MANAGEMENT DISCUSSION AND ANALYSIS ECONOMIC OVERVIEW GLOBAL ECONOMY The global economy struggled to gain momentum as many developed economies continue to grapple with legacies of the global financial crisis and emerging economies have been rendered less dynamic. Global growth in 2014 was lower than expected, following disappointing outturns. Growth picked up marginally in 2014 to 3.4%. However, beneath these numbers lie increasingly divergent trends manifesting themselves in major economies. While activity in the United States and the United kingdom gathered momentum as labour markets healed and monetary policy remained accommodative, recovery was intermittent in the Eurozone and Japan. China, meanwhile, is undergoing a carefully managed slowdown. Disappointing growth in developing countries in 2014 reflected weak external demand, domestic policy tightening, political uncertainties and supply-side constraints. Soft commodity prices, persistently low interest rates coupled with increasingly divergent monetary policies across major economies, weakened global trade. In particular, a sharp decline in oil prices since mid-2014 supported global activity and helped offset some of the headwinds to growth in oil-importing developing economies. However, these same factors will dampen growth prospects for oil-exporting countries, with significant regional repercussions. Overall, global growth is expected to rise moderately to 3.5% in 2015, and average about 3.7% through 2016. developed economies are likely to see a growth of 2.4% in 2015, up from 1.8% in 2014, on the back of gradually recovering labour markets, ebbing fiscal consolidation and still-low financing costs. As the domestic headwinds that held back growth in the developing countries eases and recovery in developed economies slowly strengthens, growth is projected to gradually accelerate, rising from 4.6% in 2014 to 4.7% in 2016. Indian economy The latest indicators, emerging from the recently revised estimates of national incomes brought out by the Central Statistics Office, indicate that markets began reviving in 2013-14 and gained steam in 2014-15. Factors like a steep decline in oil prices, international funds inflow, reform initiatives and fiscal management bode well for the macroeconomic situation. One of the redeeming features was the emergence of India as a large economy with a promising outlook, amidst pessimism and uncertainties in advanced and emerging economies. On the demand side, growth in private consumption increased to 7.6% in 2014-15 from 6.5% in 2013-14 as per advance estimates, which point to strong domestic demand despite a subdued global environment. The economy was relatively independent of factors associated with an economic slowdown - inflation, fiscal deficit, weak demand, external account imbalances and an oscillating rupee, which had choked growth during FY2011-12 and FY2012-13. looking ahead According to the Economic Survey, India's GDP could expand by 8.1-8.5% in 2015-16. Asian Development Bank projects India's economy to grow 7.8% in 2015-16. International Monetary Fund forecast India's economy growth at 7.5% in 2015-16. Steel rebrsents the building block of modern society, given that it is used in almost every aspect of development - buildings, vehicles, equipment and even a food can. The steel industry rides the growth of user industries, namely automobiles, consumer durables and infrastructure. Interestingly, the volume of steel consumed is often interbrted as a reliable barometer of a country's economic progress. Global perspective: According to the World Steel Association, global steel production in 2014 was estimated at 1,661 million tonnes, rebrsenting an increase of about 1.2% over 2013. World steel production (without China) grew 1.3% in 2014 compared with 2013. Some growth was seen in Asia, the Middle East and America. All other regions, including the EU, CIS and South America, reported a marginal production decline. China's steel production increased by 0.9% to about 823 million tonnes in 2014. Global steel production for the first quarter of 2015 stood at 400 million tonnes, showing a negative growth of 1.8% vis-a-vis the same period in 2014. China's growth declined by 1.7% and that of the world excluding China also dipped by 1.9% for the same period. International data from different sources indicate that there is an excess global steel capacity estimated at 525 million tonnes, equivalent to almost 26% of the total capacity in the world. Outlook: The outlook for the steel industry is one of slow demand growth. As per World Steel Association forecasts, world steel consumption will grow by 0.5% to touch 1,544 million tonnes in 2015 following growth of 0.6% in 2014. In 2016, demand is expected to grow by 1.4%, reaching 1,565 million tonnes. The news from developed economies is positive, especially with signs of recovery in the Eurozone. In the developing and emerging world, there is increased optimism about India's growth and steel use is on the ascendance in some MENA and ASEAN countries. While these developments will not be enough to counterbalance the deceleration of China, growth prospects are expected to gradually improve 2016 onwards, as per the World Steel Association. The increase in US interest rates expected in 2015 is likely to impact global capital flow, creating instability in vulnerable emerging markets. At the same time, the outlook in emerging markets remains cautious, fuelled by a need for structural reforms, geopolitical tensions and falling oil prices. India's performance and prospects: India became the world's third largest steel producer after China and Japan by overcoming the US, reporting an output of 22.8 million tonnes in the first quarter of 2015. India is expected to become the world's second largest producer of crude steel in 2015-16, moving up from the fourth position in 2013-14, as its capacity is projected to increase from 102 million tonnes to about 112.5 million tonnes in 2015-16. India will soon move up to the second position in terms of consumption as well. The infrastructure and automotive industries will drive steel demand. The government is working proactively to provide incentives for economic growth by infusing funds in the construction, infrastructure, automotive and power segments. While total installed capacity for crude steel in 2014 was 102 million