Detailed Rationale

CRISIL Ratings has reaffirmed its ‘CRISIL AA/Stable/CRISIL A1+’ ratings on the bank loan facilities and commercial paper programme of Vardhman Special Steels Ltd (VSSL).

 

The ratings continue to reflect VSSL’s established market position, reputable customer base, technical assistance received from Aichi Steel Corporation, Japan (ASC, a Toyota group associate) as well as healthy financial risk profile. The ratings also reflect the strong parentage of Vardhman Textiles Ltd (VTXL) and other entities of the Vardhman group. VTXL (rated 'CRISIL AA+/Stable/CRISIL A1+') is the largest shareholder in VSSL.

 

The business profile is expected to remain healthy with earnings before interest, tax, depreciation and amortisation (EBITDA) per tonne expected to remain range-bound at Rs 7,000-10,000 per tonne over the medium term. The EBITDA/tonne in Q1 FY25 and Q2 FY25 remained volatile due to fluctuation in raw material prices. However, the same is expected to remain in the stated range in H2 also, of this fiscal.

 

The financial risk profile is expected to remain healthy, despite large capital expenditure (capex) planned over the medium term, with gearing to remain below 0.25 time and comfortable credit metrics. The interest coverage ratio is expected to be above 10 times and total outside liabilities to tangible networth (TOLTNW) ratio at less than 1 time. These metrics will be driven by healthy accrual, moderate term debt repayment and modest utilisation of the working capital debt. The planned capex is expected to be funded primarily through internal accrual with some term debt.

 

These strengths are partially offset by susceptibility to cyclicality in end-user industries and vulnerability of the operating margin to risks relating to input cost and realisations.

Analytical Approach

For arriving at the ratings, CRISIL Ratings has applied its parent notch-up framework to factor in the parentage of VXTL and other entities of the Vardhman group, together holding 60.53% shareholding in VSSL.

Key Rating Drivers & Detailed Description

Strengths:

• Established market position and reputed client profile: VSSL has an established market position with successful operational track record of over five decades and cumulative steelmaking capacity of around 2.40 lakh TPA. The company has a reputable client profile consisting of large automotive original equipment manufacturers (OEMs) and other established players in the engineering segment. It is present across the automotive sector, with 70-75% of the revenue contribution coming from passenger vehicles and two-wheelers. In-house manufacturing of billets, along with the ability to pass on price increases to clients results in better operating efficiency.

 

The operating income is expected to improve 6-7% over the medium term, driven by increase in sales volume and capacity expansion in the rolling mills. The sales volume for fiscal 2025 is expected to be ~ 2,10,000 tonne, compared to 1,95,000 tonne in fiscal 2024. The capacity is expected to reach ~2,80,000 tonne in the rolling mills by fiscal  2026 and capacity utilisation of 80-85% is expected in the coming fiscals. The EBITDA per tonne is expected to be range-bound at Rs 7,000-10,000 for fiscal 2025, supported by spread maintained between steel and raw material prices and cost optimisation measures undertaken by the company.

 

The company’s established market position, successful operational track record, strong relationships with customers and suppliers, high-capacity utilisation and considerable backward integration (around 90%) should drive growth in operating income and improve the business risk profile over the medium term.

 

• Strong support from the parent: Prior to the demerger, VSSL was the steel division of its parent (VTXL). The company’s operations have been largely controlled by the management of VTXL even after the demerger. This is because around 61% of VSSL’s equity shares are owned by the Vardhman group’s flagship company (VTXL), its promoters and other promoter-holding/investment companies, and 11.40% stake is owned by Aichi Steel Corporation (ASC); while the rest is owned by the public. VSSL benefits from its parent’s strong brand name, as it uses the Vardhman group logo, and has common banking and treasury operations with VTXL. Nonetheless, any major change in the shareholding will be a key rating sensitivity factor.

