NMDC Rating ‘Buy’; Demerger of steel unit key trigger for stock

The reduction in iron prices was as per expectations; ‘Buy’ rating maintained with target price of Rs 185

We expect the de-merger/sale of NISP, which is the key trigger for the stock, to be completed by H1FY23.
We expect the de-merger/sale of NISP, which is the key trigger for the stock, to be completed by H1FY23.

NMDC announced a reduction in iron ore prices by Rs 300–500/t in December end, driven by a consistent decline in domestic pellet prices. The price of fines is down by Rs 500/t, with the price of lumps/DR-CLO having been reduced by Rs 300/350.

After a cumulative price hike in iron ore fines of Rs 2,350/t in Q1FY22, the company has been steadily lowering the prices of the ore in line with the reduction in domestic steel and pellet prices. The cumulative decrease in Q2FY22 and Q3FY22 stands at Rs 2,500/t. With the current round of reductions, iron ore prices are now lower compared to the start of the year. However, we note that primary rebar/secondary rebar/HRC prices are still 10%/5%/25% higher than the prices prevalent at the start of the year. Hence, further price correction by NMDC may not be warranted.

Steel plant de-merger on track
The management has guided that the demerged financials would likely be presented to the board in H2FY22. This is an important step towards a formal de-merger of the steel plant. Once the accounts of the demerged entity are approved, the company is likely to move to the next step. This involves a vertical split of the company, with every shareholder of NMDC becoming a shareholder in the steel plant (Nagarnar Iron and Steel Plant – NISP), as per the then prevailing shareholding; as well as obtaining various approvals. We expect the de-merger/sale of NISP, which is the key trigger for the stock, to be completed by H1FY23.

Outlook and valuation
We believe the iron ore market is likely to stabilise at end-Q4FY22 once China puts a stop to the cuts on steel production – which have resulted in a steep correction in iron ore prices in the global market. Adjusted for the value of the steel plant– which we are currently valuing at 25% of CWIP – NMDC’s Iron Ore business is trading at FY22e/FY23e EV/Ebitda of 3x/3.5x. We value the stock at Rs 185 on an SOTP basis, comprising (i) the Mining business (valued at 4.5xFY23 EV/Ebitda at Rs 167) and (ii) the Steel asset (at Rs 17/sh). Key risks are a further slowdown in China through FY23 and uncontrolled spread of COVID-19.

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