The subdued demand environment in developed countries, especially Europe, remains a challenge for Tata Steel (Reuters)
The subdued demand environment in developed countries, especially Europe, remains a challenge for Tata Steel (Reuters)

Tata Steel’s higher-than-expected volume growth gets cheered by the Street

  • Consolidated adjusted operating profits increased 8.3%; sales volumes in India jumped 21% sequentially as the turn of the calendar year triggered fresh purchases by customers
  • Operating profit at Tata Steel Europe jumped 66%, driving consolidated earnings

Mumbai: Tata Steel Ltd has done well in the March quarter, despite cost pressures and weak product prices. Consolidated adjusted operating profits increased 8.3% sequentially even as profitability per tonne dropped 6.9%.

The impact of lower realization at the India business was mitigated by higher volumes. Sales volumes in India jumped 21% sequentially as the turn of the calendar year triggered fresh purchases by customers. Delivery volumes at Europe rose 9.4%. And thanks to savings on maintenance costs and the restarting of a blast furnace, operating profit at Tata Steel Europe jumped 66%, driving consolidated earnings.

The earnings exceeded Street estimates, driving up the stock by 6.7% on Friday. Jefferies India Pvt. Ltd warns soft prices can weigh on Tata Steel Europe’s profitability. Even then, deleveraging, combined with the volume expansion in India, should hold Tata Steel in good stead. The company management expects volumes in FY20 to be higher by one million tonnes, primarily due to the production ramp-up at the recently acquired Bhushan Steel plant and the Usha Martin plant. Further, normalization of raw material costs and price hikes mean operating profits are projected to improve compared to Q4 FY19.

The current slowdown in user industries, especially in the auto sector, does pose some headwinds. Automobiles is a large business segment for Tata Steel, and it offers better realizations and margins. “Management believes that Indian operations will remain relatively unaffected even if domestic auto slowdown persists as market share of the company would go up. Tata Steel BSL (Bhushan Steel Ltd) has received approvals from Tata Motors and Ashok Leyland, among others, for automotive supply. Besides, the company is also making inroads in other high value-add segments like oil and gas," Edelweiss Securities Ltd said in a note.

The performance in the March quarter and the post-results commentary is aiding the Tata Steel stock. But what of the outlook? The subdued demand environment in developed countries, especially Europe, remains a challenge. Much of the recent increase in domestic prices is driven by cost push and seasonal restocking in China, and the sustainability of these hikes remains to be seen.

The company is trying to reduce the risk to earnings through cost rationalization measures and deleveraging. The merger of Bhushan Steel and de-bottlenecking measures are expected to drive greater synergies, providing savings on procurement and sales, and general administration expenses.

Further, it plans to strengthen the balance sheet by reducing gross debt by $1 billion by the end of FY20. The measures, coupled with the proposed demerger of the European operations into a separate joint venture, should help Tata Steel withstand product price volatility and unfavourable macroeconomic conditions. How well the company delivers on this front will be crucial.

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