DSIJ Mindshare

MSP Steel & Power - Capex growth to bear fruit

MSP Steel & Power (MSPSPL), formerly Adhunik Rollers, came out with its FY11 results a few days ago. It witnessed a sharp jump of 57% in profit on a yearly basis, against a 29% jump in sales during the same period. The company is on an expansion spree – it has completed its first phase of expansion and is in the middle of the second phase. To know more about the company, its expansion plans and how this will impact its future financials, our analyst visited the manufacturing site of MSPSPL and got first hand information on the same.

Expansion Plans

MSPSPL is a Kolkata-based company which has its manufacturing unit at Raigarh, Chhattisgarh. It is engaged in manufacturing of pellets, sponge iron, long products and also has captive power generation capabilities. In the longs segment, it offers products like billets, TMT, structural, angles, channel, plates and beams.

Currently, the total installed capacity is 300000 tonnes per annum (TPA) for pellets, 307500 tonnes for sponge iron, 144109 tonnes for billets and 80000 tonnes for TMT Bars. Its Structural Rolling Mill has a capacity of 128000 tonnes. In addition to this, the company has a captive power plant with a capacity of 42 MW.

These capacities are after the completion of its first round of expansion, in which the company increased its capacity of sponge iron by 115500 tonnes and that of the power plant by 18 MW. Currently, the company is in its second phase of capacity expansion, wherein its pellet capacity will be expanded by two times to 900000 tonnes, sponge iron to 423000 TPA and that of its power plant from 42 MW to 76 MW.

The reason that MSPSPL has taken this huge capacity expansion is to capture the rising demand for steel in India. At its current capacity, its ability to service the demand is falling short. As per the company’s management, at the end of June 2011, its various plants (TMT, structurals, pellets) are operating at anywhere between 68-90% of their capacity.

The total cost of expansion will come to around Rs 815 cr, and the financial closure for this has already been achieved. Of this, banks will fund Rs 545 cr, internal accruals will be to the tune of Rs 135 cr and the rest will be funded by the promoters in form of six% redeemable non-cumulative preference shares of Rs 10, at a premium of Rs 90 per share. The company has already used Rs 335 cr from the bank. The average interest rate that the company is paying on its debt is around 12.5%.

Understanding the vagaries in the prices of key raw materials, iron ore and coal, MSPSPL has chalked out a long-term strategy to protect itself from such price volatility. Integrating backwards, MSPSPL has even got coal mines allocated in Madanpur (Chhattisgarh), which have an area of 714 hectares and reserves of 175 MT, in which MSP’s share is 26 MT. This is likely to serve the expanded capacity of MSPSPL for 26 years.

It has been allotted an iron ore block of 150 hectares with reserves of 35 MT, at Kankan (Chhattishgarh). However, the immediate benefit of these mines will not be available to the company as “it will take 15 months for the iron ore and three years for the coal to start producing ore and coal from captive mines respectively”, explained KK Jain, CFO of MSPSPL. This means that the financial impact of this back-ward integration will not be reflected in the current financial year, and will have a partial impact only in FY13.[PAGE BREAK]
Financials

The past financial performance of the company has witnessed a com-pounded annual growth rate (CAGR) of 39% in revenues for the five years ending FY11. The impressive part was the growth in profit, that increased from Rs 1.1 cr in FY06 to Rs 50.21 cr in FY11, growing at a CAGR of 115%. We believe that for the next year too, its topline will continue to grow at his-torical rates. Almost 10% of the growth will come from the price hikes and the rest will come from volume increase.

According to us, the second phase of expansion will start contributing to the company’s growth from the last quarter of FY12. In FY11, it was structurals that contributed the highest of 34% of sales, fol-lowed by TMT bars and sponge iron that contributed 33% and 26% respectively. When asked if there will be change in the sales mix in FY12, Jain said, “Going forward we expect the sales mix in FY12 to remain the same, with a slight increase in contribution from pellets”. Subject to the contribution of the pellet segment in the entire revenue, margins are likely to improve, as pellets have an EBITDA margin of more than 40% com-pared to others that hover between 18-25%.

When we argued that increasing raw material prices may eat away some of the margin, Jain explained, “We are setting up a six lakh ton of benefaction and pelletisation plant. Going forward, we will be purchasing iron ore from the market that will have Fe (Iron) content of 56-58% that is not exported and not used by any other company in India. None of the major  eastern and central Indian companies has a benefaction plant. This will help us in mitigating the volatility in our iron ore prices. We are also setting up a coal washery of 3.8 lakh tonnes. We have linkages of 2.5 lakh tones of coal from Coal India at prices lesser than the open market”. The price difference between iron ore sized with better Fe content and iron ore fine with lesser Fe content (including processing cost) is around Rs 3000 per ton.

Another factor that will boost both the topline and the bottomline of the company is, the installation of a power plant of 34 MW capacity, which will take its total power capacity to 76 MW. The company will use only 38 MW as captive, and will sell the extra 38 MW at Rs 4 per unit. This will boost the bottomline of the company, because it will have a cost advantage by producing 42% of the total power through the waste heat gas route, which is much cheaper than the conventional coal route. The total cost of power generation in the last fiscal was Rs 1.85 per unit, which will increase by 35-40 paise this year to around Rs 2.2-2.25 per unit. Sale of power contributed to four cent of revenue in FY11; according to management estimates, it will be between 7-10% in FY12.

When we look at the valuation of the company, the current share price discounts its FY11 net earnings by 6.2 times and the EV/EBITDA stands at nine times (assuming peak debt of Rs 660 cr). This is comparable to some of other listed companies in the same field. However looking at the company, the prospects look attractive, considering the future expansion plan that will fuel the growth rate. Therefore, we advise our readers to take an exposure in the counter, with expected price appreciation of 20-25% in the next eighteen months, when the full effect of the ongoing expansion plans will be reflected in the financials of the company.

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