SCRIPT OF THE DAY

9th February 2007

Tata Iron and Steel Company Ltd

Event Update Key Data

CMP Rs 453
Date Feb 9th, 2007
Sector Steel - Large
Face Value 10/-
BSE Code 500470
52 Week H/L Rs 679 / 377
Market Cap Rs 26274 Cr

Investment Rationale

Tata Steel one of the lowest cost steel makers in the world has created a landmark event in the
Indian corporate history by winning the auction for Corus. The acquisition makes Tata Steel the
fifth largest steel company globally with a market share of ~2.2% (0.4% currently) with a
combined capacity in excess of 25 million tonnes. We believe the stock price will remain under
pressure till the clarity emerges regarding the equity dilution. However, the stock has been
punished very badly and comparing it with global regional valuation the company seems
attractively valued. The medium-term rationale for the proposed transaction seems oriented more
towards growth, technological synergies and market access than to cost synergies. We believe
the recent acquisition should augur well for the company in the longer term due cost synergies
realized however on the medium term it will have a strain on the balance sheet. The company
has an ambitious target of 40 million tonne by 2010 and 100 million tonne by 2015 through
various organic and inorganic route. We recommend a hold rating on the stock

Key Developments:

Landmark event in the Indian corporate history

Tata Steel board has approved acquisition of Corus plc—the seventh largest steel producer in the
world and the second largest in Europe with a production capacity of 18m tonnes. The company
mainly produces carbon steel using the basic oxygen steel-making method in the UK and the
Netherlands. It also has manufacturing operations spread across Europe with plants located in
the UK, the Netherlands, Germany, France, Norway and Belgium. The company has three
divisions — strip products, long products, and distribution and building systems. Corus was
formed in 1999 through a merger of British Steel and Dutch Koninklijke Hoogovens. Its major
consumer markets include construction, automotive, packaging, aerospace, energy and
engineering industries. Tata Steel and Corus combined can become the no. 5 steel player
globally with crude steel capacity of 23.5mt and combined revenues of $24bn. Synergies from
this acquisition should be gradually realized over the next five years. Management has indicated
synergistic benefits of US $350m over the next three years. However we believe the raw material
cost synergies is some time away. Realizations per tonne for Corus is far superior at 866 $/tonne
as against Tata Steel 674$/tonne due to its value added product portfolio. However on the
operating profit it is almost at par in spite of the larger size. The operating profit per tonne of Tata
steel is close to 280$/tonne as against 75 to 80 $/tonne for Corus.
Financial Performance:

Net sales up by 21% in Q3 FY07

The company during the quarter posted strong volume growth of 12% yoy and 4% qoq to 1.23
million tonnes as compared to 1.11 million tonnes of saleable steel in Q3 FY06. However the
consolidated company's net sales grew by 21.4% yoy and were flattish qoq. The company's steel
division revenues grew by 20% and profit grew by 47% due to strong steel prices yoy. The ferro
alloy segment has shown a 24% growth in revenues whereas profits showed a negative growth
of 10%. The company sells 70% of its production on quarterly, semi- annual and annual contracts
and the rest 30% are sold in spot market to retail distributors which reduces the impact of
volatility in steel prices on the company's profitability.

Valuations:

At current market price of Rs 453, Tata Steel is quoting at a PER of 6.38x of its TTM earnings
respectively. We believe going forward with structural changes happening in the steel industry
and strong capex plans announced by the company by setting up greenfield venture along with
growing overseas plans should augur well for the company going forward. We recommend a
“Hold” on the stock.

Industry Scenario

Global Market

The technology for modern steel making has been in existence for more than 100 years, led by
the developed countries of the West. However, over the past decade, there has been a clear shift
of production capacities towards emerging/developing countries, led by a stupendous growth in
China. The global steel consumption has grown at a CAGR of 5% over CY00-05, the strongest in
any five-year period, due to strong growth across all emerging economies led by China. The
International Iron and Steel Institute (IISI) expects world steel demand to grow 7.3% in CY06 to
1.08 billion MT and then to continue growing by 5.8% to 1.15 billion MT in CY07.

