Home >Markets >Mark To Market >Tata Steel’s capacity leadership goals are at odds with deleveraging plans

Lately, investors in Tata Steel Ltd are turning jittery about its high debt. In the last four years, the steel behemoth’s borrowings have risen by about a fifth, increasing its net debt in FY19 to over 1 trillion. Naturally, then, the price of its stock has declined by more than a tenth this past year.

In the last few years, in a quest to retain market share domestically, Tata Steel has ramped up operations. Last year, through acquisitions such as Bhushan Steel Ltd and Usha Martin Ltd, the firm did well to take capacities up to about 19 million tonnes per annum (mtpa). Further, strategic expansions will take its total capacity to 30 mtpa by 2025. All this meant that Tata Steel had to raise additional debt to fund these expansions. “The strategic intent to attain industry leadership in terms of capacity remains at odds with deleveraging—and this is indeed a key concern," said analysts at ICICI Securities Ltd.

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The management has said in its annual report released lately that it will focus on deleveraging as a primary strategic measure to rebuild muscularity. Specific timelines, however, to shrink those high debt levels have not been provided, point out ICICI Securities analysts. The question now for most investors is how the company will handle its high borrowings.

Thankfully, some strategic measures such as the sale of assets and going slow on some domestic capacity additions have kept the high debt levels in check. Besides, other strategic measures are also in play such as extending the debt maturity profile.

“FY19 net debt, as calculated from the annual report, works out to 101,190 crore, against the 94,880 crore highlighted by the company (hybrid perpetual bonds + creditors for capital supplies added). The company has extended the debt maturity profile by successfully raising 4,315 crore in 15-year NCDs, and 12-year takeout financing for 15,500 at Tata Steel BSL," said analysts at ICICI Securities.

The good thing is that Tata Steel’s Ebitda (earnings before interest, tax, depreciation and amortization) levels have been improving. Still, a sluggish European operation would mean that much overseas debt servicing would have to take place from its domestic business. To an extent, domestic Ebitda will foot about 85-90% of debt-servicing bills in the near term, note analysts.

Much will also depend on how the company pares down debt. Analysts expect debt to shrink by about 3,000 crore in the coming year, although the management aims for higher levels of debt reduction. Still, much depends on steel revival at home. While the focus remains on deleveraging, a weakening steel cycle is a key hindrance to this endeavour, analysts at IIFL Institutional Equities said in a note.

There are risks from the slowdown in automotive sales, as sales to the sector stood at 2.12 mt out of total sales of 12.7 mt in FY19.

To top it all, valuations compared to global firms are discomfiting. “Indian steel company valuations are at a steep premium to global peers despite much higher leverage (net debt/Ebitda). EV/Ebitda multiples of global steel companies have come down from 5-6x in the past to about 4x now," said analysts at CLSA India Pvt. Ltd in a client note. EV stands for enterprise value.

So at least for now, shareholders of Tata Steel are not likely to reap the fruits of the expensive expansions.

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