(CMP : Rs.203, FY11E - P/E : 3.4x, Buy stocks with a target price of Rs. 263)
Acquisition has been done quite cheap
Sesa Goa has signed an agreement to pay Rs 17.5 bn for acquiring all the outstanding shares of the unlisted VS Dempo & Co. (VSD) which owns 100% of Dempo mining and a 50% stake in Goa Maritime. The deal also includes VSD’s net working capital of Rs 1.45 bn. The transaction has been funded from the internal accruals of Sesa Goa. Considering the ownership or the rights to mineable reserves and resources estimated at 70 mmT of Iron ore that Sesa Goa has acquired for Rs 17.5 bn, the deal was done at the rate of Rs 250 per tonne of Iron ore reserves, while the Sesa Goa itself was valued at Rs 630 per tonne on the day the deal was announced i.e. 240 mmT of reserves at Rs 192 per share on June 11,’09.
Acquisition to be EPS accretive from the first year
As the acquired assets are in and around Goa, a lot of synergies exist in the operations of the two companies and considering the 43% EBIDTA margins earned by VSD and no debt in the books the acquisition would be EPS accretive to the combined entity.
Sesa Goa had an ideal cash of Rs 41.43 bn as on Mar. 31, ’09 yielding a return of around 12% p.a. With the acquisition, the cash has been put to right use as it will be yielding a return of around 50% plus considering the track record of Sesa Goa for past 3 years (Avg RoE for last 3 years = 54.4%).
Acquisition is well timed
The Dempo acquisition is well timed and comes when the Global Steel industry is reviving and Iron ore prices are bottomed out. The annual Iron ore contracts are shaping up with Japanese and Korean Steel makers having accepted 33% cut in the Iron ore fines’ price although Chinese Steel makers still demanding a higher cut.
The Iron Ore (Spot) prices in China have been rising lately after the deal between BHPB and Japanese Steel makers and are currently quoting at $75/tonne (CFR) although the port inventory has been rising and currently at 71 mmT. The prices are expected to be robust and with rise in the total exported volume (with the acquisition of Dempo), Sesa Goa will show better topline and bottomline. The management has shown a renewed enthusiasm by guiding to raise the total volume to 50 mmT by next 3-4 years though we are skeptical about the same and expect them to achieve the same by FY2015.
Valuation:
At CMP, the scrip is quoting at an EV/EBIDTA of 1.2x FY11E earnings (Revised Estimate).
Considering the rightful canalizing of the cash available yielding better return over what it used to earlier and the improved pricing power due to enhanced volume at disposal, we would like to attribute a better multiple than we had put in our earlier estimates. We recommend a Buy with a price target of Rs 263 at which the scrip will quote at an EV/EBIDTA of 2x.
Source: Reliance Money Equity Research
