>TATA STEEL (ICICI SECURITIES)

SILVER LINING

We upgrade Tata Steel to BUY from Hold, with revised target price of Rs501/share. Though near-term earnings uncertainty persists in Corus, we expect proactive cost-cutting measures (via overhead reduction & reorganisation of unprofitable UK centres) to reap dividends, once capacity utilisation picks up. Notwithstanding the weak margin outlook, domestic operations would continue churning Rs50-55bn annual cashflows. Comfortable liquidity position (~US$2bn), resetting of debt covenants to be retested over FY12-13 and no near-term repayment obligation in Corus will help Tata Steel manage cashflows better.

Tata Steel’s Q4FY09 results were lower than Street expectations on account of: i) sharp drop in domestic realisations and ii) steep decline in prices as well as volumes in its European operations. Consolidated topline declined 22% YoY and 21% QoQ to Rs264bn. Consolidated Q4FY09 EBITDA stood at (Rs154mn) due to ~Rs7.3bn inventory write-down at Corus. Tata Steel’s India operations saw lowerthan- expected results, with EBITDA down 40% YoY (I-Sec: down 31%) to Rs14.5bn; EBITDA margin sharply dipped to 22%. Adjusting for ~Rs5.8bn
extraordinary gains, Corus registered EBITDA loss of Rs13.5bn (I-Sec: Rs35bn loss). We are trimming our FY10E & FY11E consolidated profit estimates 84% & 1% respectively. This is on the back of reduction in FY10E & FY11E Corus’ sales and realisations estimates 49% & 40% and 26% & 19% respectively.

■ Corus to reap benefits from cost-cutting measures in next upcycle. i) Sharp pricing decline due to higher spot exposure, ii) absence of raw-material contracts prolonging the cost pressure and iii) current 50-53% capacity utilisation led to recurring EBITDA loss of US$76/te in Q4FY09. However, cost optimisation programmes will spurt earnings, once capacity utilisation increases. Also, resetting of covenants and absence of prepayments coupled with hedging & carbon-credit gains on reduced production will help better management of Corus cashflows.

■ Domestic pricing pressure; long-term fundamentals intact. Q4FY09 domestic realisations dipped 20% QoQ despite 68% QoQ increase in volumes. This resulted in muted 22% EBITDA margin, which will remain the flavour of FY10E. However, despite the weak margin outlook, domestic operations will continue generating annual cashflows of Rs50-55bn, adequate for funding the 3mnte brownfield at Jamshedpur.

■ Valuations. The stock trades at reasonable FY11E P/E & EV/EBITDA of 5.4x & 5.4x respectively. Upgrade Tata Steel to BUY with revised target price of Rs501/share (target FY11E EV/EBITDA of ~5.9x, which is at 10% discount to global peers).

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