Rating Rationale

Strengths
* Superior market position: This is led by the company's large scale of operations and value-added product profile which are relatively less vulnerable to demand slowdown. Despite a fragmented market, JSPL commands a premium because of its superior product profile and strong brand. This is reflected in the company's healthy realisations at over Rs 40,000 per tonne and production volumes improving by 13% to 6.30 million tonne in fiscal 2020. With resumption of production at the DRI plant and increasing focus on value-added products, CRISIL expects the company's volume run rate to continue improving over the medium term.

* Improving operational efficiency: Ramp-up of volumes from the Angul plant have supported improved operating profitability of domestic operations. Operating profitability (per tonne) for the domestic steel business has increased from Rs 7,000-8,000 in fiscals 2016 and 17 to over Rs 11,500 over the last few years. While the expected decline in domestic steel demand and lower realisation would weigh on profitability in fiscal 2021, the operating margin should still improve with higher capacity utilisation, reduced input cost with expected reduction in coking coal prices and access to duty-paid raw material lying with third party. Proximity of plants to coal and iron ore mines, captive power units, railway sidings and nearness to the Paradip port in Odisha should continue to support operating margins over the medium term..

* Low-cost power generation business: JSPL consolidated also benefits from its low cost 3,400 megawatt (MW) independent power plants (IPPs) in Chhattisgarh, operated by Jindal Power Ltd (JPL, subsidiary of JSPL). Though only 24% of IPPs' capacities are tied up with power purchase agreements (PPAs), these capacities benefit from their low capital costs and proximity to coal mines. The consequent low cost of generation allows it to sell power in merchant markets and also bid competitively in power tenders. Recently, JPL won additional 420 MW capacity under PFC Pilot Scheme-II, which will increase its PPA tied capacity to 38% and enhance its cash flows from power business.

Weaknesses
* High debt and weak cash flows in overseas subsidiaries: The group's financial profile is constrained largely on account of high debt and repayments in overseas subsidiaries. Despite capital infusion by the promoter and a qualified institutional placement (QIP), this continues to stretch the company's overall financial leverage (ratio of net debt/EBITDA) and its interest coverage ratio. On the back of better domestic operating performance, lower capex and divestment of non-core assets, the company's financial leverage may improve to below 3.0 times and interest coverage ratio to more than 2.5 times in the next two fiscals. However, sustenance of these metrics will remain a key monitorable. JSPL has large debt obligation at its overseas subsidiaries, which reduces its own cash flexibilities in case of any adverse cyclical movement in its steel business.

* Susceptibility to demand and price risk: Demand for long steel products depends upon the level of construction and infrastructure activities and any movement in economic cycles. Furthermore, the steel industry remains exposed to global steel prices. This is reflected in volatility in the company's operating margin through the years. After witnessing improved growth rate of about 4% in fiscal 2019, long steel demand growth remained muted at 1-2% in fiscal 2020, mainly on account of slowdown in building and construction sector. Furthermore, domestic steel demand is expected to decline in fiscal 2021 because of reduced economic growth and weak performance across end-user segments amid the pandemic. While the company has witnessed improved operating performance in the first quarter of current fiscal, any significant impact on sales and, thereby, cash accrual because of demand shock from the pandemic will remain key monitorables.

* Moderate level of raw material linkages and off-take risk for power: JSPL's current captive iron ore mines meet only one-fifth of its total iron ore requirement. Furthermore, absence of long-term PPAs for around 75% of the power capacity in Tamnar, Chhattisgarh exposes the company to offtake risk and volatility in merchant rates. Moreover, this capacity is susceptible to fuel risk because of the absence of fuel linkages (after de-allocation of its coal mines pursuant to the Supreme Court order in September 2014). Nonetheless, secured coal linkages in the recent past of 6.5 million tonne for the captive power plants and sponge iron plants and proximity of steel and power plants to coal and iron resources provide comfort. Furthermore, JSPL's recent win, in the Odisha mine auctions, of the Guali mine with iron ore reserve of 195 million tonne, will further increase its raw material linkages. While recent win of 420MW PPAs will reduce offtake risk over medium term, participation in the recent coal block auctions may help the group tie up long-term fuel for power capacity under JPL.