Edelweiss is bullish on Usha Martin and has maintained buy rating on the stock.

Edelwweiss research report on Usha Martin

Usha Martin, the world’s second largest wire rope manufacturer, is in the midst of a significant capacity expansion. The company is also enhancing its backward integration by increasing the proportion of captive metallics (DRI+hot metal), captive coal mining (iron ore is already at 100% captive level) for its sponge iron unit, and maintaining its captive power usage in line with the enhanced capacity. The company is expanding its steel capacity by 2.25x to reach close to 1 mtpa in stages by end of FY09.

To support its enhanced steel capacity and keep the operating costs under control, Usha Martin is adding DRI and hot metal/pig iron capacities of 200,000 tpa and 400,000 tpa, respectively, and setting up captive power plants of total 60 MW. Coal from the company’s coal mine is expected to be available from Q4FY08, but we are assuming its usage only in FY09. Combined wire, strand, and wire rope capacity will increase from the current level of 225,400 tpa to 303,200 in stages in FY09.

The proportion of value-added products such as oil tempered wires, bright bars, and TMT bars is also being enhanced, thereby, significantly enriching the company’s already diverse product mix. Considering the usage of its products across engineering, oil and gas, automotive, and construction sectors, Usha Martin is also a proxy play on the oil and gas and infrastructure sectors.

Outlook and valuations

We see Usha Martin at an inflection point currently. Led by the above capacity expansion cum backward integration project, the company’s topline and bottomline are expected to increase at a CAGR of 20.9% and 43.8% respectively over FY07-10E. At CMP of Rs 56, Usha Martin trades at P/E of 6.3x FY09E earnings, which is at a discount of about 30% to the sector average. Considering the company’s global leadership in the wire rope industry, its highly integrated operations, and the expected earnings growth going forward, we believe this discount is unwarranted and reiterate a ‘BUY’ on the stock. In Q2FY08, the company’s blast furnace was shut down for approx 40 days due to technical reasons.

As a result, the company had to purchase metallics externally, which increased operating costs by approx Rs 190 million. Since mid-Sep-07, the company has, however, restarted its blast furnace. Though QFY08 profits would be adversely impacted by the higher cost, we see this as a short term issue and are positive about the overall business model and the long term story.