HEG Ltd Management Discussions

AN ECONOMIC OVERVIEW

GLOBAL ECONOMY

The global economy demonstrated remarkable resilience against all odds.

Despite facing various challenges, The economic landscape in 2023 exhibited resilience, influenced by several factors. The world economy experienced moderate growth, estimated at around 3.2%, compared to The 3.5% growth rate in 2022.

Advanced economies witnessed a slowdown, with growth declining from 2.6% in 2022 to 1.6% in 2023. In contrast, emerging markets and developing economies saw a modest increase in growth from 4.1% in 2022 to 4.3% in 2023. Global inflation also decreased steadily, from 8.7% in 2022 to 6.8% in 2023, due to tighter monetary policies aided by lower international commodity prices.

However, The current pace of expansion remains subdued compared to historical standards, reflecting factors such as restrictive monetary policies, reduced fiscal support, and sluggish underlying productivity growth due to near-term factors such as elevated borrowing costs and long-term impacts from The COVID-19 pandemic, Russias invasion of Ukraine, The conflict in Gaza and Israel, weak productivity growth, and increasing geo-economic fragmentation.

Despite significant interest rate hikes by central banks to restore price stability, The economy has shown unexpected resilience. is resilience is largely attributed to The ability of households in major advanced economies to utilise substantial savings accumulated during The pandemic. As global inflation began to decline from its peak in mid-2022, economic activity continued to grow steadily, contradicting predictions of stagflation and a global recession. The steady growth in employment and income can be attributed to supportive demand developments, including higher-than-expected government spending and household consumption, and a supply-side expansion, particularly an unexpected increase in labour force participation.

With inflation moving closer to target levels and central banks in many economies beginning to ease monetary policies, a tightening of fiscal policies is anticipated to address high government debt through increased taxes and decreased government spending, which is expected to exert downward pressure on growth.

The Outlook: Steady Growth

The global growth outlook for 2024 suggests a steady but slow recovery. The world economy is projected to continue growing at 3.2% during 2024 and 2025, The same pace as in 2023.

A slight acceleration is expected for advanced economies, where growth is projected to rise from 1.6% in 2023 to 1.7% in 2024 and 1.8% in 2025. Modest stable growth is expected in emerging markets and developing economies at 4.2% in 2024 and 2025.

Global inflation is expected to fall from an annual average of 6.8% in 2023 to 5.9% in 2024 and 4.5% in 2025, with advanced economies expected to return to The ir inflation targets sooner than emerging markets and developing economies.

INDIAN ECONOMY

India served as a powerhouse, contributing to global economic growth and optimism.

Indias GDP growth rate is estimated at 7.8%, as per The IMF. India sustained its economic resurgence fueled by strong domestic consumption and increased Government-funded capital investment.

The Index of Industrial Production (IIP), which measures industrial activity, grew by 5.9% between April 2023 and February 2024; it is expected to moderate in March 2024 and grow between 3.5% and 5%.

Increased geopolitical tensions and heightened adversities on The Red Sea global trade route dampened exports from India. Indias exports dropped by about 2.4% annually in value terms during FY24, while exports to The US declined by 1%. Exports to Europe rose by only 1.47%, according to The official data from The commerce ministry.

India recorded its highest GST collection since its launch, reflecting robust economic growth and administrative efficiency. Total gross collections were C20.18 trillion, an 11.7% increase from The previous year.

Outlook: Continuing resilience

India continues to be The fastest-growing major economy. The economic growth outlook for FY25 looks positive despite headwinds such as hardening crude oil prices and The global supply chain bottleneck. Experts predict India will become The worlds third-largest economy, overtaking Japan and Germany. Projections by The IMF forecast high growth rates for India at 6.8% in 2024 (FY25) and 6.5% in 2025 (FY26).

This optimistic trajectory can be attributed to The Governments increase in capital expenditures on infrastructure projects and implementation of investment-friendly policies. ese initiatives are fostering a conducive environment for economic expansion.

OVERVIEW OF THE STEEL SECTOR

WORLD STEEL

Steel demand remained soft due to challenging conditions prevalent across The industrial world.

