Carbon_Rain Commodities Coke_eq Res 2011

Sitting pretty

Rain Commodities

20 October 2011

Initiating Coverage | Sector: Metals

Pavas Pethia ([email protected]); +91 22 3982 5413

Sanjay Jain ([email protected]) / Tushar Chaudhari ([email protected])

Robust demandRobust demandSecured inputsSecured inputs

StrongcashflowStrong

cashflow

Rain Commodities

220 October 2011

Rain Commodities: Sitting pretty

Page No.

Summary ..............................................................................................................3

CPC business in a sweet spot ..............................................................................5

Operating margins to remain robust ...................................................................6

Strong cash flows to help deleverage balance sheet ........................................10

Worst is behind in cement business ..................................................................12

Valuations compelling; deserves re-rating .......................................................13

Key risks ............................................................................................................14

Company description .........................................................................................15

Corporate restructuring: separating carbon and cement operations ..............19

Financials and valuation ....................................................................................20

Rain CommoditiesCMP: INR29 TP: INR68 BuyBSE SENSEX S&P CNX

16,748 5,038

Sitting prettyStrong operating margins, robust demand, compelling valuations

RCOL's carbon business is in a sweet spot between aluminum smelters

and oil refineries

Increasing aluminum production is leading to strong demand for calcined

petroleum coke (CPC)

Difficulty in raw material sourcing is acting as an entry barrier for new

players despite reasonable margins

Strong cash flows to help deleverage balance sheet

Cement margins improving with better market discipline and declining

pace of capacity addition

Recent announcement that RCOL's board will consider buyback proposal

highlights attractive valuation and robust operating cashflows

We initiate coverage with a Buy and a target price of INR68 - 134% upside

CPC business in a sweet spot

RCOL's carbon business is in a sweet spot between aluminum smelters and oil

refineries. Merchant calciners like RCOL are making reasonable conversion margins,

as green petroleum coke (GPC) does not contribute meaningfully to refineries' revenues

and CPC does not contribute substantially to smelters' costs. At the same time, it is

difficult for a new player to enter this business because sourcing raw material is a

challenge.

Operating margins to remain robust

We expect operating margins to remain robust (27.2% in last 14 quarters) due to the

following:

Strong CPC demand driven by growing aluminum production: Aluminum

smelting, which constitutes 83% of CPC demand has grown at a CAGR of 6% in

the last 10 years. This has resulted in strong demand for CPC, which is used as

consumable carbon anode (0.4/t of Al) in smelting process. The current growth

rate in aluminum production will lead to demand for an additional 5.5mtpa of CPC

by CY15.

Consolidation in CPC industry: The top-5 calciners account for 50% of the

global capacity (ex China). Major players will continue to focus on profitability and

margins, given their high leverage and industry consolidation.

Strategically located CPC operations: Three-fourths of RCOL's CPC capacity

is in the US. The country is a net exporter of GPC due to large sweet crude

refining. Three of RCOL's seven CPC facilities in the US are located next to refineries,

giving them easy access to the key input, GPC.

Raw material security through long-term contracts: RCOL's US operations

are backed by long-term supply agreements with refiners. Its Indian operations

also receive ~25% of their requirement via US relations. RCOL receives over 90%

of its supplies from refiners with whom it has a relationship of more than five years.

Stock performance

Shareholding pattern % (Jun-11)

Bloomberg RCOL IN

Equity Shares (m) 354.2

52-Week Range 42/25

1,6,12 Rel. Perf. (%) 5/6/6

M.Cap. (INR b) 10.3

M.Cap. (USD m) 208

Y/E Dec 2011E 2012E 2013E

Sales (INR b) 54.5 53.5 51.8

EBITDA (INR b) 13.0 10.7 10.7

NP (INR b) 6.5 4.9 4.9

EPS (INR) 18.3 13.8 13.9

EPS Gr. (%) 95.6 -24.3 0.3

BV/Sh. (INR) 56.5 69.3 82.0

P/E (x) 1.6 2.1 2.1

P/BV (x) 0.5 0.4 0.4

EV/Sales (x) 0.7 0.6 0.5

EV/EBITDA (x) 2.8 2.9 2.4

RoE (%) 32.3 19.9 16.9

RoCE (%) 22.5 17.0 17.0

RoIC (%) 25.4 21.0 20.3

Promoters

42.4

Initiating Coverage

Sector: Metals

320 October 2011

Others

23.1

Domestic

Inst, 17.6

22

27

32

37

42

Oct

-10

Jan-

11

Apr

-11

Jul-1

1

Oct

-11

Rain CommoditiesSensex - Rebased

Foreign

16.9

Rain Commodities

420 October 2011

Strong cash flows to help deleverage balance sheetWe expect RCOL to generate operating cash flows of USD367m over CY11-13. This

