HEG Ltd

NSE:HEG

Earnings Call Transcript 2023-Q1

[Operator]

Ladies and gentlemen, good day, and welcome to the HEG Limited Q1 FY '23 Earnings Conference Call hosted by SKP Securities Limited. [Operator Instructions] Please note that this conference is being recorded. I now hand the conference over to Mr. Navin Agarwal, Head, Institutional Equities at SKP Securities Limited. Thank you, and over to you, sir.

[Navin Agarwal]

Good afternoon, ladies and gentlemen. It's my pleasure to welcome you on behalf of HEG Limited and SKP Securities to this financial results conference call. We have with us Mr. Manish Gulati, Executive Director; along with Mr. Gulshan Kumar Sakhuja, CFO. We will have the opening remarks from Mr. Gulati, followed by a Q&A session. Thank you, and over to you, Manish Ji.

[Manish Gulati, executive]

Good afternoon, friends, and welcome to our Q1 FY '22/'23 Conf Call. Let me start with the disclaimer first. Before we proceed with this call, I would like to take this opportunity to remind everyone about the disclaimer related to this call.

Today's discussion may be forward-looking in nature based on management's current beliefs and expectations. It must be viewed in conjunction with the risks that our business faces that could cause future results, performance or achievements to differ significantly from what may be expressed in such forward-looking statements.

So friends, in comparison with the last few quarters' results, performance this quarter was the strongest in terms of all parameters: volume, revenue, EBITDA and operating margins.

Coming to steel. As for the recent data released by World Steel Association, global crude steel production for Jan to June '22 was 949.9 million metric tonnes, down by 5.5% compared to 2021. Steel production ex China was down by 4.2%, while the Indian steel production increased by 8.8% compared to 2021.

Chinese steel exports seem to be proceeding at the same level as past year 2021. In China, EAF steel still constitutes around 11% to 12% of their steel production, up almost double of in 2016 and is expected to be 20% by 2025. This has to be seen in the backdrop where rest of the world produces around 47% of its steel through EAF.

Due to Russia-Ukraine. crisis causing steel price and energy and electricity prices in EU and some other countries, supply chain disruptions and subdued steel demand, global steel output has recently begun to fall. With steel production declining year-over-year in all major steel producing regions and in traded input costs impacting margins, the outlook for the rest of the year remains unclear.

We have been participating in steel conferences in the U.S. for the last several years, and we have seen increasing focus and serious efforts towards decarbonization in U.S. Steel industry contributes almost 8% of industrial pollution. And blast furnace-BOF route emits 4x more greenhouse gases compared to EAF. Almost 20 million metric tonnes of EAF capacities are already announced and under construction in U.S., some of which will start coming on stream from end 2022 onwards.

Besides U.S., in Europe, there have been announcements of conversion of steel capacities to the tune of 15 million to 16 million metric tonnes from blast furnace route to EAF route. In the backdrop of decarbonization efforts in the steel industry at global level, to reduce carbon emissions, we believe that the EAF steel production in the world will continue to grow as the world keeps having more and more electric arc furnaces in the immediate and foreseeable future.

Thus, the demand for high-quality electrodes is likely to be decreasing. Most of these will be large-sized furnaces using Ultra High Power grade electrodes, which we are fully equipped to cater to.

The electrode prices improved for both UHP and non-UHP grades in Q1 FY '22, '23. However, the electrode prices have now stabilized and so have the needle coke prices. The sales volumes might take some pressure in July to September and October to December quarter due to order pushbacks from some customers due to decline in steel production, but we are upbeat that as soon as the steel production starts to grow, the demand for electrodes will come back, particularly when we see that electric arc furnace production will grow much faster.

Our expansion to increase capacity from 80,000 tonnes to 100,000 tonnes is going on with full stream, and we are confident of completing it by end 2022 and be ready with commercial production from early 2023. This will increase our capacity to 100,000 tonnes under one roof, making us one of the most cost competitive graphite electrode plants in the world.

I would now hand over the floor to Mr. Gulshan Sakhuja, our CFO, to take you through all the financial numbers. And then together, we'll be very happy to ask us any query that you have. Over to Mr. Gulshan.

[Gulshan Sakhuja, executive]

Thank you, Manish Ji. Good afternoon, friends. I will now briefly take you through the company's operating and financial performance for the quarter ended June 30, 2022.

