The Hindu Business Line : Visa Steel: Avoid

Investors can give this public offer from Visa Steel a miss, as the risks outweigh the scope for capital appreciation in the medium term. Given the steep valuation, a high level of gearing and operational risks, the IPO may not provide an attractive entry point.

The company is offering 3.5 crore shares in a price band of Rs 52-57. The price-to-earnings multiple, at the upper end is about 35 times the likely FY-07 earnings on an expanded equity base.

0This appears expensive compared to its peers, such as Jindal Steel and Power, Tata Metaliks and Usha Martin, which trade at PEMs of less than 10. Even if one were to factor in the cost advantage linked to the proposed integration and the facilities that are to be added, the pricing of the offer is stiff.

Expansion plans

Visa Steel is in the business of manufacturing and trading of iron and steel products. It proposes to expand its manufacturing activities into an integrated stainless steel plant by setting up ferro-chrome and sponge iron units and a power station.

While the stainless steel plant is likely to be completed by December 2007, the ferro-chrome and sponge iron units are expected to go on stream in another 6-12 months. The benefits of the project are likely to be reflected in revenues and earnings from FY-08-09.

Till then, the expansion in earnings is likely to trail that in the capital base; the equity overhang is also to likely dampen the valuation.

So, the opportunity cost of locking in funds in this public offer is likely to be stiff. In the near term, sale of intermediary products such as pig iron and coke, and trading operations are likely to be the key drivers of earnings growth.

Lower prices

Prices of these products have cooled off by about 25 per cent from their historic highs and are expected to remain at current levels over the medium term.

The stage of the steel cycle is also a critical factor. If the steel price cycle is unfavourable between 2007 and 2009, it could lengthen the payback period for the expansion project of Visa Steel. This risk, too, makes the offer unattractive.

The company plans to bankroll about 65 per cent of the project cost of about Rs 1,100 crore via debt. Higher depreciation and interest outgo may dent profitability in the medium term. High dependence on trading also remains a cause for concern.

Over the past few years, Visa Steel has been deriving a fairly large proportion of revenues through trading operations. This proportion, has, however come down over the past few months. Sale of manufactured products accounts for about 55 per cent of its revenue.

The company expects to increase this share to about 70 per cent over the next couple of years.

Visa Steel has tied up with various suppliers for the long-term supply of iron ore and coal. This is likely to insulate the company from the vagaries of fluctuations in prices of inputs. On the flip side, its coking coal requirements are met largely through imports.

This being the case, the risks associated with exchange rate and price changes cannot be ruled out.

In the light of the above factors, we believe that the funds could be deployed in stocks that are more attractive from a growth perspective.

Offer details

The offer, which opened on February 23, closes on February 27. Post-offer, the promoters' shareholding will fall to 72 per cent.

Enam Financial and JM Morgan Stanley are the lead managers.

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