>JSW STEEL: Capitalising on growth (EDELWEISS)

■ Steel players to maintain/improve margins despite cost push
We expect raw material costs for the non-integrated steel producers to rise by ~USD 100/tonne in FY11. In the previous recovery cycle between CY02 and CY07, global steel prices generally rose more than the raw material cost push each year. We believe that global recovery and steel demand would be strong enough to: (1) either pass on the raw material cost push; or (2) in regions where demand is even more robust (like India), to see improvement in per tonne margins.

■ India end-user steel demand in strong uptrend
We expect India steel demand to grow 12% in FY11 and to remain in the 9-10% range thereafter. All end-use sectors such as infrastructure/construction, auto, consumer durables, engineering and packaging are expected to be in the growth mode. In the recent budget, GoI has earmarked 47% of the plan outlay, i.e. INR
1,736 bn, towards infrastructure spending. Both auto and consumer durables are already in strong uptrend with volumes up 40% Y-o-Y currently.

■ JSW Steel: To capitalise on India’s growth potential
With India’s second largest capacity of 7.8 mtpa and likely addition of ~3 mtpa next year, JSW Steel (JSW) is well-positioned to benefit from the country’s growth potential. JSW’s market share has increased from ~5% in Q4CY08 to 10% currently and is expected to further rise to 12% in FY12. Its conversion costs are amongst the lowest in the world. Internal benefits, going forward, would include improving product mix due to 3.5 mtpa HSM expansion, higher proportion of captive coke and iron ore beneficiation (savings of USD 10-12/tonne). We see JSW’s EBITDA margin rising from USD 165/tonne in Q3FY10 to its pre-crisis level i.e. ~USD 200/tonne in FY12.

■ Outlook and valuations: Poised for growth; upgrade to ‘BUY’
We have raised our FY11 and FY12 EPS upwards by 13.5% and 23%, respectively, taking into account steel price hikes, expected product mix enhancement and visible cost benefits. We see high probability of commencement of captive iron ore mine, but have not considered benefits of the same in our earnings. We estimate our fair value for JSW at INR 1,487 per share based on FY12E EV/EBITDA of 6.0x. Considering the upsides in the stock, we upgrade our recommendation to ‘BUY/Sector Outperformer’ from ‘HOLD/Sector Underperformer’.

To read the full report: JSW STEEL