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Spreads to normalize at both India and TSE

* Tata Steel (TATA) reported a strong 1QFY23 with both India and European operations beating our and consensus estimates. European operations especially posted the highest ever EBITDA/t and for the first time in the history, since being acquired, reported EBITDA/t higher than that of the parent.

* TATA’s standalone revenue at INR320b was 16% higher YoY but was down 13% QoQ. The YoY growth was driven by 19% growth in blended ASP offset by 3% decline in sales volume. The sequential revenue decline was led by 22% volume decline offset by ASP growth of 10%. The revenue beat our estimates by 7% on account of 7% ASP beat.

* Standalone EBITDA stood at INR96b down 28% YoY and 22% QoQ. The decline in EBITDA was largely due to higher coking coal cost. EBITDA/t for the quarter stood at INR24,622, down 26% YoY and flat QoQ. EBITDA was 25% higher than our estimate driven by 7% topline beat.

* Adjusted PAT stood at INR62b, down 29% YoY and 22% QoQ owing to lower EBITDA. Adjusted PAT was 39% higher than our estimate in 1QFY23.

* Tata Steel Europe (TSE) reported its strongest ever quarter in terms of quarterly EBITDA/t at USD366 (v/s our estimate of UDSD264). The strong performance was driven by tailwind of contracted steel prices, one-third of which is due for re-pricing.

* TATA’s consolidated revenue of INR634b rose 19% YoY but declined 9% QoQ. EBITDA came in at INR150b, down 7% YoY and almost flat QoQ. EBITDA/t on a consolidated basis was at INR22,618/t, flat YoY and up 21% QoQ. Adjusted PAT stood at INR78b, down 14% YoY and 22% QoQ, in 1QFY23.

* Net debt increased QoQ to INR544b from INR510b earlier due to working capital build up during the quarter. In addition, the company paid INR109b on 4th Jul’22 towards NINL acquisition. The net debt post NINL acquisition stood at INR653b.

Spreads to normalize at both India and TSE

* North Europe Steel HRC prices corrected 28% on YoY and QoQ basis. The company had re-priced its contracts during Jan-Feb’22 of which around 30% will be due for renegotiation in 2QFY23E and the balance during 3QFY23E.

* There is a lag in the ASP of TSE v/s spot prices. However, the management has now guided for a correction in margin as the steel contracts are renegotiated down in line with the spot prices. * Domestic HRC price has corrected by over INR18,000/t from the peak in Apr’22 till date. Coking coal has also corrected sharply. However, the international steel price (China FoB) has also corrected by USD290/t i.e., ~INR22,000/t. Hence, the domestic margins are also likely to come off sharply in 2QFY23E.

Valuation and view

* The imposition of export tax in India has further dampened the domestic steel demand, which has already been impacted adversely by the slowdown in China. The volume impact due to demand slowdown is visible across all major domestic steel players.

* The impact of correction in coking coal price will be visible from 3QFY23E onwards, however, the steel price correction can continue if China does not recover. IMF has recently slashed global GDP growth rate further to 2.2%/2.9% for CY22/CY23, a downgrade of 0.4%/0/7%, respectively, with the US, China and India leading the downgrades list.

* The slowdown in China implies that despite the strong performance in 1QFY23, there is a possibility of a strong correction in performance in the remaining of FY23.

* The stock trades at 4x/4.3x our FY23E/FY24E EV/EBITDA. On a P/B basis, the stock is quoting 0.9x our FY23/FY24 estimates. We raise our FY23E EBITDA by 11% to INR448b, as we increase the standalone EBITDA by 17% and TSE’s EBITDA by 28% due to strong operating performance of both the entities in 1QFY23. We maintain our Neutral rating with a revised SoTP-based TP of INR1,055 (up from INR975 earlier).

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