October 24, 2017 Graphite India Ltd. Unprecedented, sustainable windfall CMP INR 448 Target INR 593 Result Update - BUY Key Share Data Face Value (INR) 2.0 Equity Capital (INR Mn) 390.8 Market Cap (INR Mn) 87,490.4 52 Week High/Low (INR) 492/70 6 months Avg. Daily Volume (BSE) 191,529 BSE Code 509488 NSE Code Reuters Code Bloomberg Code Shareholding Pattern (as on Sept 2017) 14% 21% Source: Company 65% Key Financials (INR Million) GRAPHITE Promoter FII/MF GRPH.NS GRIL:IN Puiblic & Other Particulars FY16 FY17 FY18E FY19E Net Sales 15,324.1 14,659.1 21,283.7 43,929.0 Growth (%) -10.4% -4.3% 45.2% 106.4% EBITDA 1,387.1 377.0 5,054.9 14,716.2 PAT 614.7 686.1 3,609.1 10,073.3 Growth (%) 6.7% 11.6% 426.1% 179.1% EPS (INR) 3.1 3.5 18.5 51.6 BVPS (INR) 89.6 95.1 111.5 161.0 Key Financials Ratios Particulars FY16 FY17 FY18E FY19E P/E (x) 31.8 45.2 24.2 8.7 P/BVPS (x) 1.1 1.7 4.0 2.8 Mcap/Sales (x) 1.3 2.1 4.1 2.0 EV/EBITDA (x) 16.7 90.4 17.6 5.8 ROCE (%) 3.5% -0.3% 16.2% 38.2% ROE (%) 3.2% 3.5% 16.2% 35.0% EBITDA Mar (%) 9.1% 2.6% 23.8% 33.5% PAT Mar (%) 4.0% 4.7% 17.0% 22.9% Debt - Equity (x) 0.2 0.1 0.1 0.0 Source: Company, SKP Research Analysts: Nikhil Saboo Tel No: +91-33-40077019; Mobile: +91-9330186643 e-mail: nikhil.saboo@skpmoneywise.com Anik Das Tel No: +91-33-40077020; Mobile: +91-8017914822 e-mail: anik.das@skpmoneywise.com Company Background & Product Highlights Graphite India Limited (GIL), incorporated in 1974, is promoted by Mr K K Bangur of Kolkata, is the largest graphite electrodes (GE) producer in India and third largest globally, with an installed capacity of 98,000 mtpa and co-generation power capacity of 33 MW (19.5 MW hydel capacity & 13.5 MW multi-fuel routes) spread over four locations viz. Durgapur (W.B.), Bangalore (Karnataka), Nasik (Maharashtra) and Nurnberg (Germany). GE are essential for making steel through electric arc furnace (EAF) route. Investment Rationale Global industry consolidation/capacity closures, recent environmental clamp down in China and rise of EAFs rapidly reversing demand-supply equilibrium, creates an unprecedented windfall, structurally taking graphite electrodes industry towards an unprecedented, yet sustainable boom. Global GE capacity has been ~900000 mtpa (ex-china) while demand was only ~600000 mtpa; resulting in not so happy times for the GE industry. In recent years, global GE industry witnessed supply side restructuring. Muted GE prices led to closure of ~190,000 mtpa GE capacity. Global industry consolidation has also resulted in capacity rationalisation. In 2015, Graftech (largest player) was acquired by Brookfield PE Fund. Germany s SGL s GE business, is being acquired by SDK of Japan. Recent environmental clampdown on China s polluting GE units has not only resulted in withdrawal of whatever low grade GE China was selling in global markets, it has also created additional global demand for GE to serve Chinese markets. China has also enforced shut down of its highly polluting and inefficient induction furnace based steel capacities by June 2017, which resulted in closure of ~100 million mtpa steel making capacity. To use its scrap steel, this capacity is now getting replaced with EAF route of steel making, requiring GE. Several countries like Turkey used billets, primarily sourced from China, in the intermediate stage of steel making. Environmental clamp down has led to withdrawal of ~20 million mtpa of Chinese billets from global markets. This has also lead to such countries moving towards EAF route of steel making, avoiding use of billets. Recently, Graftech has invoked force majeure suggesting disruption in GE supply during Nov/Dec17 due to Hurricane Harvey impacting its needle coke facilities in Texas. Result: Whilst global GE capacity is down to ~700000 MTPA (ex-china), demand has risen to ~700000 MTPA and is likely to exceed supply in the near future. Unprecedented spike in GE prices - an immediate and sustainable windfall, structurally taking GE industry to a completely new boom phase In our Initiating Coverage Report (March 17) and Q1/FY17 Results Update (Aug 17), prevailing price of GE was ~$2350/mt and we presumed it scaling upto $5000/mt by year end. Due to recent developments mentioned above, GE prices have already doubled to over $8000/mt and have given unprecedented pricing power to GE producers, making us believe that a major structural boom has just begun. With no fresh GE capacity expected to come up in near future, this may be a sustainable boom. Revival of global steel industry provides a tail wind. However, since GE prices are contracted a year in advance, we expect benefits of higher price to start only from Q3/FY18 and a full blown benefit from the subsequent quarter. Conservatively, average GE price for FY19 could be above $8000/MT. Meanwhile, taking benefit of the boom in the hitherto only consuming industry, the three Needle Coke (key raw material for GE) manufacturers in the world have also started raising prices. However, increase in GE prices, constituting a miniscule cost in steel production, will more than offset this price rise of needle coke. Strong quarter; CU and operational efficiencies to improve from current levels During Q2FY18, GIL reported net sales of Rs 4,619 mn, registering growth of ~44.5% y-o-y basis due to substantial improvement in realisations. Going forward, we expect GIL to report robust earnings growth led by significant higher pricing and higher volumes. We expect CU levels to improve from ~75% in FY17 to ~86% in FY19E and sales to grow at ~73% CAGR during FY17-19E to ~Rs 44 bn. Its margins are likely to improve significantly backed by improvement in utilization rate and operational efficiency. We expect GIL s EBITDA margins to improve to 33.5% by FY19E. Valuation GIL is well positioned to capitalize on the positive structural changes witnessed by the graphite electrode industry. GIL stock has seen an up move recently led by strong uptick in electrode prices. We believe there is still scope for re-rating due to the emerging structural and sustainable boom times. We have valued the stock on the basis of EV/EBITDA of 7x of FY19E EBITDA and recommend a BUY on the stock with a target price of Rs 593/- (~32% upside) in 18 months. SKP Securities Ltd www.skpmoneywise.com Page 1 of 7
Q2FY18 Result Update: Exhibit: Q2FY18 Result Review (Figs. in Rs Million) Standalone Particulars Q2FY18 Q2FY17 YoY (%) Q1FY18 QoQ (%) 6MFY18 6MFY17 YoY (%) Net Sales 4,619.0 3,196.3 44.5% 3,510.2 31.6% 8,129.2 5,948.2 36.7% Total Income 4,619.0 3,196.3 44.5% 3,510.2 31.6% 8,129.2 5,948.2 36.7% Expenditure 3,319.8 3,055.4 8.7% 3,155.1 5.2% 6,474.9 5,702.2 13.6% Material Consumed 1,469.8 1,350.3 8.8% 1,281.8 14.7% 2,751.6 2,652.3 3.7% (as a % of *NS) 31.8% 42.2% 36.5% 33.8% 44.6% Changes in inventories (160.3) (4.9) (42.3) (202.6) (78.2) (as a % of *NS) -3.5% -0.2% -1.2% -2.5% -1.3% Employees Cost 450.0 370.9 21.3% 411.4 9.4% 861.4 721.6 19.4% (as a % of *NS) 9.7% 11.6% 11.7% 10.6% 12.1% Other Expenses 1,560.3 1,339.1 16.5% 1,504.2 3.7% 3,064.5 2,406.5 27.3% (as a % of *NS) 33.8% 41.9% 42.9% 37.7% 40.5% EBITDA 1,299.2 140.9 822.1% 355.1 265.9% 1,654.3 246.0 572.5% EBITDA M argin (%) 28.1% 4.4% 2,372 Bps 10.1% 1,801 Bps 20.4% 4.1% 1,621 Bps Depreciation 120.0 96.5 24.4% 120.4-0.3% 240.4 193.7 24.1% EBIT 1,179.2 44.4 2555.9% 234.7 402.4% 1,413.9 52.3 2603.4% Other Income 192.4 219.7-12.4% 211.3-8.9% 403.7 398.1 1.4% Interest Expense 15.3 18.2-15.9% 9.5 61.1% 24.8 32.6-23.9% Profit Before Tax 1,356.3 245.9 451.6% 436.5 210.7% 1,792.8 417.8 329.1% Income Tax 457.0 86.5 428.3% 142.0 221.8% 599.0 148.5 303.4% Effective Tax Rate (%) 33.7% 35.2% - 32.5% - 33.4% 35.5% - Profit After Tax (PAT) 894.7 157.1 469.5% 289.9 208.6% 1,193.8 264.7 351.0% PAT M argins (%) 19.4% 4.9% 1,445 Bps 8.26% 1,111 Bps 14.69% 4.45% 1,024 Bps Diluted EPS 4.6 0.8 469.5% 1.5 208.6% 6.11 1.35 351.0% Source: Company Data, SKP Research,*NS-Net Sales SKP Securities Ltd www.skpmoneywise.com Page 2 of 7
