How Tata Steel is making the most of the metals surge

The company’s shares are now 120% higher compared to their pre-covid highs in 2020. (REUTERS)
The company’s shares are now 120% higher compared to their pre-covid highs in 2020. (REUTERS)

Summary

Tata Steel has exceeded Street’s already optimistic expectations on profits for Q4

Tata Steel Ltd has been making the most of the increase in demand for the base metal after the pandemic. A squeeze in global steel supplies and higher demand has increased steel realizations significantly for the company. As a result, Tata Steel has outpaced the Street’s already optimistic expectations on profits for the March quarter, driving the stock up 3% on Thursday. The company’s shares are now 120% higher compared to their pre-covid highs in 2020, and are at an all-time high.

Thanks to higher realizations and a better handle on costs, Tata Steel reported a sharp jump of 132% year-on-year in operating profit to 26,235 per tonne. Domestic realizations increased 33% year-on-year in Q4 and 19% sequentially.

The jump in profits had helped the firm cut debt and increase capital expenditure for growth, driving sentiment for the stock higher.

In Q4, both the Indian and European operations showed an improvement in profitability. Tata Steel Europe’s operations returned to profits after losses in the previous three quarters.

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However, Tata Steel Europe’s profitability was a tad lower than what analysts penciled in. This is largely due to carbon credit provisions and long-term sales contracts, which impacted sales realizations.

Nevertheless, Tata Steel’s Europe operations are ramping up deliveries in the coming year.

Due to its all-round growth, Tata Steel has seen an improvement in cash flows, and a reduction in net debt. “Tata Steel generated strong free cash flow of 8800 crore in Q4 and cut net debt by 90 per share sequentially. The free cash flow in FY21 stood at 23700 crore, while net debt came down by 244 per share," said Jefferies India in a client note. Note that Tata Steel shares had fallen to as low as 250 in the post-covid carnage in the markets in March last year. Hardly anyone would have imagined that a year later from then the company would generate surplus cash amounting around 250 per share.

Investors are also betting that the firm will reduce its net debt further in the coming quarters. The management has announced that its deleveraging could be to the extent of $1 billion in FY22. But analysts expect the company to exceed this target, based on the trends last fiscal.

On the domestic front, the management pointed out that the company could expand its domestic business by 1 million tonnes due to de-bottlenecking. Interestingly, Tata Steel announced the return of capital expenditure for its Kalinganar plant. This had been put on hold about two quarters ago as part of its cost-control exercise.

“The expansion implies a capital expenditure intensity of $426 per tonne, which is lower than the costs incurred on new plants. This makes the expansion a compelling proposition, which will aid the return ratio profile further," said Ritesh Shah, analyst, Investec Securities.

Going forward, though, one has to watch for global steel prices. So far, in the first quarter of FY22, steel prices are showing an upward trend. “With average hot rolled coil/cold rolled coil prices up by 9100/10000 per ton respective against the Q4FY21 average prices, and with Europe steel prices further increasing by $271 per ton against the average Q4FY21 price and muted costs in India, we believe the company is likely to report a strong first half in FY22," said Equirus Securities in a client note.

But given the sharp rally in the stock already, any dip in international prices poses a risk for investors.

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