Domestic primary steel manufacturers are likely to see their leverage, in terms of net debt to earnings before interest, tax, depreciation and amortisation (Ebitda) ratio, remain below 2.0 times this fiscal (compared to an estimated ~1.6-1.7 times in fiscal 2023) despite undertaking capital expenditure to cater to growing demand.

With the leverage much lower than the average of ~3.5 times, seen during past five fiscals, the median credit quality of the sector is unlikely to be affected as balance sheets of the players will remain healthy. Further, project risks are expected to be low due to the brownfield nature of bulk of the capacity addition.

A Crisil Ratings study of India’s top five steel makers, which account for ~60% of domestic production¹, indicates as much.

Healthy demand growth, coupled with high operating rates, is driving the need to add capacity by the players.

After a strong recovery seen in fiscal 2022 and 2023, with growth of ~11.5% and ~13.3%, respectively, domestic steel demand is expected to continue to grow at a healthy clip of over 7-9% this fiscal. This will be driven by government push to the infrastructure and construction sectors, which have ~70% share in steel consumption.

Global demand is also expected to recover, though marginally (1-2%), from the lows of last fiscal, which was acutely impacted by war. This should support a recovery in exports, which is expected to add 1-2% in incremental volume growth for players.

Resultantly, operating rates of domestic players, which have steadily risen from 72% in fiscal 2021 to an estimated 81% in fiscal 2023, are likely to inch up further to ~83% this fiscal.

Says Ankit Hakhu, Director, Crisil Ratings, “We expect the top five steel makers to incur a capex of Rs 55,000-60,000 crore per annum over the next couple of fiscals, compared with ~Rs 30,000 crore per annum on average over the past five fiscals. Around half of this capex would be towards setting up supporting infrastructure, efficiency improvements, and regular maintenance capex, while the rest would be to add ~25 million tonne per annum in capacity. This will be ~16% addition over the estimated capacity base in the country as of March 2023”

Higher cash accrual is expected to be driven by volume growth, backed by strong demand pull and operating margin expansion (of 100-200 basis points) due to softening prices of coking coal, which accounts for ~40% of the overall production cost. While the relatively high capex, would result in higher debt incidence, with ~65-70% of capex expected to funded through debt, higher cash accrual will keep leverage in check.

The execution risks associated with this capex are also not expected to be high as half of the capex is towards efficiency improvements and building adjunct infrastructure, and the bulk of the capacity addition is brownfield in nature, with land and funding secured. Further, product lines are also similar and backed by strong demand and technology is also not expected to be materially different.

Says Shivaramakrishna Kolluri, Team Leader, Crisil Ratings, “Healthy cash accrual will keep leverage in terms of net debt to Ebitda modest at below 2 times, compared with an estimated ~1.6-1.7 times in fiscal 2023, sustaining balance sheet strength. Thus, despite capex, strong balance sheets and low execution risks associated with the new capacity will help keep credit profiles stable for steel players.”

That said, weaker than expected global and domestic demand and significantly higher-than-expected input costs will bear watching.

¹Includes Jindal Steel & Power Ltd, Tata Steel Ltd (including Bhushan Steel Ltd), JSW Steel Ltd, Steel Authority of India Ltd and Arcelor Mittal Nippon Steel India Ltd (erstwhile Essar Steel India Ltd)