along with cash balance of USD80m at the end of CY10 is more than sufficient to take

care of its scheduled debt repayment of USD180m(including 1HCY11) and capex ofUSD62m for US WHRB energy projects in the next three years. Net debt to equity ratio

is likely to come down to 0.5x in CY13 from 2x in CY10.

Worst is behind in cement business

After substantial margin contraction in CY10, cement producers are exercising better

market discipline. As the pace of capacity addition slows down in South India, we expectmargin pressure to ease. RCOL's cement margins have improved from INR366/ton in

CY10 to INR1,011/ton in 1HCY11.

Buyback proposal highlights attractive valuation

RCOL recently announced that the board of directors in the meeting to be held on 25th

October 2011 will consider the proposal to buy back the equity shares of the company.The buyback proposal highlights that the company trades at an attractive valuation and

robust operating cashflows are more than sufficient for its debt repayment.

Valuations compelling; deserves re-rating

We believe that the strong cash flows of the carbon business are sustainable, given

RCOL's robust business model, favorable demand scenario and relative security of inputs.Valuations are compelling; we expect the stock to get re-rated, as the balance sheet

gets deleveraged and direct equity returns in the form of dividends/buy-back are stepped

up. We initiate coverage with a Buy recommendation and a target price of INR68. Wevalue RCOL's carbon operations (CPC, energy and pet coke trading) at an EV of 4x

CY12E EBITDA (Implies EV/ton of USD293/ton) and cement operations at an EV of 5x

CY12E EBITDA (Implies EV/ton of USD65/ton).

CPC comparative valuationsDeals/ Companies Year EV/Ton EV/EBITDA (x) Remarks

Oxbow - GLC 2007 384.9 -

Rain - CII 2007 328.4 9.2

PCIC-Oxbow 2010 914.1 - Favorable supply agrrement and above industry average

operating margins

Goa Carbon Valuation based 157.7 8.0 Low operating margin ~7.9% (FY11) as compared to RCOL's

on FY11 numbers CPC business operating margin of 24.3% (CY10)

Source: Company/MOSL

Comparative Valuations: MidcapRATING CMP MCAP EPS (INR) P/E (x) EV/EBITDA (x) P/BV (x)

(INR) (USD M) FY11 FY12E FY13E FY12E FY13E FY12E FY13E FY12E FY13E

Monnet Ispat Neutral 484 697 43.7 37.1 56.0 13.0 8.6 14.4 9.6 1.3 1.2

Godawari Buy 111 78 27.0 49.9 55.9 2.2 2.0 3.0 3.5 0.5 0.4

Sarda Energy Neutral 125 95 19.1 15.4 18.8 8.1 6.7 9.3 6.6 0.5 0.5

Tata Sponge Buy 302 104 65.8 61.6 70.7 4.9 4.3 1.7 0.9 0.8 0.7

Adhunik Metaliks Buy 53 144 14.9 13.7 19.9 3.9 2.7 5.8 4.8 0.6 0.5

Bhushan Steel Neutral 327 1,554 44.9 48.1 59.4 6.8 5.5 8.8 8.0 1.0 0.9

Jai Balaji Buy 97 137 12.2 9.2 7.0 10.5 13.8 7.4 7.9 0.6 0.6

Rain Commodities* Buy 29 208 9.3 18.3 13.8 1.6 2.1 2.8 2.9 0.5 0.4

Prakash Industries Buy 49 145 19.9 20.2 21.1 2.4 2.3 2.5 2.3 0.3 0.3

CMP=current market price; * CY reporting Source: MOSL

* Rain Com. follows calendar year reporting, CY11 and CY12 figures are quoted in place of FY12 and FY13 respectively

Rain Commodities

520 October 2011

CPC business in a sweet spot

RCOL's carbon business is in a sweet spot between aluminum smelters and oil

refineries. Merchant calciners like RCOL are making reasonable conversionmargins, as green petroleum coke (GPC) does not contribute meaningfully to

refineries' revenues and calcined petroleum coke (CPC) does not contribute

substantially to smelters' costs. It is difficult for a new player to enter this businessbecause sourcing raw material is a challenge.

