Oriental Carbon Management Q&A: July 2012

Management Q&A

  1. ORIENTAL CARBON & CHEMICALS HAS TAKEN SOME RAPID STRIDES OVER THE LAST 5 YEARS. SALES HAVE GROWN AT A 25% CAGR WHILE NET PROFITS HAVE GROWN AT AN AMAZING 73% CAGR. ALSO THE COMPANY HAS BEEN OPERATING AT A DIFFERENT LEVEL SINCE FY 2010. OPERATING MARGINS HAVE JUMPED FROM 14-16% LEVELS TO 30% PLUS LEVELS IN LAST 2 YEARS.

Kindly share the journey. The business started picking some momentum around 2005-6. What were the catalysts?

You see in 2006 we had doubled our capacity to ~6000 MT from earlier 3000 MT. There was the EOU unit benefit and economies of scale kicking in.

The company entered a different trajectory from 2010, as margins moved dramatically upwards. What changed in the market dynamics? What have you done differently in the last few years?

Well actually the different trajectory started from 2009 itself. 2008-9 was a bad year because of huge increases in RM Sulpher prices. But it wasn’t a bad year for Oriental Carbon!

You see Insoluble Sulpher market is dominated by Flexisys. They set the pricing terms. They had different pricing policies for different regions – US, Euro, and Others. The Euro-Dollar volatility also used to lead to anamolies, which Flexisys could not correct dynamically. This was going on for last 7-8 years. The huge increase in RM in 2008 resulted in big anamolies, and Flexisys had to do something to smooth out these. This they did finally by resorting to a quarterly Dollar pricing policy on a global basis – with an adjustment range for RM (Sulpher) fluctuations.

Oriental Carbon also followed suit, and started entering into similar quarterly pricing agreements with customers instead of annual agreements. This allowed flexibility to pass on the raw material price increase.

So economies of scale with capacities doubling & continuous de-bottlenecking, benefits from the EOU status, and these changes in the pricing policy resulted in significant improvement in the profitability.

  1. INSOLUBLE SULPHER IS TODAY THE MAIN PRODUCT SEGMENT AND TYRE MAJORS ARE THE MAIN CUSTOMERS. FLEXISYS (USA) IS REPUTED TO BE THE DOMINANT SUPPLIER WORLDWIDE. APART FROM ORIENTAL CARBON, OTHER PLAYERS KNOWN SHIKOKU (JAPAN) & SINORGCHEM (CHINA).

Kindly tell us more on the market Opportunity. What is the total size of the market- Domestic & Exports? What is Flexisys market share and what is yours? What are the growth drivers – both in India & in Export markets.

This is a niche market and there are no industry-published figures. We can only provide some estimates.

As per our data, the total market is ~225,000 MT per annum. Solutia controls 70-80% of this market. Oriental Carbon caters to about 8-10%. Shikoku, Japan goes neck & neck with Oriental Carbon. We believe they have a capacity of 17-18000 MTPA.

Insoluble Sulpher is mostly used by the Tyre Industry. Increased Radialisation is the main demand driver.  A shift in preference for value added grades is being seen as these offer ease of handling and more production flexibility to the Customer.

How big are the Chinese & Japanese competitors. Do you enjoy any competitive advantages over the other Asian players?

Chinese capacity is reportedly 35,000 MTPA. Sinorgchem, a new entrant, is also reportedly putting up a new plant of 15,000 MTPA capacity. The first phase of 5000 MTPA is supposed to come up in 2012-13.

The Chinese capacity is at present completely consumed in-country. Shikoku is serving Japan and Korea mostly. In Europe, for example Oriental Carbon is the only competitor to Solutia.

How do you match up in quality to say market leader Solutia?

OCCL Insoluble Sulpher grades substantially match that of the larger players like Solutia.

  1. ENTRY BARRIERS. COMPETITIVE ADVANTAGES.

Kindly tell us more about the nature of this market? Why is one company Flexysis having such a dominant market share? Why has it not attracted more investment and more players? What are the entry barriers?

As explained before, the total market size is small. The technology is closely guarded. No tyre major is interested in shifting vendors or entertaining new vendors unless you can supply in sizeable quantity – atleast 2500-5000 MT. The approval process is also very lengthy and costly.

The risk/reward situation does not warrant much fresh investment.

Oriental Carbon has been in Insoluble Sulpher business since 1994! But Business Performance has become noticeable only since last 2 years, Why?

There is also the history of the company that you have to consider. Carbon Black was the main business. This business gradually became a commodity business. We recognised Insoluble Sulpher as the business of the future, but were struggling to put up required capacity till 2000. We decided to divest the Carbon Black business altogether only after the new capacity was up.

Solutia has reportedly announced plans of 50000 MTPA expansion in Thailand. How does this development impact OCCL? When will this new capacity likely to come on-stream?

We don’t see anything changing materially. It is in market leaders interest to maintain price levels. If the pricing reduces by 1$ we are affected to the tune of $20,000, but they may then be staring at a $200,000 impact.

Having said that, we also need to be careful of not altering the current balance. We can grow at a calibrated pace.

How is Oriental Carbon placed today? Will it be able to sustain its competitive advantages? Why?

We are reasonably well placed. Any new plant needs fresh approvals which is lengthy & time-consuming. For a new line (in existing plant) a competitor needed 1 full year for approvals.

This is also a very capital intensive business. Asset Turnover is generally in the range of 1:1. Rupee depreciation etc may take it to 1:2 at most. For us to get a payback in 3-4 years time, the business needs ~25-30% margins, at the minimum.

We hope to be able to maintain that due to the reasons mentioned before – Limited Market size, closely guarded technology, lengthy approval process, etc. discouraging fresh investments.

  1. CUSTOMERS. REVENUE CONTRIBUTION FROM TOP CUSTOMERS.

You have been mentioning OCCL getting preferred alternate supplier status. Can you elaborate on that.

As mentioned before, in certain geographies like EU we are the only other supplier capable of servicing the tyre majors. So we have relationships going back a number of years.

Do you have long term contracts with any of the majors? What is the normal contract duration?

Yes. we have very long term arrangements with some of our customers. No formal contracts, but s mentioned before strong relationships and understandings that extend to both commercial and technological aspects.

Kindly share recent customer successes and or deeper penetration into existing accounts. Have more marquee names been added to the list?

Continental AG, Goodyear, Bridgestone, Pirelli are some of our big customers. In the domestic market we have MRF, Apollo, JK tyres and some more.

How much does your top 3 customers contribute to Sales? Does any one customer contribute more than 10% of Sales?

TBD

What kind of approval process do you have to go through with your major customers? Do you have to take plant-specific approvals? Is the new Mundra Facility approved for all your customers?

Approval process varies from customer to customer. Any plant in a new location has to ofcourse go through fresh approvals. The Mundra plant is approved. The new line at Mundra plant will have to go through the process, but will take less time.

Are there any majors that you are persuing currently that may lead to increased sales?

We have been pursuing Michelin for some time now. Its under process.