Steel is a reflection of industrial activity. With increased turbulence in The economic world owing to raging human conflict, inflationary headwinds, fragile trade equations, and logistics, industrial activity in most parts of The world, especially The developed nations, steel demand remained tepid.

Global crude steel production remained flat in 2023 compared with The previous year, with an output of 1888.2 million metric tonnes (mmt) against 1888.7 mmt in 2022.

According to The World Steel Association, top producer Chinas output remained fiat at: 1019.1 mmt in 2023 compared to The previous year. The downturn in The real estate sector and its ripple effects on The financial market adversely impacted steel demand.

In 2023, India, The worlds second-largest steel producer, saw a notable increase in production, up by 11.8% to reach 140.2 mmt. Meanwhile, Japan, ranking third globally, experienced a slight decline in production, totalling 87 mmt, representing a 2.5% drop. The United States, on The Other hand, witnessed a modest increase in crude steel production, rising by 1.1% to hit 81.4 mmt. Conversely, Turkeys steel production faced a downturn, falling by 4% to reach 33.7 mmt.

The European Union recorded a decrease in crude steel production, reaching 126.3 mmt, marking a decline of 7.4% compared to 2022. Germany, as Europes leading steel producer, experienced a notable reduction in output, hitting its lowest volume since 2009 at approximately 35.4 mmt, reflecting a 3.9% decrease year-on-year. is decline was attributed to weak market fundamentals and elevated international electricity prices.

Due to weak industrial and manufacturing activities, steel prices remained subdued through The year in most steel-consuming markets.

Outlook: The global economy continues to show resilience despite facing several strong headwinds. While The world economy will experience a soft landing from this monetary tightening cycle, The World Steel Association (WSA) predicts a modest steel demand rebound in 2024 and 2025. It forecasts a 1.7% rebound in steel demand in 2024, reaching 1,793 mmt, and a fur Their 1.2% growth in 2025 to 1,815 mmt.

A boost in steel demand could come from "faster than expected disinflation" along with fur Their monetary policy. Major risks to growing demand may be seen in fur Their escalation to geopolitical tensions, continuing inflation, and high and rising public debt, causing fiscal consolidation in major economies.

Steel demand in China in 2024 should remain at The 2023 level as real estate investments continue to decline. The corresponding steel demand loss will be offset by growth in steel demand from infrastructure investments and manufacturing sectors. In 2025, Chinas steel demand could decline by about 1%.

India is projected to lead steel demand growth with an 8.2% increase during 2024 and 2025, driven by strong growth in infrastructure investments. Other emerging regions like MENA and ASEAN are expected to show accelerating growth in The ir steel demand over 2024 & 2025.

The developed world is expected to register a strong demand recovery, with 1.3% growth in 2024 and 2.7% in 2025.

US continues to show healthy steel demand fundamentals. The countrys steel demand is expected to return to a growth path in 2024, supported by robust investment activity, which has received a boost from The Inflation Reduction Act and a gradual recovery in housing activity. EU expected to see a meaningful recovery in steel demand in 2025.

Excluding China, WSA projects a comparatively strong 3.5% annual global growth in steel demand for 2024 and 2025.

INDIAN STEEL

India stood out as The driver of steel demand and production.

India has emerged as The strongest driver of steel demand growth since 2021. It will continue to charge ahead with 8.2% growth in its steel demand over The near term, driven by continued growth in all steel-using sectors, especially by continued strong growth in infrastructure investments.

Production: Crude steel production surged by 12.9% to 143.6 mmt in 2024, up from 127.2 mmt in The previous fiscal. is uptick in steel production is significant, especially considering The National Steel Policys objectives. The Government aims to ramp up Indias annual steel manufacturing capacity to 300 mmt and increase per capita steel consumption to 160 kilograms by 2030.

Consumption: Domestic finished steel consumption saw a notable growth of 13.4%, reaching 136 mmt. is increase in consumption was primarily driven by improved demand from The automotive and infrastructure sectors.

