IRON AND STEEL INDUSTRY

Submitted By:

S A Enayath

Abhisek Banerjee

Gaurav Motwani

Anupam Agrawal

ANALYSIS OF IRON AND STEEL INDUSTRY

 

 

We analyse the Indian steel sector with an attractive stance based on a bullish outlook for steel demand and pricing trends. We believe that the fundamentals of the Indian steel sector remain robust. With an economy that is decoupled from global economic and consumption growth and underpinned by aspirations of a rising middle-class, we believe it is time for India to enter a steel-intensive phase of economic growth. The robust pipeline of infrastructure build-up and healthy consumption trends will be at the core of steel demand growth, in our view. With adequate deposits of high grade iron ore, a technically trained manpower base, a long history of steel making, and more importantly a buoyant and fast growing domestic market, we believe India is ideally positioned to emerge as a hub for steel production in the region. We prefer plays that are leveraged to domestic steel demand growth and will benefit from tightening raw material markets.

India stacks up as the sixth largest steel producing nation in the world. The Indian steel industry has been operating at average capacity utilization levels of 90% over the past three years. Of this, the major producers comprising large integrated players (the organized sector) have been operating near peak utilization levels. Therefore, incremental growth in production, in our view, will be driven by ramp-up of recently built capacity, and/or commissioning of new Brownfield/Greenfield capacity.

We expect strong demand growth in India over the next five years, driven by a boom in construction (60%-plus of steel demand in India). Outstanding projects in India currently stand at US$1 trillion, growing 60%-plus YoY. Even at a marginal completion rate, steel demand would be an order of magnitude higher than that seen in the past. For example, even if two-thirds of the government’s 11th Plan infrastructure targets (total spending of US$350 billion) are met, about 100 MT of steel demand could be generated. We estimate a

16% CAGR in 2008-12, in line with the 16% capacity CAGR we anticipate. In case domestic demand disappoints, export remains an option, although we note that the cost advantage of captive iron ore is more than compensated by inefficient production (an extra US$92/ton of cost).

Crude steel capacity in India is expected to double over the next five years (a 16% CAGR) to 95 MT This is mostly in expectation of a sharp spurt in domestic demand. So all big the players are on expansion mode. Nearly every big player has announced their upcoming project in future.

SUMMARY OF THE MAJOR STEEL CAPACITIES ANNOUNCED

Company	State	Capacity MT	Latest Development
Tata Steel	Jharkhand	12	MOU signed in Sept 05
Posco	Orissa	12	MOU signed in June 05 Construction to start from April 08
JSW	Jharkhand	10	MOU signed in Nov05
Sail	Multiple	7	Under Implementation
JSPL	Orissa	6	Land Acquisition delaying project
Essar	Orissa	4	MOU signed in April 05
Sterlite	Orissa	5	MOU signed in Oct 04
Ispat	Orissa	5	Feasibility Studies in progress

COMPETITION ANALYSIS

1)    Concentration Ratio:

 

In Economics the concentration ratio of an industry is used as an indicator of the relative size of firms in relation to the industry as a whole. This may also assist in determining the market form of the industry. One commonly used concentration ratio is the four-firm concentration ratio, which consists of the market share, as a percentage, of the four largest firms in the industry. In general, the N-firm concentration ratio is the percentage of market output generated by the N largest firms in the industry.

 

·         The 4 firm concentration ratio of the Iron and Steel Industry is 71%.

·         This implies that there is oligopoly in the industry as it is dominated my few major players. Major percentage of market output is generated by the 4 largest firms in the industry.

 

2)    Herfindahl Index:

 

The Herfindahl index, also known as Herfindahl-Hirschman Index or HHI, is a measure of the size of firms in relationship to the industry and an indicator of the amount of competition among them. It is an economic concept but widely applied in competition law and antitrust. It is defined as the sum of the squares of the market shares of each individual firm. As such, it can range from 0 to 1 moving from a very large amount of very small firms to a single monopolistic producer. Decreases in the Herfindahl index generally indicate a loss of pricing power and an increase in competition, whereas increases imply the opposite.

 

·         Value of Herfindahl index for Indian Steel Industry is 2470.

·         It implies that the competition in the steel industry is medium to high and high concentration.

