Stock Review: MSP Steel

 

Given its expansion plans, MSP Steel and Power is likely to post better performance in the coming quarters. Long-term investors can buy this stock

 

KOLKATA-based MSP Steel and Power is a part of the MSP Group. With a 60% return over the past one year, the company's stock has, outperformed the Sensex which has returned 17% during the period. Going forward, the company is poised to benefit from a capital expenditure of around 800 crore aimed at increasing its capacities of pellets and sponge iron. This will be substantiated by increased capacity utilisation from its existing plants.

Business:

MSP Steel and Power (MSP) is a medium-size integrated steel maker in Eastern India. It has a diversified portfolio consisting of sponge iron, steel, power generation, rolling mills and ferro alloys. The company has its making facility at Jamgoan and Raigarh in Chattisgarh and also has a captive power generation plant to support its power requirements.

Growth Drivers:

The company is on an aggressive expansion spree and plans to spend around 800 crore in FY10 & FY11. Through these projects, it is expanding its sponge iron manufacturing capacity from 0.19 million tonne per annum (mtpa) to 0.42 mtpa. Funding requirement of these projects will be met through a mix of internal accruals, preferred shares issued to the promoters and debt. The company also wants to increase the capacity of its captive power plant from an existing 24 megawatts (MW) to 76 MW. This is more than its future power needs. The excess power can be sold to the grid, adding revenues to the company's topline. MSP has taken backward integration initiatives, as the company has acquired an iron ore mine in Chhattisgarh with expected reserves of 35 million tonne, which will be operational by FY14. This mine can provide the company much needed cheap iron ore supply and significantly reduce its raw material cost in future. MSP has been allotted a coal mine, which is likely to be operational in October. The company is also looking forward to increase its coal washing capacity, which will reduce its dependence on outside suppliers. All these integration and cost cutting initiatives can generate higher profits for the company in the coming quarters.

Financials:

MSP's net profit for the quarter ended June 30, 2010, surged 120% compared with the corresponding quarter last year. The company's backward integration initiatives have started paying benefits as its operating margin increased by 330 basis points (bps) in the quarter. Its expansion plans, however, have started impacting its leverage ratios. Its debt to equity ratio for FY10 increased to 1.86 from 1.60 in FY09. Although the high debt can put a short-term pressure on the company's balance sheet, all these projects can generate enough cash flow to service this debt in the long term.

Valuation:

At the current market price of 82, the scrip is trading at 22.5 times its trailing 12-month earnings. It is trading at a discount to most of its peers such as Lloyds Metals and Vikash Metals. Given the expansion plans and efficiency improvement initiatives, the company can post strong performance in the coming quarters. Long-term investors can consider buying this stock.