The infrastructure and construction sectors demonstrated resilience, buoyed by investments largely supported by government-funded development projects. The improvement in demand from The automotive industry during FY24 was owing to a growing focus on electric vehicles (EVs).

External Trade: India was a net importer of finished steel during The FY24. The country imported 8.3 mmt of finished steel between April and March, up 38.1% from a year earlier. Indias finished steel exports were at 7.5 mmt during 2023/24, up 11.5% on year-on-year. Exports jumped due to increased demand for alloy steel, supported by non-alloy and stainless steel. Imports grew primarily owing to a larger inflow of non-alloy steel; alloy and stainless-steel imports witnessed a drop over The previous year.

Outlook: Indias steel consumption is expected to rise steadily, buoyed by The Governments thrust on creating world-class infrastructure. The infrastructure capital investment outlay for FY24 jumped by 33% to C10 trillion, about three times The amount allocated for 2019–20. Additionally, it is anticipated that Indias focus on sustainable solutions will lead to a rise in The use of stainless steel in home, process, and traditional applications, as well as in developing critical industries like aerospace, defence, and The green and blue economies.

Long-term estimates: According to a report by SteelMint India, Indias steel demand is expected to grow at a CAGR of 7% to touch 190 mmt by 2030. The demand will be largely fuelled by The construction and infrastructure sectors, which will contribute 60-65%. Other sectors contributing to demand would be The automotive, real estate, and renewable energy sectors.

• Crude steel output +12.9% • Finished steel production +12.4% • Finished steel exports +11.5% • Finished steel imports +38.1% • Finished steel consumption +13.4%

The EAF Steel Sector

Decarbonisation to drive EAF capacity building

Decarbonisation has become a global imperative and priority for countries, governments, corporations, and society. The production of steel is a CO2 and energy-intensive industrial activity. The largest-emitting manufacturing sector on our planet is steel production, which is solely responsible for a staggering 11% of global carbon dioxide emissions and around 30% of total industrial emissions. Decarbonising The steel industry is essential to meet climate goals and address The rising demand for green steel from industries.

The steel industry is a passionate participant in The global quest for environmental conservation. Carbon emissions may be an inevitable byproduct of steel manufacturing, but decarbonisation efforts are driving a transition in steel.

Steel can be produced via two main processes: The Blast Furnace-Basic Oxygen Furnace (BF-BOF) route and The Electric Arc Furnace route (EAF). Currently, The BF-BOF route accounts for around 70%, and The EAF route accounts for around 30% of global steel production. The BF-BOF route emits nearly 4 times more CO2 than The EAF route.

The electric arc furnace (EAF) route has emerged as The main decarbonisation pathway for green steel production, and There is no doubt that it is The fastest way to produce net-zero-emission steel. EAF steelmaking is more environmentally friendly and provides flexibility in production volume and manufacturing capacity planning.

With The worlds focus firmly on carbon neutrality, this innovative technology offers a sustainable and cost-effective solution that will undoubtedly transform The sectors landscape. As a result, electric arc furnace steelmaking is expected to continue to grow and become The primary method for steel production, leading The way towards a greener and more sustainable future. Graphite electrodes are an essential component for producing steel in Electric Arc Furnaces (EAFs).

The proportion of crude steel production (excluding China) from The EAF route has grown from around 44% in 2015 to nearly 50% in 2022. Industry experts predict that by 2030, with a focus on green steel production (excluding China), EAF production will account for approximately 60% of The market and 80% by 2050. is anticipated growth presents an excellent opportunity for our business, as we expect a substantial increase in demand for graphite electrodes.

A Global perspective

Europe: Europe takes centre stage regarding decarbonisation in The steel industry. Besides working tirelessly over 20 years and attaining fruitful results, The European Union (EU) has set itself The ambitious target of achieving net zero emissions by 2050 as per The European Green Deal. Besides introducing regulations such as The Emissions Trading System (ETS) and The Carbon Border Adjustment Mechanism (CBAM), many regional steel producers are transitioning to EAFs.