 

 

 

 

 

3)    Michael Porter Analysis 

 

Porter’s 5 forces analysis is a framework for industry analysis and business strategy development. It uses concepts developed in Industrial Organization (IO) economics to derive 5 forces that determine the competitive intensity and therefore attractiveness of a market. Porter referred to these forces as the microenvironment, to contrast it with the more general term microenvironments. They consist of those forces close to a company that affect its ability to serve its customers and make a profit. A change in any of the forces normally requires a company to re-assess the marketplace.

 

Bargaining Power of Suppliers – Low

·  Major Players have their own iron Ore Mines

 

Bargaining Power of Buyers – High

·  Large number of suppliers and Access to Global Markets.

 

Barriers to Entry – High

·  Huge Capital Requirement

·  Huge Economies of Scale

·  Well Established distribution network for existing players

 

Threat of Substitutes – Moderate

·  Aluminum and Plastics can be used by the automobile industry

 

Industry Rivalry-High

·  Large no of unorganized players

Major players are competing among themselves

RATIO ANALYSIS OF LEADING PLAYERS

Per share Ratios

I. Dividend per share-Dividend is distribution of profit among members.

SAIL has paid a dividend of 3.1 Rs/share in 2006-2007 which is quiet low as compared to TISCO and JSWL who has paid 15.5 and 18 Rs as dividend/share respectively. SAIL might wants to keep a major part of their profit in reserve for their future expansion. TISCO has paid the highest ever dividend i.e.Rs.130, plus 25% special dividend.

 

II. EPS-Earning Per Share (in Rs.)

• SAIL’s EPS was highest in 2005 i.e. 16.5, which declined to 9.72 in 2006 and then increased to 15.02 in 2007.This signifies that profit in 2006 were less due to which EPS was low.
• If you look at TISCO, EPS is quiet high as compared to SAIL. It was 66.27% in 2005 which increased to 72.71% in 2007. The difference is due to the larger profit of TISCO than SAIL.
• JSW has the highest EPS of 65.27% in 2005,which increased to 77.09% in 2007.This was due to lower number of outstanding shares with the company and the higher profit margins.

Profitability Ratios

I. Return on Equity (ROE) -ROE is one of the measures of how efficiently the company uses its assets to produce earnings.

• SAIL had 88.85 % of ROE in the year 2005 which declined to 41.47% in 2007. The reason for higher return was large debt carried by the company and lower book value. Profits were also good in 2005.
• TISCO had comparatively less ROE i.e. 60.02% in 2005 which declined to 35.62% in 2007 .It had large debt in 2005, which they paid off gradually and issued new shares.
• JSW had very low ROE of 39.89%in 2005 which declined in 2006 and then increased in 2007 to 26.98%. The company had lower profits in all the three years. It has the lowest ROE among other players.

II. Return on Capital Employed (ROCE) - It is a measure the company is realising from its capital employed.

• SAIL had the highest ROCE of 68.77% in 2005 which had declined to 58.27% in 2007.The company has utilised the shareholders fund to the optimum level and had given very good returns.
• TISCO also had a very good ROCE of 63.79% in 2005 which again declined to 36.79% in 2007.In 2007 share-holders funds was very and lower debts due to which ROCE declined.
• JSW had given the lowest return of 30.8% in 2005 which again declined to 26.24% in 2007. This signifies that share-holders fund must had increased in 2006 and then declined in 2007.

 

Leverage Ratio

Debt Equity Ratio- It is a measure of the company’s financial leverage.

• SAIL has paid their loan over the years and had maintained a lower debt equity ratio. The company is in a very good position and can easily take debt for their future expansion.
• TISCO has repaid their secured loans over the years. In 2007 their unsecured loan increased suddenly due to which their debt equity ratio went high up to 0.69%.This was due to their contribution towards Corus financing.
• JSW had comparatively higher debt equity ratio in 2005 which has decreased to 0.84 in 2007.That means the company has paid off their debt and is in better leverage position.

Liquidity Ratio

Current Ratio- The current ratio gives an indication of a firm’s ability to meet its cash obligations coming due within the next year.

