Tata Steel: good Q4 but all eyes on UK exit

Tata Steel Ltd’s results show its profitability in India has improved and losses at Europe have declined. The first half of FY17 should also see better numbers as the full impact of the steel price increases trickles into its profits. However, if the recent softening of iron ore and steel prices accelerate, it could wipe out the gains seen in recent months. The volatility in price movement is disconcerting as it makes it difficult to take a long-term outlook on the business.

The one aspect that everyone appears focused on is the disposal of the UK steel business. That process is underway and a successful sale, especially if Tata Steel manages to get good terms, will boost sentiment and improve its balance sheet position. Tata Steel Europe incurred a loss of Rs.357 crore at the Ebitda (earnings before interest, tax, depreciation and amortization) level, lower than the preceding quarter’s Rs.675 crore loss. This should continue to improve as its new contracts get priced at current rates.

Even now, selling loss-making or less profitable assets is what will make the European business more valuable. The long products sale should be concluded shortly which should see losses reduce. Similarly, the forthcoming sale of the UK strip business should also contribute to lower losses. It will still retain the Netherlands business, which ranks among the best European steel plants in terms of profitability, according to the management. It continues to invest in the Netherlands plant.

If all goes well, then Tata Steel’s FY17 results will primarily reflect lower sales contribution and lower losses from its UK steel business. The India business will step up contribution to sales and profitability as its new steel plant will add 1 million tonnes in output in the current year. As the plant’s output increases, it will become more profitable too. Unless steel prices tumble, Tata Steel’s India business should do well in the current fiscal.

There is the risk of too much domestic steel and weaker prices as other companies are also looking to boost output. But a restraint on imports should work in their favour and larger companies may well take the share away from smaller domestic rivals. In the near term, the management expects the full impact of higher steel prices to result in better realisations in the current quarter.

Tata Steel’s consolidated sales rose by 5.2% sequentially toRs.29,508 crore, while its material costs rose by a slower 4.1%. It did a good job of keeping costs under control, which contributed to total expenses increasing by only 0.1%. In turn, that meant its Ebitda improved to Rs.2,205 crore, compared toRs.184 crore in the preceding quarter.

However, the capitalisation of its new Kalinganagar plant in Orissa meant associated depreciation and interest costs jumped. That’s why the Ebitda number turned into a slenderRs.84.7 crore, while it reported a loss of Rs.3,214 crore after making write-downs related to its European business and a voluntary employee exit scheme in India and Europe.

How much more write-downs the European business will have to endure is not clear. Investors want a quick sale but the process may take longer, based on the history of past disposals. Till then, it will continue pulling down Tata Steel’s consolidated performance. This quarter’s results should, however, make investors confident that the rest of Tata Steel’s business is in better shape. The share is already up 48% since the introduction of the minimum steel import price in early February. How steel prices move from here on and the sale of its UK strips business will be the next big triggers to watch for.