Rating Rationale
December 28, 2018 | Mumbai
Vardhman Special Steels Limited
Ratings Reaffirmed
 
Rating Action
Total Bank Loan Facilities Rated Rs.546.52 Crore
Long Term Rating CRISIL AA/Stable (Reaffirmed)
Short Term Rating CRISIL A1+ (Reaffirmed)
 
Rs.150 Crore Commercial Paper CRISIL A1+ (Reaffirmed)
1 crore = 10 million
Refer to annexure for Details of Instruments & Bank Facilities
Detailed Rationale

CRISIL has reaffirmed its ratings on the bank facilities and commercial paper of Vardhman Special Steels Limited (VSSL) at 'CRISIL AA/Stable/CRISIL A1+'.

The rating reflects expectation of sustained improvement in operating performance while the financial risk profile is maintained. The company had a rolling mill capacity of 1.5 lakh tonne per annum (tpa) with 95% utilisation. It expanded the capacity to 1.8 lakh tpa in fiscal 2018 and was able to ramp up utilisation quickly to 83%. A further increase to 2.2 lakh tpa is proposed by fiscal 2020. Ramp-up in utilisation of the expanded capacity will lead to growth in revenue over the medium term. Profitability is also expected to improve with increasing economies of scale, and will be further supported by reduction in power tariff in Punjab.

During first six months ended 30th September 2018, VSSL posted revenue growth of 38% over corresponding period of the last fiscal backed by volume growth of 11% and realisation growth of 24%   The operating margin during six months ended 30th September 2018 stood at 5.9% as against 6.3% in the corresponding period last year. The moderation in operating margin was on account of spurt in raw material costs as a result of increasing steel and graphite electrode prices which was not passed to end customer to full extent. The impact of higher raw material costs is seen stabilizing in second half of fiscal 2019 as the company has started revising price contracts.  The company is expected to post revenue of Rs 1000-1100 crore with operating margin of 7-8% in fiscal 2019.

During fiscal 2018, the financial risk profile has improved aided by the Rs 68 crore rights issue and Rs 50 crore qualified institutional placement (QIP). Despite capital expenditure (capex) plans of about Rs 150 crore over the medium term, the financial risk profile is expected to remain moderate.

The ratings continue to reflect managerial and financial support from the largest shareholder, Vardhman Textiles Ltd (VTXL; rated 'CRISIL AA+/FAAA/Stable/CRISIL A1+'). The ratings also factor in a moderate business risk profile, supported by considerable backward integration. These rating strengths are partially offset by susceptibility to cyclicality in end-user industries and an average financial risk profile.

Analytical Approach

CRISIL has applied its parent notch-up framework to factor in the extent of support from VTXL as the company will enjoy operational, financial, and managerial support from VTXL due to 65% shareholding of Vardhman group and past track record of support.

Key Rating Drivers & Detailed Description
Strengths
* Managerial and financial support from VTXL
VSSL, prior to its demerger from VTXL, was the steel division of the latter. Operations continue to be largely controlled by the management of VTXL even after the demerger. That's because around 65% of the equity shares are owned by VTXL, its promoters, and other promoter-holding/investment companies, while the rest is owned by the public. VSSL receives managerial, and financial support from VTXL, uses the Vardhman group logo, and has common banking and treasury operations with VTXL. Furthermore, management has articulated need-based financial support to the company whenever required. Any major change in the shareholding will be key rating sensitivity factor.

* Moderate business risk profile
Market position is supported by a strong customer base, including automotive original equipment manufacturers and other established players in the engineering segment. In-house manufacturing of ingots and billets, along with ability to pass on price increases, resulted in moderate operating efficiency. The management's focus on the steel business, high capacity utilisation (around 90%), and considerable backward integration (around 90%) should drive growth in operating income and improve the business risk profile over the medium term.

Weaknesses
* Susceptibility to cyclicality in end-user industries
The company is a small player in the alloy steel industry, with only about 3% of the total capacity in India. Its products are used in the automotive, tractor, bearings, engineering, and allied industries; it is dependent on companies in the automotive sector for over 85% of revenue. This dependence subjects the company to risks related to cyclicality in the automotive segment as witnessed during the recent years of economic slowdown. Further, vulnerability to fluctuations in input prices persists.

* Average financial risk profile
The interest coverage ratio was 3.1 times in fiscal 2018 (2.3 time in the previous fiscal), and the gearing 0.7 time as on March 31, 2018 (1.6 times a year earlier). Improvement in gearing was on account of equity infusion of Rs 118 crore through rights issue and QIP during fiscal 2018. The operating margin improved to 7.9% in fiscal 2018 (2.4% in fiscal 2015) due to stabilisation and ramp-up of operations of the steel rolling mill. Debt protection metrics are expected to remain comfortable over the medium term due to better operating performance despite capex of Rs 150 crore during fiscals 2019 and 2020.
Outlook: Stable

CRISIL believes the scale of operations will improve on account of enhancement in capacity, while managerial and financial support from VTXL should continue.

Upside scenario
* Sustained and significant improvement in operating performance
* Reduction in gearing and improvement in capital structure.

Downside scenario:
* Large, debt-funded capex, leading to weakening of the capital structure
* Drop in capacity utilisation, impacting debt protection metrics
* Reduction in support from, or downward rating action on, VTXL.

