Stockscan - Guj NRE Coke
(The Economic Times, August 24, 2005)

Gujarat NRE Coke Limited (GNCL), promoted by the Jagatramka family, holding a 56% stake, is India's largest supplier of low-ash metallurgical coke (met coke), has gone on an expansion binge. From just 0.5 million tonne per annum (TPA) capacity based in Gujarat at two location since 2004, the company is all charged up to expand capacity at Kandla (Gujarat) and at Dharwad in Karnataka, thus taking the total capacity to 1.4 million tpa by December 2006.

Bring the only listed met coke producer in India, GNCL's volume growth story could send its 30,000 strong stakeholder laughing all the way to the bank. This is not just because of the domestic demand but also the encouraging global outlook.

Globally, there are three key factors for the rise in demand for coke. For one, coke is primarily used to smelt iron ore through blast furnace route, hence a key raw material in the process of manufacturing steel. The steel industry has been witnessing a high growth in the last 2 years and the momentum is expected to continue. The percentage of steel produced through the blast furnace route to total steel is only expected to rise further thus giving rise to increased coke demand.

Secondly, there has been a long term decline in coke capacity due to closures of plants in certain areas such as North America and Europe. These capacities have been shut down due to costs, technological and pollution issues, and are unlikely to reopen. Lastly, China which is the leading supplier of coke accounting for 50% of the global market trade of sea borne merchant coke, has seen its internal consumption on the rise on account of rising domestic steel production. According to statistics, only 14 million tonnes is expected to be exported from China in 2005, compared to an estimated production of 223 million tonnes. This, according to a leading steel manufacturer, is going to see coke prices remain firm in the medium term in the range of US $210 to US $240 per tonne.

In fact, the supply from China largely influences coke pricing. Last year's price spurt in coke prices to US $425/tonne was mainly due to a delay in allocation of coke export license in China. In 2005, the authorities have already announced that export licenses will be limited to 14 million tonnes. Although export from China have ranged around 14-15 million TPA in the last four years, there is no certainty that exports will be maintained at the same level.

The key raw material in the manufacture of metallurgical coke is coking coal. Roughly, 1.33 tonnes of coking coal is required to manufacture one tonne of coke. In GNCL's case, the cost of coking coal currently accounts for around 45% of its turnover, and as a percentage of the total expenditure, it is 85%. With the rapid growth of the steel industry, there has been a shortage in supply of coking coal and its prices have surged from around US $60 / tonne in 2004 to US $120 / tonne at present. GNCL had fortunately entered into a contract to acquire coking coal at US $60 / tonne. Little wonder then, GNCL has been able to maintain margins and improve profitability in a scenario of rising coke prices. GNCL has adequate coking coal at US $60 / tonne till February 2006.

Gujarat NRE Coke : A real blackgold

Thus, the key to profitability is cheap availability of coking coal. GNCL has recently purchased mines in Australia, which will ensure the cheap availability of this raw material. It is further estimated that sales volumes should grow by a CAGR of 57% right up to 2007.

For the year ended September 2004, the company notched a turnover of Rs.290 crore (previous year Rs.140 crore) with a net profit of Rs.90.8 crore (previous year Rs.16.7 crore). Going by the current nine months figure, the company for the current year will easily clock sales of Rs.388 crore and end up with a bottom-line of over Rs.130 crore. The stock appears attractive due to a robust coke outlook and low cost raw materials leading to its EBITDA margins of 45% maintained in coming quarters. The stock currently trades at a P/E of 12.6 times of its estimated earnings for the year ended September 2005 and at a P/E of 7.6 times for 2006. Going by these figures, the stock seems like a good investment to have in the portfolio.

Meanwhile, to improve its margins GNCL is also banking on its backward integration program. Apparently, it has a subsidiary company in Australia, Gujarat NRE Australia Pty, which has two coking coal mines with reserves of around 150 million tonnes and 96 million tonnes respectively. Its first coking coal acquisition (made in December 2004) in Wollongong is expected to start production in August 2005, and produce around 1 million TPA in the first year ended September 2006. By the end of the next year, this is expected to be scaled up by 50% to 1.5 million TPA. The second coking coal mine-the Avondale Colliery in New South Wales, Australia, is expected to start production by late 2007.