For the quarter ended June 2022, HEG recorded revenue from operations of INR 722 crores as against INR 673 crores in the previous quarter and INR 414 crores in the corresponding quarter of the previous financial year.

Revenue for the quarter saw an increase of 7% as compared to the previous quarter, while it witnessed an increase of 75% on a Q-on-Q basis. Since turnover is the factor of both volume and prices, we are happy to inform you that the company has been able to achieve healthy growth in both aspects.

During the quarter ended June 30, 2020, the company has delivered EBITDA, including other income, of INR 205 crores as against INR 174 crores in the previous quarter and INR 94 crores in the corresponding quarter of the previous financial year. The EBITDA for the quarter ended June 30 has increased vis-a-vis previous quarter and corresponding quarter of the previous year due to an increase in both the sales quantity and price realization of graphite electrodes.

The increase in employee benefit expenses over the previous quarter and corresponding quarter of the previous year is on account of annual increment in salaries, incentive to employees and provision for the profit related commission payable to CMD and ED of the company under contractual terms of their appointment.

The increase in expenses pertaining to power and fuel is on account of higher production and an increase in the price of LNG, furnace oil, et cetera. The reason for the increase in finance cost is on account of 2 factors. First, the RBI has revised interest provision from 3% to 2%. Second, there is an increase in the working capital requirement on account of increased sales and production, which has led to the higher utilization of our working capital limits.

Further, the fall in other expenses as compared to previous quarter is because the company has incurred expenditure on account of CSR amounting to INR 19 crores during the quarter ended March 31, 2022, a corresponding amount for the quarter -- for the current quarter is INR 0.61 crores. The company recorded a net profit after tax of INR 134 crores in the first quarter of FY '23 as against INR 113 crores in the previous quarter and INR 55.8 crores in the corresponding quarter of the previous financial year.

I would also like to inform you that India Ratings and Research has affirmed our long-term rating at AA- with a stable outlook and a short term at A1+. Expansion plan from 80,000 to 100,000 is going on a full swing, and we expect the expansion project to be completed by December 22, 2022, and ready with a commercial production by early 2023.

The company is a long-term debt free and had a trading size of approximately INR 1,150 crores at cost as on June 30, 2022, yielding an average return of approximately 6% per annum.

Now -- we would now like to address any questions or queries you have in your mind. Thank you, friends. Over to Navin.

[Navin Agarwal]

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from the line of Dhawal Doshi from Pinpoint Asset Management.

[Dhawal Doshi, analyst]

Sir, just wanted your views on the near-term demand and supply scenario for the industry. So if you look at the cost structures in the global markets, which is U.S. and Europe, the costs have gone up significantly higher. Can we see some supply disruption arising out of it, the way we've started seeing in other commodities like aluminum and zinc? Can we see some plant closures just because the costs are not sustainable?

[Manish Gulati, executive]

So, Dhawal, to answer your question is that, yes, in Europe, the impact of higher electricity cost is felt the most. And today, all these electric arc furnace-based steel companies are running at off-peak hours because of which the production is slow, and we can feel it because we have been receiving several requests to push back our orders.

There is no such problem in U.S. as such. This is something which is unique only to the European block. For them, the electricity costs have gone up 3x or 4x. Some of the steel companies do have contracts with the utilities in which 50%, 60%, 70% of their power is covered.

See, we don't -- I mean since this is not going to be something forever and it's -- of course, there has to be time lines to that because not only steel industry, all industry in Europe is suffering on account of electricity cost. So if you ask me if there's no closure, I've not heard of if there any electrode plan to close or something because on this account. However, the costs have definitely gone up. Our peer group who operate plants in Europe, costs must have certainly gone up, even if they are hedged for some portion of the electricity with the utility providers.

[Dhawal Doshi, analyst]

Okay. So -- but does that kind of help us in terms of the overall electrode pricing, sir? Because either through supply tightness or through costs, essentially the prices has to start moving up, right? .

[Manish Gulati, executive]

Yes, that's true. See, the European plants, definitely, the electrode plants are facing -- must be facing higher electricity prices. And definitely, that provides some base for the electrode prices because they cannot go below a certain point, otherwise they become -- it becomes unviable for European plants. But anyway, I can't be commenting on their costs really.

