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Jindal Steel and Power is in the midst of a large capex drive that scales up its capacity and improves its margin profile as well. With an improved balance sheet and strong growth outlook in the next two years, the stock is trading at a reasonable 6 times FY25 EV/EBITDA. We recommend that investors accumulate the stock presently when the full-scale of the expansion is yet to be baked into earnings.
Capex plans
The company plans to invest close to ₹24,000 crore till FY27 (current market cap of ₹69,000 crore). It expects to move from current capacity of 9.6 MTPA steel capacity to 15.9 MTPA by FY25, which is a 60 per cent growth. This encompasses projects adding to finished product capacity (outlay of ₹15,900 crore) and margin improvement (₹8,100 crore). In an optimal fashion, the company has planned coal mines and iron ore pellet manufacturing capacity first. This will be complemented by blast furnace, iron slab caster, hot strip mill (HSM), and other downstream capacity.
As per its timelines, the company expects completion by FY25, but one can anticipate delays, considering the significant regulatory red tape involved in the projects. The pellet plant has been commissioned in Q1FY24 and the second phase is expected to come online by year-end and HSM by Q3FY24. This pellet plant may generate external sales as well (5-7 per cent of sales) apart from supplementing even the expanded finished steel capacity.
On the demand side, Indian steel market is among the few facing positive demand growth — 14 per cent YoY in 1HCY23. The large national capex plans and revival in home and auto markets is expected to sustain demand at the higher level.
The domestic prices, though, have come off, from peaks of ₹75,000 per tonne reached last year, to current prices of ₹58,000 per tonne for finished steel products. The longer-term pricing will be dependent on domestic demand (positive), international demand and Chinese supplies. While international demand is also a positive for India on account of energy-constrained production in Europe and the West, the Chinese supplies will be a key determinant. If the Chinese steel production (currently in excess due to low domestic demand) reverts to a stable state, international, and hence domestic pricing, can arrest the decline facing steel prices this year
Margin tailwinds
Iron ore and coking coal have also come off from peak prices in domestic markets and expected to stay lower, aiding steel companies’ margins. But for Jindal Steel, the expected commissioning of close to 15 MTPA of coal mines will ensure a cheaper supply of coal and lower cost of raw materials aiding margins. Coking coal should account for 40-50 per cent of cost of steel making. The mines were long expected to add to production but have been delayed on regulatory complexities. Apart from coal supplies, an expanded pellet capacity and a captive power plant (expected by H2FY25), should make Jindal Steel a leading, cost-competitive producer of steel domestically, complemented by higher capacities of finished products.
Financials
Jindal Steel, similar to other steel companies, turned over its balance sheet strength in the last three years. From a net debt of ₹39,000 crore in FY19 (4.65 times net debt to EBITDA), the company is at ₹6,800 crore in Q1FY24, which is 0.75 times to EBITDA. For the future, including the high capex plans for the next three years, the company plans to limit its leverage to a maximum of 1.5 times net debt to EBITDA.
With improved margins and higher capacity including value added products, the company should improve its cash flows, supporting a higher internal funding to the projects.
The company is currently trading at 6 times one-year forward EV/EBITDA, which is in line with the industry; Tata Steel is at 6.3 times and JSW Steel at 7.3 times. More than reasonable valuation, investors can look forward to earnings estimates moving higher with Jindal Steel. FY24/FY25 revenue growth estimates seem modest at 14-15 per cent compared to 60 per cent capacity expansion on the cards in the next two years.
The EBITDA margin expansion estimate is also limited to 150-200 bps despite higher coal linkages, power generation and raw material supplies moving in-house. This could be on account of conservative estimates, but investors can accumulate the stock on corrections to provide a margin of safety in execution of the large capex plans.
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