An undervalued Steel company

"Unveiling a special situation: Undervalued steel manufacturer, 25% price - book value, 10x sales-to-market cap ratio and significant deleveraging"

Today, we are excited to present a highly promising investment opportunity that demands our attention. Govind is a seasoned professional with substantial experience in the Iron & Steel industry and has developed a comprehensive understanding of its dynamics.

Currently, we find both steel manufacturing and iron ore mining to be undervalued in the stock market, a phenomenon largely attributable to their historical cyclical nature.

Allow us to share a subject that has sparked debates internally between us: the potential of entering companies like GPIL and NMDC. These companies exhibit deep underlying values that we find truly compelling. While we have yet to fully solidify our conviction regarding their status as "multi-baggers" (those investments that yield exceptional returns), we do perceive them as consistent compounders in their own unique way. It is essential to approach such investments with a long-term mindset, capitalizing on the steady growth they can deliver over time.

Now, let us delve into the truly captivating aspect of this industry. Throughout history, companies operating within the steel and iron sectors have often faced challenges associated with high levels of debt and the inherent cyclicality of their markets. However, the remarkable aspect lies in that several of these struggling entities have successfully transformed themselves into lucrative investment prospects through strategic takeovers and restructurings under special situations.

Recently, we chanced upon a company within the steel manufacturing sector that has undergone a significant debt restructuring. What sets this particular restructuring apart is its profound impact. The company has managed to repay a substantial portion of its restructured debt by obtaining funds from a renowned special assets fund, a strategic move that demonstrates remarkable foresight and financial acumen.

Equally noteworthy is the fact that the restructuring process has left the company's promoter equity unaffected. Unlike common practices where buyers typically extinguish all other equity, this company has diligently preserved its public equity, ensuring fair participation for all stakeholders. Such commitment to equity preservation is a rarity in today's market, and it speaks volumes about the company's commitment to transparency and inclusivity.

Let's delve into some intriguing figures regarding this company that add to its allure:

Sales: The company's sales are a staggering ten times its current market capitalization. To put this in perspective, when compared with similar companies in the industry, the lowest sales-to-market cap ratio among its peers is one. This highlights the significant potential for growth and value within the company.

Revenue Potential: Considering the capacity of the company's existing plant, there is a high likelihood of doubling its revenue from its current level. This indicates a tremendous opportunity for expansion and increased financial performance.

Book Value: The company's book value is estimated to be around 3.5 to 4.0 times its current market capitalization. This calculation takes into account the historical value of the company's land and the written-down value of its plant. Such a valuation suggests that the company's assets are undervalued in the market.

In addition to the numbers, we conducted thorough scuttlebutt by engaging with various stakeholders, including investors, lenders, and buyers of the company's products.

Through these interactions, we unearthed some fascinating facts, many of which are publicly available:

Land Sale: The company plans to sell a non-core piece of land, which is expected to reduce its borrowing by approximately 20%. This strategic move will enhance the company's financial position and decrease its debt burden.

Promoter Shareholding: The special situation fund that provided funding to settle the company's old debts has pledged the entire promoter shareholding and more as collateral. Although this poses a higher risk, it aligns the interests of the promoters with the efficient and ethical management of the company.

Escrow/Monitoring Facilities: The special situation fund has established escrow and monitoring facilities to capture significant transactions related to the company. This demonstrates a keen interest in closely monitoring and safeguarding the company's financial activities.

Premium Brand: The company's products enjoy a premium brand reputation in the iron and steel market. Despite the challenges posed by the company's debt troubles, the promoters have maintained a positive reputation, further bolstering confidence in the brand's quality and market position.

Expansion Plans: The company has already outlined plans for a small expansion, which is expected to contribute positively to its bottom line. This proactive approach toward growth signifies management's commitment to capitalize on further opportunities in the market.

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These intriguing details further emphasize the potential hidden within this company. With robust sales figures, the possibility for revenue growth, undervalued assets, debt reduction through land sales, aligned promoter interests, diligent monitoring, a premium brand reputation, and expansion plans, the future appears bright for this investment opportunity.

Based on the peer comparison shown in the shared screenshot, it becomes evident that the company's undervaluation is partly attributed to its relatively higher debt. This data emphasizes the importance of addressing the debt burden to unlock the company's true value.

Fortunately, we hold the belief that the company has the capability to sustainably repay or reduce its debt by adopting more efficient business practices. With a reduced debt load, the company will be in a better position to enhance its financial performance and overall value. Furthermore, an additional boost can be expected through the sale of non-core assets, which will provide a valuable source of capital to further alleviate the debt burden.

This strategic debt management and asset optimization approach creates a compelling investment thesis. By running the business more efficiently and leveraging the proceeds from non-core asset sales, the company has a promising opportunity to improve its financial health and enhance its market position.

To summarize the opportunity and risks associated with this investment:

Pros/Opportunity:

• The company is significantly undervalued compared to its peers, based on its price-to-sales and book value multiples.

• The promoters have a strong incentive to succeed, as their pledged holdings are at stake.

• The positive outlook for the steel industry in the medium term is supported by our experience and knowledge.

• Promoters have shown their confidence by not selling any shares during this period.

• Positive findings from scuttlebutt regarding the company's products and the promoters' reputation.

• The company is actively selling non-core assets to reduce its debt burden.

Cons/Risks:

• The steel industry may face challenges such as oversupply or reduced demand in the event of an economic downturn.

• There is a risk that the promoters may not be able to efficiently drive the operation and achieve profitability, even after reducing the debt.

• If the lenders take over the company due to economic failure, it could result in a significant impairment of equity.

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After careful consideration of the opportunity and risks at hand, we firmly believe that the potential rewards far outweigh the associated risks. In fact, within our proprietary portfolio, this company holds a significant allocation, and it is one of our most valued investments. Taking a conservative stance, we foresee the company's EBITDA reaching a level equivalent to its current market capitalization within a couple of years. Moreover, we envision a remarkable growth trajectory, with the potential for a clear 5-10 times increase in value over the course of 3-5 years. It is important to note that this estimation does not even take into account any potential expansions.

Now, let us emphasize that this communication should not be misconstrued as a recommendation, as we are not SEBI RIAs. It is crucial for readers to conduct their own due diligence and exercise caution.

Additionally, it is worth highlighting that the iron and steel industry operates in cycles, and the fact that the entire promoter holding is pledged raises an element of risk. If the circumstances take an unfavorable turn, there is a possibility of a permanent erosion of capital.

Therefore, we urge all readers to approach this opportunity with prudence and carefully consider the potential risks involved. While the prospects appear promising, it is essential to maintain a cautious approach and stay informed of the inherent dynamics of the industry.

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Happy to chat and discuss this in detail

About Us -

Govind Shorewala - Entrepreneur (Mining, Textiles) & Investor (Private & Public Markets) → Reachout at: govind.shorewala@gmail.com

Aaroah Mittal - Early Stage VC → Reach out at: aaroah.m@people-group.com