Forecasted Steel demand

(Million metric ton)

Source: IISI

Consolidation
The global steel industry is in major consolidation phase. The industry has witnessed major M&A
activity recently. The recent merger between the global giants Arcelor and Mittal Steel makes
them the largest producer in the world with production capacity of nearly 10% of total world
output. It would be three times the size of the entire Indian steel industry which had a domestic
production of 38.1 million tons in 2005. India is an attractive destination for these steel majors
with its vast resources. The private players are under substantial threat of hostile take-over bids
from the foreign companies as a result of which Tata Steel has recently hiked its shareholding in
the company.

Indian Scenario

The Indian finished steel industry consists of 173 players. On the basis of scale of operations and
level of backward integration, Indian steel makers can be broadly classified into integrated steel
producers (ISPs) or primary producers and numerous small stand-alone plants. Apparent
consumption of finished carbon steel increased from 14.84 million tonnes in 1991-92 to 34.389
million tonnes in 2004-05. Efforts are being made to boost demand with China being an important
export destination for the Indian steel. The steel industry is buoyant due to strong growth in
demand from emerging markets. The Indian steel companies are on massive capacity expansion
spree with strong demand outlook from both as a producer and a consumer. Infrastructure,
construction, urbanization, the automobile industry and corporate capex programme are likely to
be some of the key growth areas for the sector. As a norm, for developing economies like India,
demand for steel consumption grows at about 1.3 times of GDP growth rate. This means that if
the economy is to grows over 7% p.a. for the next few years, steel consumption has to grow over
9% p.a.

Prices and outlook

Global production capacity

The global steel production capacity is estimated at 1,350 million ton and the production for
CY2006 is likely to be in excess of 1,200 million ton.

 Announcements of aggressive capacity additions of around 250 million ton from 2007 to
2010.
 The consumption of steel globally is likely to be 1300 million ton and the world demand
needs to rise by a CAGR of only 5% from 2006 to 2010 to absorb the additional supply.
 In fact, there could be a scenario where the world demand growth for steel may exceed 5%
and the announced capacity addition does not materialize fully.
 So, the demand-supply scenario for next three-four years looks very much in balance.

The steel industry had defied the somewhat gloomy predictions of late 2005 and, as a result of
strong consumption by the mills, scrap prices appeared set to remain firm for at least the next few
months. In May 2006, HR & CR prices moved up whereas prices of long products have dipped.
The rise in the domestic prices was due to the growth registered by steel intensive industries like
automobile, consumer durables, construction, and engineering goods. Prices have also been
rising because of international price recovery. Most companies selling long products have their
order books full till may. The prices of long steel will hover at this level or move down marginally.
Steel production in China is expected to increase, albeit at a slower pace, demand for iron ore is
expected to remain strong, going forward. Thus, despite the declining steel prices the iron ore
suppliers would be able to negotiate a further increase in iron ore prices in the ongoing
negotiation for 2006-07. While some contracts with European players have been negotiated at
19% higher levels, it is expected that the Chinese players to settle marginally below those levels.
This may provide a cost push increase to the steel prices and in this scenario company's with
captive raw material sources are expected to perform better than others.

Developments and Impact

Landmark event in the Indian corporate history
Tata Steel board has approved acquisition of Corus plc—the seventh largest steel producer in the
world and the second largest in Europe with a production capacity of 18m tonnes. The company
mainly produces carbon steel using the basic oxygen steel-making method in the UK and the
Netherlands. It also has manufacturing operations spread across Europe with plants located in
the UK, the Netherlands, Germany, France, Norway and Belgium. The company has three
divisions — strip products, long products, and distribution and building systems. Corus was
formed in 1999 through a merger of British Steel and Dutch Koninklijke Hoogovens. Its major
consumer markets include construction, automotive, packaging, aerospace, energy and
engineering industries. Tata Steel and Corus combined can become the no. 5 steel player
globally with crude steel capacity of 23.5mt and combined revenues of $24bn. Synergies from
this acquisition should be gradually realized over the next five years. Management has indicated
synergistic benefits of US $350m over the next three years. However we believe the raw material
cost synergies is some time away. Realizations per tonne for Corus is far superior at 866 $/tonne
as against Tata Steel 674$/tonne due to its value added product portfolio. However on the
operating profit it is almost at par in spite of the larger size. The operating profit per tonne of Tata
steel is close to 280$/tonne as against 75 to 80 $/tonne for Corus

