Buy Tata Steel - PINC Result Review

Near-term headwinds; Improved fundamentals!

Tata Steel's consolidated performance turned around in Q1FY11 with operating profit of Rs44.3bn vs. operating loss of Rs0.3bn in Q1FY10, buoyed by better realisation, lower cost (owing to consumption of low cost raw material inventories) and improved sales volume, mainly in Corus. Adjusted PAT improved to Rs18.9bn vis-à-vis loss of Rs19.9bn in Q1FY10.

EBITDA/tone: USD431 for Indian operations vs. USD269 in Q1FY10 and USD381 in Q4FY10; Corus USD79 vs USD94 in Q4FY10.

Cash and Debt: As of Q1FY11, Tata Steel has USD11.8bn of Gross debt and USD2.0bn of cash and equivalent at consolidated level.

OUTLOOK

We believe that steel margins would be under pressure in Q2FY11 due to sequential decline in steel prices amidst higher RM cost. However, raw material spot prices are currently below contract prices and this could lead to lower contract prices for Q3. We expect steel price and profitability to improve Q3 onwards. We have assumed HRC price/tonne of USD650 and USD700 for FY11 & FY12 respectively. We estimate Corus' EBITDA/tonne of USD57 and USD78 for FY11 and FY12 respectively.

VALUATIONS AND RECOMMENDATION

Although we expect Tata Steel's profitability in Q2 to be under pressure, we believe that the worst is behind. We are positive on the stock given 1) highly profitable Indian operation, 2) volume growth led by 2.9mntpa capacity expected in FY12, 3) Corus turnaround – Improved capacity utilisation and leaner cost structure and 4) Partial resource integration in Corus with captive coking coal and iron ore expected by FY12.

At CMP of Rs527, the stock is trading at 4.4x FY12E EV/EBITDA. We recommend 'BUY' with a target price of Rs690 (5.3x FY12E EV/EBITDA).

Source : Equity Bulls

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