Sensitivity Analysis: Exhibit: Sensitivity of GIL FY19E EBIDTA & EPS - With the change in Net Realization/tonne and Dispatch Volume (MT) % Change in Net Realization Change (%) -3.0% -2.0% -1.0% 0.0% 1.0% 2.0% 3.0% -3% 12,166.1 12,584.7 13,003.3 13,421.9 13,840.4 14,259.0 14,677.6 EBITDA (Figs in Rs Million) -2% 12,584.3 13,007.2 13,430.1 13,853.0 14,275.9 14,698.8 15,121.7-1% 13,003.0 13,430.2 13,857.4 14,284.6 14,711.8 15,139.0 15,566.2 0% 13,421.6 13,853.2 14,284.7 14,716.2 15,147.8 15,579.3 16,010.8 1% 13,840.3 14,276.2 14,712.0 15,147.9 15,583.7 16,019.5 16,455.4 2% 14,259.0 14,699.2 15,139.3 15,579.5 16,019.6 16,459.8 16,900.0 3% 14,677.2 15,121.7 15,566.1 16,010.6 16,455.1 16,899.5 17,344.0-3% 38.5 40.7 42.8 44.9 47.1 49.2 51.4-2% 40.7 42.8 45.0 47.2 49.3 51.5 53.6 EPS (Figs in Rs) -1% 42.8 45.0 47.2 49.4 51.6 53.7 55.9 0% 44.9 47.2 49.4 51.6 53.8 56.0 58.2 1% 47.1 49.3 51.6 53.8 56.0 58.2 60.5 2% 49.2 51.5 53.7 56.0 58.2 60.5 62.8 3% 51.4 53.6 55.9 58.2 60.5 62.7 65.0 Source: Company Strong balance sheet augurs well; dividend payout attractive: GIL boasts a strong balance sheet with gross debt of Rs 1.8 bn and cash & cash equivalents of ~Rs 7.9 bn resulting in a net cash of ~Rs 6 bn at the end of Q2FY18. GIL has continuously rewarded shareholders in form of higher dividends, despite the cyclical nature of the business. For FY17, the company has paid a dividend of 100 percent (Rs 2/share), thereby delivering a current dividend yield of ~1.9 percent. Going forward, we believe GIL would continue to pay higher dividends, which would enhance overall returns of the shareholders. SKP Securities Ltd www.skpmoneywise.com Page 3 of 7
Valuations GIL is well positioned to capitalize on the positive structural changes witnessed by the graphite electrode industry. GIL stock has seen an up move recently led by strong uptick in electrode prices. We believe there is still scope for re-rating due to the emerging structural and sustainable boom times. We have valued the stock on the basis of EV/EBITDA of 7x of FY19E EBITDA and recommend a BUY on the stock with a target price of Rs 593/- (~32% upside) in 18 months. Exhibit: Valuation Charts 50.0 Rolling forward EV/EBITDA(x) chart 40.0 30.0 20.0 10.0 0.0 Oct-12 Dec-12 Mar-13 May-13 Jul-13 Oct-13 Dec-13 Feb-14 May-14 Jul-14 Sep-14 Nov-14 Feb-15 Apr-15 Jun-15 Sep-15 Nov-15 Jan-16 Apr-16 Jun-16 Aug-16 Oct-16 Jan-17 Mar-17 May-17 Aug-17 Oct-17 Fwd EV/EBITDA Mean EV/EBITDA EV/EBITDA+1sd Source: Company, SKP Research Risks & Concerns Lower than expected EAF production and electrode demand We expect the global steel production through EAF route to increase steadily in the next few years on increased availability of scrap as well as flexible production process. But, lowerthan-expected EAF steel production could potentially result in lower graphite electrode demand and affect the sales volume and profit of the graphite producers negatively. Limited supply of needle coke The supply of needle coke required to manufacture graphite electrodes remains scarce and is in the hands of three producers globally. Meanwhile, taking benefit of the boom in the hitherto only consuming industry, the Needle Coke (key raw material for GE) manufacturers in the world have also started raising prices, backed by them finding Lithium Batteries manufactured in China as an alternative consuming industry. Thus, sourcing adequate quantity of Needle Coke will remain a challenge going forward. Adverse currency movements The GIL has major dependence on exports of graphite electrodes to various steel players across the globe which exposes them to adverse currency risk despite the natural hedge to some extent on imported raw material and foreign currency liabilities. Any major fluctuations in currency can negatively impact the earnings of the company. SKP Securities Ltd www.skpmoneywise.com Page 4 of 7
