JSW Steel: Firm profit outlook will help sustain sentiment

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JSW Steel may have seen a relatively soft September quarter but its prospects remain firm in light of the improving demand environment, as well as profitability and firm prices.

While the company's production at 3.94 million tonnes (MT) in the quarter ended September 2017 (Q2) fell by about a per cent year-on-year, it was due to temporary disruption. Production fell short by about 300,000 tonnes due to goods and services tax (GST)-related issues in Karnataka iron ore auctions, water shortage in Salem and flooding at the company's Dolvi unit. However, JSW has put these issues behind itself and has maintained its production and sales guidance of 16.5 MT and 15.5 MT, respectively, for FY18.

The company, however, recorded its highest ever quarterly saleable steel sales volumes of 3.96 MT, helped by the liquidation of inventory, which was built-up during the June quarter in the run-up to the implementation of GST. JSW's consolidated domestic sales volume increased by 12 per cent sequentially, as retail sales grew by 24 per cent.

On profitability, despite the sequential increase in domestic steel prices, blended realisations didn't benefit much on the back of a higher share of fixed contractual sales. Exports continue to grow and were up 33 per cent sequentially. However, the benefits on realisations were limited as many contracts were booked earlier at lower prices, say analysts. Moving forward, the benefits of higher realisation will start accruing.

The company's coated products felt the heat of cheap imports as rising zinc prices have increased costs. Analysts say that landed price of coated products from China and Vietnam are 15-16 per cent lower than domestic prices. The company's subsidiaries, such as its US pipe and plate mill that saw Ebitda (earnings before interest, taxes, depreciation, and amortisation) fall sharply to $1 million from $5 million due to the impact of the hurricane that hit the Texas state, further pulled down the consolidated performance.

Nevertheless, JSW expects realisations to inch up in the second half of FY18, given the improvement in global macros and expected an increase in domestic demand. China steel prices, which had softened till May 2017, have firmed up thereafter. Hence, even as orders booked in May have led to an increase in imports in the September quarter, the impact is likely to reduce moving forward. However, marginal pricing pressure is likely to continue in the coated and galvanised iron segment owing to the continued threat of higher imports.

The entire sector is plagued by cheap imports, which impact the pricing power of domestic players, says Rahul Agarwal, director, Wealth Discovery. Agarwal believes that going forward, the company, as well as the sector, will do reasonably better with expectations of demand firming up given some big-ticket infrastructure projects coming online.

Analysts, however, remain confident of margin improvement. IIFL's analysts expect margins to expand from Q3 onwards as JSW would benefit from improvement in steel prices and also gain from lower iron ore prices. Many expect the Supreme Court to soon announce its judgment on the lifting of the iron ore mining cap by 10-15 MT, thereby enhancing supplies in Karnataka and easing cost pressure for JSW Steel. Some analysts also expect Category-C mines starting in FY19, which in turn will increase iron ore availability further. By May 2018, the starting of pipe conveyor for transporting iron ore to Vijaynagar is also expected, which will reduce the company's logistics cost.

While analysts at Motilal Oswal Securities expect margins to expand for JSW Steel led by stronger steel prices, those at Elara Capital say that improving product mix, better performance of subsidiaries and higher cost efficiencies will aid earnings and return ratios going ahead.

Analysts at Prabhudas Lilladher have kept their estimates unchanged for FY18/FY19 on the back of improvement in exports realisations, higher pricing in flat products' contracts and seasonal pickā€up in long product prices. Analysts at Motilal Oswal Securities have cut their FY18 estimates marginally by 1.8 per cent but their FY19 estimates remain unchanged and so does their target price at Rs 297. Credit Suisse, too, has cut its FY18 earnings by five per cent but increased FY19 earnings by four per cent and raised its target price for JSW Steel stock to Rs 300.

The stock has gained nearly 60 per cent in the past one year to reach Rs 265 currently. Given the run-up, investors may consider declines for an entry into the counter. 

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