Steel sector - Analysis & Views

Chandrakant / 15 Dec 2011

We, at DSIJ, have tried looking at current valuations of top steel producing companies in India and compared it with those of other global steel producers on 2 important valuation ratios.

The steel industry remains a core component of any economy. That is why it is linked to the economic growth of countries. We believe that the valuations of steel companies should hover close to the GDP growth rate. However, there will be companies that will also command higher valuations because of their more extensive reach across the globe by virtue of exports to other nations. The price to earnings (P/E) ratio, in conjunction with the Enterprise Value to EBITDA ratio could give us some indication of which company is currently available at the lowest valuations.

We, at DSIJ, have tried looking at the current valuations of some of the top steel producing companies in India and compared it with those of other world steel producers on the two important valuation ratios. We also considered the EV/EBITDA multiple to value these companies on their operating performances.

Company Production Capacity (MT) PE (TTM) EV/EBITDA
Arcelor Mittal 

98.2

12.49

7.24

Baosteel 

37

9.87

5.29

POSCO 

35.4

7.27

6.64

Nippon Steel 

35

17.56

6.87

JFE 

31.1

13.29

5.82

Tata Steel 

23.2

4

5.24

U.S. Steel 

22.3

-32.12

0.07

Gerdau 

18.7

9.9

6.12

Nucor 

18.3

20.4

14.46

Severstal 

18.2

5.88

5.1

JSW Steel 

11

6.6

6.04

SAIL

14

6.42

4.59


From the table, it is clear that Indian steel firms are currently trading at the lowest P/E and EV/EBITDA levels. Among all the players listed in the table, TATA Steel is trading at the lowest P/E of 4x and an EV/EBITDA of 5.24x, which looks quite attractive. From an investment point of view, Tata Steel offers the opportunity of entering at lower levels than the two other Indian players, JSW Steel and SAIL.

However, Tata Steel's major revenue i.e. 52%, comes from its European business, which is currently going through a period of slowdown. This is one of the major reasons for the downfall in the scrip, by 47% in the last one year.

As we mentioned earlier, the steel sector is linked to the GDP growth of a country. Assuming a GDP growth rate of 7% for the year and factoring in the slowdown in Europe, we believe that the current valuations for Tata Steel seem to be justified. Therefore, we recommend that investors should stay away from the scrip, as the counter will not provide much gain from the short to medium-term perspective.

Steel Authority of India (SAIL), the country's largest steel making company, has continuously underperformed the market in the last one year. The scrip has declined by 60%, and is currently trading at Rs 76. It has also underperformed in comparison with other major players like Tata Steel and JSW Steel, which have fallen by 47% and 56% respectively in the last one year.

Though SAIL looks attractive at an EV/EBITDA of 4.29x, but concerns such as higher interest expense, higher input costs and potential delays in the commissioning of projects make us believe that the counter will not provide much opportunity in the short to medium -term.

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