 18.9% 149,965 177,436 18.3%
Expenditure 35,301 40,807 15.6% 100,429 122,613 22.1%
Operating profit (EBITDA) 14,936 18,905 26.6% 49,537 54,823 10.7%
EBITDA margin 29.7% 31.7%   33.0% 30.9%  
Other income 587 1,011 72.3% 1,974 3,484 76.5%
Interest 479 962 101.0% 1,311 2,242 71.0%
Depreciation 2,579 2,451 -4.9% 6,453 7,293 13.0%
Profit before tax/(loss) 12,465 16,502 32.4% 43,748 48,772 11.5%
Tax 3,890 5,461 40.4% 13,683 15,584 13.9%
Extraordinary items 290 495 70.8% 881 1,127 27.8%
Profit after tax/(loss) 8,285 10,547 27.3% 29,183 32,061 9.9%
Net margin 16.5% 17.7% - 19.5% 18.1%  
No of shares (m) 553   580   553  580   
Diluted EPS (Rs)*         68.7  
P/E (times)         6.9  
*trailing twelve month earnings            

What is the company's business?
Tata Steel (Tisco) is India’s largest private sector steel company. The company has the distinction of being one of the lowest cost steel producers in the world at about US$ 200 per tonne for hot rolled coil. The company has a total steel capacity of 5 m tonnes (MT), and intends to add another 2.4 MT of capacity, which is likely to be completed by FY09 and another 6 MT in phases by FY11. The company has been focusing on increasing contribution from value-added and branded products and derives over one-third of its total revenues from these. The company has own the Corus bid at 608 pence per share, scaling up to 5th position from the current position 56th largest steel producer in the world. With that the total consolidated capacity of the company would be around 23MTPA.

What has driven performance in 3FY07?
Volume gains: With demand for automobiles continuing to remain robust in 3FY07, Tisco continued to gain (it has a 37% market share in the Indian auto segment). The total supplies of the company to auto sector increased by 29% YoY at 0.63 MT during Apr-Dec period 2006. While the sale of branded products in volume terms increased by 14% YoY during 9mFY07, revenues witnessed growth of 17% YoY in the same period. The supplies of cold rolled and galvanized steel-value added products- increased by almost 21% YoY to 0.35 MT and gave a further boost to topline of the company. Value added products accounted for nearly 21% of total revenues in FY06.

As far as the quarterly performance in concerned, on a consolidated basis, topline has grown by 19% YoY on the back of increasing demand for steel, improved physical performance and growth in segmental revenues. On a standalone basis, while steel production was higher 11% YoY, sales volume increased by 11.5% YoY. Topline of the company comprises revenues from steel, ferro alloys and minerals and others (tubes and bearings division, recently opened mid-sized retail steel outlet, etc). Revenue growth of steel business at 20% YoY was a tad lower compared to revenue growth of ferro alloy segment (increased by 23% YoY) and revenues from other business (increased by 33% YoY). These factors helped company report robust topline numbers for 3QFY07 compared to corresponding period last year. In our view, volumes is not an issue, however, prices continue to remain a cause of concern considering the significant capacity additions in the global markets.

Cost break up (% of sales) 3QFY06 3QFY07
Purchase of finished and semi finished products 22.7% 15.9%
Raw materials consumed 10.4% 13.9%
Staff cost 8.5% 8.2%
Purchase of power 4.7% 5.4%
Freight and handling 5.9% 6.2%
Other expenditure 18.0% 19.0%
Total cost 70.3% 68.5%

Sustained Margins: Weak steel prices have impacted Tisco’s operating margins over the last few quarters. However, in the recent past (post FY06), prices have more or less stabilised and these, coupled with increased volumes helped company sustain standalone EBITDA margins at 40%.

Though the costs as a percentage of sales have come down, raw material input costs increased by over 40% YoY, impacting margins to that extent. On a consolidated basis, operating margins expanded by 200 basis points.

At the net level, margins expanded by almost 120 basis points (consolidated) and 340 basis points (standalone) on account of higher other income. On a standalone basis, lower depreciation cost further helped expand net profit margins. Despite buoyancy in the steel sector, net margins on a consolidated basis expanded marginally owing to higher interest outgo and higher depreciation charges.

Over the last few quarters: Over the last few quarters, company’s performance has been volatile, in line with volatile steel prices. It must be noted that steel prices have been trading lower globally. The same has been reflected in domestic steel prices. The reason for this sharp correction in steel prices has been the excess supply of the metal in international markets with China increasingly meeting its demand from internal capacities. However in recent past, margins have expanded on account of volume growth and buoyancy in the end user industries like automobiles. As visibility with respect to steel prices remains low, we remain cautious about margins from a medium-term perspective. Moreover the concerns are fuelled further with regards to servicing Corus acquisition costs, and how well they will be incorporated in the balance sheet.

Particulars 3Q06 4Q06 1Q07 2Q07 3Q07
EBITDA margin 30.2% 25.0% 30.2% 30.8% 31.7%
Net margin 16.8% 14.4% 17.6% 18.9% 17.7%

What to expect?
At Rs 473, the stock is trading at a price to earnings multiple of 6.9 times its trailing twelve month earnings. The company's acquisitions in Singapore and Thailand are likely to help it diversify revenue base and strengthen its global reach in the coming years. Corus acquisition will help company further spread its wings globally. As for Corus' acquisition by Tata Steel, it is in line with the latter's growth objective of entering new, higher end markets and acquiring a sophisticated customer base. Also, Corus’s costs of production are higher, so it will impact Tisco‘s operations initially. We expect steel prices to remain under pressure as more capacities come on stream. Given company’s track record, we are positive on the long-term prospects of the company. From a medium term perspective however, the successful integration of the large-scale acquisition remains a cause of concern.

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