Good day, ladies and gentlemen. This is Alan Chapple, Director of Corporate Communications of Rain Carbon Inc. Welcome to Rain Industries Limited earnings call, earnings discussion for the third quarter of 2022. With me on the call today are Mr. Jagan Mohan Reddy Nellore, Vice Chairman of Rain Industries Limited. Mr. Gerard Sweeney, President of Rain Carbon Inc., and Mr. T. Srinivasa Rao, Chief Financial Officer of Rain Industries Limited. Following the earnings presentation management commentary that we released on November 3, 2022, we've been receiving questions from certain investors and analysts regarding industry developments and the status of our expansion projects. Accordingly, Rain management will be addressing those questions. Before we begin, management would like to mention that some of the statements made in today's discussion may be forward-looking in nature and could be affected by certain risks and uncertainties.
The company's actual results could differ materially from such forward-looking statements. We'll now start the discussion. Gerry, the first question is with regard to our operations in Europe. How is our competition dealing with the current volatility in the market? Have we seen reductions in capacity utilization and/or plant shutdowns by our competitors, especially in Europe? And will these shutdowns be temporary or permanent?
Thank you, Alan. Our customers, competitors, and suppliers are largely facing the same challenges that we face in Europe currently. However, while governments are taking measures to keep things under control, this significant impact on the economy is not a common or easy thing to manage. Therefore, we've seen temporary and permanent closures of various units across Europe. From a distillation perspective, our competitors are largely dealing with the situation, and like us, have not curtailed any capacity as demand has remained reasonably strong. That is on a majority of distilled products. On Hydrogenated Hydrocarbon Resins or HHCR, however, 70% of the European capacity has indeed been curtailed, and that includes us. Roughly 40% of this capacity is temporarily curtailed and 30% is permanently curtailed.
Thanks, Gerry. With aluminum and steel companies temporarily and permanently downsizing in Europe, how are we confident that the issues we face in Europe are only temporary? If our customers and suppliers permanently reduce their capacity, wouldn't we be forced to do the same as well?
That's a good question. As a global company, our plants serve a very global and varied array of customers. We do not feel vulnerable to a crisis on any one continent or in any one region. This is proven out over many years. The location of our plant facilities, their large production capacities, and our proximity to waterborne transport allows us to source and sell from a vast network of global partners. For years, this setup has provided us with the unique ability to lower or raise our operating rates, and as market conditions and costs change. We are and have been able to use this connective flexibility between our plants to divert our raw materials, semi-finished materials, and end products to higher demand locations at relatively low cost, allowing us to maintain a high degree of competitiveness in a variety of market conditions.
Thanks, Gerry. Can you highlight which segments are likely to see softening in demand in the next year or so? Which products will see the maximum drop in volume?
Referring to the comments in our recent earnings call, softening demand will impact both Carbon and Advanced Materials segments due to inflation, expectations of continued high energy prices, rising interest rates globally, and predictions of a looming global recession. We are seeing several customers delaying shipments and reducing their purchase expectations in anticipation of this going into the new year. It is impossible to project exactly what will take place, but we are very comfortable with our ability to pivot our sales in a down market.
Okay, thanks. Do we have the flexibility to increase production of certain carbon products and chemicals that are in high demand, such as creosote oil, to replace those that are witnessing a drop in demand?
We have excellent flexibility to pivot our distillation to meet increases and decreases in demand for almost all of our products. This allows us to maximize profitability at all times by capturing optimal market opportunity. Our flexibility in this area is unmatched and consistently allows us to perform well and especially outperform the competition.
Okay. There's a huge element of cyclicality in our business. Can you address that?
There's a huge element of volatility in industries from which we source our raw materials and industries that we serve. Cyclicality is the very nature of commodities, and this has always been the case. We source from refiners and integrated steel producers. We sell to the aluminum, steel, chemicals, railroad, automotive, and titanium pigment industries. These are all highly competitive commodity-based industries, which is an unavoidable. As our investors have heard us communicate during many of our quarterly earnings presentations, Rain is a converter, and we operate on a managed margin between our raw materials costs and our finished product prices. During this commodity super cycle, we have sometimes enjoyed better than normal margins, which are above our usual managed margin levels. We have continually warned investors that our current higher earnings are not the new normal.