Details of the transaction

Tata Steel has proposed to acquire Corus through Tata Steel U.K. Ltd, a 100% indirectly held
subsidiary of Tata Steel. The said acquisition will be effected by means of a scheme of
arrangement. Tata Steel management expects to complete the acquisition process in the next 3
to 4 months. The proposed acquisition is expected to finance through equity contribution by Tata
Steel of around US$4.1bn and the balance through non-recourse debt on Tata Steel UK—which
would be serviced through the cash-flows of Corus. Tata management has indicated that bridge
financing portion of US$1.8bn which will be replaced by long term funding. Tata Steel might look
at raising equity for meeting the bridge financing for the Singapore subsidiary. Tata Steel plans to
raise GDR of $1.5 billion for the acquisition.

Expected equity dilution

Particulars Rs crores
Tata Steel 18450
Tata Sons (prefrential allotment) 4000
Selling TCS 900
GDR 6750
Equity dilution 10750
No of shares at Rs 525 20.48
Total existing equity of tata steel 60.85
Post GDR equity 81.33
Dilutution(%) 25%

No of shares at 506 21.25

Post GDR equity 82.10
Dilutution(%) 26%

Corus valuation
The deal values Corus at an EV/EBITDA of 10x. Given the size enhancement and market and
geographical mix improvement that this acquisition can provide, we consider this a good long-
term step for Tata Steel, especially in the backdrop of Tata Steel's 15 mtpa greenfield plans at
low-cost locations in India. Long term, the plan is to supply low-cost slabs from Tata's Indian
plants to Corus's high-quality mills based in Europe. The Corus group has 47300 employees as
on 2005. We believe the combined entity will emerge as one of the best placed steel makers 3-4
years from now, Even if we were to consider 27% equity dilution the combined entity would be
earnings accretive by 4%.

Financials
 Results (Rs.Crore)

% %
Particulars Q3FY07 Q3FY06 FY06 FY05
change change
Steel Production (Tonnes) 1,289,822 1,160,735. 11 4552136 4109002 10.78
Steel Sales ( Tonnes) 1,234,404. 1,107,345.0 12 4418311 3935304 12.27

Gross Sales 6,543.1 5,424.8 21 22272.1 17414.5 28

Excise Duty 571.9 506.8 13 2027.7 1415.9 43
Net Sales 5,971.2 4,918.0 21.4 20244.4 15998.6 27

Total Expenditure 19
Raw material consumed 972.0 645.1 17 2495.4 18440 35
Stock Adjustment (141.1) (120.7) 51 -47 -289.6 -84
% of Sales 14 11 12.1 9.7
Purchase of Finished goods 946.6 1,062.8 -11 4210.4 2327.1 81
% of Sales 16 22 20.8 14.5
Power Cost 319.7 532.2 -40 972.8 731.9 33
% of Sales 5 11 4.8 4.6
Freight & handling exp 371.4 296.6 20 1225.4 992.2 24
% of Sales 5 6 6.1 6.2
Staff cost 478.4 424.9 13 1674 1414 18
% of Sales 8 9 8.3 8.8
Other Expenditure 1,133.8 885.9 28 3375 2776.9 22
% of Sales 19 18 16.7 17.4

Operating Profit (Excl OI) 1890.5 1487.7 27 6338.5 6201.3 2

Interest (Net) 96.2 46.5 107 155.5 198.1 -22
Depreciation 245.1 256.1 -4 860.4 645.5 33
Other income 101.1 43.6 132 246.6 182.4 35
Exceptional Items (49.5) (13.9) 256 54.1 97.7
PBT 1,600.7 1,214.8 32 5514.98 5442.44 1
Tax 546.1 389.0 40 1764.9 1871.2 -6
Net Profit 1,054.7 825.8 28 3721.07 3571.20 5
Share of profits of 21.1 0.7 32.19 58.02
associates
Minority interest 21.1 1.7 18.64 25.96
Adjusted PAT 1,054.6 824.8 28 3734.62 3603.26
EPS 18.2 14.9 22 67.6 65.2
Face Value 10.00 10.00 10.00 10.00
Equity 580 553 553 552.27