[Dhawal Doshi, analyst]

But in your discussions with the customers, are you seeing some kind of uptick in the overall pricing for our electrodes or that really is not the case.

[Manish Gulati, executive]

See, for the time being, the European all these steel plants are pushing back their orders with us and with our competitors. So right now, it's not that situation about this pricing. The demand has to be there. Right now, there's pushback of electrodes. So I mean, this pricing power will return later. But once the demand returns.

Right now, the price have stabilized at a point. They're not falling as such, but they have stopped increasing. That has been the impact of these pushback of orders and some inventories there in Europe that prices are not increasing, but they're not dropping either because of, as you said, about the rise in energy costs, electricity costs, logistic costs, everything is going up still. It's still at an elevated level.

[Dhawal Doshi, analyst]

Okay. So alternatively, sir, how do you see the needle coke pricing, given crude has started correcting? Do we eventually start -- see that in our overall needle coke prices as well?

[Manish Gulati, executive]

See the needle coke prices, thankfully, for the last 2 quarters, and our purchase prices have been at almost the same level, 1 or 2, 1 odd supplier or 2 tried to raise prices. But more or less, you can say for these 2 quarters, our purchase price for April to June and July to September for a majority of our supplies is remaining the same. So they're not increasing. That's a good part. Yes, it has some relationship with crude, but still is more driven by demand and supply rather than the crude oil prices.

[Dhawal Doshi, analyst]

But can we expect some relief going ahead?

[Manish Gulati, executive]

I'm not sure, actually. You see I will definitely accept -- I mean I want to see some relief from their account, but they know their economics, they know what is the crude oil price, they know how much demand for their needle coke is there. But right now, the supply of needle coke has eased. There is no shortage as such.

And I would really expect this if they could provide some breather, but we are negotiating with them quarter-by-quarter. And I'm sure they are also seeing the markets -- they are seeing the markets stabilizing or plateauing for a while. So maybe that's up to them. But so far, there's no indication. So far, the prices have -- they have continued with the same prices for the last few quarters.

[Dhawal Doshi, analyst]

So is it safe to say that there can be some near-term challenges as far as the operating environment is concerned before things actually start pulling down in terms of the overall energy cost in Europe and post which we can expect a good recovery.

[Manish Gulati, executive]

That is exactly how I think, let's see, we are talking in the middle of August. So of course, I know very well what is going to happen in this quarter. The volumes are subdued. The price is stable for both electrodes as well as needle coke. But volume just because of these order pushbacks from some -- predominantly from Europe and some other customers, there will be lesser volumes expected in July to September.

And maybe the same probably some of it to continue. Same phenomenon to continue for October to December, which at least started in HEG, and I definitely expect things to turn around. I mean, the steel production has to turn around. We'll see how it behaves in the next 1 or 2 quarters.

But I think in this quarter, in the middle of which we are already and the next, which is very foreseeable, it seems the volumes will be subdued. See, right now, April to June, we were working at 92% capacity utilization. We could sell each and every tonne we could make. We worked at record low inventory levels, closing -- our closing inventory of 30th June was record low. I mean it's not even workable inventory.

So far, so good. But starting July, we started receiving -- I think the impact of Russia-Ukraine thing started to settle in and customers calling us every now and then to push back the orders by 2 months, 3 months. So that will -- and as you know, we book 3 months to 6 months, maximum at a time. So that impact is being felt. Some volumes are spilling over from this quarter to next and from next to next.

So it may have -- our volumes are expected to be down in this quarter not drastically, but yes, somewhat, I would say. I can't still put a number on it because I'm still hoping to make it up. I still have 1.5 months to run. Maybe we can make it up, maybe we cannot. But there might be subdued. We have a stable price. The price is the same as April to June quarter, but lesser volume than expected.

[Operator]

Next question comes from the line of Sonali Salgaonkar from Jefferies.

[Sonali Salgaonkar, analyst]

My first question is what has been the capacity utilization in this quarter versus same quarter last year.

[Manish Gulati, executive]

Yes, It was 92% for Q1 '22, '23 versus 85% of year-on-year, a few quarters. And if you just compare it with the last quarter, Jan to March, was 87%. So our volumes of Q1 were -- have been the most in the last 10, 11, 12 quarters. We have sold the highest volumes in Q1, highest capacity utilization of 92%. That's probably the best we can do. We cannot go beyond it. It's very difficult to read the nameplate capacity. So 92% was our best-ever capacity utilization, April to June quarter.

