In October 2018, the stock price of Ravi Jhunjhunwala owned HEG — a manufacturer of graphite electrodes used in electric arc furnace (EAF) that convert scrap into steel — were soaring. The stock reached an all-time high of 4,950 on October 16, riding on factors such as reduction in supply from China and an increase in steel production primarily through the EAF route. The supply-demand mismatch triggered a rise in the price of graphite electrodes, which led to the company delivering strong performances in the first half of FY19.
With the favourable operating environment and a robust cash flow, a buoyant HEG announced a buyback offer of 7.5 billion. The company decided to buy back 1.36 million shares for 5,550 a share. On November 27, 2018, when the board approved the buyback, the stock price was 4,350.
But since then, the stock price took a beating due to higher imports from China, weakness in steel prices and rise in raw material cost, which are expected to shrink the company’s margins. HEG stock is down by 52% compared to its price (4,350) at the end of November last year.
So when the buyback took place between March 8 and March 22, the investors, as well as promoters, took home almost 2x more money compared to the closing price of 2,059 on March 22. During the buyback, promoters and their relatives tendered shares worth 4.14 billion. As of December 2018, the promoters held a 61.4% stake.
Despite the buyback announced at a higher price, the weakness in the stock price can be attributed to concerns of rising raw material costs and softening of graphite electrode prices. “We expect operating profit margins to decline from supernormal levels of 73.8% in 9MFY19 to 41% in FY20E,” says the ICICI Direct report.
Similarly, even mutual funds are cautious about the growth trajectory of HEG. After increasing their stake from 1.53% in December 2017 to 2.26% in June 2018, they have cut their holdings to 1.21% in December 2018. L&T Mutual Fund and Motilal Oswal Mutual Fund have reduced their stake from 1.59% and 0.3% in March 2018 to 0.83% and 0.1% in December 2018 respectively.
However, foreign investors have continued buying the stock, increasing their holding from 3.09% to 8% over the past four quarters.