  1. CAPEX. INSTALLED CAPACITY HAS GONE UPTO 22500 MTPA. YOU HAVE BEEN MENTIONING CAPACITY BEING PRE-SOLD. YOU HAD ALSO BEEN MENTIONING LAND AVAILABILITY FOR THE NEXT 11000 MTPA EXPANSION.

Looks like, demand was far outstripping supply. Please tell us a little more on the demand situation you saw in FY11 and FY12. How is the demand outlook looking now with double the capacity?

Demand situation warranted that we expand quickly. Yes capacities were pre-sold as per arrangements with our customers. We are working at something like 75% capacity utilisation at the moment. The Phase 1 expansion of 5500 MT is working at full capacity and the phase 2 5500 MT expansion is at 25-30% utilisation levels.

What is the total Capex cost for the 11000 MTPA incurred in Mundra Phase I & II expansions? And how much will be needed for the next 11000 MTPA expansion?

The total capex for 11000 MTPa was ~120 Cr. The next 11000 expansion is in the same premises (already acquired) will cost less due to spreading of fixed costs.

The latest AR mentions slowing growth possibility in Euro Zone. Have any major customers cut back on plans? What are the plans for the next expansion?

The last 11000 MTPA expansion was pre-sold. We have agreements in place. But customers have their own process of demand-slack allocations. So plans may be deferred by 3-6 months. Most of these customers have geographically diverse plants. Demand slack in one region may be compensated by pick up in another.

Can some slack be taken up by the domestic market?

Yes. but only of the order of 200-300 MT

  1. EXPORTS. EXPORTS TODAY CONSTITUTE ~60+% OF TOTAL SALES UP FROM 40% LEVELS IN FY 2001. EXPORT GEOGRAPHIES & CONTRIBUTIONS.

Kindly provide the Geographical spread – how much from Europe, US and other markets. How much of export sales is booked in Euros and how much in US$? Any other currencies

Most of our sales come from Europe and RoW (Rest of the World) Market. We do not have any significant presence in the US. In terms of currency breakup, roughly 60% Euro and 40% in US$ sales.

Do you have higher margins from Export sales?

Slightly higher margins in Export Sales.

What kind of hedging policy is followed by the company? US $ Hedges seemed to be order of 50 lakhs only and same for Euros. Loan positions are left unhedged. Do we see changes coming in due to increased volatility, or will this policy remain largely unchanged?

We hedge our Sales for protecting margins. Typically 3-6 months rolling basis. US $ Loans are left unhedged as that provides some natural hedge.

If you have been hedging on a regular basis, why have we not seen better performance in FY12?

That’s also because of the 3-6 month lag effect. You will see some impact in coming quarters.

What is the sense that you have got from your Export customers? What is your order book size at the moment? Have you noticed any slowdown in order book already?

We have covered this before. There is some delay in allocations by 3-6 months. We will defer the next expansion phase accordingly.

If Export demand sees a decline, what are the plans to counter this risk? Can domestic market absorb additional sales? Can you penetrate deeper into customer accounts from the US, if say Euro Zone slows down?

As mentioned before most customers have geographically diversified plants. There are plants in Indonesia, Korea, South Africa where demand pick-up can compensate. Middle East is also another important and promising market.

  1. RAW MATERIALS. SULPHER AND NAPATHANIC OIL ARE THE MAJOR RAW MATERIALS. RM/SALES USUALLY IS IN THE 30-35% RANGE. BUT HAD SHOT UPTO 45% IN FY09. LAST 2 YEARS HAVE BEEN BENIGN WITH RM AT 26-28% OF SALES. 1QFY12 HAS SEEN RM SHOOT UP SIGNIFICANTLY TO 35% OF SALES

Kindly explain the overall raw material linkages and demand supply situation. If crude prices soften, will that see prices of Napathanic Oil & Sulpher both easing off?

RM procurement is on SPOT basis. There is no real direct correlation with crude prices. What happened in 2008 for example to Sulpher prices -was pure speculative in nature.

As you are aware prior to 2009 we had annual contracts, but subsequently we work on a quarterly pricing structure with customers, with RM price revisions being of a pass-on nature.

Kindly explain the nature of RM procurement. Do you have agreements with leading suppliers, how does it work? In most years we see a mix of local purchase and imports. Some years we have seen no imports? Imported RM in FY12 is ~19% compared to ~14% in FY11. Kindly comment.

We procure from both domestic and international suppliers. Realtionships are strategic in nature.

Would you say there is a direct linkage of raw material prices to operating margins?

Yes, there is a direct correlation to margins.

  1. POWER & FUEL COSTS. POWER IS THE SECOND BIGGEST COST COMPONENT FOR THE COMPANY.

Power costs have gone up to ~13% of Sales from ~10% levels a year or two back. Kindly explain.

That is because in Dharuhera plant we had some advantage from steam co-generation from the Sulphuric Acid plant, which isn’t there in the Mundra plant.

However this will stabilise as Mundra facility works at peak capacities. We draw quality power at Mundra with lower costs.

  1. WORKING CAPITAL. FY11 HAS SEEN WORKING CAPITAL/SALES CLIMBING UP TO ~40%. MOSTLY BECAUSE OF DEBTOR DAYS GOING UP BY A SIGNIFICANT 20% IN FY11 (OVER THE 40% INCREASE IN FY10 OVER FY09). IN FY12 WORKING CAP/SALES IS BACK TO ABOUT 34% OF SALES.

Kindly explain the sales cycle – What kind of debtor days do you have for International & domestic sales? What kind of Inventories do you normally need to hold on the RM front, especially Sulpher?

Debtor days and Inventories are actually at normal levels. The year end picture looks skewed as most of the investment in assets were towards the the 2nd half of the year. This year we should see reversal to normal levels, as capacity utilisation goes up.

Why have we seen big jumps in FY10 & FY11, followed by some cooling off in FY12? What according to you is a sustainable level for the next 2-3 years? And Why? Please comment.

Basically the same reason as above. You will see better figures for FY2013.

  1. MARGINS & PROFITABILITY. FY10 AND FY11 HAS SEEN OPERATING MARGINS AT 30% PLUS FOR THE FIRST TIME. REALISATIONS HAS MOVED UP FROM ~RS 70/KG IN FY07/08 TO ~RS 95/KG IN FY09 AND RS 100/KG FOR FY11 & FY12. IN FY12 REALISATIONS HAVE CLIMBED TO RS. 116/KG.

Is it correct to say that because of Sulpher prices going through the roof ion 2008-09, operating margins in FY09 were subdued. Otherwise OCCL had started getting higher realisations from FY09, and margins were actually on an upswing since then, not FY10.

Yes, we have covered this before.

Is it correct to say that FY12 higher realisations are entirely due to the Rupee depreciation effect?

That’s not entirely correct. We have forward covers and there is the 3-6 months lag effect.

Export Realisation came in at Rs 113/kg, while overall realisation is at ~Rs 116/kg. It also looks like you had better realisations in the domestic market in FY12 than in exports? Is that correct? Does the domestic market work on Import-Parity basis?

