During Q109, Sesa Goa Limited’s (SGL) net sales surged 147.3% year-on-year (y-o-y) on the back of a 54.7% increase in average realization, as the company increased its sales in the spot market where prices were higher than contracted prices.
As a result, spot-to-contract sales ratio improved from 26:74 in FY07 to 65:35 in FY08 and the iron ore segment registered a growth of 183.4% y-o-y.
Given a tight demand–supply scenario, iron ore prices have surged substantially over the past few months. While contract prices have increased 85% y-o-y, spot prices nearly doubled.
Though we expect spot prices to decline from the current levels due to the improvement in supply as Chinese steel makers have settled prices with Australian miners, they will still be higher than the FY08 levels. Thus, we expect average realisation for FY09 to increase to $80 - 85 per ton.
In order to discourage iron ore exports to meet domestic steel demand and contain inflation, the government has levied a 15% ad-valorem export duty on exports. Further, freight charges have increased substantially over the past few months. We expect all these factors would adversely affect the Company’s EBITDA margins.
We have valued the Company by using the relative valuation technique. SGL’s global peers are trading at an average EV/EBITDA multiple of 6.79. We give the company a discount to its global peers due to its smaller size, a higher political risk environment, and the lack of diversification.
Hence, we have valued SGL at an EV/EBITDA of 4.7x, which is at a 30% discount to its global peers. Our target price of Rs4,490 offers an upside of 44.9% from the current market price. We maintain our BUY rating on the stock.