Rain industries: Robust end market prospects remain key catalyst; emerging risks to be watched

Rain Industries posted a robust Q2 with the key highlights being higher sales for calcined petroleum coke (CPC) and improved profitability of advanced carbon materials. While a strong end market remains a key catalyst for the company’s earnings growth, lurking risk in terms of lower availability of green petcoke (GPC) in the medium term needs to be closely watched.

Source: Company

Net sales were up 44 percent year-on-year (YoY) in Q2 CY18 led by higher volume (12 percent YoY, 22 percent quarter-on-quarter) and CPC realisation. Shipments of CPC were delayed in the previous quarter due to pricing-related (pass-through of higher import duty) issues, so the quarter under review benefitted from inventory gain. Coal tar pitch (CTP) volumes declined 5 percent sequentially after increasing 10 percent in the previous quarter.

Earnings before interest, tax, depreciation and amortisation (EBITDA) margin declined sequentially on account of lower profitability for carbon and cement divisions, partially offset by improved EBITDA/tonne (15 percent QoQ) for the advanced carbon materials (ACM) division.

Source: Company

The management’s focus is gradually shifting to additional growth levers: advanced carbon materials (18 percent of EBITDA). Recently, it hired a business head with 30 years' experience from BASF. As announced in Q1 CY18, its 30,000 tonne capacity (Castrop-Rauxel, Germany) expansion for water-white resins (Dicyclopentadiene) is on track by Q3 CY19.

As far as other capacity expansion plans are concerned, coal tar distillation facility (Belgium) is on track and is expected to be commissioned by CY18-end. Similarly, the calcination plant (37,000 tonne) in Visakhapatnam is expected to be operational by Q3 CY19.

Restart of aluminium capacity in the US remains a key near term driver of CPC volume growth.  The restarts so far have been slower-than-expected due to technical constraints and lack of skilled labour.

The Supreme Court recently ordered a ban on import and use of petcoke as fuel, exempting only a few industries. The management is hopeful that the CPC industry would get an exemption as petcoke usage is less polluting and is used only as feedstock (not as a fuel which is a more polluting usage). In the interim, it has sufficient inventory till September.

Production of calcinable-grade GPC is expected to grow at a moderate level (2.1 percent compounded annual growth rate over CY17-21). The lower growth is mainly a function of worldwide trend, wherein refineries are shifting towards processing more sour crude, which results in production of lower quality GPC.

This trend gets more weightage from regulation specified by the International Convention for the Prevention of Pollution from Ships (MARPOL). The regulation requires lower sulphur content in marine fuel starting 2020. In turn, refineries are now incentivised to process sour crude, negatively impacting production of good quality GPC.

The management said the above development can lead to lower availability of calcinable-grade GPC (decline of 900,000 tonne).  While this development is negative for the industry, the ray of hope lies in the company's advanced technology (Isotropic Coke Experiment and flue gas desulphurization), which helps it utilise lower grade GPC to produce high grade CPC.

Source: Company

Growth in aluminium production in the US (restarts) and Asia remains the key demand driver. Recently, GPC prices moderated, which would be helpful in stabilising carbon division margin. Improving margin profile for the advance carbon materials segment is a key variable to watch.

We acknowledge the industry wide threat of MARPOL regulation. Even though the company is better placed to meet the challenge, it needs to be closely monitored.

The stock is currently trading at a multiple of 6.4 times CY19e earnings, which in light of better end market prospects provides a decent opportunity to enter.

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