Domestic realisations are slightly lower actually. Perhaps the figures you used included that of Sulphuric Acid as well.

International prices of Insoluble Sulpher are quoted at $2200-2600 per Tonne? OCCL seems to be billing at ~5-10% discount to the lower range. Are there any chances of improving $-realisations? Why?

No. we have been billing at this $2200 -2600 range only. You might have taken an average Rupee-US Dollar conversion rate for the entire year – that would be misleading.

The Rupee has depreciated by ~22% against US$ and some 10% against the Euro in FY12, but OCCL has not really been able to ride the benefits all the way. What are the main reasons for this? Were there any losses on Forex account due to hedging?

We have covered this before. The actual impact will be seen in FY13 because of the lag effect.

What kind of realization levels are possible in FY13 & FY14? If rupee remains at current levels, do we see margins reverting to 30%+ levels? At what levels do you see Operating margins sustaining for the next 2-3 years?

Yes, we should see a reversal to higher operating margins. If rupee remains higher, margins should be better ~ 30% range.

  1. VALUE-ADDED PRODUCTS. INSOLUBLE SULPHER HIGH STABLE AND HIGH DISPERSION GRADES. SUPPLIES OF HIGH STABLE GRADE STARTED IN FY 2009 ON A REGULAR BASIS. HIGH DISPERSION GRADES HAVE BEEN APPROVED BY SOME TYRE MAJORS.

Please tell us a little more on higher grade Insoluble Sulpher market and the demand for it. What are the advantages? Are margins superior and by how much? Is the demand shift trend more in export markets?

Well Oriental carbon clearly is a follower. Whatever quality grades are required by the customer, we try to match that quality. We interact and collaborate on technology aspects with the customer. Our customers help us in moving up the value chain as we are the 2nd alternate supplier for them. Offering higher grade products is a continuous process, and usually comes with better margins.

What is the contribution of High Stable, High Dispersion grades in better price realizations for the last 1-2 years? What is the revenue mix currently in Insoluble Sulpher segment from High Stable grades?

TBD

2011 & 12 Annual reports mention Company is currently working on development of pre-dispersed Insoluble Sulphur. Is this another value-added grade? Any other new products/grades in the R&D pipeline.

TBD

What kind of R&D Set-up do you need to maintain? Is this sufficient for the current needs, or will it need sustained higher investment?

TBD

  1. CHEMICALS PRODUCT SEGMENTS – SULPHURIC ACID & OLEUM

Kindly tell us a little more on these product segment markets, demand/supply and raw material linkages. Is it true that the domestic market moves with the whims of the main supplier – Hindustan Zinc?

Sulphuric Acid market in India is dominated by Hindustan Zinc. This is a by product for Hind Zinc. The demand for Sulphuric Acid is dependent on industrial activity and therefore cyclical in nature. Since they produce a certain quantity anyways (unlinked to demand cycles) they have to dispose it off anyways! Sometimes demand situation is so bad, that people are paid to take away Sulphuric Acid in Tankers.

In such situations, the industry margins become negative. The last 2-3 years margins have been positive and stable. Though it reduced quite a bit in FY12

Chemicals segment contributes just 10-12% in Revenues but in bad years have the potential to drag down margins drastically? Why would you continue with such volatile segments? How much is the cost saving from Steam, generated from the Sulphuric Acid plant, in percentage terms?

We have been continuing with the Sulphuric Acid segment, as it generates steam which is used by the Plant at Dharuhera. The savings from steam generation is significant and makes that segment viable.

FY11 & 12 were benign for the Chemicals segment – with 14% plus EBIT margins? But FY12 EBIT levels were down to 5%. What is the outlook for FY13?

This year should be better

Any plans of divesting this segment altogether?

No

  1. MEDIUM TERM OUTLOOK

Given the 22500 MTPA capacity, what is the capacity utilisation and Volume targets in the medium Term?

75% capacity utilisation. We should continue to grow at current levels. The volume growth may be limited to 10-15% if the demand slack continues.

How is the overall market growing in the medium to long term?

India is a high potential market and should more than double by 2020. Global market also is growing steadily. Medium term outlook is good and we expect good margins.

What rates do you see the domestic market growing? Will it be able to absorb higher levels of supply in the medium term?

Domestic market is growing at about 15% on an annual basis. It can take about 7500-800 MTPA. Chinese market currently is at 35000 MTPA, so there is huge scope for growth in India.

  1. TAX IMPACT FOR FY13 ONWARDS

Please indicate the applicable tax rate for FY13? Will Mundra SEZ facility get any MAT credit? Does that mean in FY13 11000 MTPA production/sales will get MAT credit at 18% rates while the rest will be taxed at full rate?

Effective tax rate will be lower at 20-22%. This is because of the Mundra facility which as an SEZ gets MAT credit at 18% which can be off-set against the overall tax liability. As the share of production in Mundra facility goes up, effective tax rate will come down.

Where do you see Net Margins stabilizing at for the next 2-3 years?

Operating margins should expand but we are not banking on the same and going conservative in our plans. Net margins should also expand due to  better operating margins and Lower tax. However there is the impact of higher debt servicing costs. Net margins may be slightly lower in FY13.

  1. SCHRADER DUNCAN ACQUISITION.ORIENTAL CARBON HOLDS 12.58% IN SCHRADER DUNCAN, A LISTED ENTITY.

Kindly explain the rationale-Why was the stake in Schrader bought in Oriental Carbon?. It looks like an unrelated business with poor return ratios and was earlier making losses? What is the situation now? Since OCCL has divested businesses in the past, what are the plans for the Schrader now?

This was a JV company where we had 25% ownership. The foreign parent company was getting sold and hence in the course of re-structuring they wanted to sell the Indian arm as well. Pneumatic area has good potential. The price was good and the issue with the company were more of structural nature (like high salary due to expats). We knew we can correct them. By selling the property worth 40 Cr, we could bring down the debt and the company should turn profitable.

What is the current status?

It has already started turning around. We have some plans for expanding the business.

  1. DIVIDEND POLICY

Please indicate the dividend policy followed by the company. While dividend amounts have increased over the years, it has not kept pace with the increase in earnings. Payouts have fallen from ~47% in FY03 to 11% in FY11. And has increased somewhat in FY12.

If you see the last 5 years, we have generally been increasing dividends. In FY12 again we have increased dividends. 

If you consider the Dividend Tax component, Payouts have increased to over 19% in FY12. We intend to maintain payout ratios at 20% or so.

  1. PLEDGING OF SHARES. 254514 SHARES PLEDGED

Although this is under 5% of promoter shareholding in the company, this has been continuing for a number of years. Please explain the circumstances for the same and why is this not being paid off & revoked.

The pledging was for some corporate loan taken from bank. Shares were given as an additional security.

  1. MAJOR OPPORTUNITIES & CHALLENGES

Where does Oriental Carbon see itself in the next 5 years? Can we see Oriental Carbon reach 500 Cr Sales, by when? What are the major challenges before the company and where are the big opportunities?