 

• Healthy financial risk profile: The financial risk profile is expected to remain healthy, despite large capex, with gearing to remain below 0.25 time and comfortable credit metrics with interest coverage ratio above 10 times and TOLTNW ratio of less than 1 time over the medium term, driven by healthy accrual, moderate term debt repayment and modest utilisation of working capital debt. The planned capex is expected to be funded primarily through internal accrual with some term debt.

 

Weaknesses:

• Susceptibility to cyclicality in end-user industries: The company is a small player in the alloy steel industry, with about 4% of the total capacity in India. Its products are used in the automotive, tractor, bearings, engineering and allied industries, with higher dependence on the automotive sector (accounts for over 85% of the company’s total revenue). This exposes VSSL to cyclicality in the automotive industry, as witnessed during the recent economic slowdown. Vulnerability to fluctuations in input prices also persists

 

• Vulnerability of profitability margin to risks relating to input cost and realisations: The margin remains susceptible to volatility in key raw material prices (steel scrap and iron sponge) and sales realisations as it always maintains inventory for material and finished products for about two months. Significant price fluctuations lead to inventory gains or losses as witnessed in the past and thus, remain a key monitorable. Although the presence of pass-through clauses in contracts and volume-based tie-ups with periodic price settlements mitigate the inventory price risk to a certain extent, the ability to pass on the full impact of price hikes will depend on the underlying demand scenario. Operating performance will remain susceptible to volatility in raw material prices, and offtake by key user sectors.

Liquidity: Strong

Liquidity is driven by expected cash accrual of more than Rs 110 crore per annum in fiscals 2025 and 2026. VSSL also has access to fund-based limits of Rs 300 crore, which have been utilised at only 32% on average over the 12 months through August 2024 (~Rs 200 crore unutilised as of August 2024). The company has long-term debt obligation of Rs 10-12 crore each in fiscals 2025 and 2026, with capex of Rs 100-120 crore per annum. Low gearing and healthy networth provide the financial cushion to any adverse conditions or downturns in the business. Liquidity is also supported by need-based support from the Vardhman group.

Outlook: Stable

CRISIL Ratings believes that VSSL will continue to benefit from its established operational track record and longstanding relationships with its customers and suppliers. Also, need-based support from the Vardhman group and tie-up with ASC is expected to support the business and financial risk profiles.

Rating sensitivity factors

Upward factors:

• Substantial increase in scale of operations and sustained RoCE of over 20% leading to higher strategic importance to group and improved market position of the company.
• Strengthening of the VTXL’s credit risk profile

 

Downward factors:

• Operating margin falling below 7-8% on consistent basis or fall in market position due to higher competition from competitors
• Large debt funded capex weakening capital structure such as gearing increasing beyond 1 times
• Reduction in support from, or downward rating action on, VTXL.

About the Company

The Vardhman group set up Oswal Steels in 1973 to manufacture special and alloy steels with initial capacity of 0.5 lakh tonne per annum (TPA). In 1986, the firm acquired a plant in Ludhiana which increased the capacity to 1 lakh TPA.  VTXL demerged its steel division as VSSL with effect from January 1, 2011. VSSL has the capacity to manufacture  2.60 lakh TPA of steel billets and 2 lakh TPA of steel rolled products. The manufacturing unit is equipped with a  35 -tonne ultra-high-power electric arc furnace with an electro-magnetic stirrer, a vacuum degassing system and a bloom caster.

About the Group

The Vardhman group, headed by Mr. S P Oswal, is one of the leading textile groups in India, with operations across the yarn, fabric, sewing threads, fibre, special alloys and garment sectors. In fiscal 2024, the textile business accounted for 83% of the consolidated operating income, followed by the acrylic segment (2%) and the steel alloy segment (15%). The group has 15 manufacturing units spread across four states.

Key Financial Indicators*

As on / for the period ended March 31	Unit	2024	2023
Operating income	Rs crore	1687	1768
Reported profit after tax (PAT)	Rs crore	91.6	100.4
PAT margin	%	5.4	5.7
Adjusted debt/adjusted networth	Times	0.12	0.22
Interest coverage	Times	9.34	10.20

*CRISIL Ratings adjusted numbers

Any other information: Not Applicable