UK aid drives Tata Steel’s stock surge, but the purse is paltry

Tata-Steel plant-UK

Dalal Street’s exuberance over the Tata Steel stock following media reports about GBP 500 million in aid for the company from the UK government belies the fact that the package was long awaited, and is significantly short of expectations.  The company’s stock jumped as much as 4 percent intraday to a high of Rs 132.9, on top of a 2.5 percent jump on Friday.

A PTI report on September 2 said the Tata group company is in advanced talks with the UK government  regarding a GBP 500 million grant to cut emissions at its Port Talbot plant. The group will put in another GBP 700 million for the project.

The money will be used to decarbonise the steel plant, which entails the installation of new low-emission machinery. The draft plans are nearing finalisation.

Tata Steel had initially sought GBP 1.5 billion from the UK government.  In January 2023, the British government had proposed a package  for the steel industry, including Tata Steel UK. Tata Steel had then indicated that it would have to study what was on offer before deciding the future course of its UK operations.

Is the package enough?

Given the UK's decarbonisation initiatives and the rising carbon  tax in the country, it has become imperative for Port Talbot to transition to alternative technologies in order to remain viable, according to Tata Steel’s annual report.

Ritesh Shah, an analyst at Investec Securities, says the funding, along with  Tata Steel’s contribution, seems inadequate considering the plant’s capacity. Yet, the brokerage finds the move away from blast furnaces imminent and positive. Investec maintains a 'buy' rating on Tata Steel stock, with a target price of Rs 135 per share — marginally higher than the current market price. The brokerage’s rating is based on the assumption of an uptick in spreads, which could translate into upgrades in Q2/3.

The UK funding comes at a time when inflation in Europe was expected to have a more substantial impact than before (what impact on the funding, & how), according to an Incred Equities report dated March 29, 2023.

UK losses

Over the last 11 years, till FY22, Tata Steel’s UK business has experienced losses (including capex) of about $393 million per annum (at current foreign exchange rates). Both the Netherlands and UK businesses are integral components of Tata Steel's European operations, and the European segment as a whole has been facing losses. In 2022, Tata Steel ceased reporting on its UK business.

UK operations

Tata Steel UK has streamlined its steel production to a single site in Port Talbot, where it operates two blast furnaces with a combined capacity of 5 million tonnes per annum (MTPA). As the largest steel producer in the UK, the company specialises in high-quality strip steel products for the construction, automotive, packaging, and engineering sectors. Additionally, the company is engaged in implementing technologies aimed at reducing the carbon footprint of its facilities.

Tata Steel's UK operation includes a workforce of 8,320 employees.  It produced 2.93 million tonnes of crude steel as of FY23.

Tata Steels European Business EBITDA

Valuation and stock performance

Tata Steel’s stock price has increased by about 12 percent  compared to the previous week. During today's trading session, the stock reached a 52-week high at Rs 132.8 per share.

In terms of valuation, Tata Steel's blended forward EV/EBITDA ratio is 6.8, a 17 percent discount compared to industry peers (which peers, it seems to be at a 13% discount to only JSW). According to Bloomberg data, Steel Authority of India (SAIL) trades at 6.2 times, followed by Jindal Steel and Power (JSPL) at 6.5, and JSW Steel at 7.7 times.