NMDC - Prices reduced further to support volumes; maintain buy - Centrum

NMDC announced further reduction in prices for fines & lumps by ~4% from July onwards which was a negative surprise. We see the company giving increased thrust on volumes in the wake of subdued domestic demand, weak global prices and onset of lean season due to monsoons. We also believe that pricing could turn northwards for fines during H2FY14E post monsoons once demand improves from current low levels. We see volume growth coming back in FY14E and maintain our sales volumes estimates of 29MT/31MT in FY14E/15E. We reduce our fines/lumps price assumptions and cut our EBITDA estimates for FY14E/15E by 6.3%/9.7% for FY14E/15E. Maintain Buy with a reduced target price of Rs143.

- Fines price cut by Rs100/t, lumps by Rs200/t: NMDC reduced fines prices by Rs100/t (~4% reduction) from Rs2610/t to Rs2510/t. Reduction in fines prices was a negative surprise as demand for fines has remained steady in the domestic market but recent price cut by competitors in Orissa led to the cut by NMDC in our view (Rungta mines cut 62% Fe fines by Rs100/t to Rs2100/t from July). Lumps prices were further cut by Rs200/t (~4% reduction) from Rs4700/t to Rs4500/t. Demand for lumps has continued to remain weak and the fall in global iron ore prices had reduced the differential between NMDC's landed prices for lumps at port for buyers (like Essar) as compared to imports.

- Thrust on increasing volumes: NMDC has now shown a clear thrust on achieving higher volumes and has resorted to aggressive price cuts. The latest round of cuts from July onwards could provide crucial support to volumes during the lean monsoon season in our view. We note that lumps sales remained lackluster due to issues on pricing in the past but with sharp cuts in prices, we see lump volumes to be ~9MT in FY14E (up from ~8MT in FY13). Reduction in fines prices should also foster higher demand from local pellet and steel makers. NMDC has achieved 7.26MT sales volume for Q1FY14E (up by 5.8% YoY) and also guided towards 30-32 MT sales volumes for FY14E in its recent analyst meet.

- Pricing subdued for now but not for long in our view: We would like to highlight that though pricing has remained subdued and on a continuous downtrend in the past 9-10 months for NMDC, we do not expect it to remain there for long (especially for fines while lumps can remain stable to marginally lower). We firmly believe that demand-supply dynamics in the domestic iron ore market would remain in NMDC's favor in the long run (as we see demand improvement of steel in domestic market in H2FY14 from current low levels) and low price selling of fines by Orissa miners comes to an end post the anticipated action from authorities on the Shah Commission report on illegal mining in Orissa. We see high probability of fines pricing turning northwards for NMDC during H2FY14E post the end of monsoons on improved demand.

- Remain positive on volume growth: After disappointing on volume front for the past few years on account of logistics and pricing issues, we see better volume performance from NMDC in FY14E on account of i) logistical improvements already undertaken in FY13 in Chhattisgarh (uniflow loop line of 3MT and weigh motion bridge), ii) commencement of forward e-auction in Karnataka and iii) rationalisation of prices (particularly lumps) in accordance with domestic market conditions. We maintain our volume estimates of 29MT/31MT for FY14E/15E, growth of 10.3%/6.9% respectively. The company's capex on mining expansions and the setting up of steel and pellet plants in Karnataka continue albeit at a slow pace and capex guidance stands at Rs27bn for FY14E.

- Earnings revised lower: Though we expect pricing to turn and start moving upwards for fines from current level in H2FY14E, we chose to remain conservative and cut our FY14E fines/lumps price assumptions to Rs2500/Rs4400/tonne from Rs2600/Rs4500/tonne earlier. We also increase our export sales forecast to ~2 MT (~7% of total volumes). Our blended realizations in US$ terms have been revised downwards by 10.5%/13% for FY14E/15E on account of price reductions as well as USD/INR revision to 57/56 for FY14E/15E respectively. We cut our EBITDA estimates by 6.3%/9.7% for FY14E/15E on account of reduced prices and higher expenses on export sales. We cut our PAT estimates by 5.1%/7.8% for FY14E/15E.

- Maintain Buy with a reduced target price: We have further reduced our estimates and target price on the stock but remain structurally positive on the company as we see volume growth ahead along with stable to positive pricing in H2FY14E. Stock continues to trade at attractive valuations of 2.7x FY14E EV/EBITDA (~40% discount to global average for peers). Strong dividend yield of 7% is an added plus. We value the company at 5x FY15E EV/EBITDA to arrive at a target price of Rs143. Maintain Buy.

Source : Equity Bulls

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