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Russia-Ukraine crisis to raise input cost, but also boost exports for Indian steel firms: Icra

Reduced market access for Russian steel mills could help Indian steel producers increase footprint in geographies like Europe and the Middle-East. (Photo: Bloomberg)Premium
Reduced market access for Russian steel mills could help Indian steel producers increase footprint in geographies like Europe and the Middle-East. (Photo: Bloomberg)

  • The ongoing conflict in eastern Europe could exert input cost pressures on domestic steel mills, which makes us believe that the gross spreads for a primary steel producer, who is dependent on market purchase of raw material, would be sequentially lower by around 15% in the current quarter

NEW DELHI: Sanctions on Russia, following its invasion of Ukraine, will push up input cost for domestic steel companies for a while till raw material trade flows readjust. The disruptions, however, will also lead to export opportunities for Indian steel makers, rating agency Icra said in a research note.

Being the fifth largest coal producer globally, Russia accounted for 10% and 17% of international trade in metallurgical and thermal coals respectively in calendar year (CY) 2020. 

Since the start of FY22, international coal prices have surged, with spot prices of premium hard coking coal (FoB Australia basis) and high-grade thermal coal (FoB South Africa basis) rising 300% and 125%, respectively.

Elevated coal costs have started to nibble at the margins of listed steelmakers from Q3 FY22, as earnings trended downwards from the high watermark of Q2, Icra said.

In addition, Russia is the third largest global producer of nickel, a key raw material used in stainless steel production and, along with Ukraine, Russia is also a leading global exporter of iron ore pellets. Supply disruptions of these key steelmaking raw materials, would lead to heightened input cost pressures for Indian steel companies, the ratings agency added.

“After reporting a steep 65-70% sequential increase in cost of coking coal in Q3 FY2022, a further increase of 15% QoQ is expected in the fourth quarter. Though price of iron ore has moderated somewhat from the highs of Q3, and domestic mills have announced some steel price hikes from late January 2022, these will not be able to entirely compensate for the steep rise in coking coal costs," said Jayanta Roy, senior vice-president & group head, corporate sector Ratings, Icra, said.

“The ongoing conflict in Eastern Europe could further exert input cost pressures on domestic steel mills, which makes us believe that the gross spreads for a primary steel producer, who is dependent on market purchase of raw material, would be sequentially lower by around 15% in the current quarter, and the industry’s fourth quarter earnings would be lower than Q3 FY2022 level. Nevertheless, in absolute terms, the industry’s earnings are expected to remain at healthy levels in the next 12 months, leading us to maintain a Positive outlook for the sector," he said.

Apart from supplying several steelmaking raw materials, Russia and Ukraine are the 5th and 12th largest steelmakers in the world respectively, cumulatively accounting for around 10% of the global steel trade. Around 45% of the steel production from Russia and around 75% from Ukraine are exported to other nations. This, Icra said, could lead to regional steel supply shortages as Russian mills brace for sanctions and Ukrainian steel production gets severely disrupted by the conflict. Therefore, in the export markets, leading Indian steel companies can expect to see some market share gains if they can further their capacity utilisation levels.

“Reduced market access for Russian steel mills could help Indian steel producers increase footprint in geographies like Europe and the Middle-East, where the C.I.S countries cumulatively exports around 22-23 million tonnes of steel annually. Indian mills could also vie to have a greater footprint in the US, where Russia is a key supplier, and where the presence of Indian steel companies is fairly limited so far. However, extent of export would be limited by the already high capacity utilisation levels of leading steel companies in India" Roy added.

Following the outbreak of the second coronavirus wave at the start of the current fiscal, and the Omicron outbreak subsequently in November 2021, domestic steel demand recovered from these setbacks and started to register a healthy sequential pick-up from December as construction activity gathered momentum. Monthly domestic steel consumption crossed 10 million tonne in January 2022, the highest level recorded in the last eleven months. With the government making a strong push for infrastructure led growth in the country centered around the Gati Shakti Master Plan in core sectors like railways, roadways, multimodal logistics parks, and energy, domestic steel demand is expected to grow at a healthy rate of 7-8% in FY2023 on the back of an estimated growth of 11-12% in FY2022 and a contraction of 6.0% in FY2021.

The metals meltdown of FY16 led to a prolonged industry downturn which persisted for several years, making both lenders and steel mills cautious on new investment projects. However, after a gap of eight years, with the industry’s capacity utilisation poised to touch 80% in FY23 again, new investment activity has seen a rebound as lenders redraw their negative list for sectors following the earnings surge of steel companies. 

Over FY22-FY26, India’s steel capacity is likely to increase by 40 million tonne per annum (mtpa), which is almost double the quantum of capacity added during FY17-FY21. However, notwithstanding these sizeable expansion plans, given the deleveraging that has happened and the healthy cash flows likely to be enjoyed, the steel industry today is more resilient to withstand project related risks, which had significantly weakened the sectors’ credit profile during the previous capex cycle of FY12-FY16, said the report.

Moreover, with the capital deployment for these upcoming projects remaining relatively modest during the initial years of implementation, the industry’s key leverage ratio of total debt/ OPBITDA is expected to remain at a comfortable 1 time in FY2023, the report added.

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