JSW STEEL Flexing realisation spreads

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1 COMPANY UPDATE JSW STEEL Flexing realisation spreads India Equity Research Metals and Mining JSW Steel s realisation spread has gone up to INR5,900/t for 9mFY12 vs INR4,400/t in FY11. We revise up our FY13 spread assumption to INR4,900/t from INR3,700/t assumed earlier, leading to 9% revision in our EBITDA estimates. We are also revising up our fair value for JSW Ispat to INR(52) vs INR(109) due to improved Q3FY12 performance and visible decline in cost. We maintain our BUY recommendation with a revised price target of INR992/share (earlier INR775/share). Revising realisation spreads on steady improvement JSW Steel s realisation spread (i.e. the premium of reported realisations over the benchmark HRC price) has been improving steadily. From an average of ~INR4,400/t in FY11, the 9MFY12 spread has gone up to an average of INR5,900/t. Factoring in this trend, sustaining in the last three quarters, we revise our spread assumption upwards for FY13 to INR4,900/t from INR 3,700/t assumed earlier. Cheaper power to elevate JSW Ispat earnings JSW Steel s 49% associate company, JSW Ispat reported an improved performance in Q3FY12 with an EBITDA/t of INR3,616 (vs INR2,357/t in Q2) on the back of 5.5% QoQ surge in realisations. The entity has also secured power from the group company, JSW Energy which will substitute the expensive power from the state grid, saving ~INR800-1,000/t. With steel prices improving further in Q4 so far and benefits of lower costs, we expect an improved performance going ahead. We now estimate the entity s FY13 EBITDA/t to be INR4,497 vs INR3,200 assumed earlier. Outlook and valuations: Better margins ahead; maintain BUY With domestic steel prices inching up in spite of declining raw material costs and a higher realisation spread, we expect FY13 EBITDA/t to improve to USD175 (vs USD159 estimated). Given the upward revision in JSW Ispat s FY13 estimates, we peg its fair value at INR(52) vs INR(109) earlier. With a revised price target of INR992/share (INR775 earlier), we maintain our BUY/Sector Outperformer recommendation/rating. Financials (Consolidated) Year to March FY10 FY11 FY12E FY13E Revenues (INR mn) 189, , , ,133 Rev. growth (%) EBITDA (INR mn) 40,707 46,627 51,238 73,815 Adjusted net profit (INR mn) 15,201 16,751 9,789 25,573 Basic shares outstanding (mn) Diluted EPS (INR) EPS growth (%) (7.6) (41.6) Diluted P/E (x) EV/EBITDA (x) ROAE (%) Edelweiss Research is also available on Bloomberg EDEL <GO>, Thomson First Call, Reuters and Factset. EDELWEISS 4D RATINGS Absolute Rating Rating Relative to Sector BUY Edelweiss Securities Limited Outperformer Risk Rating Relative to Sector Medium Sector Relative to Market Underweight MARKET DATA (R: JSTL.BO, B: JSTL IN) CMP : INR 860 Target Price : INR week range (INR) : 1,015 / 462 Share in issue (mn) : M cap (INR bn/usd mn) : 194 / 3,936 Avg. Daily Vol.BSE/NSE( 000) : 2,334.9 SHARE HOLDING PATTERN (%) Others 36.8% * Promoters pledged shares (% of share in issue) PRICE PERFORMANCE (%) Stock Nifty : 15.5 EW Metals and Mining Index 1 month months months (1.0) 3.0 (3.6) Prasad Baji prasad.baji@edelcap.com Navin Sahadeo navin.sahadeo@edelcap.com February 16, 2012 FIIs 20.2% Promoters* 37.7% MFs, FIs & Banks 5.2%

2 Metals and Mining Chart 1: JSW Steel s realisation spread : Steady improvement 12,500 10,000 (INR/t) 7,500 5,000 2,500 0 Q1FY09 Q2FY09 Q3FY09 Q4FY09 Q1FY10 Q2FY10 Q3FY10 Q4FY10 Q1FY11 Q2FY11 Q3FY11 Q4FY11 Q1FY12 Q2FY12 Q3FY12 Old FY13E New FY13E Spread Yearly average Source: Company, Edelweiss research Chart 2: JSW Steel s volume growth superior to industry growth (% YoY) (2.0) FY08 FY09 FY10 FY11 FY12E FY13E FY14E India steel consumption growth (%) JSW sales volume growth (%) Source: Company, Edelweiss research 2 Edelweiss Securities Limited