Ratios (%)
OPM (Excl OI) 31.7 30.2 31.3 38.3
EBIDTA (Incl OI) 33 31 33 40
Tax/PBT 34 32 33.08 34.42
NPM 18 17 18.5 22.3

Financial Analysis:

Net sales up by 20% in Q2 FY07

Tata Steel Ltd's (TSL) posted a 20% yoy increase in net sales. The company's steel division
revenues grew by 18%whereas the profit growth was muted due to falling steel prices. The steel
division contributed 83% of revenue. The ferro alloy segment displayed a better performance by
14% growth in revenues and 35% growth in profitability. The reported a 4% growth in production
yoy and a 14% growth qoq to 1.259 mln tons. Sales volume grew by 0.3% yoy and 6% qoq to
1.182 mln tones. The company recently increased its cold rolled prices by 300-500 per tonne and
 galvanized prices by 3500 per tonne. We believe the current increase in prices by 1 to 1.5 % for
CRC will have a marginal positive impact on the company's profitability as the company sells
70% of its production on quarterly, semi- annual and annual contracts and the rest 30% are sold
in spot market to retail distributors. The increase in prices will only be applicable to spot prices.

Operating profit rises by 27% due to improved operational efficiency

With reduction in expenditure cost per tonne by 4% sequentially EBIDTA grew by 27% yoy and
2% sequentially. The EBIDTA margin remained strong at 32% as against 30.2% in Q3FY06
The operating margin rose by 150 basis points yoy and 90 basis point qoq due to reduction in
coke prices. Power cost reduced by 40% yoy 1.5% qoq and freight expenses rose by 12% qoq

Sequentially subdued growth in net profit.

The consolidated net profit grew by 28% yoy from 826 crore to 1055 crore however sequentially it
was down by 7%. Interest cost rose by 33% qoq and 107% yoy due to its various expansion plan.
Tata Steel standalone profit showed a de growth of 4% whereas subsidiaries showed a subdued
performance.

Segmental Analysis

Particulars Q3FY07 Q3FY06 % Ch

Revenues
Steel 5,314.50 4,423.50 20
Ferro Alloys 416.1 336.9 24
Others 817.6 539 52
Total 5,971.20 4,918.00 21.4

PBIT
Steel 1,567.60 1,064.70 47
Ferro Alloys 130.6 145.8 -10
Others 33.5 39.3 -15
Total 1,731.70 1,249.90 39

PBIT Margins
Steel 29.50% 24%
Ferro Alloys 31.40% 43%
Others 4.10% 7%
Total 29.00% 25%

Valuations
At current market price of Rs 453, Tata Steel is quoting at a PER of 6.38x and EV/sales of 1.2x
and EV/EBIDTA of 4.2x based on TTM earnings. We believe going forward with structural
changes happening in the steel industry and strong capex plans announced by the company by
setting up greenfield venture along with growing overseas plans should augur well for the
company going forward. We recommend a “Hold” on the stock.

Risks: The risks that could hinder the earnings growth of the company in time to come are as under:
recommending

 Increase in the cost of borrowing of the company due to the huge leveraged buy out which
could impact the profitability and have huge interest payment
 A reduction in the prices of steel remains the most important concern for the company. On
the cost front, a sharp rise in the prices of feedstock would adversely affect the margins of
the company.
 Slowdown in the growth of the domestic economy as well as the major consumers like
China would result in slower demand for steel which will ultimately result in lower
 realizations.
 TISCO would face growing competition from domestic as well as international steel players
since global steel majors like Posco and Mittal Steel are entering Indian steel market in a big
way. This along with the emergence of new capacities globally would increase the steel
supply in the medium to long term which could further soften the steel prices.
 Delay in the implementation of the proposed projects could result into cost overrun as also
such huge capex could increase the financial burden if the industry slows down significantly.