Yes 500 Cr is possible and should happen after the expansion of the next 11000 MT capacity. The next big opportunity would come from penetrating the US Market.


Disclosure(s)

Ayush Mittal: More than 5% of Portfolio in the Company; Holding for more than 6 months;
Donald Francis: No Holdings in the Company; ;
: ; ;
: ; ;

GRP Management Q&A: Mar, 2011

Management Q&A

1.     EXCELLENT TRACK RECORD OVER LAST 40 YEARS ALMOST. TODAY GUJARAT RECLAIM HAS EMERGED AS THE LARGEST MANUFACTURER OF RECLAIM RUBBER IN THE COUNTRY AND AMONG THE TOP 3, GLOBALLY.

Congratulations! Its going to be almost 40 years since inception in 1974. An excellent record, capacity has gone up nearly 20 times to over 40000 MT. Kindly share the key factors that contributed to this performance. Why will this be sustainable in the short & medium term.

In-house technology, control on quality and costs, productivity improvements, investments in ERP systems and processes, investments in new value added products have all played their role. We have a single minded focus on reclaim rubber business, and that has been key.

2.     TODAY GUJARAT RECLAIM HAS EMERGED AS THE LARGEST MANUFACTURER OF RECLAIM RUBBER IN THE COUNTRY AND AMONG THE TOP 3, GLOBALLY. OF TOTAL SALES OF RS.140.67 CR FOR FY10, DOMESTIC SALES COMPRISE RS. 61 CR (43.36%) AND EXPORTS COMPRISE RS.79.67 CR (56.64%).

Kindly share the sales process for export sales. Today Exports is higher than domestic sales. Who are the other 2 players in the top 3 global players, and what are their sizes? Are they listed entities? Have you been able to grow your export sales and gradually increase your market share at the expense of these 2?

We have been able to grow our export sales consistently. Usually the global majors like to source from 2-3 vendors. The other two are unlisted China based players.

3.     GRRPL HAD AN EXCELLENT GROWTH TIME DURING 2001 – 2009. CAGR OF ABOUT 30%, BUT SINCE THEN THINGS HAVE SLOWED DOWN A BIT. ALSO FOR THE LAST 3 YEARS INSTALLED CAPACITY OF GRRPL IS STAGNANT AT 41000 MT. IN FY11, THE COMPANY REPORTEDLY HAS EXPANDED CAPACITY AT ITS PANOLI PLANT BY 6000 MT AND A NEW PLANT IS BEING COMMISSIONED AT SOLAPUR.

Kindly share the circumstances behind this. Have there been any significant changes? What is the current status on Capacity expansions undertaken? Hs the Solapur plant started functioning? What are the products being manufactured here? What is the total installed capacity at FY11 end?

The recessionary trends in in 2009 on was a tough environment. We chose to cut back on our plans then, and it was a prudent move.

We had heard of another plant coming up in the South – near Chennai? What are the timeframes for this – and planned capacities?

We are expanding our capacities in phases. In 2-3 years total capacity will be doubled to about 80000 MT. In the first phase the South based plant will come up and will be ready by end FY12 with a capacity of about 10000 MTPA. Current installed capacity is about 45000 MT.  In the second phase both Solapur and Coimbatore plant capacities would be increased by additional 10,000MT each. This would be on stream in the next three years.

4.     CONSISTENT GROWTH TRACK RECORD AT AROUND 25% CAGR OVER LAST 5 YEARS. FUTURE GROWTH DRIVERS.

It is encouraging to hear the company say that GRRPL would like to keep growing at 30% rates in the medium term. What will be the main growth drivers? Has the company seen the share of reclaim rubber to total polymer in tyres go up from the Indian average of 4%? Has any individual tyre company experimented with more than 6-7% reclaim rubber to polymer ratio? Will exports remain the larger segment (57%) or is the domestic market catching up?

Capacity increases will see us maintaining the growth. Also increasing contribution will be coming in from value-added products like Butyl, EPDM and Nitride.

No tyre manufacturer will probably openly admit that they use reclaim rubber or discuss how much percentage of reclaim rubber goes into a particular tyre. The problem is there is a stigma attached to reclaim rubber suggesting inferior quality somehow. Can’t really say what ratios of reclaim rubber is being used by which manufacturer. But we are seeing increasing volumes.

5.     RAW MATERIAL PROCUREMENT. IMPACT OF UNORGANIZED SECTOR & GRRPL SUPPLIER NETWORK

Given that nearly 60% of reclaim rubber output in India is from the unorganized sector, we understand that ensuring steady raw material supply (scrap tyres) is critical for the company. Kindly share with us the impact of GRRPL’s unique supplier network model and how has it been strengthened over the years. Is this current supply model (collecting 45000 tonnes annually) scalable to support medium term requirements, or will you need to start sourcing RM from China, the largest scrap market.

Ensuring raw material supply is critical. We have a large well established procurement chain and that has been serving us well. we are constantly working on strengthening and increasing our reach. We are setting up a base in South India to help procure more efficiently in those markets. We are confident of procuring all our requirement from the Indian market in teh forseeable future.

6.     RAW MATERIAL PRICES. CHALLENGES POSED FROM THE UNORGANIZED SECTOR.

Raw material/Sales has been steadily going up over the years. From roughly 40% in FY06 this is up over 45% in FY10. The rise has however been gradual and generally been offset by improvements in sales general & administration (SG&A) costs, power & fuel costs, etc. without really affecting operating margins.

How serious a challenge is this and what are the company’s plans, how is it gearing up to tackle this issue?

Raw Material/Sales has gradually been going up over the years. But as you observed we have been able to mitigate its effects by all round improvements in productivity and cost. To counter the volatility in material prices, the company plans its production of various grades in such a way as to ensure that material is available at reasonable price at all times.  We have got the facilities to manufacture all the grades in any of the plants.

7.     IMPACT OF ACCELERATION IN NATURAL RUBBER PRICE ESCALATION IN FY11

Usually reclaim rubber prices are 25-30% of the polymer. With natural rubber prices shooting up to as high as Rs. 230-250 per kg in FY11, has there been a noticeable impact in your industry? Have you seen any accelerating trends in the uptake of reclaim rubber going up?

There has not been any dramatic spikes in usage of reclaim rubber. Certainly people are more receptive to the idea of using reclaim rubber with rubber prices ruling high. The problem is there is a stigma attached to reclaim rubber suggesting inferior quality somehow. So no manufacturer will openly admit that they use reclaim rubber or discuss how much percentage of reclaim rubber goes into a particular tyre. But the usage is slowly going up.

8.     WHILE RUBBER SCRAP PRICES HAVE GONE UP 70% SINCE 2005, THE SELLING PRICE OF RECLAIMED RUBBER HAS GONE UP ONLY 40%. ONE INTERPRETATION IS GRRPL HAS NOT BEEN ABLE TO FULLY PASS ON HIKES IN RAW MATERIAL PRICES.

Kindly share your thoughts on this? One interpretation can be lack of pricing power. Will this/Has this situation worsened as rubber prices went up drastically in FY11? (Since scrap rubber prices must have also gone up, we are guessing). Will GRRPL benefit due to increase in rubber prices or will there be an adverse effect because of the same?

