Graphite Electrode : Graphite India/HEG

Time to Reassess the entire GE Story .
What Goes up comes down !! Its an age old saying and quite apt looking at the current fall in price of GE stocks. But why such a fall ?

In my view the key highlights over the last three months

  1. Increase in Supply of Needle Coke as per Heg Mgmt in the Conf calls. One of the key reasons for the rise in price realization for GE was the limited supply of NC. As the supply is increasing and hence this means GE producers can produce more either through higher Utilization or Brown Field Capacities

  2. Expansion Plans underway :
    Heg Mgmt announced a plan to add 20K capacity, while the news was going around for almost a
    year or so but this time it came with a concrete plan. As per the Mgmt , they will go ahead with
    expansion only post they had confidence of NC supply

  3. News of Big time China expansion in GE - As per the recent news and also from Grafftech Conf, there are news that this is going to happen sooner than expected. China is a black hole but it controls the entire GE market , no matter what people say about UHP production etc

  4. Additional Supply from Other Big Players - If we analyse the last qtr supply of GE from big players like Grafftech, Showa Denko etc each of them has produced higher numbers . It also means that NC supply is improiving

  5. Heg Buyback - This was the last nail in the coffin, why would anyone like to buyback 2% - 3% at 5500/. They could have easily bought the stock from the Market at 4000 odd or so ( Tentative price at the time of announcement) . If we look at level 2 thinking, something looks fishy here

  6. International GE Stock Prices - To me Grafftech prices movement told us that Market knew something that we don’t. Grfftech almost halved in a months time , now stocks dont go down so much only on rumours

To sum it, the risk-reward ratio is not in favour of Investors anymore. At best, we may see another 20% rise in stock prices from here due to Q3 numbers . But again I do not see GE prices at 15000 USD/tonne anymore . It may not come down to 2500 Usd but it may be a slow downward slide for sometime after which it comes down drastically.

I would be happy to leave the 20% to the Markets and be better safe than sorry.
As we say , best time to buy a commodity stock is at High PE and best to exit is at Low PE . In my view this is lowest TTM PE that GEs will have.

Disclaimer : Have exited all my GE positions over the last month or so. Views may be biased so pls make your own opinion.

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UPDATE

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Update
Heg announces Buy back
https://www.bseindia.com/corporates/anndet_new.aspx?newsid=45c43a5f-37b6-4b3e-b119-f9d11472a6e6

Graphite Q3 is out. Margins are lower but still decent. Key questions is - will company be able to maintain the same level of volumes even in future quarters & would realization as well will be at the same levels.

https://www.moneycontrol.com/stocks/reports/graphite-india-earning-presentation-for-quarter-nine-month-ended-31st-december-2018-13977281.html

But No Dividend declared even after having so much money, these companies promoter themself killing the stock price…

Whitefield plant shutdown by Feb 23rd. Will HEG benefit from this?

So many buybacks by several companies at premium rates to the market rate via tender route. Should the market devalue these shares because of these nonsensical buybacks?

Both HEG and Graphite stock prices have corrected to 40-50%. Graphite is struggling with pollution issues raised in Karnataka and has to stop production in that particular plant. Both are trading at 3-4 PE from historical earning. Short to medium term correction is earning is expected for both players due to correction in graphite electrode prices and increase in raw material cost. I am holding Graphite. However because of the production shut down and other aspects, contemplating to switch to HEG. Graphite on the other hand has production available in Germany as well. Can some throw light on - If it make sense to switch to HEG from Graphite at current price of these stocks

Bangalore plant is contributing only 13% of total production strength. I do not see a major setback on this shutdown. But yes, short term termoil will be there. What after this shut down of this plant? Need to wait for an answer from management.
I do see General Graphene is a master stroke from management. Graphene technology can change the world in near future. Due to high cost issue it is facing hurdles in large scale industrial usage. But with time if company can turn out this investment into profitable one then it can do magic.

Just saw this on screener. Any idea what is happening? Especially right after a buyback at 5500/- was completed.

