GRAPHITE INDIA LIMITED FRAUGHT WITH RISKS
The cyclical nature of steel demand and volatility in the cost of input materials has always been a major concern for the company which is yet to fully emerge from the impact of the pandemic and the consequent slump in the steel and welding sectors
Graphite India Limited (GIL) is a pioneer in the production of carbon and graphite products in India. The company commenced its business with graphite electrodes – its core product – and eventually entered into the coveted field of specialty application of carbon and graphite. It intends to advance the production capacity cost efficiently by leveraging core competence and economies of scale. GIL is able to ensure timely deliveries to customers and has tie-ups with efficient global partners. Its manufacturing facilities are in close proximity to inland customers and seaports. GIL is ranked the third-largest graphite electrode manufacturer in the world.
The company has 98,000 MT of capacity with plants at three Analysis Equity The cyclical nature of steel demand and volatility in the cost of input materials has always been a major concern for the company which is yet to fully emerge from the impact of the pandemic and the consequent slump in the steel and welding sectors locations. The company has a strong international client base with exports constituting 46 per cent of FY20 sales. GIL accounts for nearly 13 per cent of capacity among leading global electrode manufacturers. The company operates in three segments, namely, graphite and carbon, steel, and others. It is engaged in manufacturing graphite electrodes, graphite equipments, steel, glass reinforced plastic pipes and tanks, and generation of hydel power.
Graphite electrodes find an application in the production of steel and other nonferrous metals through the electric arc furnace and the ladle furnace routes. The product is used as a consumable for conducting high current at low voltage that is necessary for melting and alloying processes. Graphite equipments find application to handle corrosive fluids in chemical process industries like chlor-alkali, phosphate fertilisers, agrochemicals, bulk drug intermediates, metal processing, chlorine-based organic chemicals, rayon, etc. GIL is a leading entity in the production of large diameter glass fibre reinforced plastic pipes and pipeline liners by continuous process in India.
Sector Overview
GIL operates in the sector of electrodes and welding equipment. The global graphite electrodes market was valued at USD 4,431.49 million in 2020 and is predicted to record a CAGR of over 6.5 per cent during 2021-2026. The key raw material used for the production of graphite electrodes is needle coke, either petroleum-based or coal-based. Due to the impact of the pandemic in the first half of 2020, the global steel industry was in a disastrous situation with domestic steelmakers having to face the brunt of a total slowdown. Global steel production decreased by 6 per cent in the first half of 2020 to nearly 877 million metric tons, according to World Steel.
As such, the demand for graphite electrodes was severely affected. With the scenario returning to a near normal, the Asia-Pacific region is expected to dominate the market with strong demand from China at a global level. The rising usage of electric arc furnaces is expected to boost the demand for the market going forward. Like every other industrial sector, the welding industry in India has also faced severe pressures due to the pandemic. It is expected that the welding industry will recover soon. Along with this natural demand, the government has also initiated positive steps to boost the welding industry. If at all things go according to plans, the welding industry is capable of making a healthy contribution to the GDP of the country.
The ‘Make in India’ campaign is one of the major boosters to the sector. The Indian welding industry was so far dominated by low technology and very rare technological innovations. However, now the demand for automatic and semi-automatic welding production systems is gaining momentum. The expectation of increased flow of foreign direct investments in India has contributed to an increase in the number of projects in sectors such as automotive, oil and gas, ship building and heavy machinery along with offshore activities.
Financial Overview
As for the operational and financial performance of Graphite India, on a consolidated quarterly basis its net sales decreased to Rs 499 crore in Q3FY21 as compared to Rs 643 crore in Q3FY20, a decline of 22.4 per cent. Operating profit was at Rs 68 crore in Q3FY20 as against operating loss Rs 445 crore in Q3FY21. Q3FY21 recorded a net profit of Rs 26 crore as compared to net loss of Rs 351 crore in the same quarter in the previous year. On an annual basis, its net sales dipped by 60.63 per cent from Rs 7,858 crore in FY19 to Rs 3,094 crore in FY20. The operating profit dropped significantly by 98.18 per cent in FY20 as compared to FY19.