You are right, the data for the past 5 years will show selling price of reclaim rubber has not been able to keep pace with rubber scrap. But our view is you wait for 2 more years and add that data in, and you might well see a different picture. In recessionary years one is not able to pass on price increases, but that is not the case now and we don’t see that as a problem in the coming years. We will be able to pass on price increases.

9.     PRODUCT SEGMENTS – SYNTHETIC RUBBER RECLAIMS REPORTEDLY COMMAND HIGHER VALUE AND REALISATION COMPARED WITH THE NATURAL RUBBER BASED RECLAIMS. GRRPL HAS BEEN A PIONEER IN THE MANUFACTURE OF RECLAIMED RUBBER FROM SYNTHETIC RUBBERS SUCH AS BUTYL, EPDM, NITRIDE, ETC.

Kindly comment on how the synthetic rubber reclaims business has grown over the last few years and what is the revenue contribution currently from this segment. Is the use of synthetic reclaim rubber only in non-tyre products as above, or it is replacing some of the synthetic rubber use in tyres, especially OTR tyres (synthetic rubber is 16% vs natural rubber 32%).

Synthetic rubber reclaims are used in non-tyre product applications -mostly for industrial packaging. This segment has been growing strongly and contributes roughly 50% to revenues. Unlike rubber reclaims these are higher value, high margin products, so they contribute not only to bottomline, but add directly to the topline as well.

10. CUSTOMER SEGMENTS – GRRPL PRODUCTS ARE APPROVED AT 7 OF THE TOP 12 TYRE COMPANIES IN THE WORLD AND 4 OF THE TOP 10 NON-TYRE RUBBER MAKERS GLOBALLY.

Kindly share recent customer successes and or deeper penetration into existing accounts. Have more marquee names been added to the list? Given the focus on synthetic reclaim rubber are we seeing more penetration in the non-tyre rubber maker segment? How much does your top 3 customers contribute to Sales? Does any one customer contribute more than 10% of Sales?

Top 3 customers constitute around 30% of the turnover.  Continental itself contributes around 10 to 12% of the sales.  Since they have plants all over the world, to that extent we are geographically de-risked.

Tyre industry customers constitute around 50 to 55% of Sales and the Tubes industry around 25 to 30% of Sales.

11. EXCELLENT MARGINS & PROFITABILTY. SUSTAINABILITY

Kindly share the main factors contributing to this excellent performance. Are current high margins in the range of 18-20% and ROCE of 35%+ sustainable over next few years?

Our control on technology, focus on quality, cost control and productivity improvements are the main factors. The product mix is also tilting towards higher value, higher margin synthetic rubber reclaims. With the increase in capacities coming on stream in the next 2-3 years, we are very confident of improving on margins and profitability front.

12. MORE AGGRESSIVE PLAY FROM GRRPL

Considering the excellent track record on growth, margins & profitability and the strong balance sheet, one would expect GRRPL to look at scaling up more aggressively. But this has not happened in the recent past. Please share some thoughts on this front.

As mentioned before we are doubling our capacity in the next 2-3 years. Capacity will be ramped up to 80000 MTPA. 2009 was a difficult year, we had to cut back on our plans and that proved the prudent thing to do. We see things have stabilised now and are more confident on moving on with our plans.

13.  COMPETITIVE EDGE –SUSTAINABILITY

Please share some thoughts on the main factors behind GRRPL’s competitive edge. Is it the sourcing of raw material (scrap rubber) or is it in-house machinery, manufacturing process, etc or is it say, your first mover advantage?

Our competitive edge is certainly the technology and the focus on quality. In house automation, ERP processes all play their part in keeping us on top of information flow, gives us a bird’s eye view on operations, and allow us to cut costs and improve productivity where we can. Sourcing of raw material is important for our business, but we think it is the other factors that are key.

14. NEW PRODUCTS. VALUE ADDED PRODUCT INTRODUCTIONS.

Are there any new products, value added products in the pipeline? We heard mention of rubber compounds, rubber sheets. Appreciate if you can share some plans on this front. An article on JK tyres mentioned their plans on coming up with shoes from reclaimed rubber. Please comment.

Synthetic rubber reclaims as mentioned before are the value added products we are working on. Apart from that there are no immediate plans on rubbers sheets or rubber compounds. You see rubber compounds is an entirely different business. It probably cannot be carried out under GRRPL. Rubber compound business implies supplying the compounds to different tyre manufacturers based on their proprietary mix. Each manufacturer will be cagey about their mix details getting leaked -handling issues like that is complex. As is the complexity in managing so many varieties of mixes.

Reclaim rubber has always been used in shoe soles, nothing new in that. we also supply to shoe manufacturers.

15.  SMALL EQUITY BASE. LOW LIQUIDITY

At 1.33 cr the equity base is pretty low and average liquidity/volumes traded (1000) is also low. Does the company plan to do something on this front to allow more investors to participate in GRRPL’s stock story – splits/bonuses, etc. Any plans on listing in NSE?

We are aware of this situation and many requests do come to us to do something. However given our current operations, the company has no plans of any corporate action on this front in the near future. We believe we first need to grow to a certain size.

16.  THERMOPLASTICS SUBSIDIARY

GRRPL’s subsidiary had ventured into rubber thermoplastics. Reportedly, this is a very exciting space and has huge potential. Kindly share the developments in this space?

It is not a separate subsidiary. This is a division within GRRPL itself. Thermoplastics is an exciting growth area and there are several players already in that space. We are trying to create our own niche – Thermoplastics from reclaimed rubber. We have had some initial successes. It is at a nascent seed manufacturing, seed marketing stage. Too early to comment on what kind of sales potential this will translate too. But we should see good results in 2 years timeframes.

17. PROMOTER GROUP. BOARD REPRESENTATION.

Kindly tell us more about the core Promoter group which has MRF group. There are representatives from MRF board notably K. Philip on GRRPL board. Does it help to have a board member common with MRF? Or is the role purely from an investment angle?

Mr K Philip from MRF has been closely associated with us, and a source of our inspiration. Infact it was he who pointed us towards the opportunity in Reclaim rubber and egged us on. We continue to benefit from his guidance. Other than that its is business as usual with MRF.

18. DIVIDEND POLICY

GRRPL has always paid a good dividend. 5yr DPS CAGR is ~19%. Payout ratios have however been coming down from the usual 20-25% -actually under 19% for last few years. Is there a dividend policy followed by then company that you may like to share with us?

We are still very much a company in its early growth stages. There is no fixed dividend policy that we adhere too. However as you have noted, we try to see that we keep increasing dividends at a steady rate.

19. COMPETITION FROM ORGANIZED SECTOR – THREATS.

How is the competition scenario currently? Any emerging threats? We have heard some news of Elgi rubber getting into this business. Will the emergence of a domestic player of some size potentially disrupt your RM procurement chain, or is that an entry barrier for others?

