Detailed rationale

CRISIL Ratings has assigned its ‘CRISIL A/Positive/CRISIL A1’ ratings to the bank facilities of Epsilon Carbon Private Limited (ECPL, part of Epsilon Group).

 

The ratings reflect the strong business risk profile of ECPL, backed by its strong market position in the domestic coal tar pitch (CTP) segment, integrated operations and benefits derived from long-term raw material supply arrangement with JSW Steel Ltd (JSW Steel). The ratings also factor in the company’s healthy operating efficiency and improving financial risk profile. These strengths are partially offset by susceptibility to demand cyclicality in end-user industries and to the performance of the domestic steel industry for raw material supply.

Analytical approach:

CRISIL Ratings has consolidated the business and financial risk profiles of ECPL with its two majority subsidiaries, Epsilon Advanced Materials Pvt Ltd (EAMPL) and Nyri Coal Tar Pitch Pvt Ltd (Nyri), together referred to as the Epsilon group.

 

Please refer Annexure - List of Entities Consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key rating drivers and detailed description

Strengths:

• Secured raw material supply backed by long-term arrangement: The Epsilon group’s business risk profile is supported by its exclusive long-term contract with JSW Steel to procure crude coal tar. This secured raw material contract covers majority of the requirement of ECPL. The group also has supply agreements with few large steel manufacturers. In the absence of its supply arrangements, the group would have remained dependant on domestic auctions and imports, which invariably fluctuate in terms of availability and prices. Moreover, with planned capacity expansion at its suppliers, the raw material availability is expected to increase over the medium term, thus providing continued raw material support to the group’s expanding operations. ECPL’s facility is situated in the Vijaynagar steel complex of JSW Steel in Karnataka; this which further aids the group in controlling its logistics and other costs. The long-term supply contract strengthens the market position of ECPL in the coal tar derivative business. 

 

• Strong market position in CTP and benefits expected from forward integration: In a span of five years, the Epsilon group has established itself as a leading supplier of CTP in the domestic market, backed by its secured and steady raw material supply. The group supplies CTP to prominent players in the domestic aluminium industry, such as Vedanta Limited and Hindalco Industries Ltd, with whom it has long-term supply contracts. CTP is primarily used as a binder in the production of carbon anodes, which are essential to the electrolysis process of extracting primary aluminium. The group also supplies CTP and other co-products, such as naphthalene and various oils, to the graphite electrode, paint, coatings and construction chemical industries.

 

Recently, the group has completed large capital expenditure (capex) to forward integrate its operations by setting up a new carbon black capacity of 115,000 TPA, which has commercialised in the current fiscal. Carbon black oil and anthracene oil generated during coal tar distillation shall be key inputs for manufacturing carbon black (CB). With security of crude coal tar supply, the group shall produce CB using co-products generated during the coal distillation process. Thus, it will not be much dependent on any outside purchases for its CB business.  The CB business is at an initial stage, and capacities are lowly utilised currently. A steady ramp-up in the CB business, backed by steady supply to tyre original equipment manufacturers, remains critical.

 

• Healthy operating efficiency: The operating margin of ECPL has improved steadily in the last three fiscals and remained at over 19% in fiscal 2021. Revenue improved sharply to Rs 690 crore in the first half of fiscal 2022, backed by a better CTP capacity utilisation, improved realisations and healthy demand from key end user industries. Though the operating margin moderated marginally because of the early stage of the CB business, it remained healthy at around 16% in the first half of fiscal 2022. Moreover, favourable spread between CTP realisation and group’s crude coal tar procurement prices shall benefit the company in the near to medium term. The group also benefits from declining coal tar production in China amid plant shutdowns, which have constrained Chinese supply of CTP and CB. Gradual ramp-up in CB sales is expected in the near term, and the group is expected to clock revenue of around Rs 1,600 crore and margin of over 16% in fiscal 2022. Steady improvement in CTP business, backed by healthy demand and ramp-up in CB sales, will help the group in maintaining its healthy operating efficiency over medium term.

 

• Improving financial risk profile: The group’s capital structure moderated over the two years through 2021 on account of its large, debt-funded capex of over Rs 450 crore. ECPL set up a new CB facility of 115,000-TPA capacity. The group also set up a small 2,500-TPA capacity in its subsidiary, EAMPL, for advance carbon materials to be used in rechargeable batteries. This debt-funded capex has led to moderation in gearing to 1.66 times as on March 31, 2021, from 0.92 time as on March 31, 2019. As no large capex is planned in the near term, gearing should improve, backed by strong accretion and repayment of existing term debt. The group’s working capital requirement is controlled, as it is supported by procurement credit available from suppliers. Hence, reliance on short-term working capital debt remains limited.

 

Debt protection metrics remained adequate on account of healthy operating profitability. Interest coverage and net cash accrual to total debt ratio stood at 8.1 times and 0.19 time, respectively, in fiscal 2021. The metrics are expected to improve over medium term, backed by improvement in the operating performance. EAMPL has a capacity expansion plan, but it will be undertaken only after a confirmed offtake agreement by prospective customers and support from strategic investors.