Insignificant contribution of GPC/CPC to refineries' revenues/smelters'costs

GPC contributes less than 3% to the refiner's overall revenue and needs to be extractedthrough further processing of residual fuel. Similarly, CPC contributes 7% of the total costof production of aluminum. Aluminum smelters are more concerned with the quality ofCPC than its cost, as inferior quality results in higher energy consumption. In order toadhere to consistent quality and assured supply smelters prefer merchant calciners ascaptive production is exposed to varying availability and quality of raw material. Most ofthe industry participants including the two largest calciners RCOL and Oxbow are basedon merchant caclining model.

CPC as percentage of aluminum production cost CPC industry participants

Source: MOSL Source: Company

Constrained raw material availability a significant entry barrier

Currently, the supply of CPC is constrained by limited availability of key raw material,green petroleum coke (GPC). Though it is a conversion business, consolidation in theindustry and bargaining power of CPC producers due to limited supply of CPC ensuresreasonable margins. It is difficult for a new player to enter this business because sourcingraw material is a challenge.

Refinery25%

Merchant Calciner

66%

Aluminium Smelter

9%

2%

4%

6%

8%

10%

FY

01

FY

02

FY

03

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11

GPC contributes less than

3% to the refiner's overall

revenue; similarly, CPC

contributes 7% of the total

cost of production of

aluminum

The supply of CPC is

constrained by limited

availability of key raw

material, GPC

Rain Commodities

620 October 2011

Operating margins to remain robust

We expect operating margins for RCOL's CPC business to remain robust (27.2%

in last 14 quarters) due to the following: (1) strong CPC demand driven by

growing aluminum production, (2) consolidation in CPC industry, (3) strategically

located CPC operations, and (4) raw material security through long-term

contracts.

1. Strong CPC demand driven by growing aluminum production

Aluminum smelting, which constitutes 83% of CPC demand, has grown at a CAGR of6% in the last 10 years. The growth in aluminum smelting has been led by China, whoseoverall share has increased from 12% to 40% during the last decade. This has resulted instrong demand for CPC, which is used as a consumable carbon anode (0.4t/t of Al) in thesmelting process. After aluminum, the titanium-dioxide industry is the other major consumerof CPC. It is also consumed as a recarburizer in graphite electrode and other industrialuses. The current growth rate in aluminum production will result in additional demand of5.5mtpa of CPC by CY15. China and India, due to their population, industrialization, andeconomic growth, would be strong drivers for aluminum demand.

CPC by end use Rising aluminum production fuelling CPC demand

Aluminum production growth led by Asia

Source: IAI/MOSL

12%5%

83%

Aluminium TiO2 Others

1.45.2

2.0 2.2 3.9 3.7 2.1 3.41.7

4.7

2.3

5.23.8 4.3

2.3

16.1

Afr

ica

Nor

th

Am

eric

a

Latin

Am

eric

a

Asi

a (e

xC

hina

)

Wes

tern

Eur

ope

Eas

tern

Eur

ope

Oce

ania

Chi

na

m t

on

s

2001 2010

Source: Company Source: IAI/MOSL

Aluminum smelting, which

constitutes 83% of CPC

demand, has grown at a

CAGR of 6% in the last 10

years, driving CPC demand

22

28

33

39

44

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

E

mill

ion

to

ns

Rain Commodities

720 October 2011

Increasing demand from smelters has led to higher realization and better margins. CPCprices and margins lag demand by a couple of months due to semi-annual price resets inCPC sales contracts. Current prices are set with a view of the next six months' demand.Though the world economy nosedived in the second half of CY08, realizations continuedto be higher, as prices were negotiated in the first half of CY08. Similarly, despite recoveryin aluminum production in the second half of CY09, price realizations and margins startedto improve from 3QCY10. With current aluminum production touching an all-time high,we expect better margins and realizations, going forward. We believe that EBITDA marginsof ~USD100/ton (USD80/ton in CY10; USD132/ton in 1HCY11) are sustainable.

