Equity Analysis /

Pakistan Steel: Trends in both demand and margins underpin our positive views

  • We resume coverage on both ASTL and MUGHAL, with Buy ratings and June 2022 TP of PKR70/sh and PKR150/sh, respectively

  • We also upgrade our estimates on ISL, maintaining our Buy rating, while reducing our TP to PKR120/sh

  • The Steel sector is presently trading at undemanding FY22/23f P/E of 4.4/4.1x, a c.20% discount to our IMS Universe

Abdul Ghani Mianoor
Intermarket Securities
16 November 2021
  • We resume coverage on the Long steel sector, ASTL and MUGHAL, with a Buy stance on both and June 2022 TP of PKR70/sh and PKR150/sh, respectively, following strong earnings beat in 1QFY22. We also upgrade our FY22/23f estimates for ISL, but are reducing our TP to PKR120/sh (previously PKR130/sh) partly due to a higher risk-free rate. 

  • Robust rebar demand amid uptick in construction activity (led largely by private demand) – following the various incentives announced by the government affirm our liking for the Steel sector. 

  • In the present backdrop, we have a Buy rating on all IMS Universe Steel scrips, while preferring the long steel players as our top picks, due to direct exposure to the construction sector and diversification into the presently exuberant non-ferrous segment (in the case of MUGHAL).   

Upbeat outlook on all Steel stocks in coverage

We resume coverage on the Long steel sector – ASTL and MUGHAL – with Buy ratings on both and June 2022 TP of PKR70/sh and PKR150/sh, respectively, while also upgrading our estimates for ISL (maintaining our Buy rating, new TP of PKR120/sh). Our liking for the Long steel sector emanates from the robust construction activity following the various incentives announced by both the government, along with strong earnings beat in 1QFY22. Although the demand is largely private-sector led, government spending on various infrastructure and other projects will further fuel overall demand, in our view, while margins are likely to remain healthy in the near term (albeit gradual moderating of inventory gains for MUGHAL).

Prices and margins of long steel remain up-trending

Steel scrap prices have increased by c.65% yoy FY22td to US$475/ton, while more than doubling from the pandemic low in April 2020. Prices of finished products have risen in tandem with the surge in raw material prices (more than doubled). However, the continued rise in input costs and moderating inventory gains, are likely to result in trimming of margins, despite sharp price hikes, in our view, where we estimate GMs to modestly decline by an average 0.5ppt in FY23, where margins increased a sharp c.5ppt on average in 1QFY22 to c.14% and 20% for ASTL and MUGHAL, respectively. While lower ferrous margins seem likely, copper segment margins are likely to be bolstered by (i) strong global demand amid enhanced focus on renewable energy and demand for EVs globally, and (ii) depreciating PKR/USD, in our view. We assume copper volumes of c.7,000/7,375 tons in FY22/23f for MUGHAL (assumed copper prices flat at US$9,300/ton).

MUGHAL is our top pick in the same

Despite 1Q earnings outperforming consensus estimates, IMS Steel Universe trades at undemanding FY22/23f P/E of 4.4/4.1, (20% discount to our overall Universe), where we highlight decent Revenue/EPS CAGR of c.20%/25% for both ASTL and MUGHAL We have estimated rebar offtakes of c.388,000/408,000 tons for ASTL and c.347,000/370,000 tons for MUGHAL in FY22/23f (girder demand). We prefer MUGHAL as our top pick in the sector due to its diversification into the non-ferrous segment, which is contributing 27% of 1Q revenues and generating margins of c.35%. MUGHAL’s ability to fetch handsome copper rates, at par with competing countries such as Vietnam (MUGHAL now fetches 2% discount to LME rate vs. 7% previously), while improved farmer dynamics will sustain demand for girders. These reinforce our liking for the stock.

ISL: Upgrade earnings on strong revenues and profitability

We upgrade our estimates for ISL, maintaining our Buy rating, while reducing our June 2022 TP to PKR120sh, from PKR130/sh previously. Our liking for ISL stems from the strong earnings growth in 1Q (Revenue/EPS CAGR of c.20%/10%), healthy CRC-HRC spread (FY22td average of US$110/ton) amid robust demand from autos (2/3 wheelers and tractors), white goods, and exports as well. ISL’s EPS growth momentum continued into 1QFY22 on the back of inventory gains resulting in healthy margins and upbeat revenue growth (volumetric and price growth). Local CRC prices have doubled since the pandemic low, averaging PKR212,520/ton presently amid rising HRC prices and healthy spreads (averaging US$110/ton). However, we estimate gross margins to gradually decline during FY22 to 13.6% (1QFY22 margins clocked in at c.17%), amid rising cost pressures and moderating inventory gains. In light of the prevalent fiscal and monetary tightening, we reduce our volumetric estimates for ISL by an average c.5% for FY22/23f to c.520,000/550,000 tons.