We fully expect our earnings will return to our normal range, which is an EBITDA in the range of $60 million-$80 million per quarter. We do see cyclicality in demand for our products, which causes the fluctuations in earnings historically, but most often it falls between this normal range.
Okay. How is the company dealing with the energy crisis in Europe? And do we plan to permanently downsize operations there for any of our products?
We don't currently have any plans for additional downsizing of our operations in Europe other than the previously announced closure of our aromatic chemicals plant. We have evaluated potential temporary curtailments of our production processes that are the most energy-intensive or have low margins. This is largely based on the potential of gas rationing during the winter months in Europe. That said, any measures that we would take are expected to be temporary in nature, and we are committed to returning to full operation when the situation improves.
Thanks, Gerry. Can you elaborate on the current situation in China and its impact on demand and supply related both to CPC and GPC, as well as the resulting impact on prices? Additionally, carbon volumes were lower in Q3 than they were during the same period in 2021, and a possible recession has not even started. Where do you see these going?
Even before the pandemic, China had begun to export far less of its GPC and CPC than had become the norm for many years, preferring to consume it in country. This caused a functional shift in what had become a sort of global market balance for GPC and CPC. As a result of the earlier reductions in Chinese exports, the COVID pandemic and the current resurgence in China with its multiple large-scale lockdowns, China is having a much smaller impact on the global GPC and CPC markets than they have had on the aluminum markets.
Okay, thanks. As a converter, Rain has enjoyed stable margins over the years. Do we expect a looming scenario in which we experience a decrease in finished goods prices while raw material costs increase would be a temporary one? Or is there anything more structural about it, such as lower availability of low-sulfur petcoke or fewer blast furnace plants?
Calciners have been dealing with the decrease in quantities of anode-grade GPC for as long as I have been in this business. I assure you, that's a long time. Joking aside, Rain has for decades been recognized as the market leader in technical services, collaborating closely with our suppliers and customers to transition ourselves and them to a far broader range of materials and specifications. Converters and aluminum smelters in previous years would have never imagined the raw materials we utilize today could be used to produce materials usable by aluminum smelters. As a converter and R&D leader in our field, we continue to widen our portfolio of raw materials in both the calcination and distillation business far beyond the traditional grades, while also working with industry to further expand the specification usable by our customers.
Thank you, Gerry. We now have a few questions for Jagan. What is the current capacity utilization of the new vertical shaft calciner in India? And is it positively contributing to earnings?
Thanks, Alan. The carbon segment operated at 75% capacity utilization. We cannot provide plant-specific capacity utilization information or detailed income information by plant.
Okay. The next question is related to our GPC allocation in India. When do we expect to get our supplemental GPC allocation for the end of the current calendar year, as well as our allocation for the next calendar year? What is the expected capacity utilization for India operations based on the same?
Second allocation for the financial year April 2022, March 2023 was made during the last week of October. We are waiting for the licenses to be issued for the same by DGFT. Based on the minutes of the DGFT meetings, we have received quota of approximately 64,700 metric tons. With this additional allocation, we received 472,697 metric tons for the financial year 2022, 2023. Based on the guidance received, we expect the reallocation of pending unutilized allocations in January or February of 2023. We expect that the allocation of 2023 financial year will be provided in early April 2023 based on timing of prior allocations. Thanks, Alan. Alan, you are muted.
Management has stated that the company's second quarter performance was an aberration and that the Q3 margins would be in line with first quarter margins, which they were. Are these current levels normal or are margins still too high? From management's Q3 call comments, it sounds as though margins are headed much lower.
Gerry has addressed this issue earlier. Just to reiterate, Rain is a converter, and we operate on a managed margin between our raw material and finished product prices. Sometimes we enjoy better margins in a good market. However, we expect our earnings will return to our normal range soon, as indicated earlier by Gerry.
Our next question is on ACP. Is our quality and process of ACP at an acceptable level? Are we achieving desirable results as estimated by the management? Also, are we likely to see any meaningful benefit from ACP to our raw materials costs in 2023?
