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Tata Steel's Q3FY20 results (Outperformer) - A one off weak quarter

Q3FY20 result Highlights- Lower steel prices depresses earnings

Tata Steel reported very weak profitability with consol adj EBITDA of Rs26.4bn, down 34% qoq Adj. of one-time provision reversal, EBITDA stood at Rs21.7bn (IDFCe: Rs33.2bn). The miss was due to higher than expected losses in Europe business and higher inventory losses in India.

• Tata Steel Standalone (TSI) reported adj EBITDA of Rs34.7bn, up 4% qoq. However, adj of reversal of provision of Rs4.74bn in other expenses, EBITDA stood at Rs29.96bn (IDFCe: Rs32.5bn), down 10% qoq despite 15% qoq higher volumes (3.43mt, up 15% qoq). This was due to lower realisation (down 11% qoq) and hit on inventory valuation. Steel realisations were lower (down ~Rs3,500/t) due to lower domestic prices, higher exports and re-pricing of auto contracts at lower price. Adj EBITDA/t stood at Rs8,740, down 22% qoq.
• Tata Steel Europe reported higher than expected EBITDA losses at Rs9.56bn (IDFCe: -Rs2.0bn) with EBITDA/t loss of US$58 (+US$10 in Q2FY20). This underperformance in Europe was on account of lower steel spreads, offset by lower raw material prices and reduction in employee cost.
• Tata Steel BSL reported EBITDA of Rs2.75bn, down 47% qoq despite 20% qoq higher volumes (1.25mt) due to lower steel prices (down Rs3,605/t qoq) which in turn was due to geographical mix (higher exports) and re-pricing of contracts. This too was affected by inventory valuation. EBITDA/t stood at Rs2,794, down 56% qoq.
• Net debt reduced by Rs23bn qoq to Rs1,069bn at Q3FY20-end.

Positives: higher volume in India

Negatives: Lower spreads in Europe, lower steel prices in India in Q3

Change in estimates: Reduce FY20E EBITDA by 13% to factor in losses in Europe; increase FY21E EBITDA by 5% to factor in lower CoP

Valuation: Reiterate Outperformer with a revised TP of Rs489

After a dismal quarter, Tata will reap benefits of higher steel prices in Q4FY20 and as a result, we expect EBITDA/t to be higher by ~Rs4,000/t qoq to Rs13,000/t. However, its European operation will continue to remain drag on overall profitability. As Tata’s KPO phase-2 project is pushed forward, we will not observe any meaningful volume growth over next two years. We expect debt to pare down Rs1,069bn at Q3FY20 to Rs985bn at FY21E end. We increase profitability of Indian operation to factor in lower CoP. As a result, we increase our TP to Rs489/sh (earlier Rs447/sh). We value TATA’s India business at 6.0x FY21E EV/EBITDA and Europe steel business at 5.0x FY21E EV/EBITDA. Reiterate Outperformer