Aluminum quarterly production v/s RCOL's CPC realization and EBITDA (USD/ton)

Source: Company/MOSL

2. Consolidation in CPC industry

The CPC industry is fairly consolidated, with the top-5 calciners accounting for 50% ofthe global capacity (ex China). The top-2 calciners, RCOL and Oxbow have large debt,courtesy Rain-CII and Oxbow-GLC leveraged buyouts in 2007. Given the high leverageand fair amount of consolidation, the large players have been focusing on margins andprofitability which is expected to continue going forward. Merchant calciners like RCOLare reluctant to increase capacity utilization at the cost of margins. Any increase in utilizationwill lead to higher prices of GPC, a scarce commodity, thereby impacting margins.

Top-10 CPC producers (ex China and Russia)

Source: Company/MOSL

0

150

300

450

600

1QC

Y8

2QC

Y8

3QC

Y8

4QC

Y8

1QC

Y9

2QC

Y9

3QC

Y9

4QC

Y9

1QC

Y10

2QC

Y10

3QC

Y10

4QC

Y10

1QC

Y11

8.0

8.9

9.7

10.6

11.4

Al Prod. Wolrd - RHS CPC Realization CPC EBITDA

2,495 2,422

1,493

1,076

600 500 498355 350 300 240 220

Ra

in C

II

Ox

bow BP

Co

noco

Phi

llips

Alb

a

Pet

roc

oque

RT

A

PC

IC

Ma

nyar

Gro

up

Bsi

d

Goa

Car

bon

Alc

oa

Th

ou

sa

nd

to

ns

Increasing demand from

smelters has led to

higher realization and

better margins

The CPC industry is fairly

consolidated, with the top-5

calciners accounting for

50% of the global capacity

(ex China)

Rain Commodities

820 October 2011

Major consolidation moves in CPC industry since 2007Deal Year Capacity MTPA Remarks

Oxbow acquisition of 2007 2.12 Oxbow acquired GLC by outbidding RCOL. Oxbow paid ~USD385/ton for the GLC

Great Lakes Carbon (GLC) acquisition. RCOL sold its 20% stake in GLC to Oxbow and received termination

fees of ~USD15m from GLC in accordance with the terms of an earlier agreement

between RCOL and GLC.

RCOL acquisition CII Carbon 2007 1.89 RCOL acquired CII Carbon, USA at an aggregate purchase price of USD622.3m

(USD328/ton, EV/EBITDA of 9.2x). RCOL has ~INR19b of goodwill on account of CII

Carbon acquisition.

Oxbow acquisition of 2010 0.35 Oxbow acquired 40.82% stake in PCIC for USD920/ton. PCIC enjoys superior operating

Petroleum Coke Industry margins compared to other calciners. It had assured GPC supply due to the agreement

Corporation (PCIC) with Kuwait Petroleum Company (KPC) for 475,000-485,000 tons/year.

Source: Company/MOSL

3. Strategically located CPC operations

GPC a major input for CPC production is a by-product of sweet crude refining. The UShas large sweet crude refining operations, making it a net exporter of GPC. Apart fromUS, China is the only other major region which is long on GPC. US has roughly one-fifthof the world's refining capacity and accounts for half the GPC production (ex China)worldwide. Three-fourths of RCOL's 2.5mtpa CPC capacity is in the US. Three of RCOL'sseven CPC facilities in the US are located next to refineries, giving them easy access toGPC. All its seven facilities are also close to captive river terminals. This enables RCOLto reduce logistics costs and offset the high maintenance costs of old plants.

