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Capex to rise with delayed returns

India operations would continue to perform

* Tata Steel reported strong result on a standalone basis. Europe, however, disappointed due to a surge in energy and coal costs.

* Consolidated EBITDA was 66% higher on a YoY basis, but 3% lower sequentially. Standalone EBITDA/t at INR28,631 (up 43% YoY) was 12% above to our estimates. However, Tata Steel Europe (TSE)’s EBITDA/t at USD182 was 18% lower than our estimate. The 4QFY22 trajectory for TSE, albeit, is better due to falling iron ore and renegotiated contractual steel prices offsetting the higher coal costs. Consequently, we raise our TP for Tata Steel to INR1,330 (from INR1,235), implying 12% potential upside.

* We further raise our FY22E/FY23E EBITDA by 11%/2% on better TSE outlook. However, we maintain our Neutral rating as we believe Tata Steel is now set on a long road to growth capex in India while charting out de-carbonization plans for TSE. The stock trades at 4.5x our FY23 EV/EBITDA estimates.

TSE disappoints, drags consolidated performance

* Standalone: EBITDA rose 82% YoY to INR121.7b (10% ahead of our estimate), despite a 9% QoQ drop fueled by rising coking coal prices that was not fully offset by a marginal increase in ASP.

* Standalone revenue/EBITDA/RPAT rose 88%/185%/243% YoY to INR921b/INR389b/INR252b in 9MFY22, respectively, led by a 23% growth in deliveries and 132% rise in EBITDA/t. 9MFY21 also marked the lowest point in recent times due to the lockdowns in 1QFY21 and COVID-related issues.

* TSE disappoints: TSE reported an ASP of USD1,409/t (+56% YoY and +4% QoQ), in line with our estimate of USD1,413/t. However, EBITDA dropped sharply to USD182/t from USD211/t in 2QFY22, despite a USD56/t reprieve in iron ore prices that was more than offset by higher coking coal and energy costs. Other conversion costs rose 85% QoQ to USD479/t, which led to a sharp decline in EBITDA.

* Consolidated revenue grew 45% YoY to INR607.8b, in line with our estimate of INR597.2b. Consolidated revenue growth was aided by strong topline in India as well as TSE.

* However, consolidated EBITDA stood at INR158.9b (up 66% YoY, but down 3% QoQ), 12% below our estimate. The EBITDA miss was led by a sharp 18% EBITDA miss in TSE’s operations that was impacted by: a) higher input costs, and b) higher energy prices, which rose 4-5x QoQ due to the severe energy crisis during the peak winter season.

* Consolidated PAT grew 140% YoY (down 24% QoQ) to INR94.2b (14% below our estimate of INR109.1b).

* 9MFY22 consolidated revenue/EBITDA/RPAT rose 64%/197%/36x to INR1744b/INR485b/INR314b, respectively, driven by 8% growth in deliveries and 52% jump in ASP.

Highlights from the management commentary

* TSE has concluded automotive and packaging contracts starting Jan’22, which should boost 4QFY22 ASP by GBP15-20/t. However, Tata Steel India (TSL)’s ASP is likely to be lower by INR3,000-3,500/t due to lower-priced exports booked in 3QFY22, to be delivered in 4QFY22.

* Coking coal costs are likely to be higher by EUR30/t in TSE and by USD40/t in India on a QoQ basis. However, TSE will benefit from lower iron ore costs, which are likely to be down by EUR 30/t QoQ.

* Neelachal Ispat Nigam (NINL)’s acquisition debt shall be front-ended by TSL as Tata Steel Long Products (TSLP)’s balance sheet will not be able to handle that debt.

* NINL’s acquisition cost of INR121bn (for 93.71% stake) will be funded 50% through internal accruals and balance through bridge loans that shall be repaid out of internal accruals over the next 2-3 quarters.

* Management will continue to evaluate another PSU steel company RINL whenever it comes on block, though it has sufficient land bank post NINL acquisition to charter its ambitious growth plan for the next decade to reach 40mt in India.

* Management is not inclined to bid for the NMDC Steel plant as it is a flat products only facility.

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