Steel Authority of India - Alluring growth; Sell - Anand Rathi

Volume growth led by inventories. The Steel Authority of India is likely to record a 7.1% yoy rise in sales volumes, driven by exports and inventory destocking. The weak domestic demand would have weighed on realisations with 3.5% qoq growth but volume growth would have driven 11% yoy revenue growth to Rs. 118bn. Exports and inventory de-stocking would have supported pricing but subdued demand would have maintained the squeeze on margins.

Benefit of lower input prices offset. The full benefit of falling prices of coking coal had been realized in 2QFY14. However, the impact of higher freight costs and currency depreciation are likely to have outweighed the benefits. Yet, the greater operating leverage would have enhanced the EBITDA margin by 59bps yoy, leading to likely 17.4% yoy EBITDA growth to Rs. 13.4bn, thereby resulting in 41.5% yoy PAT growth.

Leverage to constrain re-rating. Project delays have reduced project IRRs despite vast raw-material assets, better infrastructure and the widest marketing network. In the present profitability environment, delayed cash flows and pending capex have vigorously increased leverage in the last three years. Volumes are likely to rise from FY15, but profitability expected over the next three years is unlikely to provide any respite from leverage concerns. Further, the FPO overhang caps any upside.

Our take. At the ruling price, the stock trades at 8.7x FY14e EV/EBITDA. Our target price is based on 7.5x FY14e EV/EBITDA. We value the company at a premium in order to factor in the huge expansions fructifying by FY15. We have maintained a Sell recommendation, with a target of Rs. 51. Risks. Further delays in capex projects and decline in spot iron-ore prices.

Source : Equity Bulls

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