Investors seeking a defensive play can consider buying the shares of manganese producer, MOIL, whose quality reserves, high cash holdings, and burgeoning domestic steel market provide an upside to the stock's valuations from the current levels.
At Rs 349, the company is valued at just under 10 times the FY-11 earnings and at 5.4 times on an EV/EBITDA basis at a discount to global peers such as Eramet and BHP Billiton. The share price also trades at levels lower than its November IPO issue price of Rs 375. Notwithstanding its smaller size compared with global peers, MOIL enjoys advantages such as low-cost mining leases, low operating costs and zero-debt levels.
An estimated 90 per cent of manganese ore is utilised by steel companies, with the rest finding application in the aluminium and chemical sectors. India is the fifth largest producer of manganese, with MOIL being the largest domestic producer accounting for 45-50 per cent of domestic production. The company's off-take is solely consumed by domestic players such as SAIL and RINL.
DECENT RUN IN FY11
Global manganese consumption volumes and prices were up 20 and 38 per cent respectively in 2010 compared to 2009. MOIL's volumes grew by around 5 per cent in FY11 to 1.15 million tonnes, thanks to a high base effect.
On the back of a steel-demand fuelled rally in manganese through 2010, MOIL's sales during the financial year ended March 2011 grew at a pace of 18 per cent to Rs.1140 crore while net profit grew at 26 per cent to Rs 588 crore. Profit growth was higher than that of sales, thanks to MOIL's efficient cost structure that stems from having procured mining permits at low costs and the company's low cost of operations.
These advantages place MOIL among the lowest quartile of manganese miners globally. Add to this, superior realisations enjoyed by the company on account of the high ferro-grade manganese which makes up the bulk of its product mix. However, the fourth quarter ended March 2011 was a challenging one for MOIL, with global de-stocking causing a reduction in volume off-take for manganese manufacturers.
The company's sales and profits slipped by 14 per cent and 8 per cent compared to the same period a year ago. While a continuation of this trend could impact the company's performance in the ongoing quarter too, MOIL is well-positioned to tide over the turbulence, thanks to its low operating costs, high cash holdings (Rs 1,900 crore, just short of a third of its market cap) and industry-topping net margins (around 50 per cent since FY 08).
PRAGMATIC GROWTH PLANS
MOIL's reserves are spread across ten mines (seven underground and three open cast mines). However, three mines — Balaghat, Dongri Buzurg and Ukwa — account for around 70 per cent of the company's reserves and an even higher portion of the company's relatively higher quality ore. It is also in the process of setting up a ferro-alloy plant through joint-ventures with SAIL and RINL (expected to commence in 2013).
MOIL's current reserves of 22 million tonnes provides production visibility for a period of 15-20 years.
Given the the slow pace of ongoing efforts to acquire a prospecting licencse for 840 hectares of land. The company's prospects for output and profit growth over the next two years depend on maximising utilisation rates. The company plans to increase output from the existing fields to around 1.2-1.3 million tonnes in FY 12.
STEEL PRESSURE
MOIL's pricing power is tied directly to the steel cycle. The world's largest manganese consumer, China, is reported to have stockpiles of over 3.5 million tonnes which, coupled with a weak steel market over the last three months, led to a correction in manganese prices by between 15-20 per cent. MOIL's realisations of ferro-grade manganese products are reported to have slipped by a fifth over the last three months.
To compensate for lower realisations, the company hopes to increase off-take by increasing output and competing more aggressively on the pricing front against imports which are estimated to account for 30-40 per cent of domestic consumption. MOIL's ability to compete against imports stems from the inherently high-grade ore it sells and imports rendered costlier due to the cost of inland transportation.
The pricing pressure from steel producers is likely to remain a challenge through the ongoing fiscal given that supply of manganese has outpaced demand from steel over the last two years. MOIL's biggest advantage is the domestic steel market whose output is expected to increase at a compounded pace of 13 per cent over the next three years. Consumption of steel products is also expected to grow at a healthy clip of 8-10 per cent.
Even in the event of pricing pressure, which may crimp net margins, the company's ability to step up growth on the volume front makes it a good defensive bet. Also, given MOIL's high profitability levels, it is well positioned to absorb margin pressure. The risks facing MOIL include the long dreaded mining bill (which may increase the tax bill substantially) and a sharp downturn in the steel cycle which could further depressrealisations.