• OCTOBER 29, 2004

Tisco: Beating expectations

Introduction to results
India’s most efficient steel producer, Tisco, reported its 2QFY05 results today. The results outperformed our expectations by recording a topline and bottomline growth of 43% and 131% respectively. Continued strength in steel prices has helped the company put up this feat. Post this performance by the company we will need to revise upwards our FY05 and onward estimates.

(Rs m)2QFY042QFY05Change1HFY041HFY05Change
Net Sales 26,130 37,383 43.1% 48,701 69,030 41.7%
Expenditure 18,566 21,094 13.6% 34,386 38,721 12.6%
Operating Profit (EBDITA) 7,564 16,289 115.3% 14,315 30,309 111.7%
EBITDA margin (%)28.9%43.6% 29.4%43.9% 
Other income 564 570 1.2% 744 845 13.5%
Interest 570 475 -16.7% 1,335 964 -27.8%
Depreciation 1,470 1,595 8.5% 2,916 3,170 8.7%
Profit before tax6,08714,790143.0%10,80927,019150.0%
Extraordinary items (16) (258)  (727) (501) 
Tax 2,040 5,237 156.7% 3,380 9,768 189.0%
Profit after Tax/(Loss) 4,031 9,296 130.6% 6,702 16,751 149.9%
Net profit margin (%)15.4%24.9% 13.8%24.3% 
No. of Shares (m) 369.2 553.7   369.2 553.7  
Diluted earnings per share* 67.2  60.5 
Price to earnings ratio (x)  4.3    4.8  
(* annualised)      

About the company
Tata Iron and Steel Company (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$ 150 per tonne for hot rolled coil. The company has a total steel capacity of 4 m tonnes, with expansion plans of 1 m tonnes by September 2005. The company also intends to add another 2.4 m tonnes of capacity, which is likely to be completed by FY09. Tisco has been focusing on increasing contribution from value-add and branded products and derives over 1/3rd of its total revenues from these. Exports form about 15% of its revenues. The company recently acquired the steel business of Singapore based NatSteel thus giving it a presence in 7 countries, which includes China.

What has driven performance in 2QFY05?
Higher realisations aid topline growth:  Despite a 2% YoY fall in volume sales, Tisco managed a topline growth of 43%, thus indicating that the entire growth in topline is a factor of significantly higher realisations. It must be noted that average domestic steel prices during 2QFY05 ruled higher by about 35%-40% YoY. Further, the company has managed a 78% growth in steel export revenues taking advantage of the strong steel prices prevalent in the international market. To put things in perspective, during 2QFY05, average steel prices in the international markets ruled stronger by about 70%-75% YoY. As a matter of fact, while steel companies’ sales are largely contract bound, 10%-20% of steel sales are for the spot market.

It must be noted that while prices in the Chinese market have cooled off in recent times to more realistic levels, average steel prices in Europe and the US are displaying signs of strength, hovering near the US$ 600 per tonne mark. While Tisco has not provided the details of export regions, as per recent reports, Indian steel companies have been directing their exports to these western regions rather than China to take advantage of the relatively stronger prices.

Cost control helps margin expansion:  Owing to steel companies’ high operating leverage, strong steel prices have aided the unabated rise in operating margins, which has been reflected in the profitability in 2QFY05 (see chart below). Operating margins of Tisco in this quarter were at near 44% compared to 29% in 2QFY04. Better contribution from high margin product sales i.e. value-added products, could have also aided margin expansion. It must be noted that Tisco has constantly been making efforts at improving its product mix since the past few quarters with higher focus on branded products sales.

Further, control over operating expenditure (see table below) has also aided this sharp improvement in operating margins. It must be noted that the company, being an integrated player, has an advantage with respect to control over raw material expenses. Captive iron ore mines and meeting more than 50% of its coke requirements internally, partially insulates the company from the upside volatility in these input costs, protecting the company from a sharper increase in raw material costs. Further, the employee rationalisation exercise that the company had embarked upon has also shown its continual benefits, with staff costs trimming by 630 basis points as a percentage of net sales in 2QFY05.

Cost break-up...
(% of net sales)2QFY042QFY05
Purchase of finished, semi-finished & others6.6%7.6%
Raw materials11.7%11.8%
Staff costs15.6%9.3%
Other expenditure21.4%18.2%

Debt restructuring aid net profits:  Tisco has continued to lower its interest expenses (down 17% YoY). This is a result of the continued debt reduction/restructuring embarked upon since the last couple of years. Thus, as a consequence of all the above factors, Tisco’s 2QFY05 bottomline has surged 131% despite a 157% jump in tax provisioning.

What to expect?
At Rs 288, Tisco trades at a P/E multiple of 4.8 times annualised 1HFY05 earnings. While we must re-iterate the fact that the company’s performance has outperformed our expectations, investors need to understand that steel being a cyclical industry, a downturn in prices going forward cannot be ruled out. While it is difficult to time the downturn of the steel cycle, we continue to remain apprehensive about the medium term growth prospects of the sector as a whole.

Until now, strong domestic and international scenario has kept volumes buoyant and steel prices strong. However, there have been much stronger signals from China, the key driver of steel prices in the last couple of years, that the economy is due for a slowdown. While the current recovery in the US and European markets would help support the global steel markets in the near-term, investors need to exercise utmost caution.

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