The US: Close to 70% of The steel production is through The EAF route. Combining EAF technology with scrap recycling and mini-mills operations is a defining feature of The American steel sector. New capacities coming up in this nation will adopt The EAF route; some legacy capacities are moving to The EAF route to enhance The sustainability of business operations.

China: The nation has been late in adopting The EAF route. A little more than 10% of its steel is produced through this route. According to The Ministry of Industry & Information Technology, crude steel produced via electric-arc furnaces will exceed 15% by 2025 and 20% by 2030 to aid Chinas goal of decarbonising The steel industry. According to an action plan published by Chinas State Council, China will continue to promote The development of EAF steelmaking to reduce carbon emissions.

Other regions: Due to its extensive steel production, The Asia-Pacific region is anticipated to hold The largest share of The global EAF market. Encompassing countries like Japan, South Korea, and Australia, The Asia-Pacific is witnessing a diverse range of decarbonisation efforts in The steel industry. While some countries have made significant progress in transitioning to electric arc furnaces and renewable energy, Others are still contemplating The transition. Collaborative initiatives such as The Asia-Pacific Partnership on Clean Development and Climate facilitate knowledge sharing and technology transfer to accelerate regional decarbonisation efforts.

Luxembourg-based ArcelorMittal, The largest global steelmaker in Europe, is making ongoing investments to convert a sizable percentage of its former coal-based blast furnace/ BOF mills into EAF capacity.

Source: Recycling Today

The Graphite Electrode Sector

The graphite electrodes industry has an exceptionally positive outlook for The long term.

Globally, steel manufacturers are dedicated to reducing The ir carbon footprint and decarbonising The ir production processes. According to industry experts, electric arc furnace steelmaking is believed to hold significant potential for The future of The steel industry.

As mentioned above, graphite electrodes are an essential component used as conductors inside EAFs. Electricity passes through The electrodes, forming an arc of intense heat that melts The scrap steel located in The furnace shell. The tip of The electrode can reach 3,000 degrees Celsius (for reference, this is approximately half of The temperature of The Suns surface). Currently, graphite is The only commercially available material that can sustain such high heat levels within The EAFs.

According to industry sources, The current capacity of Graphite Electrodes outside China is approximately 750,000 tonnes. The industry is highly consolidated, and HEG has recently expanded its production capacity to a staggering 100,000 tons per annum at one location. HEG is now The third-largest graphite electrode company among The five major players in The Western world.

While The short-term prospects for graphite electrodes appear challenging owing primarily to geopolitical instability that has impacted industrial activity in developed nations, The mid and long-term demand for graphite electrodes looks promising, considering a global thrust on adopting The EAF route for manufacturing steel.

In line with decarbonisation efforts, to date, as per The Companys information, more than 100 mmt of new Greenfield/ Replacement EAFs capacities have already been announced, with US and EU leading The capacity expansion.

Out of this, about 9–10 mmt is already in operation, and anOther ~30 mmt is expected to be in operation between now and The end of 2025.

We expect GE demand to increase gradually by around 150 to 200,000 mt by 2030, a significant increase over The current demand for graphite electrodes ex-China.

We remain one of The most cost-competitive and quality producers of graphite electrodes globally, and we are fully ready to capture any available opportunities.

SWOT Analysis

Strengths

Established technology that is closely guarded.

Uncluttered industry with a few selected players on a global scale.

No new capacity has been announced for graphite electrodes in The Western world.

Weaknesses

The industrys fortunes are closely linked to steel demand.

Opportunities

Decarbonisation measures in The steel sector will increase The share of EAF-based steel production and The demand for graphite electrodes.

Threats

Diverting key inputs for Other products like EV batteries are in high demand globally.

Operational Performance

The worlds largest single-site plant and now The third-largest graphite electrode company in The Western world, with a capacity of 100,000 tons per annum.

The operating performance for The fiscal year 2023-24 primarily reflects The influence of a subdued market environment attributed to various global factors that have introduced economic volatility and impacted global trade. Despite an increase in sales volume, The Companys overall performance has been affected due to lower realisation compared to The preceding fiscal period.

Despite pricing pressure on graphite electrodes, The Company successfully operated its facility at 81% utilisation.

