UTSAV MEHUL SHAH

B19045, Section A
Financial Management

HEG LIMITED
Case Write-up
 HEG Limited
Decision Making Situation
It was a sunny morning and Ravi Jhunjhunwala was sitting in his spacious office in Bhilwara
Towers of Noida, looking at the busy road outside and thinking how his company HEG limited
has reached to becoming one of the major carbon and graphite producers in the whole world.
The company had achieved great success in the past 2 years and had climbed it’s ladder to
become one of the global market leaders. He had a very important meeting ahead of him with
the board of directors of the company where he was going to propose a plan that would have
a huge impact on the company’s share price and liquidity in the stock market. He was going
to propose the idea of a share buyback or a huge dividend in front of the Board of Directors.
The company had already paid the dividends twice that year and the market had a huge
demand surplus that needed a high CAPEX.

Graphite Electrode Industry

The graphite electrode industry is a fast growing industry with a CAGR of 9%. The primary
material used to produce graphite electrode is needle coke. The demand for the graphite
electrode is increasing due to a rising production of iron and steel in emerging countries and
the use of electric arc furnaces (EAF) to produce steel. EAF take steel scrap and other materials
like pig iron and melts them to produce steel. Graphite electrodes are used in EAF for the
melting of steel scrap. There is a lot of steel scrap available in China, which increases the
demand of the graphite electrodes. On an average, 1.7kg of graphite is used to produce one
metric ton of steel. Exhibit 1a gives the application of the graphite electrode in various
market. Asia Pacific market is one of the leading producer and consumer of the graphite
electrodes. The growing production of motor vehicles and expanding residential construction
industry increases the demand of the steel industry which in turn increases the demand of
the graphite industry. Exhibit 1b shows the growth rate by region of the graphite electrode
market. As far as the industry is concerned, it is highly consolidated in nature and few of the
major players dominate the market. Exhibit 1c gives the market concentration of the graphite
electrode market given by the Mordor Intelligence. Some of the major players in the market
are HEG Limited, Graphite India Limited, Showa Denko K.K, Jilin Carbon Co. Limited etc.
Graphite India Limited and HEG limited are the major competitors as far as the Indian market
is considered.

HEG Limited
HEG Limited is a leading manufacturer and exporter of graphite electrodes that currently
operates world’s largest single site integrated graphite plant in Madhya Pradesh. It also
operates three power generation facilities with a total rated capacity of 76.5 MW which is
used to support the graphite manufacturing process and surplus is being sold in the open
market. It manufactures custom made graphite electrodes and is a major supplier to major
steel manufacturers.
HEG Limited was incorporated by Bhilwana Group of Industries on 27th October 1972 with an
objective to manufacture graphite electrodes, anode and other products. The company was
founded in a technical-cum-financial collaboration with La Societi Des Electrodes Et.
Refracaires Soviet (SERS) of France. The company went public in 1976 by issuing equity as well
as preference shares. In 1982, the company entered into a joint sector agreement with
Industrial Promotion and Investment Corporation of Orissa Limited to establish a ceramic
insulator project. The company had many subsequent issue of equity in the coming years. In
1984, HEG underwent a modernisation programme to enable the latest technological
advances to manufacture longer length and ultra high power electrodes. The company also
established a textile unit by the leasing the equipment from it’s parent company in 1984. In
1987, the company formed a subsidiary Bhilwara Viking Petroleum Limited for oil exploration
in technical-cum-financial agreement with a Norwegian firm. In 1989, the subsidiary merged
with the firm. In 1992, it jointly promoted a 100% export oriented unit for cotton mills with
Rajasthan Spinning and Weaving Mills Ltd. In the coming years, it expanded it’s graphite
division’s capacity to 24000 tons. In 1996, two hydro-electric power plants of 13.5 MW and
12.8 MW were commissioned by HEG which were the first private sector hydro-electric
project in the state of Madhya Pradesh. In 1997, Ravi Jhunjhunwala was appointed as the
Chairman. In 1999, one more unit with a capacity of 4.2 MW was commissioned to supply
power to the textile division. In early 2000, the company decided to concentrate it’s efforts
on the graphite business and hence exited various joint ventures in the telecom and textile
sectors. In 2002, HEG expanded it’s graphite manufacturing capacity to 30000 tons and set up
a new kiln with an additional capacity of 30000 MTPA for sponge iron. Again in 2005, it
expanded it’s graphite manufacturing capacity to 52000 tons. A 25 MW captive power plant
was commissioned to fuel the increased production. While the firm was expanding it’s
business, the promoters acquired the shares of the company through the open market. In
2007, the company sold it’s fully integrated steel business to Jai Balaji Industries while
increasing it’s capital expenditure in the graphite business. By 2010, graphite business was
the main business of the firm. It ramped up its production levels to meet the customer
demands and also widened its customer base. 2015 and 2016 were difficult years for HEG as
the profit margins in the graphite industry started to erode. Hence, HEG shifted its focus on
cost cutting and operational efficiency by reducing its working capital and the action paid off.
In 2018, the company witnessed record profits in the history of the company. One of the
reasons was the operational efficiency achieved and another major reason was an event that
took place in the global market.