There is competition notably from Balaji rubber and Elgi rubber. Balaji with all their companies/units put together has 50% of our current capacities, and Elgi rubber some 25% of our current capacities.

Raw material procurement is always a challenge. We have some advantage with our established procurement chain. The others can also set up equally strong network. End of the day everyone is market/price savvy these days. The scrap dealers know the price points very well. If we are able to meet the price points, we see no reason that our procurement chain will face any disruptions. Having said that, we are working on strengthening the chain and increasing our reach on a regular basis.

20. MAJOR OPPORTUNITIES & CHALLENGES

Where does Gujarat Reclaim see itself in the next 5 years? What is the size of the opportunity in its niche? Will it improve its position among the top 3 global suppliers of reclaim rubber? Can we see GRRPL reach 500 Cr Sales, by when? What are the major challenges before the company and where are the big opportunities?

In the next 5-6 years we see us as a company crossing Rs. 1000 Cr in sales. We see us as leaders not only in reclaim rubber but other reclaim businesses as well – there are quite a few end-of-life products that can be persued. As mentioned before our capacities are slated to get doubled in the next 2-3 years, that will contribute roughly 500 Cr in Sales. The other 500 Cr in Sales will have to come form the promising new lines of business that we are exploring. Thermoplastics from reclaim rubber is one, and there are some more initiatives. As mentioned these are still at seed manufacturing, seed marketing stages and will take a couple of years to bear any fruit, but are very promising for us to persue.

Disclosure(s)

Nagabrahma: No Holdings in the Company; ;
Donald Francis: No Holdings in the Company; ;
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Balkrishna Industries Management Q&A: July, 2011

Management Q&A

Balkrishna Industries operates in the specialty tyres segment – Off-Highway Tyres. Pneumatic tyres for special applications for agriculture, construction, earthmoving industry, material handling, forestry, lawn and garden, and All-Terrain-Vehicles (ATV). It has an amazing run and track record in the last 10 years – as it built up a global brand, exports 90% of its produce and enjoys a 4% global market share. In the last 10 years sales have grown at a ~28% CAGR while EPS has grown at over 41% CAGR!

Read this Balkrishna Industries stock story to know why it made it easily to our shortlist of promising mid-cap stocks – that our in-depth process for hand-picked stock-picks throws up.

There are a few questions that came up during our detailed analysis on Balkrishna Industries, its prospects, and risks as we see it. (of course that is entirely based on published sources and without the benefit of a meeting/interview with Management).

We put forward these questions to Balkrishna Industries Management with a request for a meeting/visit to its premises. We met the CFO Mr B K Bansal and spent more than 2 hours with him trying to understand the business opportunities and challenges ahead.


Questions for Balkrishna Industries Management

1.     POST-EXPANSION ACHIEVABLE PRODUCTION CAPACITY OF ~230,000 MTPA. AGRICULTURAL TIRES (65%), OTR TIRES (29%), OTHERS (6%).

Please explain to us the current demand-supply situation in Agricultural Tires, and OTR Tires segments. Is demand running far ahead of supplies? What makes for this aggressive expansion of over 80% from current levels? How have you planned for increasing Sales in tandem, or is that a given? What are the risks according to you?

Let me first set the context. The Off-highway Tires business is about $11 Bn globally which is growing at 4-5% annually. We have been growing sales at 25-30% annually for the last 10 years. So obviously we are taking away market share from the more established players. Our current global market share is ~4%.

We have grown sales in FY11 over 40%. If we had the capacities we could have sold much more. There are no doubts in our mind that we can increase sales in tandem with increase in capacities. We have invested in increasing our distribution reach and penetrating deeper in existing markets. We don’t think there are any risks on that front.

2.     PREMIUM PRODUCTS. AGRI RADIAL AND OTR RADIALS. BKT IS THE LARGEST MANUFACTURER OF FULL RANGE OF RADIAL TRACTOR TIRES FROM ASIA.

How much of the post-expansion capacity is planned for premium products like Agri Radials and OTR Radials? What is the revenue contribution from Premium products currently and is there going to be increasing focus on premium segments?

Radial/Non-radial products is roughly 30:70 in our Sales mix today and is likely to go upto 40:60 with increased capacities being available. There is little higher contribution from Radials segment but not by very much.

3.     OFF-TAKE FROM GLOBAL MAJORS LIKE MICHELIN AND VREDESTEIN CURRENTLY FORMS 6% OF TOTAL SALES.

With large capacities available from BKT especially in premium segments, do you foresee greater interest from Global majors in increasing off-takes from BKT. We know that OEM market margins are lower than the Replacement market, but how are the margins in the Off-take segment?

There is lot of interest from global majors to increase off-takes from players like Vredestein, Trelleborg, Nokian. The margins are also better. However we are not very interested in pursuing that as we believe BKT is a good brand we would rather invest in increasing our market share. We have had offers for a JV from Vredestein too – the enticement is access to more markets through their network and better technology. We have not taken these up as we feel we can handle Technology and we know how to market our products from the experience gained in the last 10 years.

We maintain a certain level of engagement with these players as there are a few things that we do learn form them from time to time. The engagement levels will remain same at some 5-6% of total sales, unlikely to touch something like 10-12% levels.

4.     INDIAN MARKET SHARE CURRENTLY FORMS 11% OF SALES AND MOST OF IT COMES FROM OTR SALES. THE INDIAN EARTHMOVING AND CONSTRUCTION EQUIPMENT INDUSTRY IS MEANWHILE EXPECTED TO GROW FIVE FOLD FROM USD 2.3 BILLION TO USD 12 –13 BILLION BY 2015.

Would we see an increasing focus on the Indian OTR tires segment once you do not have any constraints on the capacity front? Who are the existing players in this market –same Michelin, Titan, or there are others? What are their market shares, and how far behind is BKT.

In the Indian market we have chosen to concentrate mainly on the OTR Earthmoving and construction equipment segment. We are not present in the Agri-Tires segment and unlikely to pursue it.

You see in India agricultural tractor use is usually of less than 50 HP. In the developed markets tractors use go as high as 200 HP. They use different equipment for different seasons, even different crops. The Agri tires mix is pretty diverse.

The OTR segment in India comprises some 11% of our Sales. Yes there will be a higher focus from us on this segment and OTR segment sales in India should go up to 20% levels from here with the increased capacities. We do not face international competition here, but its mostly MRF and Apollo.

5.     GLOBAL COMPETITION. MICHELIN. TITAN. OTHER PLAYERS LIKE ALLIANCE FROM DEVELOPING MARKETS HAVING SIMILAR ADVANTAGES AS BKT HAVE EMERGED ON THE SCENE TOO.

Michelin 2008 Investor Presentation listed BKT as serious competition in Europe and showed BKT’s share as 3%. Kindly explain what has changed in the last few years. Do you still enjoy the 30% price differential? If there is a demand-supply mismatch situation, the bigger players also must have invested in creating larger capacities?

In Europe BKT has grown much stronger in the last few years and commands 9-10% market share. Price differential has narrowed to something like 25%.