I think they participated in buy-back. Has this something to do with that?

Possibly. But why would they buyback at 5500 and sell at 2100? It doesn’t make sense to me.

These are the numbers of shares of promoters eligible for buyback. Hope they will start buying from 5th April (which the end of trading window due to buyback). As per estimation they can buy around 20 lakhs shares with the money obtained from the buyback.

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The Audit Committee and Board of Directors in their respective meetings held today have
considered and approved the proposal to increase the stake of BEG Limited (“BEG”) in
Bhilwara Energy Limited, an Associate Company of BEG, from 29.48% to 49%. Details are below.

Also @jaman_valuepickr: I don’t quite understand. Mostly because I have not seen many buybacks in my life. Does this mean that the promoters sold their buyback eligible numbers at 5500/- to the company? Why on earth would they do that when the public share price is 2100/-? Should we read anything to this at all?

While I agree with @sukhlani1 that what goes up should come down, the reverse also holds true: what goes down should go up….eventually :slight_smile:

Here is a bullish case for GI and HEG, as of today, post the recent correction:

  1. Both HEG and GI are down 60%-70% from their peak prices. Looking at their GE international competitors:
    a) Graftech was down 60% from the peak ($24 to $10) but has subsequently rallied 50% ($10 to $15) and is now at $13.
    b) The Japanese players, Tokai Carbon and Showa Denko were both down 50% but have rallied 20% and 30% respectively.
    While HEG and GI are down 60%-70%, a rally of ~ 30% from current prices cannot be ruled out.

  2. China Factor: While China is a black box, there are some positives:
    a) The steel production through electric furnace route is set to increase for another fiscal year in China and the local graphite electrode capacity could be absorbed.
    b) China has always exported HP electrodes to India as per HEG promoter (latest conf.call). There was a temporary lull due to import duties but this has now resumed. HEG continues to insist that 80% of their production is UHP electrodes and while prices have corrected 10%-15%, China is not a competitor for them.
    c) Fangda Carbon has rallied the most amongst international GE players. If China has surplus electrodes resulting in diminished GE prices, the stock would not have rallied 75% from its lows since Dec 2018

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  1. Tokai Carbon’s forecasts: The Japanese company expects around 10% and 20% increase in electrode sales in H1 2019 and H2 2019 as compared to H2 2018 respectively and the same profit amount to be maintained ($36Billion yen). While EBIT margins will come down, profits will be maintained as any increase in costs will be reflected in electrode prices, as per forecasts. As per the company there has been no softening of electrode prices (see screenshot below), which is a positive surprise, as the general consensus amongst investors is that UHP electrode prices are coming down. The presentation is as of Feb 2019, so its not dated. If this holds even partially true for HEG and GI, stock price will rise significantly.

image

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  1. Valuations: GI and HEG market capitalization are 8500 and 7700 crores respectively. GI has net cash surplus of 2500 crores (netting out debt). Even if we assume that profit will halve starting Q4 FY 2019 (as compared to Q3 FY 2019) and this amount will be maintained till end of FY 2020, GI will have around 4000 crores cash by March 2020 (this is deducting 400 crores outlay for dividend paid a few months back). This can be deployed for new investments. For the current and future cash on books, valuations look fairly cheap. HEG had a cash surplus of 2000 crores but has already used it for buy back and 20k mt electrode capacity expansion. The international competitors command better valuations. Graftech is not a valid comparison though as it has a large amount of debt and the recent price correction was also driven by the news around the main promoter diluting stake (which has since been withdrawn). The Japanese competitors are more diversified and this could be an argument for better valuations, yet on a standalone basis, GI and HEG look inexpensive.

  2. Technicals: HEG and GI have consolidated around 1950-2200 and 400-450 zones respectively, for the last 3 months till now. While further 5%-10 % correction is not ruled out from today’s price, a retracement upwards should be seen soon. HEG did break 1950 today to the downside, so the stock may move lower but a large quantity of shares has been absorbed over the last few weeks.