Blue-sky Protection plan

China was one of the major producers of graphite and steel. But, in 2018, the Chinese
government came with the blue-sky protection plan where it widened anti-pollution controls
that would shut various plants making graphite electrodes and steel and also lifted output of
less-polluting steel from electric arc furnaces. This regulation helped HEG in two ways. The
demand for graphite increased because graphite can be used to produce steel with lesser
pollution and energy consumption; also the major graphite producers in China had to shut
down the plants hence giving the major market share to HEG and it’s Indian competitor
Graphite India. As a result, the share price of HEG Limited had rose more than 26-fold since
the beginning of 2017 adding $1.4 billion to the value of its shareholders (Exhibit 2) . In the
financial year-ending 2018, HEG witnessed a record EBITDA margin of 64.6% making it the
most profitable graphite electrode producer in the whole world. The company expected to
that the revenue for the year ending 2019 would be more than double with the EBITDA margin
to rise by 75%. HEG also re-paid all its debt with the profits that it earned in 2018.

Dividends
HEG has always believed that it should give back to the shareholders out of the company’s
earnings. The company had already declared 300% and 500% percent dividend in May and
October 2018. The management had a very positive approach towards the shareholders
because they themselves were the major stockholders (Exhibit 9). The history of HEG
dividends have been mentioned in Exhibit 4.

The Dilemma
In the year of 2018, HEG had been doing really well and the coming future seemed bright. The
company’s stock had risen from Rs.150 in January 2017 to Rs. Rs. 4500 in November 2018.
Exhibit 5 shows the monthly price movement of the stock in the following period. Now, the
decision that Mr. Jhunjhunwala was pondering upon is that whether HEG should buyback the
share or should it continue giving the dividends. The company had already paid 300% dividend
earlier that year. The EPS of the company as per Q1 2018 was Rs.700 and the P/E ratio was 6.
If the company went for buyback, then what should be the buyback price and what should be
the amount of buyback were the main questions that were going on in his mind. Another
question was that how would the company finance the buyback because the increasing
market demand would also require capital expenditure. One more important question in his
mind was whether the promoters should participate in the buyback scheme. Another
question on the other side of the dilemma was that, if the company goes for a dividend, then
what should be the dividend percentage. One major concern was that, if they pay very high
dividends, would the shareholders start expecting the same every year. With all these
questions in mind, he switched on his laptop and opened the financial reports of the quarter
ending September 2018.
Exhibits
Exhibit 1a
Use of Graphite electrodes

Exhibit 1b
Region-wise growth rate of graphite electrode market
Exhibit 1c
Graphite Electrode Concentration

Exhibit 2
Share Movements of HEG vs Competitors
Exhibit 3
HRG Revenue and EBITDA Yearly Analysis