[Sonali Salgaonkar, analyst]

Understand, sir, as of mid of August, currently, how much are we running it?

[Manish Gulati, executive]

We continue to run at full blast full level because, as I said, Sonal, we have record low level of inventory closing of June 30. So we really don't mind. I mean we want to run full, we can for a couple of months, even if sales are slightly lower. But because when the things turn around, these volumes will be required in the market. So we'll continue to go full blast for the next 3, 4 months.

[Sonali Salgaonkar, analyst]

So we are planning at 90% capacity utilization even in the current quarter, right?

[Manish Gulati, executive]

Yes. Yes. Absolutely. We are making product, the capacity will be utilized to 90% for sure, 90% you can imagine. Sales may not be as much, but 90% will be the plant's capacity utilization.

[Sonali Salgaonkar, analyst]

Understood. Sir, in terms of our export, now we export 70%, close to 70% of our top line. So could you broadly elaborate what is the country-wise export mix and how much, especially Europe is contributing in that?

[Manish Gulati, executive]

See, we have -- it's all -- total about 35 countries, and it's very well diversified. And our main, if you say, the main areas other than excluding India of course, we are talking about, let's say, U.S. and then followed by Middle East followed by Europe, followed by Southeast Asia.

And if you ask how much has the sales been in Europe, then I would say in '21, '22, it was to the order of 10% or 11%, 11%.

[Sonali Salgaonkar, analyst]

Understood. Fair enough. Sir, you talked about inventory position being at record low levels for yourselves as of June ending -- the quarter ending June. So how is it for the industry per se.

[Manish Gulati, executive]

I think their inventory levels are higher than us. I think we have probably the lowest inventory level but that -- I also do not mean to say that they were significantly…

[Operator]

Sorry sir.

[Manish Gulati, executive]

No, that's fine. So -- but I think we -- I cannot have a peek into their plans, but I'm reasonably confident that our inventory levels were the lowest or one of the lowest. But all the industry has been working full. But I think we have been able to sell more in April to June, resulting in lower inventory levels closing 30th June.

[Sonali Salgaonkar, analyst]

Understand. So you would say industry inventory levels are probably optimal or normal, and we are below normal?

[Manish Gulati, executive]

I think so. Again, this is my judgment. I cannot peek into our peers books and make an estimate on what they must be carrying. But just by the market -- what they have in the market and how they sell, I can make -- have some idea.

[Sonali Salgaonkar, analyst]

Understand. So now my next question is regarding price hikes. You did mention that there were price hikes in this quarter. Could you give us the quantum of the delta of price hikes in this quarter -- in the quarter that went by, Q1?

[Manish Gulati, executive]

Yes. Understood, ma'am. You can consider 3.5% to 4%, rise. The difference between the Q1 of '23 and 'Q4 of '22.

[Sonali Salgaonkar, analyst]

Understand. And this quarter, largely up till now, it's been stable?

[Manish Gulati, executive]

It's going to be stable. I can see that because the 1.5 months already gone, and it's probably going to be stable. I mean I'm talking for the overall global average.

[Sonali Salgaonkar, analyst]

Of course. Sir, cumulative, over the past 4 to 5 quarters, how much do you think would be the price hikes because every quarter you have given the quantum of price hikes and in the preceding quarters, they were as high as 7% to 8% as well. So cumulative, do you think it is about 15% to 20% price hike over the past 4 quarters.

[Manish Gulati, executive]

No, past 4 quarters is going to be much more. If you compare the price level which we have in April to June with what we had in the April or June of '21, it's going to be more than 50%, more than that. It depends upon the grade and markets, but anywhere, I mean, 50 odd...

[Gulshan Sakhuja, executive]

Yes, it's correct. It's more than 50%.

[Manish Gulati, executive]

It's more than 50%?

[Gulshan Sakhuja, executive]

Yes.

[Sonali Salgaonkar, analyst]

Sir, also on the CapEx bit, you talked about commissioning, but what is the -- I think your overall CapEx is INR 12 billion. So how much of that is already spent? And how much are you planning to spend on the remainder of the year?