Total Refining Capacity in 2009 Petroleum coke production in 2008

Source: IEA key world statistics Source: United Nations

ROW, 40%

Germany, 3%Italy, 3%

Saudi Arabia, 2%

Canada, 2%

Korea, 3%

India, 4%

Japan, 5%

Former USSR, 9%

China, 10%

USA, 19% RoW, 16%

Canada, 4%

India, 4%

Russia, 1%

China, 10%

Japan, 1%

Brazil, 3%

Mexico, 2%

UK, 2%

USA, 57%

GPC production worldwide has been unable to match demand, resulting in a tight supplymarket. This is mainly due to the shift towards sour crude refining, whose residual petroleumis unsuitable for GPC production. The shift towards sour crude is on account of increasingsweet-sour spread and limited availability of sweet crude. About 70% of the world'sremaining oil reserves consist of heavy, high sulfur "sour" crude. Increasing sweet-sourspread results in better margins in sour crude refining. Sweet-sour spread has beenincreasing, especially since 2005, as countries adopted stricter environmental norms, raisingcleaner fuel prices (in this case, sweet crude with low metal and sulfur content). Thespread declined to pre-2005 levels in 2009 due to sudden drop in crude demand in thebackdrop of severe recession. However the spread has been increasing since 2010 exceptfor brief slump recently on current economic turmoil. The margins so far has been favoringsour crude refining limiting availability for GPC.

Three-fourths of RCOL's

2.5mtpa CPC capacity is in

the US, a net exporter of

GPC

GPC production worldwide

has been unable to match

demand, resulting in a tight

supply market

Rain Commodities

920 October 2011

GPC supply-demand dynamics is not taken into account while deciding on the type ofcrude (sweet or sour) to be refined, as GPC contributes less than 3% of total refineryrevenues. With limited GPC availability, the industry is forced to substitute anode gradecoke with non-traditional anode coke (NTAC) to make up for the shortfall. NTAC isproduced by blending high quality (low sulfur and metal) anode coke with inferior petroleumcoke. Up to 20% of blending can be done using NTAC, with reasonable quality of finalaluminum product.

Increasing sweet-sour spread (USD/barrel )

Source: Bloomberg

4. Raw material security through long-term contracts

RCOL's US operations are backed by long-term supply agreements with refiners. ItsIndian operations also receive ~25% of their requirement via US relations. RCOL getsover 90% of its supplies from refiners with whom it has a relationship of more than fiveyears. It has right of first refusal over Conoco Phillips' worldwide GPC production minusits internal consumption till 2015. Given its multi-year relationships with refineries, RCOLis better placed than its competitors in terms of raw material security.

Long-term supply agreementsMajor Suppliers CY 2010 % of Sourcing Years of relationship

ConocoPhillips Company 32 Over 15 years

Sinopec International 17 Over 5 years

Motiva Enterprise 12 Over 35 years

ExxonMobil Corporation 7 Over 25 years

Kuwait Petroleum Corporation 5 Over 10 years

Pertamina 5 Over 10 years

TCP 4 Over 10 years

Marathon Ashland Petroleum 4 Over 15 years

HUSKY 3 Over 10 years

KOCH 2 Over 5 years

Source: Company

0.0

2.5

5.0

7.5

10.0

1991

1993

1995

1997

1999

2001

2003

2005

2007

2009

2011

Sweet-Sour Bloomberg index spread

With limited GPC

availability, the industry is

forced to substitute anode

grade coke with NTAC

RCOL's US operations are

backed by long-term supply

agreements with refiners

Rain Commodities

1020 October 2011

Strong cash flows to help deleverage balance sheet

CPC production is likely to remain flat at 1.9m tons in CY11 and CY12 due to

constrained supply of GPC. Despite lack of volume growth, we expect RCOL togenerate operating cash flows of USD367m in the next three years, which is

more than sufficient to take care of its scheduled debt repayment of USD180m

and capex of USD62m for US WHRB energy projects.

Production to remain flat in CY11 and CY12

CPC production is likely to remain flat at 1.9m tons in CY11 and CY12 due to constrainedsupply of GPC, though RCOL will have some idle capacities. Currently, one kiln atMoundsville, West Virginia facility is not operational despite sufficient demand due to lackof GPC. Any volume growth can only be achieved through enhanced raw materialavailability. RCOL is trying to source more GPC from China, which is long on green coke.Recently it entered into one year supply agreement with Sinopec, China to supply ~.2mt ofGPC. If similar breakthroughs can be achieved for larger volume and duration thenproduction at US operations can be ramped, as supply from China can substitute GPCsourcing from the US for Indian operations.

