Stock Review: STEEL Authority of India Limited’s (SAIL)

 

STEEL Authority of India Limited's (SAIL) stock has been on a downtrend since October last year and touched its 27-month low of 116.10 on 2nd August, consequent to rising concerns. Though delayed capacity expansions had been a cause of concern for some time and FY12 volumes are likely to remain flat, its margins were dented in the June quarter due to an increase in coal and employee costs. Further, the full impact of high coal costs is to be felt in the second quarter. The steel demand is also slowing and second quarter is likely to reflect this; volumes are expected to pick up only from third quarter onwards. With all these concerns, analysts have been reducing their forward guidance and earnings estimates for the company.

MARGINS UNDER PRESSURE

The June quarter saw increase in realisations, which is estimated to have come from a higher proportion of long products. However, most of the revenue growth was due to a 19 per cent increase in volumes year-on year; sequentially, though, volumes at 2.75 million tonnes were down by 12 per cent. Increasing coal costs, higher dearness allowance linked to wage costs and rising fuel expenses led to a margin compression. Thus, SAIL's earnings before interest, tax, depreciation and amortisation (Ebitda) declined to $97 a tonne, compared to $149 a tonne in previous (March) quarter and $163 a tonne in the year ago quarter.

Moving forward, the margins are expected to remain under pressure as the full impact of higher coal costs will be felt from the second quarter. In the first quarter, SAIL had used some carry-over coal. Further, analysts at Bank of America Merrill Lynch observe that SAIL may provide for wage rises for non-executive due in January 2012, pushing employee costs further. Thus, margins are likely to remain under pressure for the next few quarters.

CAPEX PLANS

As part of its expansion plans, the company aims to expand its saleable steel capacity from 12.6 mt in FY11 to 20.2 mt in FY15. However, the expansions are moving at a slower pace and may not come up on schedule. PINC analysts in a report observe that persistent delays and cost overruns have led to the ballooning of capex costs of around $1,200 per tonne.

Analysts say it's 2 mt per annum Rourkela blast furnace may start functioning by the end of FY12, and the integrated steel plant by mid FY13. Further, expanded steel production at the IISCO plant in Burnpur, West Bengal, will only start by that time. While the company's management has guided for flat volumes in FY12, analysts have lowered their volume estimates. Analysts at Religare Securities have reduced their volume estimates to 12.4 mt for FY12 and 13.7 mt for FY13.

OUTLOOK

With all these concerns, a majority of analysts maintain a 'hold' to 'sell' rating on the stock; only 38 per cent of analysts have gone for the 'buy' rating, as per the data from Bloomberg. At

`118.30, the stock trades at 9 times its FY12 with consensus on earnings estimates.

Stock Review: TATA CHEMICALS

Tata Chemicals, the country's second-largest soda ash producer, reported mixed results for the June 2011 quarter. Rising input prices continues to be a concern for the company. However, factors like strong demand in all verticals across Asia, Latin America and Europe, strong global market presence and government's approval for bringing urea under the nutrient-based subsidy scheme are likely to ring positive for the company.

During the June 2011 quarter, the company reported an 18% jump in its topline to . 2,924 crore against the year-ago pe0riod due to healthy demand across major products. The chemicals segment, which contributes over half of its overall business, grew nearly 17%.

Its operating profit margin dropped by 280 basis points to 13.7% during the quarter. Its bottomline fell 7.5% to . 200 crore. Nearly, . 31 crore of subsidy income was unrealised on the opening stock of raw materials for phosphatic and potassic fertilisers due to changes in subsidy norms. Also, Tata Chemicals' profits in the June '10 quarter included . 18.2 crore of insurance claims, which were absent during the current quarter.

The company expects to post better results in the coming quarters and has taken several measures to tackle rising prices of raw materials. It signed a contract with Canada-based Canpotex to import potash at a fixed price of $470 per tonne. It also acquired a majority stake in US-based potash explorer — EPM Mining Ventures — recently to access low-cost sulphate of potash.

Due to increasing prices and global economic concerns, the company has put on hold its plan to raise $375 million which it planned to utilise for its various expansion projects in Gabon, Canada and India.

However, the government's recent decision to move ahead with urea decontrol is a positive development for Tata Chemicals. The company has also lined up various capacity expansion plans, including SSP debottlenecking at Haldia by 50,000 TPA at a cost of . 11 crore and 200,000-TPA increase in the domestic salt capacity at . 180-crore. Both projects are expected to commence by the end of this fiscal.

At the current market price of . 351, the stock trades at 11.8 times its earnings for the trailing twelve months.

Stock Review: Mahindra & Mahindra

Mahindra & Mahindra grappled with higher operational costs (on astandalone basis) in the June '11 quarter. As a result, the company's operating profit margin weakened by 170 basis points YoY to 13.3% in the first quarter of FY12, despite its strong showing in net sales which improved 30.5% in the quarter under review.

This pressure on its margins was due to a jump in the company's purchase of traded goods in the June quarter. Analysts highlight that this cost rose due to increased purchase of models like Maxximo and Gio in the four wheeler small cargo segment by M&M from its subsidiary, Mahindra Vehicle Manufacturing. This rise in costs offset the near 6.3% y-o-y improvement in the company's average realisation per vehicle in the quarter under review.

During the quarter under review, M&M's vehicle sales under the 4-wheeler small cargo segment grew nearly 35%YoY, and it helped the company's total vehicle sales to improve by 22.6% YoY in the June quarter. To the company's credit, it has only seen a slight moderation in vehicle sales growth in the June quarter vis-àvis the growth reported during FY 11, when it was helped by its focus on rural markets through tractor portfolio and product launches in different auto segments.

Higher costs, however, resulted in its net profit increasing just 7.6% YoY in the first quarter of FY12. Nevertheless, the results for the June quarter were broadly higher than analysts' estimates. The stock gained 2.1% to . 669 on Monday, in broad contrast to the sell-off witnessed in the broader market. In the March '11 quarter too, M&M's operating profit margin fell on a YoY basis due to higher purchase of traded goods.

Going forward, despite a rather difficult operating environment, due to rising auto finance rates and commodity input prices still at elevated levels, analysts are still optimistic that M&M would maintain its vehicle growth momentum.

And, that's largely due to its strong presence in rural markets, coupled with several launches planned across different segments. However, its operating margins are expected to remain under pressure, in the short-term.

M&M trades at a standalone P/E of nearly 14.5 times on a trailing four-quarter basis. The company also has an array of investments in different sectors and analysts say the valuation of the stock factors in this aspect suitably.