Promising Q4FY11; Can it revive confidence? We interacted with the
management of Usha Martin to get an update on company’s operations.
Following are the key takeaways from our interaction:

Operations
normalised: The company has resumed operation of the 30MW CPP (90% PLF)
impacted by blade failure in Q3. Further, transportation of captive
coal from Kathuria mine has been resumed to normal level of 40kt/mth,
although freight cost has increased by Rs350/t, raising the landed cost
of captive coal to Rs1,850/t. The company is confident of increasing
DRI and billet output for Q4 to ~70kt (52kt in Q3) & 150kt (113kt
in Q3) respectively.

RM inventory: The company has 2.0mn tonnes
of iron ore fines inventory, which would be used in captive sinter
(already operational) and pellet plant (expected FY13). Further, the
company has procured enough coking coal @ USD225/t to meet requirement
for Q4 as well as built ~0.1mnt inventory to be used in Q1FY12.

Commissioning
of 20MW CPP has been delayed by one quarter and now expected to be
commissioned in Q1FY12. 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,
continual result disappointments by Usha Martin on various one-off
impacts have dented investors’ confidence in the stock, leading to
stock under-performance. However, we believe that sequential
improvement in Q4FY11 performance, on volume growth and margin
expansion, could revive some confidence in the stock. Further, coking
coal inventory of ~0.1mnt would help the company in keeping coal cost
under check in Q1FY12, for which contract prices have increased 46% QoQ
to USD330/tonne. On our revised estimates (to factor in higher coal
cost and steel prices), the stock is attractively valued at 3.3x FY12E
EV/EBITDA and adequately factors in the disappointments. We believe
that the risk-reward of investment in the stock is favorable. We
maintain ‘BUY’ with a target price of Rs82 (4.5x FY12E EV/EBITDA).