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Margins peak out; volume recovery to drive earnings

Remains best play on volumes in the sector

* JSW Steel (JSTL)’s 1QFY22 result was strong, with consol. EBITDA/PAT growing 22%/38% QoQ to INR102.7b/INR59.0b on higher steel prices. Standalone EBITDA/t was the highest ever at INR26,291.

* We expect margins to have peaked out during the quarter; however, overall earnings should remain strong, driven by volume growth. We raise our FY22E/FY23E EBITDA by 11%/8% to factor in better pricing. Maintain Buy.

Consol EBITDA up 22% QoQ, led by strong steel prices

* JSTL’s consol. rev/EBITDA/PAT was up 7%/22%/38% QoQ to INR289.0b/ INR102.7b/INR59.0b and came in +2%/+9%/+15% v/s our estimate. The beat was led by better-than-expected margins in standalone operations. This is also the highest quarterly EBITDA/PAT recorded by the company.

* Standalone (S/A) EBITDA grew 18% QoQ to INR94.9b (+10% v/s est.) despite 11% decline in volumes to 3.61mt, led by a 20% QoQ increase in realization to INR71,909/t (+2.4% v/s est.). It was partly offset by high iron ore and coking coal prices and an increase in power cost. EBITDA/t was up 33% QoQ to INR26,291/t (v/s est. INR23,878/t).

* EBITDA for subsidiaries rose 87% QoQ to INR7.8b, led by a 48% QoQ rise in EBITDA in JSW Coated (incl ACCIL) to INR9.6b. JSTL’s three key overseas subsidiaries reported EBITDA of INR2.8b in 1QFY22 (v/s loss of INR2.5b in 4QFY21), led by a turnaround in US subsidiaries. JSW Steel’s JVs (JSW Ispat and BPSL) contributed INR3.2b to PAT.

* Despite strong operating profits in 1QFY22, reported net debt increased by INR23.7b QoQ to INR550b, due to an increase in working capital by INR62b and capex spend of INR28.0b. Reported TTM net/debt to EBITDA stood at 1.89x v/s 2.61x at FY21-end.

Highlights from management commentary

* The company announced a strategic investment of INR7.5b in JSW Paints in phases over FY22–25. The rationale for the investment is to secure a consistent supply of industrial paints for coated products. In the first phase, it would invest INR3.0b for a 6.88% stake in the company in 2QFY22.

* To lower its power costs, meet its renewable purchase obligation (RPO), and reduce its carbon footprint, JSW Steel would invest INR4.45b for a 26% stake in the SPV setup by JSW Energy Ltd – for establishing a 958MW capacity of renewable power (solar and wind). The SPV would generate 300MW of power and meet ~15% of JSTL’s power requirement based on an 18mtpa capacity.

* Raw material costs are guided to increase further in 2QFY22 as the full impact of higher iron ore prices in 1QFY22 would be realized. Furthermore, coking coal costs are guided to increase by USD30–35/t in 2QFY22 and would increase further in subsequent quarters.

Valuation and view – strong project pipeline to drive growth

* We like JSTL given its strong project pipeline and cost reduction initiatives, which should support margins. Over FY21–23E, we expect an above-industry volume CAGR of 17%, driven by the Dolvi expansion.

* Despite the high capex, we expect net debt to decline ~17% to INR543b over FY21–23E.

* We value JSTL at 6x FY23E EV/EBITDA to arrive at TP of INR840. Maintain Buy.

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