  3. Generally speaking, when everyone is gung-ho about a stock and consider it to be an outstanding investment, that’s when prices correct. The reverse also holds true. When everyone thinks a stock story is over (this thought process is mostly driven by price action), the stock will more often than not rally. I think this is very much possible for GE stocks.

However, risks remain.

  1. China continues to be a black box. There are articles published now and then around new UHP graphite electrode capacity coming online.

  2. Looking at GI shareholding patterns between Dec 2018 and March 2019, FPI’s and mutual funds (strong
    hands) have reduced stake and this has mostly been absorbed by retailers (weak hands)

  3. GE stocks are volatile. While an uptrend can last for several weeks, one bad news, and the entire uptrend
    gets reversed in a few days.

  4. Global market correction worries, election uncertainties and steel cycle downturn are other risks.

Disclosure: Hold only GI shares, given the cash on books. Have averaged significantly this week as per my analysis above. Views may be biased.

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Your notes are quite good. Will validate and study more on them. One big important point is missing in my openion. General Graphene acquisition. Graphene technology is going to change the future world. If this investment clicked out as per mngmnt commentry, GI will be in another category of mode of business.

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news share

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Graftech announced its CY Q1 2019 earnings yesterday. A conf. call was organised yesterday as well.

The transcript can be accessed here.

https://finance.yahoo.com/news/graftech-international-ltd-eaf-q1-210003411.html

The earnings presentation is here:

My analysis of earnings and what to expect from GI/HEG is as follows:

  1. Graftech did NOT see a decline in UHP graphite electrode sales per MT. In Q1 CY 2019, it was $9954, in Q1 18 it was CY $9989 and in Q4 CY 2018, it was $ 9950. It looks like there has been no impact in UHP sales price as such. This works positively for GI/HEG
  2. While we do not see spot prices at $15000 -$30000 per MT anymore, the company has given a guidance of $11800 per MT for Q2 CY 2019, which is still quite high. (Positive for GI/HEG in the near-term future)
  3. While Graftech can expand production further, it has not, as demand-supply has reached an equilibrium. (little negative for HEG/GI)
  4. Needle coke costs have gone up and this has led to a 8% drop in EPS YOY. (Negative for HEG/GI)

Putting all of this together:

The UHP pricing should result in high sales for GI/HEG. HEG has a 80/20 split when it comes to UHP vs HP. HP pricing is down 40% (as per the last conf. call) resulting in a 8% hit to top-line. UHP Spot pricing has reduced compared to last year, but from an absolute standpoint, it is still high. Needle coke costs have gone up, so margins should be impacted. (Graftech is vertically integrated and has its own needle coke manufacturing setup which HEG/GI don’t. Impact should be higher for HEG/GI)

While Graftech sells 2-2.5 times more electrodes than GI, when it comes to valuations, Graftech has a negative book value and debt of $2B (14000 crores) and a market cap of 23000 crores taking EV to 37000 crores. Compare that to GI, which has a market cap of 7800 crores, no debt, and cash totalling at-least 2000 crores. (On the flip side, Graftech has its own needle coke manufacturing setup and long term pricing contracts that ensures stable cash flows)

While GI/HEG’s margins will be impacted in Q4 FY 2019, the UHP GE story is not over yet. By the time, margins compress further, GI/HEG should be able to generate enough cash flows, that should allow them to diversify and drive more value for its shareholders. (Companies can diversify into other carbon businesses like Carbon Black or EV lithium Ion batteries, which HEG had alluded to sometime last year)

Disclosure: Have been purchasing GI shares over the last few days, views may be biased.

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Results : https://www.bseindia.com/xml-data/corpfiling/AttachLive/368eb5f4-a5b3-42d7-8776-6378d4b9681f.pdf

The Board of Directors of the Company have in addition to the interim dividend of Rs. 20/- per equity share paid in November 2018, decided to recommend final dividend at the rate of Rs. 35/- per equity share of Face Value of Rs. 2/- each on equity shares of the Company, subject to approval of the members in the 44th AGM of the Company.