January 18, 2021 Rashtriya Ispat Nigam Limited: Rating Placed Under Watch with Developing Implications Summary of rating action Previous Rated Amount Current Rated Amount Instrument* Rating Action (Rs. crore) (Rs. crore) [ICRA]A3+ & (Placed Under Commercial Paper 2,000.00 2,000.00 Watch with Developing Programme** Implications) Total 2,000.00 2,000.00 *Instrument details are provided in Annexure-1; ** The rating of the aforementioned instrument is based on the condition that total short-term borrowings (including commercial paper, short-term debt and bank borrowings) of the company at any given point of time should not exceed the company’s drawing power or the bank sanctioned fund-based limits (whichever is lower) Rationale On January 8, 2021, ICRA has received a written confirmation from the lenders of Rashtriya Ispat Nigam Limited (RINL) that they have approved the company’s one-time-restructuring (OTR) request and have invoked the resolution plan (RP) on December 31, 2020. This invocation has been made under the framework for resolution specified by the Reserve Bank of India (RBI) vide its circular dated August 6, 2020. Though the company has applied for loan restructuring, RINL has been servicing its debt obligations in a timely manner following the expiry of loan moratorium in end-August 2020. The rating of RINL has been placed on Watch with Developing Implications to reflect the uncertainty of the terms of the RP and the resultant impact on the credit profile of the company. The rating watch would be resolved upon successful implementation of the resolution plan within the regulatory timelines. The rating continues to derive comfort from RINL’s healthy financial flexibility, given its status as a 100% Central Government-owned Navratna public sector undertaking (PSU), and its large scale and integrated nature of operations, which leads to a wide market reach, depth in product offerings, and a competitive marginal cost of production. The rating also factors in the significant upward revision in steel prices and steel demand in the recent months, which is expected to lead to a strong uptick in RINL’s performance in H2 FY2021, and the company’s competitive capital cost for the expansion and modernisation project. RINL’s rating is, however, constrained by the company’s inability to report profits across the business cycles, and a significant erosion of its net worth, which led to a marked deterioration in its capital structure and a rise in total outside liabilities. ICRA notes that RINL has largely funded its past losses through higher dependence on short-term borrowings, which resulted in a sizeable asset-liability mismatch, exposing the company to refinancing risks. RINL’s rating is also constrained by the company’s weak debt protection metrics on account of its sizeable debt-funded capex and loss-making operations, its lack of captive raw material sources, which expose the company to risks associated with price volatility and availability of raw materials, and the company’s sizeable proportion of semis/pig iron sale in the overall product mix, which depresses blended realisations, and tempers profit margins. Given RINL’s high fixed cost intensity of 1 operations1, its ability to quickly ramp up production to the peak rated capacity of 7.3 million tonne per annum (mtpa) was a crucial element of the company’s turnaround plan. However, the pace of ramp-up has been much slower than expected, which saddles the company’s profits with elevated levels of fixed cost. Going forward, RINL’s ability to become profitable at the net level, and steadily reduce the borrowing levels remain key rating drivers. Key rating drivers and their description Credit strengths Significant rise in steel prices and steel demand to support a strong recovery in RINL’s H2 FY2021 performance – The disruption in business for RINL’s key customers during the nationwide lockdown following the pandemic led to RINL reporting a large operating loss of Rs. 770 crore in Q1 FY2021. However, following the Unlock 1.0, and a gradual resumption to a normal operating environment, RINL’s financial performance witnessed sequential improvement, supported by a combination of rising steel prices, an increase in capacity utilisation levels, and a richer product mix. With RINL’s hot metal capacity utilisation levels increasing to 87% in December 2020 from 28% in May 2020, and finished steel capacity utilisation levels parallelly increasing to 103% in December 2020 from 13% in May 2020, ICRA expects RINL’s H2 FY2021 performance to rebound strongly (operating profit of Rs. 1,828 crore expected in H2 FY2021), which would be significantly better than H1 FY2021 (during when the company reported an operating loss of Rs. 955 crore). Healthy financial flexibility, given its status as a 100% Central Government-owned Navratna PSU – Notwithstanding its weak financial performance, RINL