Detailed Rationale

CRISIL Ratings has upgraded its ratings on the bank facilities of Sarda Energy and Minerals Limited (SEML; part of the Sarda group) to ‘CRISIL AA-/Stable/CRISIL A1+’ from ‘CRISIL A+/Positive/CRISIL A1’.

 

The upgrade factors in the expected sustenance of the improvement in business and financial risk profiles over the medium term. Business risk profile improved with improvement in the backward linkages through commissioning and operationalisation of the Gare Palma coal mine of 1.20 million tonne per annum (MTPA), coal washery and coal gasifier during the fourth quarter of fiscal 2022. This has enabled SEML to meet its entire standalone coal requirement, thereby supporting operating efficiency, which continues to benefit from the integrated nature of operations including captive iron ore mines. Business risk profile will be supported further by commissioning of the third furnace of 36 megavolt ampere (MVA) at Sarda Metals and Alloys Ltd [SMAL, a 100% subsidiary of SEML; rated CRISIL A/Stable/CRISIL A1]) and Shahpur coal mine of 0.6 MTPA.

 

Financial risk profile has improved with strong operating performance, leading to better debt protection metrics and capital structure. Operating performance improved during fiscal 2022 with better realisation across the steel industry and increase in plant utilisation. Operating income and operating profit before depreciation interest and taxes (OPBDIT) grew by 72%% and 140%, respectively, in fiscal 2022. Adjusted interest coverage ratio and gearing improved to 26.0 times and 0.18 time (as on March 31, 2022), respectively, against 7.7 times and 0.35 time, respectively, during previous fiscal. While realisations moderated during the current fiscal, cash accrual is expected to be strong to meet capital expenditure (capex) and debt repayment. Financial risk profile is expected to remain strong over the medium term with adjusted interest coverage ratio above 15 times and gearing expected to improve further.

 

SEML has made investments in, and provided loans and advances of ~Rs 1,239 crore (44% of the networth as of March 2022) to, subsidiaries and associates (excluding SMAL). CRISIL Ratings understands the company has no further plans to make any major investment in group entities. Indeed, most of the amount of loans and advances is callable and can be ploughed back into the company in case of any cash flow requirement.

 

The ratings reflect the established market position of the Sarda group, supported by diversified revenue streams and integrated nature of operations; and a strong financial risk profile. These strengths are partially offset by exposure to cyclicality in the steel and ferro alloy industries, and large investment in associate entities.

Analytical Approach

CRISIL Ratings has combined the business and financial risk profiles of SEML and SMAL, together referred to as the Sarda group. SMAL is a wholly owned subsidiary of SEML and both are engaged in the same business. Furthermore, SEML has guaranteed Rs 52 crore of the debt of SMAL (o/s debt against this guarantee is Rs. 24.65 crore as on March 31, 2022), and provided support to the latter through unsecured loans in the past. CRISIL Ratings has also moderately consolidated the subsidiaries, Madhya Bharat Power Corporation Ltd (MBPCL) and Chhattisgarh Hydro Power LLP (CHP LLP), in case SEML infuses funds in these entities over the medium term (as seen in the past). The remaining subsidiaries, joint ventures and controlled entities are treated as financial investments.

 

Please refer to Annexure - List of entities consolidated, which highlights entities considered and their analytical treatment for consolidation.

Key Rating Drivers & Detailed Description

Strengths

Established market position: The group is one of the largest manufacturers of manganese-based ferro alloys in India and caters to the domestic and international markets. This is supported by the extensive experience of the promoters and a qualified management. Revenue is diversified across sale of intermediate and finished steel products, ferro alloys and surplus power from the captive power plant. Portfolio is backed by the ability to manufacture different grades of steel products and niche-grade manganese-based ferro alloy products.

 

Integrated nature of operations: Operations are backward integrated with a captive iron ore mine that meets 40-50% of the total iron ore requirement and a captive power plant that meets total power requirement, leading to high operational efficiency. Integration has further improved after commissioning of the coal mine, which meets the entire requirement of domestic coal. Surplus power generated is traded on the Indian Energy Exchange. Flexibility of changing revenue mix within intermediate steel products and final products as well as power sales help in successfully manoeuvring business cycles and sustaining operating margin. Procuring raw materials in bulk helps save cost. Similarly, proximity of SMAL to the Vishakhapatnam port in Andhra Pradesh saves logistics cost and helps target global markets. Hence, operating margin has remained healthy at around 14% even during the downturn in fiscal 2016.

