CLSA on Tata Steel and Hindalco: Steel mills likely to report robust EBITDA/t increase, better Q4 outlook

CLSA highlights that the steel price increase that started in June gained strength through the second half of CY20. This is likely to drive strong Q3 earnings increases despite soft volume growth. Higher spot steel prices are likely to drive decade-high sector profitability in Q4. Base metal company earnings are also likely to improve on stronger prices. Overall we expect 14-145% YoY Ebitda growth for covered steel/metal companies. Key issues to watch are demand/volume outlook, capex guidance and leverage trajectory. Tata Steel and Hindalco remain top sector picks for CLSA.

Tata Steel:

In its Q3 production release, Tata Steel highlighted that exports were 11% of sales versus 24% in Q2. Automotive and special products grew 48% YoY, branded products & retail grew 5% YoY while industrial products & projects grew 47% YoY. While volumes have been released already, margins are likely to be very strong. Pricing outlook for Q4 and profitability in Europe will be a key issue to watch.

Hindalco - outlook on Novelis key:

Novelis: CLSA expects profitability to remain strong at US $475/t (Q2: US $493/t) on resilient spreads and improving auto sheet business. Volumes are likely to decline QoQ, in line with seasonality. Domestic aluminium profitability is expected to rise US$51/t QoQ on higher aluminium prices, partly offset by hedging and a higher cost of production (COP).

Key things to watch include:

1) outlook on Novelis recycling spreads
2) auto sheet demand trajectory
3) domestic aluminium COP outlook
4) hedges going into FY22
5) an update on arbitration on Aleris’s Europe auto sheet business divestment

Steel - margins expected to improve on higher prices; Q4 likely to be decade-high:

The steel price increase that started in June gained strength through the second half of CY20, driven by strong China demand, improving India demand, higher iron ore prices, and supply disruptions. This has led to a 21% (Rs6,050/t) QoQ spread increase. Domestic steel prices increased Rs7,200/t (18%) QoQ in 3Q. Spot steel prices are Rs10,000/t higher than the 3Q average (China export prices are up US$90/t). This will drive decade-high margins for steel companies, in CLSA’s view. India steel consumption has increased 6% YoY in the December quarter. Exports have reduced meaningfully. Domestic steel exports have reduced from a run rate of 1.8mt per month in the September quarter to 0.5mt in the December quarter.