has demonstrated its ability to access debt funding, across tenures, at a competitive cost. In FY2020, RINL’s weighted average cost of debt stood at around 8.6%. Large scale and integrated nature of operations leads to a wide market reach, depth in product offerings, and a competitive marginal cost of production - RINL is in the process of increasing its liquid steelmaking capacity to 7.3 mtpa from 3 mtpa, which would establish it as the sixth largest domestic steel maker having a wide market reach. In addition to RINL’s large scale, the rating also derives comfort from the company’s vertically-integrated nature of operations, supported by crude steelmaking facilities through the blast furnace-basic oxygen furnace route, captive coke and sinter-making facilities, captive power plant, and various downstream finished long steelmaking facilities. ICRA believes that these would result in a competitive marginal cost of production as the output gradually ramps up. Moreover, having the advantage of steel production through the primary route, RINL fetches higher realisations from customers than the prevailing average market rates, which indicates superior product quality. Competitive capital cost for the expansion and modernisation project - The budgeted completion cost for the 3.3- mtpa expansion programme is Rs. 12,291 crore, and for the 1-mtpa modernisation programme, the same is around Rs. 4,200 crore. ICRA notes that this pegs the capital cost for the 4.3-mtpa expansion and modernisation programme at around Rs. 38,282/MT, which remains at a competitive level, keeping the capital charges at a reasonable level. This would support the company’s net profitability once the production ramps up. 1 RINL suffers from the structural cost disadvantage of a high employee cost burden compared to private steelmakers 2 Credit challenges Inability to report profits across business cycles – RINL’s performance have been volatile over the years. Between FY2015 and FY2020, the company reported operating losses in three years, and net losses in four years. The ability of the company to come back in the black on a sustained basis would remain a key credit rating driver. Significant erosion of net worth, which led to a marked deterioration in the capital structure and a rise in total outside liabilities – RINL’s tangible net worth declined to Rs. 1,099.8 crore as on September 30, 2020 compared to Rs. 7,352.3 crore as on March 31, 2019, registering a sharp fall of 85% in a short span. This led to a worsening in the capital structure and an increase in total outside liabilities. RINL’s gearing deteriorated to 19.4 times as on September 30, 2020, against 2.7 times as on March 31, 2019. The total outside liabilities to tangible net worth also deteriorated to 26.9 times as on September 30, 2020, against 3.7 times as on March 31, 2019. Large dependence on short-term borrowings led to a sizeable asset-liability mismatch, exposing the company to refinancing risks –RINL’s cumulative release of operating working capital in the steel business was ~Rs. 3,940.8 crore between FY2016 and H1 FY2021, whereas there was an incremental deployment of short-term/working capital borrowings accumulating to Rs. 2,939.3 crore during this period, which resulted in an asset-liability mismatch of Rs. 12,464.2 crore as on September 30, 2020. This indicates that over the years, such loans have built up largely to cover for the PSU’s loss-making operations. In this context, replacing RINL’s sizeable short-term funds with long-term funds (long-term debt/equity) remains crucial to reduce the company’s exposure to refinancing risks. Lack of captive raw material sources expose the company to risks associated with price volatility and availability of raw materials – Iron ore and coking coal remain the principal raw materials used in steelmaking through the blast-furnace route. RINL does not have any captive iron ore or coking coal mines, which leads to a structural cost disadvantage over other large primary steel producers having raw material linkages. The company procures iron ore largely from NMDC Limited’s mines in Chhattisgarh. For coking coal, which accounts for ~30-35% of RINL’s overall cost of production, the company relies largely on imports. RINL has been allocated the 2.5-mtpa Rabodih Open Cast coal mine in Jharkhand. The mine is estimated to have reserves of 46 million tonne (mt), comprising a mix of coking and non-coking coal. Development of the mine would take around 30-36 months, and once operational, the same could lead to some savings in operating costs for RINL. Weak debt protection metrics, which is unlikely to improve materially in the near term – RINL’s subdued profitability and increase in borrowing levels led to weak debt protection metrics. In FY2019, the interest coverage stood depressed at 1.1 times, and turned negative in FY2020 because of operating losses.