Liquidity
VSSL has adequate liquidity driven by expected cash accruals of more than Rs 50-70 crore per annum in fiscal 2020 and fiscal 2021.  The company had a working capital limits of Rs 150 crore which was utilized at around 90% for three months ended 31st October 2018. The company has increased the limits to Rs 200 crore in December 2018 which is expected to reduce the utilization to comfortable level. The company has long term repayment obligations around Rs 10 - 25 crore per annum along with capex plan of Rs 150 crore over next two years.

About the Company

The Vardhman group ventured into the steel business in 1972 by setting up Oswal Steels to manufacture special and alloy steels, with initial capacity of 0.5 lakh tpa. In 1986, the firm acquired a plant in Ludhiana, Punjab, and its capacity was increased to 1 lakh tpa. Oswal Steels became a division of VTXL in 1992. VTXL demerged its steel division as VSSL effective January 1, 2011. VSSL has capacity to manufacture 1.8 lakh tpa of steel billets and 2.1 lakh tpa of steel rolled products. Its manufacturing unit is equipped with a 30-tonne ultra-high-power electric arc furnace with an electro-magnetic stirrer, a vacuum degassing system, and a bloom caster.

During first six months ended 30th September 2018, VSSL posted revenue of Rs 565 crore and operating profit of Rs 33 crore as against Rs 409 crore and Rs. 26 respectively for similar period in corresponding year.

Key Financial Indicators
Particulars Unit 2018 2017
Revenue Rs crore 865 674
Profit After Tax (PAT) Rs crore 25 19
PAT Margin % 2.9 2.8
Adjusted debt/adjusted networth Times 0.68 1.60
Interest coverage ratio Times 3.17 2.29

Any other information: Not applicable

Note on complexity levels of the rated instrument:
CRISIL complexity levels are assigned to various types of financial instruments. The CRISIL complexity levels are available on www.crisil.com/complexity-levels. Users are advised to refer to the CRISIL complexity levels for instruments that they consider for investment. Users may also call the Customer Service Helpdesk with queries on specific instruments.
Annexure - Details of Instrument(s)
ISIN Name of Instrument Date of Allotment Coupon Rate (%) Maturity Date Issue Size (Rs. Crore) Rating Assigned with Outlook
NA Commercial Paper NA NA 7-365 days 150 CRISIL A1+
NA Cash Credit NA NA NA 200 CRISIL AA/Stable
NA Corporate Loan NA NA Mar-2026 65 CRISIL AA/Stable
NA Corporate Loan NA NA Dec-2023 75 CRISIL AA/Stable
NA Letter of credit & Bank Guarantee NA NA NA 175 CRISIL A1+
NA Term Loan NA NA Mar-2026 16 CRISIL AA/Stable
NA Proposed Working Capital Facility NA NA NA 15.52 CRISIL AA/Stable
Annexure - Rating History for last 3 Years
  Current 2018 (History) 2017  2016  2015  Start of 2015
Instrument Type Outstanding Amount Rating Date Rating Date Rating Date Rating Date Rating Rating
Commercial Paper  ST  150.00  CRISIL A1+  26-06-18  CRISIL A1+    --    --    --  -- 
        16-02-18  CRISIL A1+               
Short Term Debt (Including Commercial Paper)  ST          29-06-17  CRISIL A1+  27-07-16  CRISIL A1+  28-12-15  CRISIL A1+  CRISIL A1+ 
            09-03-17  CRISIL A1+      02-09-15  CRISIL A1+   
                    02-06-15  CRISIL A1+   
                    26-02-15  CRISIL A1+   
Fund-based Bank Facilities  LT/ST  371.52  CRISIL AA/Stable  26-06-18  CRISIL AA/Stable  29-06-17  CRISIL AA-/Positive  27-07-16  CRISIL AA-/Stable  28-12-15  CRISIL AA-/Stable  CRISIL AA-/Stable 
        16-02-18  CRISIL AA-/Positive  09-03-17  CRISIL AA-/Stable      02-09-15  CRISIL AA-/Stable   
                    02-06-15  CRISIL AA-/Stable   
                    26-02-15  CRISIL AA-/Stable   
Non Fund-based Bank Facilities  LT/ST  175.00  CRISIL A1+  26-06-18  CRISIL A1+  29-06-17  CRISIL A1+  27-07-16  CRISIL A1+  28-12-15  CRISIL A1+  CRISIL A1+ 
        16-02-18  CRISIL A1+  09-03-17  CRISIL A1+      02-09-15  CRISIL A1+   
                    02-06-15  CRISIL A1+   
                    26-02-15  CRISIL A1+   
All amounts are in Rs.Cr.
Annexure - Details of various bank facilities
Current facilities Previous facilities
Facility Amount (Rs.Crore) Rating Facility Amount (Rs.Crore) Rating
Cash Credit 200 CRISIL AA/Stable Cash Credit 150 CRISIL AA/Stable
Corporate Loan 140 CRISIL AA/Stable Corporate Loan 140 CRISIL AA/Stable
Letter of credit & Bank Guarantee 175 CRISIL A1+ Foreign Currency Term Loan 111.09 CRISIL AA/Stable
Proposed Working Capital Facility 15.52 CRISIL AA/Stable Letter of credit & Bank Guarantee 100 CRISIL A1+
Term Loan 16 CRISIL AA/Stable Term Loan 45.43 CRISIL AA/Stable
Total 546.52 -- Total 546.52 --
Links to related criteria
CRISILs Approach to Financial Ratios
CRISILs Bank Loan Ratings - process, scale and default recognition
Rating criteria for manufaturing and service sector companies
Rating Criteria for Steel Industry
CRISILs Criteria for rating short term debt
Criteria for Notching up Stand Alone Ratings of Companies based on Parent Support

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