[Manish Gulati, executive]

See the INR 1200 crores, again the INR 1,200 crores number, almost INR 900 crores has already been spent and INR 300 crores would be spent in -- by -- yes, all of it by March, March '23.

[Sonali Salgaonkar, analyst]

Understand. Sir, in your opening remarks, you talked about 15 million to 16 million of EAF capacities in Europe converting from BOF. So by when are you...

[Manish Gulati, executive]

Sonal from BOF to EAF not otherwise.

[Sonali Salgaonkar, analyst]

Yes, yes. So by when do we expect that to happen?

[Manish Gulati, executive]

See, the projections which they have, they are -- because it's big thing blast furnaces to electric arc furnaces. So all these steelmaking companies, I mean, we have heard public announcements of, let's say, the biggest steel company, ArcelorMittal, they have blast furnaces in Spain, Belgium, Germany, France.

So what they're doing is these steel companies are -- they have made some targets to cut their carbon emissions. And they want to be converting gradually and the timelines would be what they have mentioned is starting 2025 to 2030. So there's a time frame for this 15 million, 16 million metric tonnes, which I said. And the 20 million metric tonnes, which I said about U.S., they would be up to 25% or 26%.

From now, starting this year, they'll start coming on stream by end of 2022 and going up to 2025 or 2026. So next 3 years, 4 years, we'll definitely see the arrival of this 20 million metric tonnes capacity on the ground. This is -- we can see it happening. We know the companies who are making it. We know the plants who are coming up. And Europe is starting '24 or '25, and they want to do it by 2030.

[Sonali Salgaonkar, analyst]

Understand. Sir, last question from my side. Sir, any update on the China electrode supply?

[Manish Gulati, executive]

I mean not really anything different we can say what we have always said that we do not compete with them in the Ultra High Power Grade market. They have lots some capacity. There is no doubt about it. Their own electric arc furnace portion is only 11% to 12%, which should go up to 20% soon, I mean, in the next 2, 3 years.

And these -- the excess capacity of electrodes, which they have, will certainly, some of it will get absorbed in the domestic market. They still continue to export a lot of electrodes to a lot of countries in the world, but we do not have any head on head competition with them in the ultra-high power grade segment. And in the non-ultra power grade the small side., That's okay. We do face some competition, but we have several customers in several countries who still prefer to use our electrodes.

[Sonali Salgaonkar, analyst]

Right. Sir, sorry, just one more question, if I may squeeze in. In terms of Europe exposure, you mentioned that 11% of your sales emanate from Europe. So how much of your production emanates from Europe if at all?

[Manish Gulati, executive]

Our production. I didn't get this. You asked how much we sell in Europe, I'd say 11%.

[Sonali Salgaonkar, analyst]

Yes. No, no. In the sense, do you have any manufacturing facilities or planning to do that in Europe?

[Manish Gulati, executive]

No, Sonal, we do not have any manufacturing capacity other than this plant in India.

[Operator]

The next question comes from the line of Pranav Jain from HDFC Securities.

[Pranav Jain, analyst]

So, sir, do we see any -- do we foresee any problem in selling our incremental [ dues ] of 20,000 tonnes concerning the situation in Europe? And how is the demand outlook going forward?

[Manish Gulati, executive]

See for the next 2 quarters, we I said the July to September in which we are in October to December, it looks subdued, but this is not something, which is going to last forever. I see this -- even the common man today has started feeling the impact of climate change. The seriousness towards that is only growing every day. And the developed countries are becoming very, very serious about it. And serious about it to the extent that they actually started putting those electric arc furnace steel plants. This is one of the surest way to reduce carbon emissions, putting up electric arc furnaces instead of blast furnaces.

We have seen that happen in the U.S. We are seeing that happen in Europe. And likewise, the spend will continue. So this is something which is irreversible. The steel industry has become -- being one of the biggest polluter of the world, I think the trend is going to be toward electric arc furnaces.

So the expansion, I would say it is a modest expansion of just 20,000 tonnes. And it's only a matter of time, maybe it takes a year or so to get fully absorbed in the market. So it all depends how soon things turn around. The long-term -- medium and long-term fundamentals of electric furnaces are unquestionable and robust and they stay in place. The world is not going to go turn around and say, oh, let's own blast furnaces. So that's not going to happen.

