Muted near-term iron prices likely to keep NMDC stock under pressure

Other triggers such as demerger/listing of steel plant unlikely this year

Prices of iron and steel have seen high volatility since the Russia-Ukraine war (February 2022) which also coincided with China’s lockdown and shutting down of high-emission sectors. As a result, there’s a combination of supply chain issues and weak demand.

In addition, the Indian government imposed stiff export duty, which has led to over-supply in the domestic market. Prices initially spiked due to fears of shortages in March and April but have since declined sharply and are now below Jan 2022 levels across all categories, including hot rolled coils, rebar, iron ore and a key input, coking coal.

The impact on National Mineral Development Corporation (NMDC), which is the largest iron ore producer has been severe. NMDC has a capacity of about 48 million tonnes per annum. It has mining complexes in Chhattisgarh and Karnataka with 1.5 billion tonnes of iron ore reserves. In 2021-22, ore production of 40.6 million tonnes accounted for 16 per cent of domestic iron ore production. The company plans to expand its capacity to 67 million tonnes per annum (MTPA) by commissioning of new mines -- a 3 MTPA greenfield steel plant in Chhattisgarh is in the works.

Iron ore prices have declined between 20-35 per cent since January, with the steepest corrections in June, followed by some price stability in July. This has come on lower volumes. NMDC’s ore realisations are at roughly 60-65 per cent discount to global prices. (Its ore is of lower quality due to higher alumina content). Input costs such as coking coal have also declined, but are still higher year-on-year (YoY).

Earnings per share (EPS) consensus estimates have declined for the whole sector, globally. For Indian steel producers, EPS estimates for 2022-23 are down by anywhere between 6-17 per cent for different companies. The valuations of Tata Steel, Sail, and JSPL using the metric of EV/ EBITDA are hitting multi-year lows.

NMDC saw iron ore sales volumes at 7.7 million tonnes during quarter 1 of financial year 2022-23 (Q1FY23) which is down 19 per cent YoY and down 38 per cent quarter-on-quarter (QoQ). After having recovered from a low of $94 per tonne in Oct’21 to $150 per tonne in Q4FY22, spot ore prices corrected to $127 per tonne in June’22. NMDC has reduced prices twice since April 22 to adjust for the increase in export duty for iron ore from 30 per cent to 50 per cent, lower international coal prices, and weak domestic demand.
 

However, apart from high domestic over-supply, international iron prices have fallen by another 20 per cent since the last price revision by NMDC. So, there’s likely price weakness in the near future as well. The exports duty hike has led to 90 per cent reduction in export volumes.

Potential upside from demerger and listing of the steel plant in Nagarnar is still in the picture but the timeframe for this spin-off is late in the second half of FY23 given management has cited delays and operational issues in commissioning.

NMDC’s June quarter revenues are estimated to drop sharply, by a range of 45-50 per cent (YoY and QoQ reductions will be about the same). The EBITDA is expected to fall 55 per cent YoY and around 45 per cent QoQ. The drop in both realisations and in unit volumes is reflected in the impact on share price and valuations. The stock has fallen 38 per cent in the last three months.

At the current price of Rs 105, it is trading at four times its price to earnings ratio on a trailing twelve-month basis. The EPS is, however, likely to half YoY in FY23 giving a forward P/E of around 7.5 for the financial year. Analysts mostly have ‘Sell’ and ‘Reduce’ recommendations with very few on the ‘Buy’ side.