As mentioned during the earnings call, we are still working to finalize the commercial aspects of ACP. However, the testing that led to the investment, as well as the results to date, are in line with our expectations. We are currently addressing the issues related to increasing the scale of production. Although we are not planning on any material contribution in 2023 from ACP currently, it should help us alleviate some of our raw material concerns.
Thanks, Jagan. Moving on. With our working capital requirement likely to go down, we will be more aggressive in buying back the U.S. bonds.
As mentioned in our last quarter management call, there are no major capital projects in the pipeline, and we'll continue to watch the markets to see if there is an opportunity to utilize the released cash from working capital for debt reduction.
Turning to our cement business, was the third quarter performance abnormal, or will the business continue to be impacted in the coming quarters as well?
As mentioned in the management commentary, the demand for cement in the South India continues to be strong. However, the increase in the fuel and freight costs have impacted our margins in line with the rest of the industry in South India. In response, we are working on alternative measures to reduce the cost to bring the margins back to the normal levels.
Thanks, Jagan. Our final set of questions are from Srinivas. First, what actions are being taken by the company to reduce working capital costs? Do we anticipate that our working capital requirements will go up in the near future? How should investors look at total debt levels going forward?
Thank you, Alan. As mentioned in our management commentary, we have seen a significant increase in the amount of working capital tied up in the business due to record pricing. After using approximately $200 million during the first half of the year, we finally saw a flattening in the utilization of cash and our working capital requirements. The flattening is primarily the result of prices remaining flat, and we are assuming that we can maintain this trend or see a fall in prices. We would not expect a further utilization of cash for working capital purposes.
Thanks, Srinivas. Next, what is the revenue loss in percentage terms due to the temporary closure of one of our European plants, as well as revenue loss as a result of the kiln closure at the Weisweiler Kalksandstein due to the raw material shortage?
We cannot provide the details at plant or product level. However, as mentioned in our press release earlier in September 2022, the financial impact on account of closure of the plant is minimal.
Okay. How much impact are we seeing from the conflict in Europe? And would an end to the war have a positive impact on our company?
At this time, we are not able to speculate on the future of the conflict. Obviously, it would be positive for the entire world if the conflict could come to a peaceful and long-lasting solution.
Moving on, what impact is the volatility in equity, bond markets, and interest rates having on our pension plans?
The interest rates in Europe, specifically in Germany and Belgium, have increased from 0.34% in 2020 to 0.98% in 2021 and have further increased to 3.74% as of September. Out of the total pension plan liabilities we have at the group level, Germany contributes the majority of the balance. The change in the interest rates will reduce the liability due to discounting of the present value of liability at a higher rate. However, an increase or decrease in interest rates will not directly impact the income statement, as the actuarial gain or loss due to changes in estimates and assumptions will be considered in the other comprehensive income and not in the profit and loss account.
Thanks, Srinivas. Could you elaborate on the split of fixed versus variable rate loans in the capital structure of the company? Also, do we intend to further reduce our long-term debt since no major CapEx spending is lined up for the company?
Alan, we have two major long-term debts. The first one is about senior secured notes issued in the U.S. at a fixed interest rate of 7.25%. The total senior secured notes issued are about $330 million. The second loan we have is in Europe. It's a EUR 390 million term debt in Europe with a variable interest rate of 2.75% plus six months EURIBOR. EURIBOR is in the range of 50-100 basis points at this point of time.
As mentioned in the last quarter call, though the six months EURIBOR has moved from negative to positive during Q3 after a long time, it will not have material impact on the average borrowing cost of the company, as majority of our debt is designated in a fixed interest rate of 7.25%.
As a follow-up question to the management commentary, it was mentioned that cost-cutting will be an important consideration going forward. In which areas are we looking to cut costs?
The company is continuously reviewing its operations to ensure that our cost structure keeps us competitive. However, there will be an additional focus on cost reduction in 2023 as we look to offset rising costs due to macro-inflationary environments we are seeing globally.
Thank you, Srinivas, Jagan, and Gerry. Ladies and gentlemen, this concludes Rain's management Q&A session for the September quarter of 2022.