But yes, what you said is the demand outlook for these 2 quarters look difficult. Of course, they are all being precipitated by the Russia-Ukraine thing. The sooner it gets over and once their economies get back on track, steel production will grow as the economies grow, out of which the electric arc furnace will grow faster.

[Pranav Jain, analyst]

Okay. So second question would be how much would be the incremental depreciation in the quarter 4 of this financial year and Q1 of the next financial year, like after the additional capacity expansion.

[Manish Gulati, executive]

Our CFO Mr. Sakhuja will answer this question for you.

[Gulshan Sakhuja, executive]

Yes, we are coming at a capitalization of INR 1200 crores in the next financial year. So considering that 4% to 5% average depreciation on that. So that is going to come around INR 10 crores to INR 12 crores per quarter of additional depreciation in the next financial year.

[Pranav Jain, analyst]

Okay. So this would be the INR 10 crore to INR 12 crore additional depreciation, right? Apart from the current. Okay. Okay. Sir, Just one more question to squeeze in, share of associates in this quarter was around INR 25 crores versus INR 1 crore in Q4 of the last financial year. So sir, what is the reason behind such a big jump? .

[Gulshan Sakhuja, executive]

Yes. This is on account of that, we are having a stake in Bhilwara Energy and they are into this hydro power. So out of INR 25.4 crores, INR 24 crores has come from only Bhilwara Energy. So they have shown a very good profit in the first quarter, Bhilwara Energy Limited. And we are having a stake of 49%.

[Pranav Jain, analyst]

Okay. So what is the outlook regarding these associates going forward? Like considering we haven't done -- we haven't got so much of share from the associates previously.

[Gulshan Sakhuja, executive]

But if I talk about Bhilwara Energy, that the future looks bright. And going forward, that the profitability ratio, then all this profitability would be on our oversight.

[Operator]

Next question comes from the line of Rajesh Agarwal from Moneyore.

[Rajesh Agarwal, analyst]

Sir, how is the outlook in the U.S. in terms of demand and supply?

[Manish Gulati, executive]

Very good.

[Rajesh Agarwal, analyst]

In terms of volumes and about pricing?

[Manish Gulati, executive]

U.S. is, I would say, more resilient, if I may. But yes, the U.S. steel production is doing good. The capacity utilization of steel companies there are in excess of 80%. And it is 70% portion is through electrical arc furnaces. Besides that, they will be putting new ones there, which will start coming on stream from the end of this year. So the outlook in U.S. steel production as well as demand for electrodes is good.

[Rajesh Agarwal, analyst]

Sir, what is our percent of supply to the U.S.

[Manish Gulati, executive]

Okay. If you want me to put a percentage on that, maybe it is going to be around 13%, 12% -- 13% maybe.

[Rajesh Agarwal, analyst]

1-3?

[Manish Gulati, executive]

13% maybe roughly. I'm just giving you a rough number. So we are very well diversified that way. As I said, I mentioned about U.S., Europe, Middle East, Southeast Asia. So we're serving almost 35 countries, and we are not dependent on any one country, whichever it is. So it means that we are very well spread out globally.

[Operator]

[Operator Instructions] Next question comes from the line of Navin Agarwal.

[Navin Agarwal]

No, and, I think there is a mistake. Since there are no further questions, I'd now like to hand over the conference back to Mr. Gulati for his closing remarks.

[Manish Gulati, executive]

Thank you very much. Thank you, friends, for listening to us. I will just close this by saying that we are very optimistic or, I would say, upbeat about prospects of electric arc furnace industry steelmaking. And we are a company which is making very good quality, Ultra High Power Grade electrodes as good as anybody in the world makes. And we are very cost competitive, being a large plant in one roof. We are cost competitive also.

And this year, we're completing 50 years of company's existence. So we are very optimistic about our company's prospects. So thank you very much, and I look forward to talking to you again next quarter. Thank you very much.

[Operator]

Thank you. On behalf of SKP Securities Limited, that concludes this conference. Thank you for joining us. You may now disconnect your lines.

[Manish Gulati, executive]

Thank you.

[Gulshan Sakhuja, executive]

Thank you, everybody.

[Manish Gulati, executive]

Thank you. Bye-bye.