|Non-convertible debenture programmes aggregating Rs 10.65 billion||AA+ (Reaffirmed)|
|Rs 4 billion commercial paper programme||P1+ (Reaffirmed)|
|Fixed deposit programme||FAAA (Reaffirmed)|
The current ratings assume that Tiscos gearing would decline going forward as the company has no significant capital expenditure or investment plans.
At the time of the last rating review in January 2002, Crisil had assumed that Tisco would not participate in the Tata groups foray into the telecom business. Crisil had, however, factored in the companys proposed ferrochrome project in South Africa and a brownfield steel capacity expansion at Jamshedpur. Subsequently, Tisco has dropped its telecom investment plans and has not yet finalised the brownfield project. These are positive developments because, in the absence of significant capital expenditure in future, the company would be in a position to reduce its debt levels, which are consistent with its AA+ rating category. The ratings continue to factor in the companys modest investments of about Rs 0.6 billion in its Rs 2.5 billion in the South African ferrochrome joint venture project. The ratings, however, assume that Tisco would not make substantial investments in any other non-core business. Tisco is currently carrying out feasibility studies for a titanium project in Tamil Nadu but an investment decision on this is expected only after a couple of years. Crisil would factor in the impact of any significant investments as and when they are made, depending on the quantum invested and the funding mix for the same.
Strong global cost position: Tisco is one of the lowest cost steel producers globally. This has enabled the company to effectively negotiate steel price cycles and remain profitable even during severe downturns. The companys cost competitiveness arises from its highly integrated operations backed by superior operating efficiency. Tisco derives a significant cost advantage from its low-cost captive sources of iron-ore and coal. The companys cost of coking coal, an important element of production cost, is among the lowest in the world, despite using a 50:50 blend of captive coal and imported coke. Blended coal is used to reduce the high ash level of Indian coal, which is not suitable for metallurgical operations. Tiscos cost structure also benefits from the modernisation programmes and process improvements that it has continuously undertaken.
Consistent cost reduction: Tisco has significantly reduced its costs by implementing the Total Operating Performance (TOP) concept across all processes. Cost savings have primarily accrued from improvements in throughput in different equipment and processes and reduction in specific raw material consumption. The company has also satisfactorily dealt with its high labour costs through continuous manpower rationalisation. The company recognises the need to further reduce costs and improve efficiencies. Tisco plans to achieve additional cost savings in the areas of strategic sourcing, inbound and outbound logistics, manpower and administrative costs.
Improving product mix: Tisco successfully commissioned a 1.2 million tonnes per annum (tpa) CR mill, which includes a 0.4 million tpa galvanising line, in two phases in FY2001 and FY2002. The company sold about one million tonnes of CR products in FY2002, thereby significantly improving its product mix (see chart below).
Tisco has also been accepted as a supplier to leading carmakers such as Tata Engineering, Ford, Maruti Suzuki and Mahindra and Mahindra. The companys product mix is expected to improve further in the future with increasing CR sales and consequently, reduced sales of its lower-end hot-rolled (HR) products. The company also plans to increase finishing capacity in the longs segment by setting up balancing equipment, which would reduce the proportion of semi-finished steel (billets) in the product mix. Besides, it has initiated the concept of branding a commodity like steel with Tata Tiscon (reinforced bars) and Tata Shakti (galvanised sheets) being some of its branded products. All these initiatives have improved the companys average realisations and hence profitability, as can be seen from the companys results for the first half of 2003.
Weak industry fundamentals: Tiscos business risk profile is, however, constrained by the steel industrys below-average risk profile. The steel industry is bogged by persistent excess production capacity and a high level of fragmentation. These adverse factors expose companies to severe pricing pressures, which affect profit margins. The industry is also characterised by cyclicality in demand and capital-intensive operations, which, in turn, affect the financial profile of steel companies.
High debt levels constrain financial risk profile: Tiscos financial risk profile is constrained by the companys high debt levels resulting from the large capital expenditure incurred in the past. The companys financial risk profile is characterised by a relatively high gearing and consequently, modest debt protection ratios (interest cover and cash accruals in relation to debt). Moreover, the companys profit margins fluctuate widely depending on steel prices. Tiscos operating margins, though superior to those of most domestic and international companies, declined sharply to about 19 per cent in FY2002 from about 25 per cent in FY2001. Net profit margins, which are constrained by high interest costs and depreciation and also by the extra-ordinary expenditure on account of its voluntary retirement schemes, declined to about 3 per cent in FY2002 from about 8 per cent in FY2001.
In the first half of FY2003, however, Tisco reported a sharp increase in profitability with a profit after tax of about Rs 2.7 billion on net sales of Rs 35.9 billion (Rs 0.48 billion and Rs 31.06 billion respectively in the first half of FY2002). Profitability improved primarily due to the increase in steel prices and also due to the companys improving product mix. Going forward, Crisil expects Tisco to sustain this strong financial performance.
No major investments factored in: The current ratings do not factor in any significant investments apart from the companys ferrochrome project in South Africa. The project is expected to commence by October 2003 and be completed by the end of FY2005. Given the managements project implementation track record, the project should be commissioned successfully.
The ratings assume that Tisco will only make negligible investments over the next two years for feasibility studies in its proposed titanium project. The ratings could be adversely impacted if the company makes investments in any unrelated businesses or goes in for inorganic growth through large debt-funded acquisitions.
The fortunes of the domestic steel industry are linked to economic growth and the level of government spending on infrastructure. Steel-makers experienced a tough year in FY2002, with prices falling to historically low levels amid a worldwide demand downturn. Global steel prices, however, have staged a recovery in 2002 led by improving demand, especially in China, and some amount of production cuts globally. Accordingly, domestic prices have also firmed up. While the recent trend towards protectionism is an unwelcome development overall, it has also helped boost prices.
An improvement in the industrys long-term prospects, however, seems unlikely unless its core problems such as overcapacity and fragmentation are addressed. A strong global economic recovery, which would result in higher steel consumption, is essential for prices to firm up and remain stable. Meanwhile, due to the continued slowdown in the global economy, domestic demand growth is expected to be low at 3-4 per cent over the next year. Prices are also expected to remain at current levels or even weaken marginally in the near future.
Key Rating Sensitivities
Going forward, any significant cash outflow on account of the outstanding SDF loans could impact Tiscos ratings. The key to the ratings would be the companys ability to improve or maintain its gearing at current levels despite the various investments that it may make. Any investment in non-core areas or any large debt-funded acquisition could result in a revision in the rating, as and when precipitated.