MOSL: NMDC (Buy)-Renewal pre-condition by Karnataka driving stock de-rating

NMDC: Renewal pre-condition by Karnataka driving stock de-rating; Lowering estimates and target price; Maintaining Buy

(NMDC IN, Mkt Cap USD4.1b, CMP INR92, TP INR110, 20% Upside, Buy)

Viability of NMDC’s mining operations is threatened by Karnataka’s pre-condition to share of 80% revenue for renewing mining leases of Donimalai, which has capacity of 4mtpa. The outcome of legal and diplomatic settlement may set a precedent for other mines. This was unexpected because public sector enterprises (PSEs) have been getting their leases renewed without sharing of any revenue – e.g. leases of Nalco’s bauxite mines have been recently extended to 2029 and 2032 without any share in revenue; many PSEs have been allotted coal blocks on a nomination basis.

Demand raised by Karnataka to make mining operations unviable

We believe that the Karnataka’s government demand for 80% revenue is unreasonable from the company’s perspective because:

• Auction data of captive iron ore mines cannot be used for merchant mines.
• Mining becomes unviable because NMDC’s EBITDA margin is much lower at 50-55%. The margin shrinks sharply at lower prices.
• PSEs are entitled for renewing of leases without sharing of revenue. Other states have been renewing leases without additional share in revenue.