HEG--- A long term bet

HEG Limited

Sensex 15807
BSE Code 509631
Face Value Rs. 10/-
CMP Rs 287
52 Week Range H/L Rs. 609/ 166
Equity Rs. 43.51 Cr
Market Cap. Rs. 1257.66 Cr
Nos. of Shares 4.35 Cr
Free Float 46.77%


Company Profile

HEG Ltd is a premier company of the LNJ Bhilwara Group, and is India's leading graphite electrodes manufacturer. . Set up in 1977, in technical and financial collaboration with Societe Des Electrodes Et Refractaires Savoie (SERS), a subsidiary of Pechiney of France, HEG is now the largest integrated graphite plant in South East Asia & Middle East. Spread over an area of about 170 acres, HEG (graphite division) has facilities for production of Graphite Electrodes and Graphite Specialities. HEGL has its graphite manufacturing plant located in Mandideep (Madhya Pradesh) with a capacity of around 52,000 MT per annum. The Company also operates a sponge iron plant, a steel billets plant, and captive power generation units totaling 56.3 MW. The company exports over 80% of it’s production to more than 25 countries of the world. HEG also has a dedicated R&D Set up for Carbon & Graphite.

Industry Outlook

The worldwide graphite electrodes industry, which accounts for 80% of HEGs revenue, continued to witness strong demand and price conditions during FY2007 and this trend is expected to continue in FY2008 as well. The demand for graphite electrodes is driven by the production of steel through the electric arc furnace (EAF) route. This process of steel production is slowly gaining ground and is expected to grow further. Rough industry estimates of graphite electrode demand also suggest a positive scenario. From about 1.02 million tonnes in 2001, the global demand for graphite electrodes is estimated to increase to 1.34 million tonnes in 2010. With no significant capacities being added globally to the current capacity of about one million tonnes, established players like HEG stand to benefit the most. The demand for graphite electrodes is spread across the US, South America, Europe, Japan and China, which are the principal manufacturers of steel through the EAF route. Nonetheless, given the lower cost of production and the likely improvement in power availability, it may only be a matter of time before Indian manufacturers too take to this route completely


Trigger Points for Investment


• The company has recently invested Rs 4.5 Billion ( US$ 120 Million) to expand their capacity.
• Steel manufacturing companies with electric arc furnace are the only consumers of graphite electrodes, with the demand for graphites is only expected to rise in future, its only matter of time that the revenue and the profitability of the company will grow.
• HEGL has its captive power generation facilities with a total capacity of 51.3
MW and it plans to set up another power plant with a capacity of 30MW.
• HEG's graphite electrodes are exported to 25 countries around the world, including developed countries like USA, Canada, Germany, France, Italy ,South Korea, Australia. The company continues to build relations with these clients over last few years, which has helped the company in increasing its export turnover.
• HEG Ltd. had increased its graphite manufacturing capacity from 33,600 MTPA in FY05 to 52,000 MTPA in FY06. This will further be increased to 57,000 MTPA in the current financial year.


Key Concerns

Limited availability of needle coke:
Needle coke is a premium grade, high-value petroleum coke, used in the manufacturing of graphite electrodes in arc furnaces and it is a very important Increase in needle coke prices remains a principal risk due to demand-supply mismatch.. There are very few companies in the world which produces needle coke. Prices of needle coke are expected to remain firm, as it is a derivative of crude. However increase in prices of electrodes should offset the rise in price of raw material.

Foreign Exchange risk:
We have seen rupee appreciating by 8 to 10%. Any further appreciation will lead to a hit on the revenues of the company , as around 50% of the revenues are export generated.


Valuations

Looking at the demand for graphites in the steel industry, HEG has increased its
manufacturing capacity over the period. HEGL being the leading graphite manufacturer in India will be able to realize the benefits of the rising demand and increasing prices. HEG holds 36% stake in BEL( Bhilwara Energy Ltd).We estimate the value of the HEG’s stake in BEL at Rs98/sh of HEG based on the last private equity placement that BEL has done with 2 US based funds. BEL is planning to go for another private placement or IPO and HEG expects the valuations to be substantially higher than the previous valuations. Excluding the current value of HEG’s stake in BEL, at the current market price of 260 the stock trades at P E Multiple of 10 with our FY09 FDEPS of Rs 25.78/-

One can have this stock under its long term portfolio with a time horizon of 12months and a price target of Rs 385++ (Upside 35%+)


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