Metals Sector Preview | Local realisations meltdown and export duty to dampen Q2

Prices of both ferrous and non-ferrous metals have declined 20 percent QoQ, volumes were soft while thermal coal prices moved up which impacted the profitability of the sector

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The metals sector faced the double whammy of a decline in realisations in the domestic market due to the global meltdown in commodity prices while the exports were hit by the export duty imposed in May. Among metals, the steel sector is expected to be significantly affected as the full impact of the price correction that started in the last week of May (after the imposition of exports levy) gets reflected, leading to a 15-22 percent quarter-on-quarter (q-o-q) correction in average selling price (ASP) across the board.

The industry is also reeling under the impact of rising costs of production.

The global macro headwinds continue to dampen the global economic outlook. As a result, metal companies are likely to report weak numbers for the quarter ended September 2022.

Ferrous metals

The July-September quarter is traditionally the weakest quarter for steel companies as construction activity across the country gets stalled due to the monsoon, dampening demand. But the situation this time was further aggravated by the imposition of the duty on exports of steel which destroyed the support steel companies used to have in the form overseas sales, which entailed better realisations and margins.

A report from Motilal Oswal Financial Services says, “Domestic hot-rolled coil (HRC) prices continued to correct through the quarter with a reduction of Rs 3,000 per ton in July and another Rs 2000 per ton correction in the month of August.” Prices recovered marginally in September on production disruption at South Korean giant POSCO and slight improvement in sentiments in China, owing to targeted stimulus, though in smaller quantities, the report added.

Steel HRC spot prices ex-Mumbai are currently at Rs 56,500 per tonne, down 25 percent from the peak of the first week of April 2022. The fall in revenue in Q2FY23 will be led by lower average price realisations as average Q2FY23 HRC prices have declined by about 17 percent q-o-q and 14 percent on-year to Rs 57,027 per tonne.

“In Q1FY23, the sales volumes were impacted due to destocking by traders as they expected the steel prices to fall as well as in light of the onset of the monsoon,” said the analysts at Axis Securities. However, in Q2FY23, they foresee steel sales volumes reviving as traders are restocking to serve the demand from the post-monsoon pick-up in construction activity as well as the upcoming festive season demand.

There was also some respite as prices of key inputs softened slightly. National Mineral Development Corporation (NMDC) had reduced iron ore prices by Rs 500 per tonne in July. This was on top of the massive cut of Rs 1,850 per tonne it effected during the May-June period. The prices were revised upwards by around Rs 100 per tonne in August with no change in September.

Coking coal prices have, however, continued to slide and witnessed a correction of about $50-60 per tonne. But the thermal coal prices remained elevated at over $150 per tonne with Europe increasing purchases of South African coal to partly compensate for Russian coal/natural gas supplies that are under sanctions.

The full benefit of the decline in input costs will, however, come be seen in the coming quarter.

According to a report from Elara Capital, “While JSW Steel is likely to report volume growth of ~27 percent YoY (year-on-year), Tata Steel, Jindal Steel & Power Ltd and SAIL are likely to report YoY contraction in the range of 4-14 percent YoY.” Nevertheless, these firms are expected to post volumes growth in the range of 7-17 percent on a q-o-q basis.

Overall, the analysts at Elara Capital expect EBITDA (earnings before interest, tax, depreciation and amortisation) per tonne for steel firms under their coverage universe to contract in the range of Rs 12,500-21,000 on an annualised basis and Rs 4,500-15,000 q-o-q.

Non-ferrous metals

Base metal companies are expected to be severely impacted by falling commodity prices as well as the rise in the cost of thermal coal on concerns over availability.

On the London Metals Exchange, all base metals witnessed a correction. On a sequential basis, copper prices were down 19 percent, aluminium 18 percent, zinc 17 percent, nickel 24 percent and lead 10 percent. The correction is driven by a global drop in demand. However, average realisations for various companies will fall at a relatively slower rate aided by past hedging and a 3 percent depreciation in the rupee.

“Volumes for most companies are expected to remain flattish while cost of production is expected to jump by 15-20 percent largely due to higher power/coal cost which will result in a sharp fall in the operating performance of the companies,” said a report from Phillip Capital.

For Hindalco, analysts at Kotak Institutional Equities expect the aluminium EBITDA to dip about 60 percent, both on yearly and sequential basis, while the EBITDA for the copper business is likely to increase 33 percent on-year but dip 17 percent sequentially.

For NALCO too, lower aluminium prices and higher fuel costs will likely result in an approximately 60 percent decline in EBITDA on a yearly as well as sequential basis.

Kotak Institutional Equities expect EBITDA of Hindustan Zinc to increase by 29 percent annually on strong volumes but decline by 16 percent quarterly due to the recent weakness in commodity prices and high fuel costs.

Vedanta is estimated to see its EBITDA go down 33 percent both on-year as well as q-o-q due to weak commodity prices across its key segments zinc, aluminium and oil.

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