Disappointment continues; Factored in price

Despite 26% YoY growth in consolidated revenue to Rs7.5bn, Usha Martin's operating profit declined by 10% YoY to Rs1.2bn with OPM contracting 620bps to 15.8% due to breakdown of a 30MW CPP impacting power supply and disruptions in captive coal movement. Net profit plunged 62% YoY to Rs131mn on higher interest, depreciation expenses on increased capacity.

Lower resource supply impacts output and results in margin contraction: Sponge iron and billet output was impacted by breakdown of a 30MW CPP, inadequate power from the grid and disruptions in captive coal movement. Further, company’s OPM at 15.8% contracted by
620bps YoY as the company resorted to buying power and coal from spot market to meet the shortfall.

Performance of overseas subsidiaries impacted by lower demand: Although revenue for overseas subsidiary improved sequentially on better realisation (up 10% QoQ), operating margin came under pressure (15.6% vs 21.1% in H1) as sales volume declined 3.5% QoQ on lower demand in European market.

Financial leverage: USM has gross debt of Rs22bn with D/E of 1.24 as of Dec’10.

VALUATIONS AND RECOMMENDATION

Despite full integration from captive resources to value-added products, USM continues to under-perform, impacted by various one-time events. We have lowered our FY11E and FY12E volume and margin estimates for the company. Further, we have reduced our target FY12E EV/EBITDA multiple to 4.5x (5.0x) to factor in underperformance.

Nevertheless, we believe that at 3.8x FY12E EV/EBITDA, CMP of Rs64 adequately factors in the concerns. We maintain ‘BUY’ on the stock with a revised target price of Rs82 (4.5x FY12E EV/EBITDA).