The Company had undertaken an expansion project to increase production capacity from 80,000 tons per annum to 100,000 tons per annum. During The third quarter of fiscal year 2023-24, we completed The expansion project, and The new facility is operating smoothly. Due to The long duration of The production cycle of our products, commercial production from our expanded capacity will be in The market during The current year.

Power generation:

The Company has a 76.5 MW captive power generating capacity comprising of Theirmal and hydel power generating assets. The Theirmal plants remained closed throughout The year due to high coal prices making operations unviable.

However, our hydel plant continued to operate as per plan with a record generation of 7.74 crore units with revenue of C33.87 crores.

Financial Performance

A volatile ecosystem casts a shadow on The Companys financial performance.

The dull global steel scenario shadowed The Companys financial performance. While sales volumes improved over The previous year, pricing pressure impacted realisation.

Revenue from Operations remained at The previous years level - C2395 crores in FY24 against C2467 crores in FY23.

Inflationary headwinds, increased logistics costs and high-cost raw materials impacted business profitability. As a result, EBITDA and Net Profit dropped by 28% and 49%, respectively, over The previous year.

Net Cash Flow from Operations increased appreciably from C114 crores in FY23 to C615 crores. The jump was owing to a sharp decrease in inventory, which released funds that were locked in working capital. During The year, The Company invested C322 crores towards completing its brownfield project – it commenced operations in The third quarter of FY24. The Company expects to generate sizeable returns from this strategic initiative over The medium term.

Networth increased as business surplus (after paying dividends) was ploughed into The operations – it stood at INR 4145 crores as of March 31, 2024, against INR 4077 crores as of March 31, 2023. Thereturn on Networth stood at 5.63% in FY24 against 11.60% in FY23.

Significant changes (i.e., change of 25% or more as compared to The immediately previous financial year) in Key Financial Ratios, along with explanation, are as under

Particulars	2023-24	2022-23	Variance	Reasons for change
Operating Profit Margin (%)	8.74	20.97	58%	Opearting profit margin has decreased due to fall in sale prices
Return on Net Worth (%)	5.63	11.60	51%	Net profit has decreased
Net Profit Margin (%)	9.73	18.70	48%	Net profit margin has decreased due to fall in sale prices
Interest Coverage Ratio	9.82	24.09	59%	Increase in interest cost of working capital loans
Current Ratio	2.23	2.16	-3%
Debt-Equity Ratio	0.15	0.18	18%
Debtors Turnover Ratio	4.77	4.52	-6%
Inventory Turnover Ratio	0.87	0.76	-15%

Transaction of The Company with any person or entity belonging to The promoter/promoter group which holds (s) 10% or more shareholding in The Company is given below:

There was no transaction between The Company and any person or entity belonging to The promoter /promoter group that holds (s) 10% or more shareholding.

Internal Control and its Adequacy

The Company has a sound system of internal controls to ensure The achievement of goals, evaluation of risks and reliable reporting of financial and operational information. is efficient internal control procedure is driven by a robust system of checks and balances that ensures The safeguarding of assets, compliance with all regulatory norms, and procedural and systemic improvements periodically.

The Company uses an ERP (Enterprise Resource Planning) package supported by in-built controls, guaranteeing timely 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 if any inadequacies arise. The Audit Committee of The Board of Directors fur Their reviews all financial and audit controls.

Quality Management

At HEG, Quality

Management is paramount and an integral part of The Companys culture. Its not just about creating superior-quality products. Its about creating top-notch products far beyond meeting and exceeding customer expectations. From eliminating defects to striving to add value at every stage of product creation, The Company always goes The extra mile to ensure that customers get The best quality products.

Quality Management runs from The top floor to The shop floor and sometimes vice versa, as The Company encourages everyone to develop innovative ideas for enhancing product and service quality.

At The Shopfloor

HEGs manufacturing unit commands high operational efficiency with its institutionalised SOPs. is gives HEG an edge as The Company can adopt a centralised approach, which naturally fosters better control over various operations.

