Ind-AS revaluation depresses return ratios, net-debt- to-EBITDA analysis of Tata Steel’s FY17 is of particular significance because of Ind-AS introduction. Comparison of re-stated FY16 Ind-AS financials with previously reported IGAAP brings out many insights. Standalone EBITDA for FY16 is boosted by Rs 3.4 b as long-term power supply arrangement is now finance lease, which has increased debt by Rs 16.9 b. EPCG benefits are now deferred income; this has increased gross block (hence depreciation) and non-cash EBITDA (Rs 3.4 b in FY17). TSE-LP disposal: Ind-AS FY16 financials have excluded disposed assets, which contributed loss of Rs 1.8 b to EBITDA. TATA received negative consideration of `Rs 9.6 b, which was over and above Rs 4 b net working capital.
TSE turnaround is largely attributable to reduction in repair & maintenance, GBP depreciation, and some expansion in spreads in FY17. Accounting of JVs on equity method has reduced net debt by Rs 54 b and EBITDA by just Rs 2 b, thereby benefitting EV/EBITDA. Book value is inflated by Rs 132/share to Rs 425/share on fair valuation of assets and goodwill is trimmed by Rs 100/share to Rs 42/share in FY16. All the return ratios (RoE, RoCE, RoIC, asset turn) have declined under Ind-AS. Net-debt-to-equity declined sharply. On the other hand, EBITDA margin has improved under Ind-AS for TATA.
Working capital ate away EBITDA growth in FY17: Despite a strong growth in EBITDA from Rs 80 b in FY16 to Rs 170 b in FY17, operating cash flows actually dipped due to major swing in working capital. Disposal of assets was associated with Rs 10.8 b cash outflow. TATA had to borrow Rs 27 b incrementally, though net debt increase is lower at Rs 13 b on translation gain. Expect strong operating performance on strong steel pricing and spreads. Fair valuation of assets under Ind-AS has rendered traditional tools of valuation (eg: P/BV) and leverage (eg: debt/equity) useless. We need to now rely solely on cash generation potential, even for the cyclical steel industry. TATA witnessed strong growth in EBITDA, though FCF was still negative in FY17.
We expect stronger operating performance but still do not expect FCF generation because of pending BRPL acquisition and BPS payouts in FY18. However, we expect FCF generation and reduction in net debt in FY19. The global steel market has been stronger than our expectation as Chinese steel demand has surprised positively so far in CY17. We are cautious on the steel price outlook. TATA operates in India and Europe, where the markets are protected against dumping. More protection is expected in Europe by October. This may drive upgrades for TSE. We maintain ‘Neutral’.