Mehensarias (Alliance Tires) have a strong technical background, they have the Capital backing them up, the benefit of the BKT experience till 2005/6, and have lined up substantial capacities by now, and may well replicate most of the advantages that BKT today enjoys. How closely do you track local competition? Any changes in tactics/plans to tackle this emerging threat.

Yes they are strong players. And yes they should be able to replicate most of the advantanges that we enjoy, eventually.

They invested in a 30000 MTPA capacity in Chennai for Phase I. There were some issues and a strike, and they have deferred the deciaion ton invest for the planned Phase II expansion of another 30000 MTPA. they are looking for a new location. Their Israel facility has ~40000 MTPA capacity.

They way we look at this is simple. It has taken us 10 years to reach where were today. Anyone striving to reach our levels has to go through the same process, they may be able to do it faster but it will still take them 8-10 years. It takes atleast 3 years to stabilise production and reach peak capacity utilisation levels. The 90,000 MTPA capacity we have coming onstream next year will still take us 3 years to reach peak levels, or roughly 30000 MTPA each year. There is no magic formula or shortcuts.

From ground zero, it will take anyone 5 years to reach peak utilisation levels from a 90000 MTPA capacity installation!

So, BKT will have a unchallenged run for the next 5 years, atleast?

That’s right the next 5 years should see an unchallenged run, at the least. And other than Alliance we aren’t aware of any other player wanting to take on this complex niche, which has seen exits from several big players.

The new entrants in a bid to capture greater market share faster may resort to undercutting? Is that not a real threat?

That risk is probably very remote. The market is big and there is enough room for new players to sprout and thrive without resorting to undercutting other small players. Its only when BKT gets to the size of say 25% market share that perhaps this may become a real threat for us.

If it’s possible, kindly share why Mahensarias (who now run Alliance Tires) had to split from the Poddars in 2006. They were actually running the show in BKT till then. To the Poddars’ credit though, BKT has done exceedingly well in the last 5 years since the split.

Well the MD’s brother-in-law was Mr Mahensaria. Mahensaria held 5% in the company and 10% through Promoter Holdings. The Poddars didn’t have a second generation to run the company and thus Mahensarias played the Executive role. To be fair the strong foundation for BKT’s success today was laid by the Mahensarias when they ran this company till 2006, and they had done a very good job. Then the Poddar 3rd generation came along and were ready, naturally they wanted to take back control. The Mahensarias understood and accepted this situation graciously. The parting was perfectly amicable. Today Mr Arvind Poddar is assisted by his son and nephew in running the show at BKT.

There was no non-compete agreement as it was made clear by the Mahensarias that this is the only business that they knew how to run, and it was made clear that they will be attempting to start building a business from scratch.

Its good that they now have secured funding. Both sides are still on very good terms. There is no reason for under-cutting and killing each other, when the market is ripe and low hanging fruits are still available.

6.     EUROPE AND AMERICAN MARKETS. FAST GROWING ECONOMIES SUCH AS BRAZIL, ARGENTINA, COLOMBIA, COSTA RICA

Tell us a little more on the penetration that you are making in your fastest growing markets, especially the Americas. Which of these markets will provide you most of the sales growth? Are you able to get similar margins form the South American growing markets?

BKT had initially focused on European markets and is gradually increasing its presence in Americas, which is our fastest growing market, and that is mostly the US. South American markets are also seeing increasing presence but they are smaller markets. Margins are more or less the same.

7.     IN FY11 BKT REGISTERED AN IMPRESSIVE 40% PLUS GROWTH IN SALES, BUT SUFFERED AN 11% DEGROWTH ON PAT FRONT DUE TO THE REVERSAL IN RAW MATERIALS PRICING.

How do you see FY12 panning out? You mentioned order booking of 5 months in the last Conference call. Are you protected on the margins front in booked orders?  At what levels 18-20%? What is a sustainable level for the full year?

Yes on the booked orders we are protected on the margins front at 18-20% OPM levels.We have seen Price peaks at $6400/tonne, then it corrected somewhat to $5100 levels. Since the last 2 months prices are stabilising at $3500-4000 range. Our understanding is that it will settle lower at $3000+ levels.

How do you do this forecasting or reach an understanding on what levels are likely? Is it that demand supply gaps have narrowed with increased production this year?

Well no such thing as demand supply gap. If that was the reason we should have seen at least some people complaining that rubber is not available the quantity they want. In this whole hullabaloo we did not come across a single situation like that – it was always available at a certain price. It was purely speculative plays!

So far as we can make out and understand from those who track these markets well, rubber prices are expected to stabilise at lower levels this year.

If prices are expected to soften in coming months, how are you booking your current orders?

Well we have not seen anyone rolling back prices since the last time hikes were announced. Neither have we.

8.     FINANCIAL STRENGTH. BKT HAS ALWAYS MAINTAINED PRUDENT DEBT LEVELS IN THE RANGE OF 0.7X TO 1.3X. CAPEX FOR FY12 OF ~700 CR IS GOING TO BE A BIGGER BURDEN ON THE BALANCE SHEET THIS YEAR.

We may see Debt-to-Equity levels touching 1.5x or so. Please tell us a little more on the financing costs. Working Capital/ Sales has risen to over 32% of Sales, and is likely to go further up as inventory levels go higher. Is Working Capital also financed in foreign currency? What will be the overall financing cost? Will it be lower than your traditional 4-5%?

The current debt is about 600 Cr. Of the 700 Cr we will be spending about 500 Cr this year and 200 Cr will be used in FY13. So I think we will still be within D/E levels of 1.3x. Yes Working Capital finance is also in foreign currency now. Our overall financing cost will be around 2%

9.     EUROPEAN ECONOMY IS TROUBLED. THE CURRENT BAILOUT TO GREECE MAY NOT BE ENOUGH AND THERE ARE FEARS THIS MAY LEAD TO MORE SUCH BAILOUTS FOR GREECE AND THE OTHER COUNTRIES LIKE IRELAND, SPAIN TOO. THE EURO AS A CURRENCY IS UNDER TREMENDOUS PRESSURE. BKT DERIVES ~47% OF REVENUES FROM EUROPE.

What are BKT’s views on the risks from this front and what are its plans to mitigate these risks?

Well these fears have been around for last 3 years or so. we hear them all the time but from customers on the ground we have heard no such fears -they expect business as usual. If there is some turmoil, the Agri-Tires situation (65%) will probably be okay because farming & food business will still carry on. The OTR segment may see some pressures.

The Euro currency front is a cause for concern say if it corrects to being equivalent to dollar levels. We can’t do much on that except the simple 1 year forward contracts that we take to hedge for upto a year ahead.

10.EXPORTS ACCOUNT FOR ~90% OF SALES. MORE THAN 70% EXPORTS ARE TO DEVELOPED  MARKETS.

How soon will emerging economies together account for something like 40-50% of Sales? What are BKTs views on entering the Chinese market?

In the post expansion situation of 230,000 MTPA capacity the export dependence on developed markets will continue. The mix may change – Europe may come down to 40% levels from 47% and US market may increase to 30% from 23% currently. Some Other markets may inch up to 4-5%.