The net profit was 98.47 per cent lower in FY20 at Rs 52 crore as compared to Rs 3,399 crore in FY19. The financial ratios also tumbled severely as compared to the previous year. The return on assets dipped to 0.59 per cent in FY20 compared to 59.45 per cent in FY19. The return on equity fell to 0.74 per cent in FY20 from 77.34 per cent in FY19. Also, the return on capital employed saw a severe dip to 0.40 per cent in FY20 from 110.46 per cent in FY19. Apart from a weak financial performance, the valuation ratios too portrayed the company to be expensive. The PE ratio was valued at 79.27 in FY20 whereas in FY19 it was 3.11.
This implies that currently investors would have to pay a high price for the company’s earnings as compared to the previous year. The EV and EBITDA ratio significantly increased to 156.97 in FY20 as compared to 2.11 recorded in FY19. Among the ratios related to cash flows, price to cash flow ratio increased from 4.93 in FY19 to 14.47 in FY20. The free cash flow per share was also found to be negative 8.28 in FY20 as compared to positive 95.62 in FY19. In terms of segment-wise performance of the company in the recent quarter, the revenue from graphite and carbon segment showed de-growth of 25 per cent in Q3FY21 as compared to Q3FY20.
The other segments showed revenue growth of over 67 per cent in in Q3FY21 as compared to Q3FY20. Annually, the performance of the graphite and carbon segment was not satisfactory in FY20 as compared to the exceptionally commendable performance in FY19. Production of graphite electrodes and other miscellaneous carbon and graphite products during the year was 63,088 MT as against 91,480 MT in the previous year. The production of calcined petroleum coke during FY20 was 27,315 MT as against 28,464 MT in the FY19.
The GRP division produced 1,513 MT pipes in FY20 as against 5,692 MT in the previous fiscal year. Production of HSS and alloy steels was 1,327 MT during FY20 as against 1,954 MT in the previous year i.e. FY19. Power generated from the company’s captive hydel power plant of 18 MW of capacity amounted to 49.69 million units during the year 2019-20 as against 52.88 million units in the previous year. The aggregate export revenue of all divisions together was Rs 1,345 crore in FY20 as against Rs 3,058 crore in the previous fiscal year.
Risks and Concerns Graphite India sells its products to steel manufacturers through the electric arc furnace (EAF) route. The cyclical nature of steel demand, production through the EAF route and volatility in the cost of input materials has always been a major risk for the company. Historically, the steel industry has been cyclical and is affected significantly by macroeconomic conditions. Petroleum needle coke is the primary raw material used in the production of graphite electrodes. The supply of petroleum needle coke has been limited since the second half of 2017 as the demand has outpaced supply due to increasing demand for the production of lithium-ion batteries used in electric vehicles. Besides, since the company has optimum exposure to imports and exports and is a net foreign exchange earner, any volatility in the foreign currency market directly impacts the company’s prospects.
One of the big challenges faced by the local manufacturers of equipment in India is the considerable import of welding equipment. The excessive imports negatively impact the market share of local participants.
Conclusion
One of the big challenges faced by the local manufacturers of equipment in India is the considerable import of welding equipment. The excessive imports negatively impact the market share of local participants. A welding electrode plant faces the additional challenge of having to deal with the unorganised sector which occupies nearly 50-55 per cent of the market. In order to cope up with the competition in Indian and international market, local equipment manufacturers need to produce unique products. They also need to improve their service, performance and delivery along with uniqueness in production.
GIL had low-capacity utilisation during the recent quarter of FY20 due to muted demand conditions for use of graphite electrodes in manufacturing steel through EAFs post the outbreak of the pandemic, not to forget the high inventory of graphite electrodes at both the customer’s as well as the manufacturer’s end. The long-term credit rating of the company was also tempered due to fluctuations in the cash flow from operations. The primary reason for the same can be traced to the company’s exposure of business largely in a single commodity. Analysing the company’s performance and valuations in detail, we find investing in Graphite India a risky proposition and would therefore recommend investors to AVOID this scrip.