The Company has a two-pronged approach to quality—process-wise and product-wise. Simply put, HEGs quality products result from stringently applying quality processes in manufacturing and Other aspects. is also helps minimise wastage.

Rigorous quality checks are conducted on The manufactured products. In summary, stringent quality checks are carried out right from The initial stage of choosing raw materials and continue throughout The manufacturing and post-manufacturing stages.

Quality training is frequently imparted across hierarchies to ingrain The spirit of producing The best quality products. HEG also always stays alert to any potential for upskilling. Happy customers and long and healthy business relations bear testimony to The Companys quality standards.

At The Top Floor

HEG has embraced business process automation across The organisation to minimise The possibility of human errors while offering prompt and effective customer services, both internally and externally. Adopting a robust mechanism of checks and balances throughout all levels of The organisation has highly enhanced product quality.

The senior marketing and management teams regularly interact with key customers to obtain feedback on fur Their enhancing product quality. Experts thoroughly analyse all such feedback before incorporating it into operational procedures.

HEGs drive for excellence has made it a prestigious service provider to The worlds top 25 steel producers.

Innovation

Some of The most renowned scientists lead our Research and Development team, and The y have been making significant strides toward enhancing different processes and product quality.

is team also develops newer carbon materials and carbon alternatives for energy, Theirmal, and environmental management. While looking for novel ideas to enhance The Companys operations to increase growth and profit, The R&D team collaborates with renowned research centres to identify novel, sustainable future expansion strategies.

Human Resources

The Companys skilled, accountable and highly motivated team is critical to sustainable growth. It is HEGs priority to keep employees informed, involved and connected.

The Company continues to invest in people development. The HR department emphasises frequent technical, business and behavioural upskilling. Employees are encouraged to participate in exciting, fun-filled team-bonding activities, fostering teamwork and cooperation.

The Company also celebrates festivals and national events to streng The n team dynamics outside The workplace. The IT department developed applications that improved organisational transparency and customer connectivity.

Risk Management

HEG has an effective risk management process that identifies risks associated with The business and develops procedures to eliminate The m. The Companys structured Enterprise Risk Management (ERM) framework ensures The businesss profitability and is paramount to HEGs decision-making. The ERM Framework follows an annual process of setting objectives, identifying key risks on an ongoing basis, developing a mitigation and action plan, and monitoring leading indicators and planning gaps.

Demand Risk

Demand for graphite electrodes is expected to remain subdued for The current year.

Mitigation Measure

ese are estimates from leading industry experts. ey will impact all graphite electrode manufacturers, including HEG. With some Western players stopping and curtailing operations, The graphite electrode supply is expected to drop in The short term, which should largely balance The demand and supply equation.

Additionally, The Companys edge of being The lowest-cost graphite electrode manufacturer should help it market its output and sail through The dull environment with a minimal impact on its financials. The medium-term outlook for The graphite electrode sector continues to appear promising.

Material Risk

The availability of needle coke is critical for increasing production to optimum levels.

Mitigation Measure

The Company has been in graphite electrodes for more than three decades. rough this journey, it has never faced a shortage of raw materials owing to its long and healthy business relations with The needle coke suppliers, who have sustained supplies even as The Company continued to increase its manufacturing capacity.

Marketing Risk

The Companys additional capacity comes when The prospects of The graphite electrode sector could be more exciting. Marketing The additional output could be a tall ask.

Mitigation Measure

The additional capacity has been set up with an eye on The decarbonisation transition that is playing out in a phased manner over The next 5-7 years. During this period, graphite electrode demand is expected to rise steadily. When that happens, HEG will be ready to meet The additional demand. The Company has strong relations with leading global steel manufacturers and does not see any issue selling The additional output even when The demand could be low in The current year.

Talent Risk

People are critical for executing The Companys plans efficiently.

Mitigation Measure

HEG provides a safe and supportive work environment for its employees. Each employee is well-informed and provided with ample learning opportunities. The Company emphasises a performance culture where employees are empowered to be The ir best. The Company has taken every precaution to ensure The safety of its people, which has gone a long way in building a strong bond with The Company.