3 Change in estimates JSW Steel As a result of an upward revision in our FY13 realisation spread assumption to INR4,900/t from INR3,700/t assumed earlier, our EBITDA/t is increasing to USD175 vs USD159 assumed earlier. Our total EBITDA for FY13 is being revised up by 8.9%. However, our FY13 EPS is being revised up by 27.4% due to expected performance improvement of JSW Ispat. Key assumptions for JSW Ispat: We are increasing our sales volume assumption by 11.5% for FY13, as the company is purchasing HRC for re-rolling jobs. Assuming an 7.1% increase in the realisation assumption and factoring benefits of low power cost, we are revising up our FY13 EBITDA/t estimate to INR4,497 from INR3,200 assumed earlier. As a result, the estimated loss for FY13, is now assumed at INR(3,960)mn vs. INR(9,021)mn assumed earlier. Table 1: EBITDA/t revised up to USD175 for FY13 FY12E FY13E FY14E New Old % change New Old % change New Old % change JSW Steel - India operations ex Ispat Crude steel production (mt) Finished steel production (mt) Net blended realisation (INR/tonne) 38,383 38,383 (0.0) 39,695 38, ,452 38, Net blended realisation (USD/tonne) (0.0) (1.0) EBITDA (INR/tonne) 6,952 6,952 (0.0) 8,746 7, ,644 7, EBITDA (USD/tonne) Consolidated financials (Including JSW Ispat) Revenue (INR mn) 285, ,456 (0.0) 344, ,182 (0.0) 385, ,690 (0.1) EBITDA (INR mn) 51,238 51,239 (0.0) 73,815 67, ,520 75, Adjusted PAT (INR mn) 9,789 7, ,573 20, ,314 25, EPS (INR) JSW Ispat operational summary Volumes (mt) Realisation (INR/tonne) 38,139 36, ,894 36, ,901 36, Revenue (INR mn) 106,140 86, ,243 90, ,970 96, EBITDA (INR mn) 11,695 7, ,516 7, ,487 10, EBITDA (INR/tonne) 4,202 3, ,497 3, ,499 4, Interest (INR mn) 10,614 10, ,914 11,623 (6.1) 10,883 12,398 (12.2) Depreciation (INR mn) 5,963 5, ,036 6, ,074 6, PBT (INR mn) (4,201) (8,343) NA (3,960) (9,021) NA (3,639) (6,767) NA PAT (INR mn) (4,201) (8,343) NA (3,960) (9,021) NA (3,639) (6,767) NA Source: Edelweiss research 3 Edelweiss Securities Limited

4 Metals and Mining Table 2: Target price of INR992/share EV/EBITDA valuation for JSW Steel (ex-jsw Ispat) FY13E Steel business multiple (x) 6.00 Steel business EBITDA (INR mn) 72,627 Internaitonal mining business multiple (x) 5.00 International mines EBITDA (INR mn) 1,189 Enterprise value (INR mn) 441,704 Less:Net debt- previous FY (INR mn)* 229,069 Add: CWIP - previous FY (INR mn) 25,287 Less:Preference capital (INR mn) 2,790 Less:Minority interest (INR mn) 2,162 Valuation ex-jsw Ispat (INR mn) 232,970 No. of shares (mn) 223 Value per share (INR) (ex-jsw Ispat) 1,044 EV/EBITDA valuation for JSW Ispat FY13E Applicable multiple (x) 5.00 EBITDA (INR mn) 12,516 Enterprise value (INR mn) 62,578 Less:Net debt- previous FY (INR mn)* 86,318 Add: CWIP - previous FY (INR mn) 0 Equity valuation of JSW Ispat (INR mn) (23,741) JSW share in valuation - total (INR mn) (11,633) JSW share in valuation - per share (INR) (52) Total valuation for JSW Steel FY13E Value of JSW including JSW Ispat 992 Current market share (INR) 860 Upside(%) 15.4 Source: Edelweiss research Note: * including acceptances 4 Edelweiss Securities Limited