Post the 2015 expansion, there may be a higher tilt to emerging economies. Chinese market has established players -but they operate solely within China. We have no plans of entering that market.

11.SUSTAINABLE COMPETITIVE ADVANTAGE. WE HAVE SEEN BKT HOLDING ITS ADVANTAGE THROUGH THE LAST 10 YEARS AND GROWING MORE THAN 10X IN THE SAME TIME IN SIZE.

What are the reasons you have continued to enjoy competitive advantages and have not faced serious threats from emerging or bigger players?

As you know our niche is known by its characteristics as a low volume-large varieties market. The approach needed for production and servicing this niche is completely different from the mainstream high volume commercial tire production market. It needs completely different processes, a completely different factory and a different set of people.

The business is very SKU driven. The larger the number of SKUs that you can manage the larger business you can attract. The reason is because our customer businesses need to run a very tight ship because of the low volumes and large varieties. They will always prefer to deal with a vendor who can support all their requirement sunder one roof, rather than deal with multiple vendors.

For the bigger players, the OHT segment is very small, less than 10% of their business. But if they have to grow this smaller segment profitably, they would have to shift a considerable focus away from their main commercial tire business. Many big players with OHT presence have chosen to exit from the niche.

If we look at tractor tyres in India we see mostly MRF or Goodyear. Why has MRF for example not found it profitable to compete with you in exports for Agricultural tires? It’s not that MRF or Apollo or any of the tire biggies in India aren’t aware that BKT operates at something like 2x their margins and returns!

True, these players have been making some noises from time to time but they have all been running small OHT operations, and the size continues to remain small. For them to scale up the OHT segment would mean a considerable shift of focus from their main bread & butter business, for reasons as explained before. They have been unable/unwilling to take those steps.

Why has no one from the mainstream tire industry ventured out in off-highway tires in a big way despite clearly seeing a decade long growth story unfolding before them?

Exactly the same reasons.

And for the first time there is hint of serious competition coming from players like Alliance who seem to be capable of replicating the same advantages as BKT. Why do you think you will retain sustainable competitive advantages for the next 5 years?

The number of SKUs that we have built and are managing. Its not that you can turn on a switch and you have a set. Each SKU takes its own process and time, endurance testing and the like which varies from product to product. It will take anyone atleast 8-10 years to reach here.

Like most businesses isn’t it true of your business too that 80% of the business comes from 20% of the products? So what prevents a competitor from fast-tracking on the most important SKUs and Alliance for example could be well are of those characteristics.

Well no such luck! Our business is spread more or less evenly across the whole SKU range. The more the number of SKUs we have, the more business we can attract.

In other words, is it fair to surmise that having large number of SKUs is your actual moat – or main competitive advantage today?

It is!

12.MANUFACTURING PLANTS & AUTOMATION

The modern automated plant at Chopanki (60000 MTPA) is reportedly delivering 110 TPD at 75-80% utilization. Both the plants are functioning on three shifts per day on a 7 day week. But your Bhiwadi plant (60000 MTPA) is over 18 years old and reportedly still delivers about 135-140 TPD close to 100% achievable capacity. Is this true??

 Actually the Bhiwadi plant was acquired from Govind Rubber a subsidiary -which makes bicycle tires in 2001. They had 2 plants one of which was lying idle. That plant was acquired by us and the whole set up was revamped. So its like a 10 yr old plant today. Our Walud plant is the oldest.

This is an amazing record and speaks well of Management’s ability to maintain its plants and progressive de-bottlenecking. It also indicates maneuverability and the expertise of the company to implement a complex manufacturing process and switching it flexibily to accommodate client specific requests.

Both Bhiwadi and Chopanki plants are exactly similar. They have similar levels of automation or manual interventions. The Chopanki plant is new and as mentioned before will need progressive de-bottlenecking to reach peak utilisation levels.

13. MOULD DIVISION MERGER. BKT REPORTEDLY HAS 500-600 MOULDS USED FOR VARIOUS APPLICATIONS IN VARYING SIZES AND DESIGNS LAID IN THESE TWO PLANTS, ALL MANUFACTURED AT BKT’S MOULD MANUFACTURING PLANT AT DOMBIVALI, MAHARASHTRA. THIS DIVISION IS NOW BEING MERGED WITH BKT?

Kindly tell us a bit more on the advantages of having your own mould manufacturing plant. And why this decision now to merge it with BKT?

We had acquired a plant that basically had land. We thought this land could be best used for expanding our mould making facility in BKT moulds which was adjacent. Thus BKT Moulds was merged with BKT. 

14.DIVIDEND POLICY. BKT USED TO BE PAYING ABOVE 20% OF EARNINGS AS DIVIDEND TO SHAREHOLDERS. THIS HAS BEEN GRADUALLY COMING DOWN AND HAS SEEN DRASTIC CUTS IN THE LAST 2 YEARS. FY10 DIVIDEND PAYOUT WAS AT 6.48% AND FY11 IS EVEN LOWER

Can you please clarify the Managements thinking on this front? What kind of dividends can we expect in the future?

We do not have a Dividend policy written down. But we are clear that we will pay dividends – we must maintain our uninterrupted dividend paying record. The quantum of dividends paid got reduced yes, during the last credit squeeze, liquidity was very tight. We reckoned that we could better utilise the proceeds by paying lesser dividends and consequent taxes, which otherwise we would have had to raise from the market.

We have taken into consideration views on Dividends from several Investor groups, and in happier times we will try and restore some balance there.

15. $1 BN IN SALES?

What are the important milestones on the way? With a Sales target of 130000- 135000 MTPA for FY12 we are probably doing ~2300-2400 Cr in Sales?

No actually we should do better at some 2700 Crs. We have locked in orders booked at higher realisations.

With 230,000 MTPA achievable capacity from 2HFY13, what kind of Sales is probable in FY13? 3000-3500 Crs?

FY13 would probably see ~30,000 MTPA additional capacity coming onstream. So yes Sales could be in that range.

What kind of market share will this transalate to for BKT? When will we see BKT claiming a 10% market share in the global off-highway tires market?

$ 1 Bn will happen by 2015. The global market by then would be close to $12 Bn by then and a 10% market share will translate to over a Bn$ sales.

16. CHALLENGES AHEAD. WE HAVE TRIED TO COVER THE ISSUES BEFORE THE COMPANY AS WE SEE IT FROM OUR LIMITED UNDERSTANDING OF BKT AND THE INDUSTRY.

Please elaborate on the main challenges before the company as it is scaling up in a big way and trying to address the huge opportunities before it.

Well we see the Challenges mainly on 3 fronts.

First Execution Challenges – and this includes resources, labour, training, handling multi-locational issues while executing on-time. Second challenge is handling the RM situation well, and lastly there are challenges on the Currency front like we discussed before.

So Marketing is not a challenge?

No, Marketing is NOT a challenge!


Disclosure(s)

Nagabrahma: No Holdings in the Company; ;
Donald Francis: No Holdings in the Company; ;
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