NMDC's Q2FY19 results (Outperformer) - All eyes on Karnataka

Q2FY19 result highlights- adverse sales mix offset higher realisation

• NMDC reported ~7% lower-than-expected EBITDA due to higher cost which in turn was due to higher proportion of volume from low profitable Karnataka mines (44% v/s 38% in Q2FY18).
• Reported EBITDA of Rs12.6bn, up 4.7% yoy, was driven by higher realisation (up 24% yoy/1% qoq to Rs3,580/t), offset by lower volume (down 19% yoy to 6.7mt). Volumes were lower in Chhattisgarh (down 28% yoy to 3.7mt amid heavy monsoon) as well as in Karnataka (down 8% yoy to 2.9mt). As a result, EBITDA/t at Rs1,880 was up 30% yoy. Benefits of higher prices at Chhattisgarh mines were offset by lower prices from Karnataka mines. As a result, blended iron ore realisation was up 1% qoq only.
• Cost/t during the quarter stood higher at Rs. 1,759/t, up 19.8% yoy (19.5% qoq). Cost has increased due to increase in other expenses which inturn was due to higher proportion of volume from Karnataka mines.
• Reported tax of Rs6.8bn included one off Rs2.07bn related to earlier years. NMDC used to expense service tax on royalty before implementation of GST in July 2017. However, during income tax assessment, tax authority has disallowed this expenditure. As a result, company had to provide taxes of Rs2.07bn on the entire amount prior to July 2017 (i.e. on Rs5.9bn).
• Adjusted for the excess tax, PAT stood at Rs8.4bn, flat yoy.

Key positives: Higher iron ore realisation

Key negatives: Higher costs, lower volumes from Chhattisgarh

Valuation & view: Retain Outperformer with TP of Rs172

NMDC is trying to settle off-court with the State Govt related to removal/ lower lease rental applied (80% of iron ore price) to Donimali mines at Karnataka. Though at CMP, the stock provides value despite no volume from Donimalai, any meaningful upmove will happen only with clarity coming in for re-opening of Donimali mines (capacity of 7mtpa). We do not see any distortion to FY20 volumes but FY19 volumes shall be affected.  However, in the best of scenario, NMDC’s CoP will increase in Karnataka. We expect the matter to be solved within months and have not changed our estimates. We have factored in Rs300/t cut in iron ore prices in 2HFY19. We value the iron ore business at 5.5x FY20E EV/EBITDA (Rs140/sh) and investments in the steel plant at Rs32/sh (50% of FY20E CWIP) and arrive at a fair value of Rs172. Reiterate Outperformer.