Expect operating cash flows of USD367m in next three years

Despite lack of volume growth, we expect RCOL to generate operating cash flows ofUSD367m in the next three years. This is more than sufficient to take care of its scheduleddebt repayment of USD180m and capex of USD62m for US WHRB energy project. Inthe next three years, we expect deleveraging to continue and debt-equity to decline to0.5x. This is significantly below the debt-equity of 10x in 2007, immediately after theacquisition of CII Carbon. Post the refinancing of USD400m debt in November 2010,RCOL is comfortable in terms of its debt repayment schedule.

Declining debt to equity ratio (x)

Source: Company/MOSL

0.50.81.32.02.3

4.2

10.0

CY

07

CY

08

CY

09

CY

10

CY

11

CY

12E

CY

13E

RCOL's CPC production is

likely to remain flat at

1.9m tons in CY11 and

CY12 due to constrained

supply of GPC

We expect RCOL to generate

operating cash flows of

USD367m in the next three

years, more than sufficient to

take care of its scheduled

debt repayment

Rain Commodities

1120 October 2011

Current debt profile (USD million)Term debt profile as on June 30, 2011 Debt Profile

Senior Bank Debt 45 Libor+350bp

External Commercial Borrowings 139 Libor+300bp

Senior Secured Notes 400 8.00%

High Yield Fixed rate 16 11.13%

Junior Subordinated notes 17 10%

Other Debt 13 10.66%

Sales tax deferment 21 0%

Total Gross Debt 651 6.61%

Source: Company/MOSL

Comfortable in terms of debt repayment schedule post recent debtrefinancing

RCOL raised USD400m through 8% Senior Secured Notes (due in 2018) in November2010. It used part of the amount raised to retire USD219m 11.125% Senior SecuredNotes (due in 2015), with redemption premium and transaction fees amounting toUSD35m. It also repaid ~USD105m low cost debt (LIBOR+353) as a precondition bylenders to issue new bonds. Taking redemption premium, transaction fees and currentLIBOR into account, the company did not benefit financially from the refinancing(annual savings of USD2.4m against USD35m paid for redemption and fees). Themajor benefit from the refinancing was longer tenor debt (due in 2018 against 2015 forearlier notes) being issued on non-recourse basis (not on parent's books).

Scheduled repaymentsPeriod USD million

6M ending December 2011 11

2012 26

2013 122

2014 11

Later Years 480

Rain Commodities

1220 October 2011

Worst is behind in cement business

After substantial margin contraction in CY10, cement producers are exercising

better market discipline. As the pace of capacity addition slows down in SouthIndia, we expect margin pressure to ease. RCOL's cement margins have

improved from INR366/ton in CY10 to INR1,011/ton in 1HCY11.

Pricing discipline leading to margin recovery

According to our cement analyst, "Cement demand is muted, especially in South India.However, experiences of cash losses have made the industry participants rational in theirpricing approach. We believe that the worst pricing scenario is behind us. We expectprices to remain volatile, driven by seasonality and production behavior. However, we donot expect prices to correct as much as in 1HFY11. The pace of capacity addition inSouth India will slow down, as only 10-12mt of new capacity will commence operationsover the next 18 months (v/s 30mt commissioning operations in the last 18 months). Currentpricing discipline adopted by most of the producers is allowing for better margins and asthe pace of capacity addition slows, margins and utilization should improve".

Cement prices improving in South on market discipline (INR/50kg)

Source: MOSL

Expect gradual recovery in pricing and utilization

While we do not expect a sharp improvement in demand-supply equilibrium, we believethat the worst is over for RCOL's cement business. Current pricing discipline has resultedin lower utilization but with higher margins. This coupled with start of commercial operationsof fly ash and packing plant should support margins, going forward. However, we haveassumed lower margins than 1HCY11 for the rest of the year (INR893/ton for 6MCY11and INR893/ton for CY12, against INR1,011/ton in 1HCY11 and INR341/ton in CY10) toaccount for coal price hike, seasonality and further capacity addition. We expect gradualrecovery in pricing and utilization from CY12.