5 Company Description JSW Steel JSW, part of the USD 8 bn O.P. Jindal Group, was incorporated as Jindal Vijaynagar Steel (JVSL). It began operations in 1999 with the commissioning of the first Corex-2000 module in India (third in the world after Posco in South Korea and Isicor in South Africa), with a capacity to produce 0.8 mn tonnes of hot metal. In FY05, the company merged group company JISCO (Jindal Iron and Steel Company), which had a strong presence in downstream products such as CR and GP/GC products. In FY06, the company merged Euro Ikon, Euro Coke, and JSW Power and was renamed JSW Steel, transforming into an integrated steel manufacturer. The current steel capacity of JSW Steel is 11 mtpa, which includes 10 mtpa capacity at Vijaynagar and 1 mtpa capacity at Salem that caters exclusively to the long product segment. Investment Theme Global steel demand is showing mixed signals with strong growth in China and weakening demand in the developed world. Steel prices are expected to be range bound with steel margins expanding led by declining raw material cost. JSW has expanded rapidly to emerge as India s second largest steel producer in terms of capacity and has added 3.2 mtpa capacity in Q2FY12. It continues to focus on the domestic market and increasing its penetration in semi-rural and rural areas by opening retail outlets. Key Risks No partial restart of private iron ore mining in karnatka. Weakness in global steel demand leading to lower international prices. 5 Edelweiss Securities Limited

6 Metals and Mining Financial Statements Income statement (INR mn) Net revenue 189, , , , ,171 Materials costs 112, , , , ,509 Accretion to stock (171) (6,978) Employee costs 4,795 6,368 6,911 7,482 8,342 Total SG&A expenses 21,282 26,888 28,343 37,540 43,340 Power and Freight 10,475 12,067 13,095 15,660 17,460 Total operating expenses 148, , , , ,651 EBITDA 40,707 46,627 51,238 73,815 81,520 Depreciation & Amortization 12,987 15,597 19,085 21,835 22,385 EBIT 27,720 31,030 32,153 51,980 59,135 Other income 5,360 2,840 1,582 4,950 4,834 Interest expenses 11,080 9,454 17,412 15,884 16,334 Profit before tax 22,000 24,417 16,322 41,046 47,634 Provision for tax 6,467 7,823 4,554 13,727 15,988 Core profit 15,533 16,594 11,768 27,319 31,647 Extraordinary income/ (loss) - - (6,617) - - Profit After Tax 15,533 16,594 5,151 27,319 31,647 Minority interest (332) (239) (197) (181) (157) Share in profit of associates (1,949) (1,687) (1,489) Profit after minority interest 15,976 17,540 3,399 25,813 30,314 FCCB interest post-tax Adjusted PAT 15,201 16,751 9,789 25,573 30,314 Basic shares outstanding (mn) Basic EPS (INR) Diluted equity shares (mn) Diluted EPS (INR) Dividend per share (INR) Dividend payout (%) Tax rate (%) Common size metrics - as % of net revenues Operating expenses Depreciation Interest expenditure EBITDA margins Net profit margins Growth ratios (%) Revenues EBITDA PBT (33.2) Net profit (69.0) EPS (7.6) (41.6) Edelweiss Securities Limited

7 JSW Steel Balance sheet (INR mn) As on 31st March FY10 FY11 FY12E FY13E FY14E Equity capital- Voting shares 2,481 2,842 2,841 2,841 2,841 Pref. Capital 2,790 2,790 2,790 2,790 2,790 Reserves & surplus 87, , , , ,380 Shareholders funds 92, , , , ,012 Minority interest (BS) 2,187 2,358 2,162 1,981 1,825 Secured loans 134, , , , ,958 Unsecured loans 27,190 43,016 45,645 45,111 44,323 Borrowings 161, , , , ,281 Deferred tax liability 19,650 23,256 23,256 23,256 23,256 Sources of funds 276, , , , ,373 Gross block 267, , , , ,839 Depreciation 53,393 68,732 87, , ,037 Net block 214, , , , ,801 Capital work in progress 69,562 65,077 28,097 63, ,155 Total fixed assets 284, , , , ,956 Goodwill 8,992 10,932 10,932 10,932 10,932 Investments 6,282 29,138 20,572 18,886 17,397 Inventories 28,667 44,097 64,557 65,688 70,794 Sundry debtors 6,964 9,333 11,731 12,257 13,718 Cash and equivalents 3,030 20,480 23,986 24,155 13,368 Loans and advances 16,038 21,568 21,568 21,568 21,568 Total current assets 54,700 95, , , ,448 Sundry creditors and others 78, , , , ,995 Provisions 2,649 3,995 6,303 4,583 5,129 Total current liabilities & provisions 80, , , , ,124 Net current assets (26,027) (10,365) (16,608) (13,982) (30,676) Net Deferred tax 2,802 2,762 2,762 2,762 2,762 Uses of funds 276, , , , ,373 Book value per share (INR) Free cash flow (INR mn) Net profit 15,976 17,540 3,399 25,813 30,314 Depreciation 12,987 15,597 19,085 21,835 22,385 Others 9,361 8,302 25,781 17,390 17,666 Gross cash flow 38,323 41,439 48,266 65,038 70,366 Less: Changes in WC 4,710 13,137 (9,749) 2,457 (5,907) Operating cash flow 33,613 28,302 58,015 62,581 76,273 Less: Capex 27,537 55,181 53,020 45,058 75,000 Free cash flow 6,076 (26,879) 4,995 17,523 1,273 Cash flow metrics Operating cash flow 33,613 28,302 58,015 62,581 76,273 Investing cash flow (29,323) (76,331) (53,020) (45,058) (75,000) Financing cash flow (5,762) 50,961 (1,489) (17,355) (12,060) Net cash flow (2,063) 17,450 3, (10,787) Capex (27,537) (55,181) (53,020) (45,058) (75,000) Dividends paid (570) (2,397) (2,937) (2,937) (2,937) Share issuance/(buyback) - 59, Edelweiss Securities Limited

