Stock Fundamentals

Godawari Power and Ispat: Buy

Adarsh Gopalakrishnan | Updated on March 12, 2018

Col_Godawari.eps

Godwari

The company's high growth potential stems from rising demand for iron ore pellets.

Investors should consider buying shares in iron ore pellet and steel producer, Godawari Power and Ispat. The company's high growth potential stems from rising demand for iron ore pellets. With proximity to iron ore mines in Chattisgarh and a secondary steel industry in dire need of iron ore pellets, Godawari is likely to enjoy robust margins on its output. At 3.8 times the trailing 12-month earnings, the company's stock trades at a substantial discount to peers.

THE BUSINESS

Godawari Ispat has two major segments: Steel and power. In the steel segment, the company produces billets, wire rods and iron ore pellets. Including subsidiary Ardent Steel, Godawari's iron ore pellet production capacity stands at 1.2 million tonnes per annum. The company owns 53 MW of power capacity both for captive use and merchant sales.

Godawari Ispat's sales during the nine months ended December 2011 was up 2.5 times to Rs 1,403 crore. This was driven by a two-fold increase in iron ore pellet production. net profits were up 25 per cent to Rs 51 crore in the nine month period.

The key reason for the underwhelming profit growth has been the sharp increase in operating expenses. Raw material costs rose by 2.6-fold. This hurt operating margins which slipped by seven percentage points to 14 per cent.  

Moonsoons had forced the company to buy iron ore from external sources at higher prices. This condition has now reversed with the company ramping up output from its captive mine. The key driver moving forward is the sharp increase in utilisation levels of Ardent Steel's pellet making capacity.

This 600,000 tonne per annum plant is operating at less-than-50 per cent utilisation levels due to operational issues. Ardent Steel's pellet plant has seen production ramping up. The company is expected benefit from higher volumes in FY13.

Given the higher margins enjoyed by Godawari in the pellet segment, this increased production will boost profits of the consolidated entity. Margins could receive an additional boost by the expected additions of captive iron ore mines over the next two fiscals.



FLEXIBILITY PAYS

The company also has the capacity to produce 53 MW of power. In the past, it sold excess power to the grid to capitalise on higher profits to be had in the merchant power space.

When returns dip in this segment, Godawari channels the power into the production of sponge iron, steel billets and steel rods. This flexibility is a huge edge for secondary steel producers who ordinarily find themselves squeezed by both raw material and power costs.

FINANCIALS AND RISKS

The company's net debt:equity ratio stands at 1.2 times as on September 2011. The spike in expenses and added debt resulting from the merger of various parent group companies led to increased outgo on account of interest expenses. The company's interest coverage ratio slipped to 1.7 times in the nine months ending December 2011 period. This is likely to improve as the product mix skews towards relatively more profitable pellet-making.



Over the last one year, sponge iron prices have been on the rise on account of high raw material costs and limited supply. A revival in demand from secondary steel makers is crucial for price momentum to work in Godawari's favour.

Published on April 14, 2012

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