tonnes, capacity utilisation was about 80%. graphite electrode space Overview: The global market size for graphite electrodes is estimated at about 1.1 million tonnes. Of this, about 800,000 tonnes (following the closure of a 120,000-tonne capacity) is accounted by the UHP grade of graphite electrodes and around 250,000 to 300,000 tonnes of the non-UHP grade of graphite electrodes, mainly produced by Chinese manufacturers. The overall UHP grade graphite electrode demand is addressed by four large players, one each in the US and Europe and two in Japan, with annual production capacities ranging between 100,000 and 200,000 tonnes each, followed by two Indian players, a couple of other Japanese manufacturers, a Chinese and a Russian manufacturer. The remaining market is mainly catered to by a number of low-end Chinese manufacturers. Performance in 2014: It was yet another challenging year for graphite electrode market; demand remained subdued due to a less-than-expected growth of the EAF steel sector. Prices and profits remained under brssure as most global majors reported losses in CY2014. Two of the leading graphite electrodes producers saw capacity closures. Correspondingly, needle coke prices declined as well, which could benefit users as soon as production volumes increase and capacity utilisations improve. Needle coke accounts for the single largest direct cost in the manufacture of graphite electrodes. Needle coke prices have been declining since 2013 through 2015 due to excess supply resulting from reduced production levels of electrodes, which helped reduce costs. Going forward, needle coke availability may not be a critical issue considering the commissioning of two new needle pitch coke plants in China and Korea, adding almost 15% to the global capacity. Outlook, 2015-16: Prices continue to be under brssure due to reduced demand for electrodes. Capacity utilisation for 2015 is expected to be at similar levels as 2014. Chinese blast furnace steel production is more cost-competitive compared to EAF steel due to a steeper fall in iron ore prices compared to scrap. Increase in steel exports from China is reducing the demand for graphite electrodes and bringing down electrodes prices, having a negative impact on all producers. BUSINESS OVERVIEW g GRAPHITE ELECTRODES overview The year under review was one of the most challenging years for the Company as the graphite electrode industry saw erosion in margins. The Company, by reformulating its operational management discipline, was able to reduce the effect of declining margins. competitive advantages HEG is one of the world's most competitive graphite electrode manufacturers. The Company operates the largest single location graphite electrode facility in the world. The Company is India's largest graphite electrode exporter with an active global brsence in 30+ countries. The Company's revenues are driven by enduring relationships with leading global steel producers. The Company's captive power generation enables continuous production and lower operating costs. input costs Crude oil prices fell significantly towards the end of 2014 and are expected to remain on the lower side during 2015 as well. This is expected to have a favourable impact on raw material and fuel costs. The availability of linkage coal for captive power plants and met coke remained a concern in last couple of quarters though the situation is expected to improve. initiatives, 2014-15 Major initiatives were undertaken to usher qualitative improvement. A keen emphasis was laid on optimising costs across all operational and commercial areas. The Company's focus on reducing working capital continued to show improvements in the level of plant inventories, receivables and other current assets, releasing cash for productive purposes. outlook, 2015-16 The graphite electrode segment has become increasingly challenging, reflected in weak demand. The Company continues to build its order book. Pricing remains under brssure for graphite electrodes, though it is expected to be offset by softening needle coke prices. A reduction in working capital, cost reduction and reduced debt strengthened the Company and will generate a first-mover's benefit when the tide turns favourable. 2 POWER GENERATION overview The power segment went through a challenging phase and the Company continues to utilise bulk of the power generated for captive purposes. Hydropower generation was also lower due to insufficient rains in the region. initiatives 2014-15 HEG's thermal power plant was set up to address the internal demand for power. Reduced operating levels in Graphite Electrode segment and limited availability of cost-effective coal during the year made it imperative for the Company to optimise on specific coal consumption, to ensure a healthy bottomline. outlook, 2015-16 Pressure on volume is expected to continue, which is linked to slowness in the graphite electrode segment. The Company will be affected by the completion of the exemption period of duty payment on one of its power generation facilities. This will have an impact on the cost of power generation, going forward 1. QUALITY ASSURANCE In 2014-15, we stabilised processes which were a part of the earlier expansion and we now expect a reduction in manufacturing costs. To sustain ourselves in a competitive market, we deployed well-developed TQM tools which resulted in a consistent output of quality products. We followed a philosophy of continual improvement that sought to make relentless process improvements in converting inputs into output at the lowest possible cost. The implementation of TQM concepts by our well-trained workforce allowed us to reduce quality deviations. Engaging customers helped serve them better by emphasising quality, delivery and cost. Critical operations, processes and activities were monitored with the objective to reduce dispersions and maintain consistency. State-of-the-art equipment ensured minimal intervention and consistent output. The Company strengthened efficiency through the following initiatives: Strengthening procedural controls and parameters Reducing energy consumption and raking in incremental operational savings RESEARCH AND DEVELOPMENT Our R&D team explored alternative methods and formulations to improve the quality of graphite electrodes and nipples. In particular, apbrciable results were obtained with the novel use of carbon nanomaterial as an additive. The use of carbon nanomaterial in graphite will help push the technological frontier and improve product quality. On the other hand, various carbon-based specialty products were developed for energy and environmental applications. 