 

Strong financial risk profile: Debt protection metrics were robust, with adjusted interest coverage and net cash accrual to total debt ratios of 26.0 times and 1.66 times, respectively, in fiscal 2022 (7.7 times and 0.53 time, respectively, during fiscal 2021). Capital structure is comfortable, with gearing of 0.18 time as on March 31, 2022 (0.35 time as on March 31, 2021). Financial risk profile is expected to remain stable due to high cash accrual, which will entirely fund moderate capex.

 

Weaknesses

Exposure to cyclicality in the steel and ferro alloy industries: These are closely linked to the domestic and global economies as growth depends on the level of construction and infrastructure activities. Any downturn in the economic cycle adversely impacts demand, as was seen in fiscal 2016. Furthermore, any change in government policies on imports/exports affects the industries (exports contribute 20-30% to the group revenue). In addition to demand risk, the industries remain exposed to volatility in raw material prices and finished product realisations, which can impact operating margin. The prices are largely subject to global commodity prices. However, this is partially offset by the integrated nature of operations, flexibility in changing revenue mix between steel and steel intermediates, ferro alloys and power, and ability to pass through any change in raw material prices to customers. Any significant variation in demand and pricing scenario will remain a key monitorable.

 

Substantial investment in subsidiaries and group entities: Equity investments and loans and advances in group entities (including associates, joint ventures and controlled entities excluding SMAL) were around Rs 1,250 crore as on March 31, 2022. These investments are largely in unrelated businesses (such as hydro power) and in entities with weaker credit risk profiles as well as back-ended returns. Any major increase in loans and advances that may impact financial risk profile will remain a key rating sensitivity factor.

Liquidity: Strong

Cash and equivalent stood at Rs 280 crore while unutilised bank limit was Rs 238 crore, as on March 2022. Net cash accrual is expected at over Rs 500 crore in fiscal 2023 which, along with cash and equivalent, should be adequate to meet debt obligation and capex.

Outlook: Stable

The group will continue to benefit from its established market position in key long steel products and ferro alloys, diversified revenue streams and integrated nature of operations, thereby ensuring healthy cash generation; financial risk profile is likely to remain strong over the medium term.

Rating Sensitivity Factors

Upward factors

• Healthy operating performance with continued volume growth supported by high capacity utilisation; and operating margin of 25-30% due to increased integration leading to significant and sustained improvement in net cash accrual
• Substantial and steady improvement in financial risk profile with no material debt-funded capex or acquisition; and better liquidity with reduction in exposure to group entities and maintenance of higher cash surplus on balance sheet

 

Downward factors

• Deterioration of operating performance due to weakened demand and intense competition leading to fall in margin to below 15-18% on sustained basis, thereby materially reducing cash accrual
• Any significant increase in exposure to group entities weakening liquidity
• Large, debt-funded capex or acquisition adversely affecting financial risk profile

About the Group

Based in Chhattisgarh, the Sarda group is promoted by Mr Kamal Kishore Sarda, who manages operations with his son, Mr Pankaj Sarda, and a team of professionals. The group manufactures iron pellets, sponge iron, billets, wire rods and wires, along with ferro alloys and eco-friendly fly ash brick. The group has thermal power plants and a waste-heat recovery boiler to generate power that is largely used for captive consumption.

 
SEML, incorporated in 1973, is the flagship company of the group. It is a vertically integrated producer of steel with captive iron ore and coal mines. It also manufactures and exports niche-grade manganese-based ferro alloys, with self-sufficient captive power from waste heat and coal.

 

SMAL, incorporated in October 2008, is a wholly owned subsidiary of SEML and operates a 2x33-MVA ferro alloy plant, backed by an 80-megawatt captive thermal power plant.

 

The group also has interests in hydropower projects through special project vehicles, MBPCL, CHP LLP and Parvatiya Power Ltd.

Key Financial Indicators - Consolidated*

Particulars	Unit	2022	2021
Operating income	Rs.Crore	3,663	2,135
Profit after tax (PAT)	Rs.Crore	807	330
PAT margin	%	22.0	15.4
Adjusted debt/adjusted networth	Times	0.18	0.35
Adjusted interest coverage	Times	26.00	7.69

*As per analytical adjustments made by CRISIL Ratings

Any other information: Not applicable