Growth: The growth for Tata Steel in the coming years is likely to be fueled by the following factors:

 Tata Steel is augmenting its domestic steel making capacity by 19 million tonnes per annum
(mtpa) by 2013. It also plans to develop a deep-sea port in Orissa to facilitate flow of
inbound and outbound materials. In the long run this arrangement should further improve its
operational performance.
 The cost synergies which will be developed by Corus acquisition by having a huge market
access.
 Constantly growing supplies to the automobile sector & company's growing market share in
that segment would further contribute to the bottomline. It is a major growth sector in India.
Also the margins in this segment are better due to the potential for value creation and
differentiating from other steel players. The company is also increasing sales of its other
branded products which would lift the operating margin.
 Company is setting up its operations in Iran and main recipient of Tata Steel's Iranian billets
would be the 2-mt NatSteel which already has operations in South-East Asia and China.
Acquisition of Millennium steel would further strengthen its presence in these markets.
 Various subsidiary, associate and joint ventures of the company have also been registering
healthy improvement in performance which is expected to continue in future. This would
augur well for the overall earnings growth of the company.
 Development of new iron ore mines and other raw materials sources along with acquisition
of coal mines abroad (Australia) will ensure sustained supply of key inputs and would
facilitate its vertical integration as well as better profitability going forward. The company has
earlier signed an agreement to buy a five percent interest in the Carborough Downs Coal
Project located in Queensland, Australia.

Greenfield ventures
Capex Projects in pipeline
Project Capacity (mln tonnes) Commisioning date
Jamshedpur 1.8 Sep--08
Orrisa phase 1 3 June--10
Orrisa phase 2 3 June --11
Chattisgarh phase 1 3 June --11
Chattisgarh phase 1 2 June --12
Jharkhand phase 1 6 March --13
Total 18.8

Relative Valuation

Company CMP P/E EV/Sales EV/EBIDTA

Tata Steel 465.2 6.8 1.75 4.36
SAIL 111 8.5 1.3 4.67
JSW Steel 462 7 1.47 4.14
Musco 119 5.6 0.67 3.58
Mukand 101 7.5 0.99 6.42
Hindalco 174 8.2 1.40 5.74
Nalco 234 6.3 2.18 3.23
Sterlite Ind 483 29.8 2.48 21.46
Kalyani Steel 440 23.7 2.40 14.32

Note: Based on ttm earnings

 Based on TTM earnings TISCO is trading at a PER of 6.8x. The valuations are justified as it
enjoys highest margins both domestically as well as amongst international players Moreover it is
immune to Iron Ore and Coal price fluctuations on account of huge captive sources of the same.
Company is substantially ramping up its capacities which will enable it to cater to the growing
demand of steel from the various user industries in the domestic market. Going forward, with the
steel prices expected to be stable the growth would be volume led which would benefit low cost
producers like Tata Steel. We believe that Tata Steel is expected to achieve much better
operating margins than its peers with its inherent strengths of a contained cost structure, better
product mix and higher sales of branded products. The company is one of the lowest cost steel
makers in the world and has improved its operating efficiency over the past few years. We
believe the high grade processing operation will help the company substantially for its domestic
large scale expansion plan.

Technicals /// Last Price: 453.25 /// 13 day EMA 466.48 /// 50
day EMA 474.14 ///
200 day EMA 484.27

The stock is moving sideways. The support for the stock exists at around 448
levels. The MACD indicator for the stock is moving downwards in negative
zone. Investors can hold the stock.
Disclaimer:

This recommendation has been prepared solely for information purpose and does not constitute a solicitation to any person to buy or sell a
security or to participate in any trading strategy.
This report should not be deemed to be an individually tailored investment advice. It has been prepared without regard to the individual
financial circumstances and objectives of persons who receive it. The securities discussed in this report may not be suitable for all
investors. We recommend that investors independently evaluate particular investments and strategies and encourage investors to seek the
advice of a financial adviser. This report is based on public information. We have made every effort to use reliable, comprehensive
information, but we do not warrant its completeness or accuracy. The views of the author do not necessarily reflect those of our firm.
Therefore we or the author or any other official cannot be held responsible, as a company and in an individual capacity respectively, for
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