Exhibit 4
HEG Dividend History
Exhibit 5
HEG Monthly Stock Price

Date Open Volume

01 January 2017 148.3 852939
01 February 2017 175.15 1041887
01 March 2017 210 1748595
01 April 2017 223.45 3325817
01 May 2017 312.5 1426769
01 June 2017 277.35 5900699
01 July 2017 374.7 8374621
01 August 2017 491.3 17191215
01 September 2017 693.75 14932898
01 October 2017 933.2 15625792
01 November 2017 1740 15118005
01 December 2017 1780 8699004
01 January 2018 2419 13100387
01 February 2018 2797 13424449
01 March 2018 2841 14583675
01 April 2018 3214 9036460
01 May 2018 2788.75 14126490
01 June 2018 3380 3662818
01 July 2018 3374.3 4895206
01 August 2018 4350 6363071
01 September 2018 4319 2912341
01 October 2018 3290 8738243
01 November 2018 4449 4340443
01 December 2018 4191.7 2974974

Exhibit 6
HEG Yearly Trends of Key Financial Parameters
Exhibit 7
Quarterly Income Statement

Narration Sep-17 Dec-17 Mar-18 Jun-18 Sep-18

Sales 409.54 842.71 1,292.45 1,587.38 1,793.80
Expenses 219.81 285.20 341.74 399.41 424.99
Operating Profit 189.73 557.51 950.71 1,187.97 1,368.81
Other Income 2.55 5.30 3.79 7.95 20.37
Depreciation 18.20 18.89 17.69 17.56 18.13
Interest 12.94 12.68 17.64 1.74 5.39
Profit before tax 161.14 531.24 919.17 1,176.62 1,365.66
Tax 47.48 189.13 285.16 406.32 476.76
Net profit 113.66 342.11 634.01 770.30 888.90

OPM 46% 66% 74% 75% 76%

Yearly Income Statement

Narration Mar-14 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19 (Projected)
Sales 1,466.81 1,228.06 869.50 858.84 2,747.83 6,591.17
Expenses 1,226.56 1,046.42 732.67 777.55 1,026.51 1,932.92
Operating Profit 240.25 181.64 136.83 81.29 1,721.32 4,658.25
Other Income 2.15 15.16 3.74 6.58 12.37 109.19
Depreciation 72.66 75.36 79.30 73.92 72.56 72.39
Interest 72.30 77.13 60.31 54.72 56.42 17.97
Profit before tax 97.44 44.31 0.96 -40.77 1,604.71 4,677.08
Tax 10.82 5.32 8.51 9.27 523.37 1,626.65
Net profit 86.62 39.00 -7.55 -50.05 1,081.34 3,050.43
EPS 21.68 9.76 -1.89 -12.53 270.61 790.36
Price to earning 9.28 22.27 -73.99 -17.78 11.77 2.65
Price 201.20 217.40 139.80 222.75 3,185.00 2,093.50

RATIOS:
Dividend Payout 27.68% 30.74% 0.00% 0.00% 29.56% 10.12%
OPM 16.38% 14.79% 15.74% 9.47% 62.64% 70.67%
Exhibit 8
Yearly Balance Sheets
Narration Mar-14 Mar-15 Mar-16 Mar-17 Mar-18
Equity Share Capital 39.96 39.96 39.96 39.96 39.96
Reserves 884.11 900.77 881.04 831.84 1,768.66
Borrowings 1,027.44 917.16 781.62 683.79 297.45
Other Liabilities 482.25 319.60 233.89 273.07 537.18
Total 2,433.76 2,177.49 1,936.51 1,828.66 2,643.25

Net Block 940.57 906.54 932.43 888.90 833.37

Capital Work in Progress 118.70 107.75 26.70 1.20 1.61
Investments 97.91 149.56 152.57 149.84 149.26
Other Assets 1,276.58 1,013.64 824.81 788.72 1,659.01
Total 2,433.76 2,177.49 1,936.51 1,828.66 2,643.25