Exhibit: Income Statement Figures in INR Million Exhibit: Balance Sheet Figures in INR Million Particulars FY16 FY17 FY18E FY19E Particulars FY16 FY17 FY18E FY19E Total Income 15,324.1 14,659.1 21,283.7 43,929.0 Share Capital 390.8 390.8 390.8 390.8 Growth (%) -10.4% -4.3% 45.2% 106.4% Reserve & Surplus 17,120.1 18,184.8 21,393.0 31,301.8 Expenditure 13,937.0 14,282.1 16,228.8 29,212.8 Shareholders Funds 17,510.9 18,575.6 21,783.7 31,692.5 Material Cost 5,067.7 5,524.1 6,810.8 15,814.5 Total Debt 3,023.4 2,592.3 1,545.7 499.1 Traded goods 1,393.5 326.6 106.4 439.3 Minority Interest - - - - Employee Cost 2,017.5 2,225.4 2,394.4 3,075.0 Total Liabilities 20,534.2 21,167.9 23,329.4 32,191.6 Admin & Other Exp. 5,457.4 6,206.0 6,917.2 9,884.0 EBITDA 1,387.1 377.0 5,054.9 14,716.2 Net Block inc. Capital WIP 6566.9 6994.5 6916.9 6859.8 Depreciation 492.0 463.9 469.1 467.1 Deferred Tax (Net) - - - - EBIT 895.1-86.9 4,585.8 14,249.1 Non-Current Assets 16,476.8 17,377.0 23,227.4 34,306.6 Other Income 289.4 864.8 932.2 1,054.3 Inventories 7,485.1 6,020.9 8,065.0 11,170.3 Interest Expense 90.4 78.9 49.7 40.9 Sundry Debtors 4,848.1 4,414.6 5,498.4 8,462.6 Profit Before Tax (PBT) 1,095.0 699.0 5,468.3 15,262.5 Cash & Bank Balance 210.5 496.9 1,141.1 4,463.9 Income Tax 480.4 12.9 1,859.2 5,189.3 Other Current Assets 170.0 134.5 212.8 219.6 Profit After Tax (PAT) 614.7 686.1 3,609.1 10,073.3 Current Investments 3,763.2 6,310.1 8,310.1 9,990.1 Growth (%) 6.7% 11.6% 426.1% 179.1% Current Liabilities & Prov 2,509.4 3,203.6 6,814.8 8,974.7 Diluted EPS 3.1 3.5 18.5 51.6 Total Assets 20,534.2 21,167.9 23,329.4 32,191.6 Exhibit: Cash Flow Statement Figures in INR Million Exhibit: Ratio Analysis Particulars FY16 FY17 FY18E FY19E Particulars FY16 FY17 FY18E FY19E Profit Before Tax (PBT) 1,095.0 699.0 5,468.3 15,620.8 Earning Ratios (%) Depreciation 492.0 463.9 469.1 467.1 EBITDA Margin (%) 9.1% 2.6% 23.8% 33.5% Finance Costs 90.4 (78.9) (49.7) (40.9) PAT Margins (%) 4.0% 4.7% 17.0% 22.9% Chg. in Working 3,173.0 3,180.0 4,728.7 11,031.6 ROCE (%) 3.5% -0.3% 16.2% 38.2% Capital Direct Taxes Paid (515.3) (12.9) (1,859.2) (5,307.2) ROE (%) 3.2% 3.5% 16.2% 35.0% Other Charges - - - - Per Share Data (INR) Operating Cash Flows 2,657.8 3,167.1 2,869.5 5,724.3 Diluted EPS 3.1 3.5 18.5 51.6 Capital Expenditure (556.8) 433.3 (59.1) (57.1) Cash EPS (CEPS) 5.7 5.9 20.9 53.9 Investments (591.7) (2,427.4) (2,000.0) (1,680.0) BVPS 89.6 95.1 111.5 161.0 Others 276.1 23.1 931.0 1,054.3 Valuation Ratios (x) Investing Cash Flows (872.4) (1,969.9) (1,128.1) (684.0) P/E 31.8 45.2 24.2 8.7 Changes in Equity Price/BVPS 1.1 1.7 4.0 2.8 Inc / (Dec) in Debt (980.0) (510.0) (1,096.3) (1,087.5) EV/Sales 1.5 2.3 4.2 1.9 Dividend Paid (inc tax) (930.6) (400.9) (400.9) (400.9) EV/EBITDA 16.7 90.4 17.6 5.8 Financing Cash Flows (1,910.7) (910.9) (1,097.2) (1,488.4) Mcap/Sales (x) 1.3 2.1 4.1 2.0 Net Cashflow (104.4) 286.4 644.2 3,322.8 Balance Sheet Ratios Opening Cash Balance 314.9 210.5 496.9 1,141.1 Debt - Equity 0.2 0.1 0.1 0.0 Cashflow during the (104.4) 286.4 644.2 3,322.8 Current Ratio 2.8 3.1 4.4 5.6 year Closing Cash Balance 210.5 496.9 1,141.1 4,463.9 Asset Turn. Ratios 1.2 1.1 1.5 3.2 Source: SKP Research SKP Securities Ltd www.skpmoneywise.com Page 5 of 7
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