Essar hopes payback is around the corner

When Essar Energy reported a pre-tax loss of $1.14 billion ended March 31 this year, a figure that was dragged down by a Supreme Court ruling on payment of sales tax, it didn’t come as a surprise. This was the latest in a series of bad news for the group, which had listed Essar Energy in London and gained admission to the FTSE 100 index amid a lot of hype two years ago. However, the stock dropped out of FTSE 100 earlier this year after its price slumped by 70 per cent.

The bad news doesn’t end there. The total debt at Essar Energy, Essar Oil and Essar Steel stands at Rs 71,500 crore; and that of Essar Shipping and Essar Ports pushes the latter figure to Rs 79,676 crore — huge by any standards
Then, there’s market buzz that Essar Steel is operating at just over a third of its capacity, something the management has been denying. What’s worse is that three of the group’s top executives are embroiled in a case of cheating and conspiracy related to the documents filed to obtain mobile phone permits, the trial of which begins next month. The charges have been denied by Essar.
Essar, however, is unfazed by the ‘bad news’. Their reasoning is as follows: the three major companies of the group have made investments of Rs 99,000 crore in India in the last few years. With this phase now over, the group is now focusing on sweating those assets which the management thinks will result in a significant volume and margin growth.
L K Gupta, managing director, Essar Oil, says that the companies have already made their investments, the projects are up and running and from the current fiscal, the investors will reap the benefits of higher profits. The group expects revenues to double by 2015 from last year’s Rs 93,000 crore. “We have completed the capex. Now we have to do a lot of financial engineering to boost profitability,” says Gupta. And refinancing existing loans is part of the plan.

The average cost of the loan on Essar Oil is 11 per cent, which the company will now look to rework and lower by half. But given the global markets and international business concerns, isn’t this going to be difficult? According to Gupta, with net sales of over Rs 58,000 crore for 2011-12 set to skyrocket, thanks to the 20-million-tonne Vadinar refinery expansion, cash-flows will get a significant boost, and refinancing Rs 13,500 crore won’t be a concern.

Analysts agree. Vikas S Jain, Nilesh Banerjee and Siddharth Raizada of Goldman Sachs, in a report dated May 4 on Essar Oil, said, “We forecast the volume growth from the just-completed refinery expansion, combined with structural and cyclical improvements in gross refining margins to result in earnings growth significantly higher than Asian peers. We also expect strong operating cash-flows to strengthen Essar’s balance sheet.” The analysts estimate the company’s net profit (prior to exception items) to rise to Rs 1,677 crore in 2012-13 and further to Rs 2,637 crore in 2013-14, from Rs 111 crore last fiscal. Accordingly, they see the estimated net debt/equity to fall from 6:1 in FY12 to 2.55 in FY13 and further to 1.46 in FY14.

Says Essar’s Gupta: “In the next 18-24 months, we will definitely correct our balance sheet to a level where it should be. After the sales tax hit, the debt:equity is around 3.5:1. We expect it to come back to 2:1 in two years.”

While Essar Oil and its UK- and Kenya-based refineries form one large chunk of Essar Energy’s business, the other chunk comes from power, both of which are seen as growth drivers. In the power business, though, there are some hurdles to growth plans. For instance, its power plants in India at Hazira, Bhander, Vadinar are operating at lower load factors because of the high gas prices.

Essar Steel
The unlisted arm of the Essar Group has spent Rs 37,500 crore in setting up a 10-million-tonne steel plant at Hazira, and pellet and beneficiation plants in the East coast. The debt of Essar Steel stands at Rs 22,000 crore and has been weighing heavily on its balance sheet. The company reported a loss of Rs 1,251 crore in 2011-12 and the outlook for the current year, too, looks mixed. Amit Agarwal, finance director of Essar Steel said, “First, in our business we have got a certain interest cost being carried on the new project. The gestation period was when the asset was being created. Now that it is created, it will start generating revenues.”

In 2011-12, interest costs jumped 68 per cent to Rs 2,235 crore on sales of Rs 16,056 crore. This debilitating cost is making the company look to greener pastures where there is a lowering of debt and rates. He said, “Now if we are looking at reducing debt and refinancing, it will only add to our profit margins.”

Last year has been a tough one for Essar Steel. Its ambitious 257-km slurry pipeline from Kirandul to Vizag to transfer iron ore to its pellet and beneficiation plant was shut down after a Maoist attack last year. Moreover, its Hazira plant was substantially impacted by the decrease in production at Reliance’s KG-D6 basin from which it gets its gas.

Apparently, the steel production at the Hazira complex is nowhere near full capacity. Industry insiders say these issues have forced the steel plant to run at a mere 30 per cent capacity, but the company is quick to refute the claim. Agarwal, without providing a number, said, “The plant is running at much higher capacity.”

The steel-making capacity has been increased from 4.6 to 10 million tonnes and the company aims to reach seven million tonnes by the end of the year. “Ramping up takes time and this year we will produce seven million tonne steel, at 70 per cent capacity utilisation,” he said.

Essar Shipping
The company reported consolidated sales of Rs 2,782 crore in 2011-12 a profit of Rs 36.83 crore. With a debt to equity ratio of 0.88:1, the debt of Rs 4,830 crore looks a bit stretched. Notably, the global shipping sector doesn’t look good even in the current year, with shipping rates failing to move up. The advantage Essar Shipping has over peers is its long-term contracts with group companies such as Essar Oil, Essar Power and Essar Steel. Currently, 60 per cent of its cargo comes from them, which makes it fairly immune to a situation where its ships would lay idle.

Three Essar Group companies, Essar Oil, Essar Ports and Essar Shipping, are also looking at share sales to comply with the new Sebi guidelines pertaining to promoter shareholdings in listed companies. According to SEBI, by June 2013, promoters will mandatorily have to bring down their shareholdings to 75 per cent or below. Besides, the group plans to sell stake in outsourcing company Aegis.
Source: BS


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