Working Capital 794.33 694.04 590.92 515.65 1,121.83

Debtors 523.88 405.46 318.48 360.79 972.69
Inventory 494.00 401.90 371.19 257.80 511.44

Debtor Days 130.36 120.51 133.69 153.33 129.20

Inventory Turnover 2.97 3.06 2.34 3.33 5.37

Return on Equity 9% 4% -1% -6% 60%

Return on Capital Emp 8% 6% 3% 1% 91%

Exhibit 9
Shareholding Pattern as on September 2018

Promoters 61.24%
FII/FPI 8.23%
Total DII 18.36%
Others 12.37%

Exhibit 10
Cashflow Statements

Narration Mar-14 Mar-15 Mar-16 Mar-17 Mar-18 Mar-19 (Estimated)

Cash from Operating Activity 773.30 276.48 249.30 157.04 594.06 1,488.23
Cash from Investing Activity -293.80 -82.64 -28.77 -1.35 -9.17 -675.78
Cash from Financing Activity -482.10 -201.80 -219.47 -152.56 -587.96 -788.47
Net Cash Flow -2.60 -7.96 1.05 3.13 -3.08 23.99
Exhibit 11
Competitive Analysis

HEG Graphite India

Sales Turnover 2750.05 2958.2
Other Income 12.37 88.89
Total Income 2762.42 3047.09
Total Expenses 1028.48 1605.66
Operating Profit 1721.57 1352.54
Gross Profit 1733.94 1441.43
Interest 56.68 6.18
PBDT 1677.26 1435.25
Depreciation 72.55 46.43
Depreciation On Revaluation Of Assets -- --
PBT 1604.71 1388.82
Tax 523.37 475.19
Net Profit 1081.34 913.63
Earnings Per Share 270.61 46.76
Equity 39.96 39.08
Reserves 1768.66 2562.71
Face Value 10 2

Exhibit 12
Exhibit 13
Key Ratios

Mar '18 Mar '17 Mar '16 Mar '15

Investment Valuation Ratios
Face Value 10.00 10.00 10.00 10.00
Dividend Per Share 80.00 -- -- 3.00
Operating Profit Per Share (Rs) 430.83 20.20 34.15 49.07
Net Operating Profit Per Share (Rs) 688.22 215.23 217.60 310.45
Bonus in Equity Capital 51.80 51.80 51.80 51.80
Liquidity And Solvency Ratios
Current Ratio 1.47 0.62 0.58 0.71
Quick Ratio 2.15 1.34 1.41 1.50
Debt Equity Ratio 0.16 0.63 0.73 0.88
Long Term Debt Equity Ratio -- 0.16 0.17 0.27
Debt Coverage Ratios
Interest Cover 29.31 0.25 1.02 2.01
Total Debt to Owners Fund 0.16 0.63 0.73 0.88
Financial Charges Coverage Ratio 30.59 1.61 2.33 3.16
Financial Charges Coverage Ratio Post Tax 21.36 1.44 2.19 2.74

Exhibit 14
Bond Rating and Interest Rate based on ICR
References
https://www.mordorintelligence.com/industry-reports/graphite-electrode-market
https://economictimes.indiatimes.com/heg-ltd/infocompanyhistory/companyid-13630.cms
https://www.business-standard.com/company/heg-251/information/company-history
https://www.business-standard.com/article/companies/china-s-push-for-blue-skies-may-
fuel-gains-for-graphite-maker-heg-118120301112_1.html
https://www.business-standard.com/article/companies/china-s-push-for-blue-skies-may-
fuel-gains-for-graphite-maker-heg-118120301112_1.html
https://investorzone.in/buyback/heg-limited-buyback-2018/
https://www.equitybulls.com/admin/news2006/news_det.asp?id=240026
http://hegltd.com/management-team/
https://www.screener.in/company/HEG/consolidated/#top
https://hegltd.com/financial-reports/

Corporate Finance Theory and Practice, 2nd Edition