8 Metals and Mining Profitability & efficiency ratios ROAE (%) ROACE (%) Inventory day Debtors days Payable days Cash conversion cycle (days) (155) (121) (110) (105) (98) Current ratio Debt/EBITDA Debt/Equity Adjusted debt/equity Operating ratios Total asset turnover Fixed asset turnover Equity turnover Du pont analysis NP margin (%) Total assets turnover Leverage multiplier ROAE (%) Valuation parameters Diluted EPS (INR) Y-o-Y growth (%) (7.6) (41.6) CEPS (INR) Diluted PE (x) Price/BV (x) EV/Sales (x) EV/EBITDA (x) Dividend yield (%) Edelweiss Securities Limited

9 RATING & INTERPRETATION Company Absolute reco Relative reco Relative risk Company Absolute reco Relative reco Relative Risk Bhushan Steel HOLD SP M Coal India BUY SO M Hindalco Industries BUY SO M Hindustan Zinc BUY SO L Jindal Steel & Power BUY SO M JSW Steel BUY SO M National Aluminium Company HOLD SU M Sesa Goa HOLD SP M Steel Authority of India HOLD SU L Sterlite Industries (India) BUY SP M Tata Steel BUY SO M Usha Martin HOLD SP M ABSOLUTE RATING Ratings Expected absolute returns over 12 months Buy More than 15% Hold Between 15% and - 5% Reduce Less than -5% RELATIVE RETURNS RATING Ratings Sector Outperformer (SO) Sector Performer (SP) Criteria Stock return > 1.25 x Sector return Stock return > 0.75 x Sector return Stock return < 1.25 x Sector return Sector Underperformer (SU) Stock return < 0.75 x Sector return Sector return is market cap weighted average return for the coverage universe within the sector RELATIVE RISK RATING Ratings Low (L) Medium (M) High (H) Criteria Bottom 1/3rd percentile in the sector Middle 1/3rd percentile in the sector Top 1/3rd percentile in the sector Risk ratings are based on Edelweiss risk model SECTOR RATING Ratings Overweight (OW) Equalweight (EW) Criteria Sector return > 1.25 x Nifty return Sector return > 0.75 x Nifty return Sector return < 1.25 x Nifty return Underweight (UW) Sector return < 0.75 x Nifty return 9 Edelweiss Securities Limited

10 Metals and Mining Edelweiss Securities Limited, Edelweiss House, off C.S.T. Road, Kalina, Mumbai Board: (91-22) , Vikas Khemani Head Institutional Equities Nischal Maheshwari Co-Head Institutional Equities & Head Research Coverage group(s) of stocks by primary analyst(s): Metals and Mining Bhushan Steel, Coal India, Hindalco Industries, Hindustan Zinc, Jindal Steel & Power, JSW Steel, National Aluminium Company, Steel Authority of India, Sesa Goa, Sterlite Industries (India), Tata Steel, Usha Martin Recent Research Date Company Title Price (INR) Recos 13-Feb Feb Feb-12 Steel Authority of India Realisation surprise; Result Update Coal India Pricing power remains key; Result Update Tata Steel Inventory write down mars the show; Result Update 110 Hold 337 Buy 475 Buy Distribution of Ratings / Market Cap Edelweiss Research Coverage Universe Buy Hold Reduce Total Rating Interpretation Rating Expected to Rating Distribution* * 3 stocks under review > 50bn Between 10bn and 50 bn < 10bn Market Cap (INR) Buy Hold Reduce appreciate more than 15% over a 12-month period appreciate up to 15% over a 12-month period depreciate more than 5% over a 12-month period Access the entire repository of Edelweiss Research on This document has been prepared by Edelweiss Securities Limited (Edelweiss). 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