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Steel stocks may not shine for too long

Steel stocks may not shine for too long
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First Published: Wed, Mar 18 2009. 10 38 PM IST

Updated: Wed, Mar 18 2009. 10 38 PM IST
There has been a spurt in the share price of steel companies lately. The share price of JSW Steel Ltd, which said recently that it would run its mills at full capacity owing to strong demand from rural areas, has risen by 12% in the past five trading sessions. Shares of Tata Steel Ltd have risen by 16% during the same period. But the fact that steel companies are doing well of late isn’t new information.
Thanks to the sharp depreciation in the rupee, a considerable amount of import substitution is happening. Earlier, imports accounted for about 12% of domestic steel demand. This is one of the main reasons volumes of domestic steel companies have risen despite the fact that domestic demand has fallen marginally. While there are some bright spots such as demand arising from heightened government spending and demand from rural areas, much of this is negated by the weakness in the real estate sector and the sluggishness in demand witnessed by the auto industry.
Also, companies are doing much better compared with the December quarter because of restocking activity after they cleared inventory rapidly on account of the liquidity crunch last quarter. As a result, volumes are expected to taper soon, which means that the current enthusiasm for steel stocks may not last long.
In any case, despite the spurt in their share price lately, shares of JSW Steel and Tata Steel continue to languish at about 14% and 19%, respectively, of their highs last January. But the sharp fall in the equity valuations could misguide. JSW Steel, for instance, has a market cap of about Rs3,000 crore, which looks cheap when compared with its estimated profit of about Rs1,000 crore this year. What’s more important is that its consolidated debt is nearly five times as much at Rs15,000 crore. On an enterprise value/Ebidta (earnings before interest, tax, depreciation and amortization) basis, valuations are still rich at about 5.5 times, based on Citigroup’s estimates. And the fact that the company is headed into the downturn with such a high leverage just adds to the risk.
Write to us at marktomarket@livemint.com
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First Published: Wed, Mar 18 2009. 10 38 PM IST