While the company‘s European business has held ground, its south-east operations are a concern, says Tarang Bhanushali of IIFL.
Tata Steel reported a consolidated net loss of Rs 5674 crore in Q4FY15 against a profit of Rs 1036 crore in corresponding quarter last fiscal. An exceptional loss of Rs 4811 crore dented the company's profit.
In an interview to CNBC-TV18, Tarang Bhanushali of lIFL says the company’s Q4FY15 operational performance was weak but margins are expected to expand hereon.
While the company’s European business has held ground, its south-east operations are a concern, adds Bhanushali.
Below is the verbatim transcript of Tarang Bhanushali’s interview with Reema Tendulkar and Sonia Shenoy on CNBC-TV18.
Reema: Can you tell us how have you tweaked you earnings per share (EPS) estimates, you target price? Has there been any rating change on Tata Steel?
A: We have reduced our estimates by 15-20 percent over the next two years. The larger downward revision has been in FY16 wherein we would see the impact of the carry over high cost iron ore inventory. Secondly, the company has indicated that the ferro alloy division, the contribution would be quite lower in FY16 since the new guidelines, the new licence renewal says that it can be used only captively and cannot be sold to external sources. So, that would lead to lower contribution in FY16. The company is setting up a new ferro alloy plant in FY16 so, maybe FY17 we would not see the impact but FY16 is where most of the impact would be felt.
Also, what we have reduced our Steel price estimate for FY16 and FY17 considering the sharp decline in realisations globally as well as in India. So, after tweaking the estimates, we have reduced our target price from Rs 570 to Rs 418, but we have maintained our buy recommendation on the stock. We believe the downside from here on would be quite limited and the company has provided for whatever unseen changes we can see going forward. So, maybe the downside from here is quite limited as what we feel.
Sonia: There are a whole host of negatives for the company, whether it is the falling steel prices, whether it is the higher cost of imported iron ore etc. do you reckon that this could be a structural down-turn that the company is undergoing or do you think it is just a cyclical down-turn that will trough-out after a couple of quarters?
A: We feel that Q4 was the worst what the company would deliver going forward. From here on we would see margins expanding. The impact of bought-out iron ore would be felt only in H1 and maybe in the second half of FY16 we would see margins expanding higher from current levels. Secondly, steel prices, we believe are near their bottom. They are consolidating and maybe they would remain in the range and would not decline sharply. Domestic prices of course have been held by the depreciation in the rupee.
Thirdly again as I said ferro alloy division which was not contributing in FY15 as well as in FY16, we would see the reversal in FY17. So, earnings in the standalone entity would be quite stronger in FY17. Also, the Kalinganagar Project Odisha (KPO) project which is expected to be commissioned in H2, there would be the company is expecting 0.5 million tonnes this year and maybe the full impact next year. So, we would see higher contribution from that too. All the iron ore operations, all the mining operations have got the environmental clearance and would be operational in FY16. So, most of the negatives which were built in FY15 are not there in FY16. Maybe in the first half we would see some pressure on earnings, but from H2, FY16 is where most of the growth would come into the domestic earnings.
On the European business, the business has been doing quite good over the last few quarters even in this challenging Q4 quarter, the company has reported good numbers, though we expect some margin squeeze in the first half. We expect the operations to be quite stronger going forward. The company has already provided for the long products division in Europe. So, there is not much negative from there too. The concern over here right now, is just the South-east operations and they are quite small to impact the overall numbers. So, we expect that the downfall from here would be quite limited.
Reema: This high cost imported inventory which impacted the India performance will be utilised by when? How many more quarters?
A: They have 1.5 million tonnes of iron ore inventory which they plan to sell around 0.5 million tonnes to external sources and one million tonnes over the next six months spread out over the next six months. So, the full impact would not be witnessed in any of the quarters. They have already written down some part of the value in this quarter. So, again the iron ore cost would be lower than what we have seen in Q4. So, the iron ore cost also is expected to decline going forward.
Sonia: One long-term investor concern on Tata Steel has been the high debt and the burgeoning debt equity ratio for the company. I mean at six and half to seven times, it looks like a tall ask to reduce that debt at least in the near future. What is your own estimate of how the debt situation will pan out, say, by the end of FY16 and how concerned would you be?
A: The debt has peaked out or would peak out in Q1 of FY16. From there on we would see a reduction in that debt levels. One is the iron ore inventory they are carrying would be utilised. So, the working capital requirement would go down. The capital expenditure (Capex) intensity has declined. They are guiding for Rs 10,000 crore from Rs 13,500 crore incurred in FY15. Also, the cash flow from operations would improve since earnings before interest, taxes, depreciation and amortization (EBITDA) would stabilise. Again, European operations would also do good. So, overall the cash flow situation would improve quite a bit and we believe that FY16 the company would turn cash-positive and FY17 is where most of the impact would be felt. So, we are expecting debt to decline by around 10-15 percent over the next two years.
Reema: Can you throw some more light on what you are expecting from Europe? You said that perhaps, in the first two quarters there could be some decline in the realisations or in the margins. But things are otherwise stable. What exactly are you pencilling in? Walk us through the trajectory for the European markets and the EBITDA per tonne that you are expecting for FY16.
A: We are expecting EBITDA per tonne to improve marginally to USD 48 per tonne in FY16 and USD 54 in FY17. Largely because of the changing product mix, we have already seen the differentiated product sales rising 17 percent year-on-year (y-o-y) in Q4. And, the company is quite focused on value-added products over the last one year and setting up capacities So, that would help the company in increasing its margin also. Iron ore prices and coking coal prices have been trending lower over the last one year which would also help the company in providing higher margins. The long products division has already been provided and so the impact on earnings would be quite lower on that side. So, the European operations is where the bright spot currently is and I believe, going forward, the operations would remain quite stable over there.