• SAIL had a high current ratio of 1.59%, 1.23% and 1.18% in 2007, 2006 and 2005 respectively, which indicates that current asset has increased over the year. Company is keeping more of quick asset for their working level expansion.
• TISCO had a low current ratio of 0.71% in 2005 and 0.72% in 2006 but a high current ratio of 1.74% in 2007, which signifies that company want to keeps more of liquid funds in coming years as they are on expansion mode.
• JSW had a low current ratio of 0.98% in 2005, 0.89% in 2006 and 0.75% in 2007, which could indicate a developing cash flow problem.

Payout Ratio

Dividend Payout Ratio (DPR) - It looks at what percentage of the company’s earnings is paid out to the shareholders.

• SAIL had paid a DPR of 23% over the years. This signifies that the company is paying a good share of the profit to the share-holders.
• TISCO had paid a comparatively higher DPR of 25% over the years. The company knows the importance of their stake-holders and rewarded them well. The company has kept aside a large sum of their money for expansion plans.
• JSW had paid a very low DPR of around 17% over the years. This signifies that the company is trying to retain most of their profit to fund growth.

Coverage Ratio

Financial Charges Coverage Ratio- It measures the ability of a company to service its debts in relation to its financial charges.

• SAIL’s financial position had improved over the years. In 2005 it was 18.45% which improved to 33.12% in 2007. This signifies that the company is in a better position to pay-off their interest and fixed charges.
• TISCO’s paying capacity was comparatively good over the years. It was 36.46% in 2006 which decreased to 29.18% in 2007. This was due to higher interest paid on unsecured loans.
• JSW‘s ability to satisfy its fixed financing expenses is low. It was only 4.93% in 2005, which marginally increased to 6.99% in 2007.The company’s fixed charges and interest is quiet high.

Capital Market Ratio

Price Earnings Ratio (P/E Ratio) - It tells you how much the company is going to pay for a stock in relation to its current earning power.

• SAIL‘s P/E Ratio was best in 2005 which was 3.92% along with higher return on equity. It was one of the best companies to invest in. In 2007 it increased to 7.85.Lower P/E Ratio is favourable.

• TISCO has maintained a P/E Ratio of 6.5% over the years. It went high in 2006 to 8.72%, but again came down to 6.5% level. The company’s return on equity is quiet favourable, so it is a good company to invest in.
• JSW had maintained a P/E Ratio of 8.5% over the years which is comparatively high than the other companies in the same industry. The company’s return on equity is quiet low, so it is a good company to invest in.

Du Pont Model

It provides a unique look into an operations financial structure and operating efficiency.

1. Net Profit Margin Ratio- It is a ratio comparing net profit after taxes to revenue.

• SAIL had very high net profit margin in 2005 i.e. 23.19%.In 2006 it dropped to 13.79%, which was due to high global steel prices. In 2007 it again reached to 17.38 because of higher sales in 2007.
• TISCO has maintained a consistent net profit margin over the years i.e. approximately 23%. This was possible only because of appropriate operational methodology followed by TISCO
• JSW had maintained a lower Net Profit Margin Ratio of 14% as compared to the other players. This signifies that company’s return on sale is quiet less and the company might not take the advantage of economies of scale as the sales are comparatively low.

2. Asset Turnover Ratio- It compares the turnover with the assets that the business has used to generate that turnover.

• SAIL had utilised its asset well. It was 1.03% in 2005 which increased to 1.16% in 2007.
• TISCO had properly utilised its assets to generate sales. Their ratio is almost equal to the Sales ratio.
• JSW had the lowest asset turnover ratio among the three players. It was 0.88% in 2005 which decreased to 0.81% in 2007.

3. Return on Net Worth (RONW)

All the three major players has shown the same trend and given maximum return in 2005 and then gradually decreased till 2007. But SAIL had given the maximum return out of the 3 players in all the years. So we can conclude that SAIL had utilised the shareholder funds to the optimum level.

Others Parameters

In the above three major players SAIL is the market leader with the maximum sales of around 40000 crore in 2007, then comes TISCO with the sales of 20000 crore approximately and then comes JSW Steel with around 10000 crore sales.

If we look at the profit earned by companies then TISCO had given the highest return over the years, followed by SAIL and then JSW Steel.

All the major players are on expansion mode, trying to take advantage of booming Indian economy. As India’s steel consumption is going to increase to 65 million tonne by FY09-10. So companies are trying to keep more of liquid reserve and lower debt equity ratio, so that they can easily obtain as and when required.