Citi's Views on Sesa Goa,
Lower ore prices; low grade discount widens — The discount of 58% Fe grade ore ( 70% of Sesa’s ore) vs 62% Fe has risen from 17% in FY10 to 31% in May10 (apparent ban of low grade ore import by China’s trading association) and is 25% now. While prices should be higher yoy in FY11, we expect the discount to remain at 26% in FY11 and expect Sesa’s avg spot realizations to rise 45% (65% earlier).
In an appreciating RMB environment China would purchase more material − a longer-term positive for iron ore. However, we do not think that there would be a material impact as 1) Chinese steel production levels are unlikely to sustain; 2) Citi economists estimate only a ~2% RMB appreciation vs. the USD to 6.7 through the end of CY10 and ~3% in one year.
Sesa has underperformed its global peers over the last few months. The concentration of iron ore in its product mix, lower grade ore & high China exposure makes it relatively more sensitive to ore price weakness. In our view, the 10% stock jump on 21 Jun provides an exit opportunity.
Ore prices have come off 14% in the last month (63.5% CFR), and we expect further downside due to Chinese steel use intensity peaking and
steel margin compression. Our China analyst feels current steel output is high vs. demand; scale-back needed. Current traders inventory is 35% >than CY09 avg.