3. HUMAN CAPITAL AND INDUSTRIAL RELATIONS The Company's human capital focus was reinforced through a people-centric HR strategy. The Company's 1,046-member team, combined youthful energy with in-depth experience. The Company's objective was to address organisational challenges, establish sectoral superiority, innovate effectively and ensure employee career growth. All people initiatives and programmes were aligned with the Company's business needs. The Company provided performance-based incentives and groomed leaders through rigorous training (customised exercises across functional and behavioural competencies). This was facilitated by setting up a state-of-the-art training centre called Gurukul at Tawanagar. The Company adheres to a combrhensive talent management/career planning policy, which addresses a gamut of issues - from recruiting candidates from the best institutes, creating a strong leadership pipeline and nurturing talent pool through succession planning. The Company, thus, guaranteed continuous learning, introspection, collaboration and development from the shop floor to the top floor. The Company strengthened its performance management system through superior goal-setting, identifying relevant measures and sharing organisational information. The Balance Scorecard method standardised organisational performance in line with global benchmarks. The Company intends to go paperless and run on an ERP-driven system. We harnessed the best-in-class technology to provide an all-encompassing computerised platform to process reimbursements. The Company's learning and development agenda was mediated through coaching and mentoring, competence mapping, behavioural training, vertical-wise capability development (graphite, hydro and thermal power, daily work management and standard operating procedures), total employee involvement drives (Quality Circles, SGA, suggestion schemes, kaizen) and on-the-job training. Industrial relations: The Company reinforced its commitment to the environment and society. Workers were made aware of the competitive global landscape, dynamic business realities and organisational challenges that needed to be addressed. Industrial relations remained cordial throughout the year. OPPORTUNITIES AND THREATS The fortunes of the graphite electrode sector are directly linked to the growth of the steel industry and more particularly, EAF steelmaking. opportunities Global steel consumption trends indicated a mild recovery. In 2014, steel consumption picked up by 0.6%, reaching 1,537.3 million tonnes. New EAF installations will always be brferred over BOFs (Basic Oxygen Furnaces) in the long run as they brsent a more cost-effective option, strengthening electrode prospects. The growth in India's steel industry is a result of increased domestic consumption, which has been driven primarily by infrastructural investments and growth in the consumer durables segment. India's Twelfth Five Year Plan projects an infrastructural investment of US$1 trillion, which could accelerate steel consumption. The imposition of anti-dumping duty on the import of graphite electrodes of all diameters into India from China, effective February 13, 2015, will provide a level playing field for Indian manufacturers. This is expected to enhance capacity utilisation for Indian graphite electrode manufacturers in 2015-16. threats The prolonged slowdown in the European Union and relative slowdown in China poses a challenge for the graphite electrode sector for the following reasons: Slowdown in Chinese steel consumption is resulting in increased Chinese steel exports all over the world, disturbing the EAF steel plants worldwide resulting in reduced electrodes demand, especially in the fast growing emerging economies. Steep fall in international price of Iron Ore as compared to scrap has made blast furnaces more cost competitive. This trend, if continues, would further impact volume and prices in the near term. Due to the global economy continuing to be under brssure, reduced steel consumption could lead to a reduction in demand for graphite electrodes. This could compel graphite electrode manufacturers in that geography to export products and debrss international prices. A sizeable capacity of electrode coming up in the US and upgradation in China are expected to add to the demand-supply gap. Internal control The Company has a sound system of internal controls in place to ensure the achievement of goals, evaluation of risks and reliable financial and operational reporting. This efficient internal control procedure is driven by a robust system of checks and balances that ensures safeguarding of assets, compliance with all regulatory norms and procedural and systemic improvements on a periodic basis. The Company uses an ERP (Enterprise Resource Planning) package supported by in-built controls which guarantee unswerving and well-timed financial reporting. The audit system periodically reviews the control mechanism and legal, regulatory and environmental compliances. The internal audit team also checks the effectiveness of internal controls and initiates necessary changes arising out of inadequacies, if any. All financial and audit controls are also reviewed by the Audit Committee of the Board of Directors. FINANCIAL PERFORMANCE Net sales decreased by 15.37% from Rs.1,458.91 crore in 2013-14 to Rs.1,234.63 crore in 2014-15 and EBIDTA (before foreign exchange fluctuations) declined from Rs.267.76 crore to Rs.207.61 crore during the corresponding period. The Company focused on improving operating and cost parameters to counter the impact of fall in sale prices. Profit after tax (PAT) decreased from Rs.86.62 crore in 2013-14 to Rs.39.00 crore in 2014-15 and a corresponding decrease was also seen in EPS numbers from Rs.21.68 to Rs. 9.76. Having invested in capacity-building during the industry down cycle, HEG is positioned to reap the benefits of the upturn, the signs of which have now become visible. In the backdrop of operating efficiencies as a result of modernisation and investment in cost-effective equipments, the cost outlook appears encouraging. |