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Impressive EBITDA performance 

Steel Authority of India (SAIL) has reported better-than-expected EBITDA at ~Rs23bn led by higher-than-expected realisation increase QoQ. Gross margin was higher by Rs9600/te QoQ. Raw material cost/te was up by ~Rs1,350/te QoQ (a positive surprise). Nearly 33% QoQ decline in volumes impacted operating leverage, thereby, restricting EBITDA gains. EBITDA declined by Rs1,903/te QoQ – a commendable EBITDA performance in our view. We see the possibility of a significant EBITDA contraction into negative territory in Q2FY23. We do expect net debt to move up over FY23/24E given the current capex schedule and the stress in domestic steel prices post 15% export duty imposition. We maintain REDUCE on the stock with a revised target price of Rs75/share (0.55x FY24E P/B).

* Possible write-down of iron ore inventory post ~50% export duty imposition. As of 30th June 2022, SAIL is carrying sub-grade iron-ore fines inventory of 41.79mnte (FY22 at 41.94mnte) valuing Rs40.21bn (as of FY22 at Rs40.35bn). Apart from low grade fines inventory, SAIL is also carrying inventory of tailings and inventory of extractable iron ore and scrap in BF slag and LD slag of Rs8.8bn. Continuous imposition of iron ore export duty can lead to write-down of ~Rs49bn of inventory in our view.

* Impressive EBITDA performance in Q1FY23. In Q1FY23, production volumes declined to 5% YoY and 33% QoQ, with exports contributing 5%. Lower volumes, which were partially offset by higher realisations, particularly, during April ‘22 after which the prices have declined considerably. In the QoQ EBITDA bridge, volume/mix impact was negative Rs17bn, higher input cost (mainly coking coal) impacted negatively by Rs34bn, while higher realisations were helped by Rs32.5bn. The impact on Q2FY23 EBITDA on account of pricing decline can be equivalent or more in our view

* Net debt expected to progressively increase over FY23/24E. SAIL’s net debt reduced from Rs377bn to Rs173bn YoY (down from Rs212bn QoQ by Rs38.6bn – against EBITDA of Rs43.4bn). We expect net debt to progressively move up over FY23/24E, given the capex plans in place. FY22 capex has been muted at ~Rs37bn. Rourkela, Bokaro and Bhilai continue to drive EBITDA performance (Durgapur and IISCO has reported EBIT loss). Inventory days have seen a sharp increase to 110 days (from 70 days QoQ and 99 days YoY) – this would have a bearing on reported net debt as well.

* Maintain REDUCE with a revised target price of Rs75/share. Notwithstanding the present earnings scenario, we ascribe ~0.55x P/B to FY24E. We do see the possibility of earnings progressively deteriorating for SAIL. It is confident of a better performance in H2FY23 with significant reduction in prices of imported coal and uptick in demand (construction and infrastructure).

Valuations and key risks

We maintain REDUCE on the stock with a revised target price of Rs75/share (earlier: Rs61/share). We value the company at 0.55x P/B based on FY24E (earlier 0.45x P/B).

Key upside and downside risks

Key downside risks: i) Cycle corrects itself and ii) higher organic capex announcement. Key upside risks: i) Higher-than-expected realisation and EBITDA/te, ii) better-than-expected deleveraging over FY23/24E on the back of lower-thanexpected capex.

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