Graphite India - Q3FY14 Result Update - Sharp fall in realization disappoints; maintain Hold - Centrum

Rating: Hold; Target Price: Rs77; CMP: Rs69.5; Upside: 10.8%

Sharp fall in realization disappoints; maintain Hold

We maintain Hold rating on Graphite India Ltd (GIL) with a target price of Rs77 as operating environment remains challenging for the company with increased competition among global electrode players (despite oligopolistic nature of the industry). Q3 results disappointed despite marginally better volumes due to sharp realization fall (~4.5% QoQ) which led to EBITDA fall of ~16% QoQ. We cut our consolidated EBITDA estimates by 4.7%/7.9% for FY14E/15E on account of lower realizations and higher other expenses. Reduction in working capital debt, strong balance sheet and good dividend yield are key positives but valuations at 5.6x FY15E EV/EBITDA leave limited upside.

- Realizations dip sharply, volumes remain muted: Capacity utilization stood at 70% (up from 66% in Q2) thereby keeping electrode volumes muted (marginally lower YoY). Realizations fell by ~4.5% QoQ due to severe competition among producers and discounts offered by global majors in order to capture greater market share. Global steel production growth remained subdued (ex-China) and management indicated that substantial demand improvements were required from the developed world for ensuring pricing discipline by producers.

- EBITDA margin drops sharply but inventory clearance picks up speed: EBITDA fell by ~16% QoQ to Rs685mn (vs exp: Rs797mn) and margin dropped by 310bps QoQ to 15.9% (vs exp: 17.9%) due to sharp fall in electrode realizations and higher other expenses (increase in freight charges and commissions for export sales). GIL has indicated that working capital was being brought down through clearance of high needle coke inventories and no new purchases of needle coke are being undertaken. This has resulted in debt reduction of ~Rs0.9bn during the quarter.

- Earnings revised downwards due to lower realizations: High competition among producers (despite oligopolistic nature of the industry) is resulting in lower than expected realizations. Domestic operations capacity utilization guidance remains muted at ~65% while the overseas subsidiary is operating at sub 50% utilization. We see pressure on volumes and realizations due to weak demand and high competition and reduce our consolidated EBITDA estimates by 4.7%/7.9% for FY14E/15E. We however, reduce our estimates of working capital requirements and build faster debt reduction on account of strong cash flow generation and no incremental capex.

- Valuations - Upside remains capped: We like the strong balance sheet and good dividend yield of the company but see current valuation at 5.6x FY15E EV/EBITDA offering limited upside potential, particularly in a weak global demand environment. We shift our valuation base to Dec'15E and continue to value the company at 5.5x EV/EBITDA to arrive at a target price of Rs77. Maintain Hold. Key upside risks are better volumes & higher realizations while downside risks are further investments at the overseas subsidiary to fund losses and lower realizations.

Source : Equity Bulls

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