 

Weaknesses:

• Susceptibility to cyclicality in demand from end-user industries: The business risk profile is susceptible to inherent cyclicality in end user industries. The CTP business is predominantly dependant on demand from the aluminium industry, while the CB business shall be dependent on demand from the tyre industry, as over 70% of CB produced in India is consumed by the tyre industry. The revenue growth remains susceptible to fluctuations in demand from these industries. Furthermore, imports from China and their prices remain critical for the CB and CTP businesses. The changing cost structure for Chinese players because of plant shutdowns and stringent environmental policies limiting surplus raw material supply have been beneficial for domestic players; nonetheless, impact of Chinese imports turning cheaper remains a key monitorable.

 

• Exposure to performance of the domestic steel industry: Steady supply of crude coal from key supplier is critical for the group to maintain its advantages in terms of procurement, logistics and other costs. The steel industry has been cyclical and is exposed to sharp movements in demand and economic activity. Continued and adequate supply of crude coal tar from steel manufacturer is dependent on the performance of the steel industry. Significantly lower supply of raw material can dampen the group’s cost advantage and can impact its operating efficiency.

Liquidity: Adequate

The liquidity of ECPL remains adequate, driven by expected healthy cash accrual and moderately utilised bank lines, though the scheduled debt repayments are large. Net cash accrual, expected at Rs 150 crore per annum, will sufficiently cover yearly debt repayments of Rs 70-80 crore over the medium term. Bank limit utilisation averaged 70% over the 12 months through August 2021. Available credit on procurement from supplier aids the group in its working capital management. Also, it maintains surplus liquidity of around Rs 15 crore of cash/bank balance to meet any exigencies. Build-up in liquidity, reflected in sizeable cash and bank balance and its maintenance, remains critical. Any large, debt-funded capex remains a key monitorable.

Outlook: Positive

Healthy demand from end user industries and ramp-up from new capacities can result in better operating performance and sustained improvement in the financial risk profile.

Rating sensitivity factors

Upward factors:

• Sustained and significant increase in revenue and stable operating margin, backed by strong ramp-up in CB sales, leading to cash accrual of over Rs 200 crore on a continuous basis
• Steady improvement in the capital structure and liquidity reflected in improvement in gearing on a sustained basis and maintenance of higher cash and equivalents

 

Downward factors:

• Lower-than-expected operating performance because of slow ramp-up in CB sales
• Large, debt-funded capex or steep rise in the working capital requirement leading to rise in gearing to over 1.5 times
• Any material changes in or discontinuation of crude coal tar supply arrangement

About the group

Incorporated in 2010, EPCL manufactures coal tar derivatives, such as CTP, high purity naphthalene and carbon black oil. The company has recently set up a carbon black facility as a forward integration. Its integrated manufacturing facility is situated within the steel complex of JSW Steel at Vijaynagar in the Bellary district of Karnataka. Mr Vikram Handa and Ms Tarini Jindal-Handa (daughter of Mr Sajjan Jindal, promoter of the JSW Steel Group) are the promoters of the company.

 

EAMPL is a majority subsidiary of ECPL, and it has set up a plant to produce advanced carbon material, such as synthetic graphite, which is used for anode material of rechargeable lithium-ion batteries.

 

Nyri is a wholly owned subsidiary of ECPL and has a small coal tar distillation and CTP melting capacity at Sambalpur, Odisha. It undertakes job-work for ECPL.

Key financial indicators (Consolidated)

As on / for the period ended March 31		2021	2020
Operating income	Rs crore	747	852
Reported profit after tax (PAT)	Rs crore	73	65
PAT margin	%	9.8	7.7
Adjusted debt/adjusted networth	Times	1.66	1.24
Interest coverage	Times	8.1	7.6

 

Any other information: Not applicable

Annexure - Details of Instrument(s)

ISIN	Name of instrument	Date of allotment	Coupon rate (%)	Maturity date	Issue size (Rs crore)	Complexity Levles	Rating assigned with outlook
NA	Term loan	NA	NA	Dec-2022	28.2	NA	CRISIL A/Positive
NA	Cash credit	NA	NA	NA	35	NA	CRISIL A/Positive
NA	Overdraft facility	NA	NA	NA	5	NA	CRISIL A/Positive
NA	Overdraft facility	NA	NA	NA	5	NA	CRISIL A/Positive
NA	Cash credit	NA	NA	NA	10	NA	CRISIL A/Positive
NA	Proposed long -term bank loan facility	NA	NA	NA	192	NA	CRISIL A/Positive
NA	Proposed short -term bank loan facility	NA	NA	NA	45.01	NA	CRISIL A1
NA	Term loan	NA	NA	Mar-2027	166.17	NA	CRISIL A/Positive
NA	Term loan	NA	NA	Mar-2027	133.62	NA	CRISIL A/Positive

 

Annexure – List of entities consolidated

Names of Entities Consolidated	Extent of Consolidation	Rationale for Consolidation
Epsilon Advance Material Private Limied	Full	Subsidiary with operational fungibility
Nyri Coal Tar Pitch Private Limited	Full	Subsidiary with operational fungibility
Epsilon Carbon Private Limited	Full	Parent company