Jindal Steel & Power - An alternate deal contour can draw better acceptance - ICICI Securities

Jindal Steel & Power (JSPL) has announced sale of its 96.42% stake in Jindal Power (JPL) to a promoter entity Worldone (WPL). The equity value (all-cash) for the offer is Rs30.15bn. Objectives are: i) deleveraging the balance sheet, to prepare for next phase of steel capex, i.e. increasing Angul capacity from 6mtpa to 12mtpa; and ii) meet the ESG objective of JSPL being in the top-10 lowest CO2 emitting steel companies globally. There are concerns that we could gather from our investor interaction on the implied EV of the deal. Redeemable preference bonus shares (RPS) have been issued in the past quarter to JSPL from JPL. Redeemable in 20 years and with a coupon of 5% (as per the management), the PV of the RPS is key to ascertain the EV of the transaction. We believe, less reliance on transaction EV on the RPS may be preferable to investors. Maintain HOLD.

- Contours of the deal. JSPL would receive an all-cash equity payment of Rs30.15bn for selling its 96.42% stake in JPL. The debt of ~Rs65bn in JPL will also move to WPL. There is an intercompany loan (ICD) of ~Rs43.9bn, which will be converted into an unsecured loan with a 9% coupon (as per the management). There will be a moratorium of five years. Also, post Q3FY21 results, JSPL has been issued RPS by JPL of Rs70bn, redeemable in 20 years and with a coupon of 5%. The enterprise value of the 3,400MW power plant depends on the PV calculation of the RPS.

- Valuation of RPS. Rs40bn is cumulative and Rs30bn is non-cumulative. There is a concern on JPL's reported profits given high depreciation and additional debt that may move to JPL balance sheet to finance the transaction. Hence, it is prudent not to assume that the interest from non-cumulative RPS will accrue to JSPL. On the rest of the payments and assuming 20 years maturity, the PV of the instrument at 10% discount rate comes to Rs27.4bn. We reckon, the backend redemption (maturity of 20 years) is raising investor concerns. One may argue that, given the 5-year moratorium introduced in the ICD converted to unsecured loan of Rs43.9bn, the corresponding PV comes to Rs28bn only. This leaves the net EV of the transaction at Rs96bn (equity for 100% stake at Rs31bn and net debt at Rs65bn). There may also be a medium term need to undertake Flue Gas Desulphurisation capex of ~Rs20bn-30bn. Cancellation of the RPS and ICD can draw better investor acceptance.

- Ideal EV/MW? As per the I-Sec power industry team, merchant power in India is on the cusp of revival. Demand is expected to outpace supply and while one may not ascribe any terminal value to the thermal power plants due to onslaught of renewables, sustaining the current PLF/profitability of 3,400MW (~35% PLF) for next 15 years is not a concern. Also, JPL has won the Gare Palma IV/1 coal block in the recent auctions, which we estimate will add ~Rs3bn-4bn to EBITDA in steady state. Hence, even assuming the PV of current cashflows, taking a bump-up for Gare Palma IV/1 and adjusting for a one-time FGD capex of Rs20bn, JPL's EV accrues to Rs10.5bn.

- EV/MW debate (cont'd). The foregoing amounts to an EV of Rs30mn/MW. Ex-RPS, ex-ICD, the offered EV was within 10% of this value and would have been acceptable in our view. Our power industry team though is of the opinion, that given the impending improvement of the power scenario in India, perhaps a higher EV/MW is justified.

Valuation and risks

We maintain HOLD on Jindal Steel & Power with a target price of Rs458/share (implied P/B of 0.9x on FY23E P/B). We believe, the power asset transaction can lead to better RoEs and better P/B multiple for JSPL and is a key upside risk to our target price. Key downside risks: i) correction in steel prices, and ii) rapid expansion leading to uncomfortable relevering of balance sheet.

Shares of JINDAL STEEL & POWER LTD. was last trading in BSE at Rs.450.35 as compared to the previous close of Rs. 442.3. The total number of shares traded during the day was 925245 in over 7304 trades.

The stock hit an intraday high of Rs. 455.95 and intraday low of 437.35. The net turnover during the day was Rs. 415374202.

Source : Equity Bulls

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