JSW Steel gears up for next phase of growth

A mix of backward integration initiatives to enhance input security and focus on value-addition will ensure profitable growth

With ~450 billion in capital expenditure (capex) planned over the next 30-odd months, JSW Steel, the country’s largest in the segment by market value, is gearing up for the next phase of growth.

The levers would be higher volume, better product mix, backward integration and de-risking by entering newer markets.

All these should help the JSW Steel stock (which is to enter the National Stock Exchange's benchmark Nifty index, dislodging pharma maker Lupin), sustain its outperformance. As compared to a seven per cent rise in the benchmark Sensex on the BSE and a flat-to-declining growth for its peers, the JSW stock is up 17 per cent thus far in 2018.

Volumes

To begin with, JSW is aiming at annual capacity of 25-30 million tonnes (mt) by 2020, from 18 mt now, through expansion at its existing facilities at Dolvi (Maharashtra) and Vijayanagar (Karnataka), and another 10 mt in overseas markets.

V S Seshagiri Rao, joint managing director and group finance head, says, “If JSW wants to maintain its 15-16 per cent share in India's vision of 300 mt by 2030, the company needs to have another 12 MT through greenfield (new plants) and it could be on Posco's land (allotted by the Korean major’s now-scrapped project) at Odisha.” This would cost around ~40 billion per mt, implying an investment of ~480 billion.

The overseas strategy is based on the fact that the US, Europe and countries elsewhere are opting for protectionism, says Rao.

Earlier, JSW never undertook steel making in overseas markets, and instead focussed on ways to value-add. Recently, however JSW announced a $500 million investment in the US to acquire a three mt facility. In India, it would cost around $1 billion to set up a mt unit and $600 million for expanding an existing facility.

“It makes sense from a capital allocation point of view, since JSW gets the same return on capital employed, if not more. Availability of gas at a competitive price and scrappage are advantages for operating cost, with a higher selling price and lower capital allocation,” says Rao. Analysts say this makes sense and JSW has balance sheet headroom to pursue such growth opportunities.

Value adding

Of the total capex, around ~60 billion is earmarked for downstream and backward integration projects for value addition, where the margin is incrementally ~8,000-9,000 a tonne, and product mix, which would bring down the volatility, says Rao.

JSW expects value-added products to contribute around 65 per cent (57 per cent now) of revenue in the next two-three years. It was 30-35 per cent a decade before. Value-added products helped JSW to beat the Street's estimate marginally in the March quarter. The per-tonne earning before interest, taxes, depreciation and amortisation (Ebitda) was ~10,374, as against estimates of ~10,172, as it had the flexibility to nimbly adjust its product mix, say SBI CAPS analysts.

JSW is also investing in iron ore and coking coal mines, as part of a de-risking strategy. In 2011, the Supreme Court’s ban on iron ore mining hit the company. Earlier, Australia was the only other source. Today, Canada, the US, South Africa and Russia cater to its need. Back home, by the end of this year, JSW will commence production at five mines, which would cater to around 20 per cent of its ore requirement in Karnataka.

“We are upbeat on JSW’s endeavour to accelerate the capacity expansion plan and take advantage of a robust operating environment. In the short term, operating efficiencies and focus on value-addition are likely to help maintain margins,” says Edelweiss Securities.

Another ~130-140 billion is earmarked for a coke oven plant to reduce external dependence, a capacity conveyor belt at Karnataka to reduce transportation cost by ~200-300 a tonne, digitalisation and captive power plants.

Outlook

Domestic steel demand is expected to grow by 77.5 per cent annually. JSW is expected to sustain or expand its share of the growing pie. The destabiliser could be the 80-90 mt expected global surplus in steel supply, due to import restrictions by the US, Europe and Turkey. While domestic players enjoy some protection, any adverse change in the government’s steel import policy (cut in duties) or fall in global prices could impact JSW and other producers.

The other risk, think some, is that JSW might be stretching its balance sheet. However, Rao sounds confident. JSW plans to raise around ~250 billion in debt, with the balance coming from cash accruals. Last year, JSW generated net cash of ~90 billion for capex and would continue to generate, which will lead to around ~270 billion at the end of the third year, he says.

As of end-March, its ratio of debt to Ebitda was 2.67 and the debt to equity ratio was 1.24. “Our debt to Ebitda will not grow beyond 3.75 and debt-equity beyond 1.75,” says Rao.