Set to flex its muscle. Record high steel prices led by strong demand recovery and global tightness in iron ore helps Tata more than peers. Steel spreads in Europe too are catching up after lagging behind Asia in the initial leg. We expect spot spreads to moderate in FY2022E but the current strength helps reduce leverage and drives earning upgrades. Europe divestments, if successful, could re-rate close to our Bull case value of Rs 1,000/share. We reiterate ‘buy’ and revise fair value to Rs 800 (from Rs 700 earlier).
We believe the Netherlands divestment to SSAB has a better chance of getting regulatory clearance than the company’s earlier merger attempt with Thyssen. IJ muiden and SSAB do not have a geographic overlap within Europe and have limited product overlap. With completion of due diligence, the MOU should be announced in 4QFY21. The deal at a potential EV of $2.5- 3 billion would add Rs 100/share to our fair value and a re-rating would provide further upside. Management is also working with the UK government to find a sustainable solution for Port Talbot and is resolute on not giving funding support to UK losses.
Over the past 12 years, Tata has lagged JSW Steel in capacity growth (4.7%/6.3% CAGR). Earnings volatility and cash losses in Europe have cost management bandwidth, balance sheet flexibility and impacted the pace of growth in India.
After a potential exit from Europe, India business would generate Rs 130-140 billion FCF before growth capex in FY2022E/23E. With ~20% FCF yield, growth plans would not increase leverage.
Domestic steel prices are up by Rs 6,500-7,000/tonne q-o-q in 3QFY21E and exit prices of 3QFY21 are Rs 4,000/tonne higher.
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