170

210

250

290

330

Mar

-06

Jun-

06

Sep

-06

Dec

-06

Mar

-07

Jun-

07

Sep

-07

Dec

-07

Mar

-08

Jun-

08

Sep

-08

Dec

-08

Mar

-09

Jun-

09

Sep

-09

Dec

-09

Mar

-10

Jun-

10

Sep

-10

Dec

-10

Mar

-11

Jun-

11

We believe that the worst

is over for RCOL's

cement business

Rain Commodities

1320 October 2011

Valuations compelling; deserves re-rating

We believe that the strong cash flows of the carbon business are sustainable,

given RCOL's robust business model, favorable demand scenario and relativesecurity of inputs. Valuations are compelling; we expect the stock to get re-

rated, as the balance sheet gets deleveraged and direct equity returns in the

form of dividends/buy-back are stepped up. Recent announcement by thecompany that the board will consider buy-back once again implies compelling

valuations and strong operating cash flows. We initiate coverage with a Buy

recommendation and a target price of INR68. We value RCOL's carbon operations(CPC, energy and pet coke trading) at an EV of 4x CY12E EBITDA (USD293/ton)

and cement operations at an EV of 5x CY12E EBITDA (USD65/ton).

Significant improvement in business prospects

We believe that the strong cash flows from the carbon business are sustainable, givenRCOL's robust business model, favorable demand scenario and relative security of inputs.The cement business is also witnessing a turnaround with better market discipline. Overalloperating environment for both the carbon and cement businesses has improvedsubstantially. Lack of growth, uncertain demand scenario due to recession and high leveragehad led to a de-rating. However, we now expect stock to get re-rated, as the balancesheet gets deleveraged and direct equity returns (dividends/buy-back) are stepped up.

Buyback proposal highlights attractive valuation

RCOL recently announced that the board of directors in the meeting to be held on 25thOctober 2011 will consider the proposal to buy back the equity shares of the company.The buy back proposal highlights that the company trades at an attractive valuation androbust operating cashflows are more than sufficient for its debt repayment.

Buy with a target price of INR68 - 134% upside

The stock trades at 2.1x CY12E EPS, 0.4x CY12E BV, and at an EV of 2.9x CY12EEBITDA. We believe that current valuations are compelling. We value RCOL's carbonoperations (CPC, energy and pet coke trading) at an EV of 4x CY12E EBITDA (ImpliesEV/ton of USD293/ton) and cement operations at an EV of 5x CY12E EBITDA (ImpliesEV/ton of USD65/ton). Buy with a target price of INR68 - 134% upside.

CPC comparative valuationsDeals/ Companies Year EV/Ton EV/EBITDA (x) Remarks

Oxbow - GLC 2007 384.9 -

Rain - CII 2007 328.4 9.2

PCIC-Oxbow 2010 914.1 - Favorable supply agrrement and above industry average

operating margins

Goa Carbon Valuation based 157.7 8.0 Low operating margin ~ 7.9% (FY11) as compared to RCOL's

on FY11 numbers CPC business operating margin of 24.3% (CY10)

Source: Company/MOSL

Robust operating cashflows

are more than sufficient for

its debt repayment

RCOL will get re-rated, as

the balance sheet gets

deleveraged and direct

equity returns are

stepped up

Rain Commodities

1420 October 2011

Key risks

Overdependence on aluminum industry

RCOL derives ~90% of its CPC revenues from sales of carbon anode to aluminum smelters.The aluminum industry is cyclical in nature, with demand-supply governed by a variety offactors, especially the economic wellbeing of the world as a whole. With its current debt-equity at 1.6x and significant debt service obligations in the next couple of years, RCOLwill be financially constrained in case of a major downturn in the aluminum industry.

External sourcing of key raw material

GPC is the main component and primary cost in CPC manufacturing. It is a by-product ofoil refining and is not produced with a view to meet the requirements of aluminum ortitanium dioxide manufacturers. With continuous shift towards sour crude refining, externalsourcing of GPC could pose a serious threat to its operations. However, owing to its long-term relationships with suppliers, RCOL has not witnessed any major raw material shortfallso far.

Substitutes/replacements

Current aluminum smelting is known for large greenhouse emissions and high energyconsumption. Considerable research has been done to explore alternative productionprocesses that could lower energy consumption and greenhouse emissions. Until now,there is no known economically feasible substitute for carbon anode. There has beensome progress on inert anode technology, but IEA reports that the ultimate technicalfeasibility of inert anodes is not yet proven, despite 25 years of research. More fundamentalresearch on the materials is needed and anode rate of less than five millimeters per yearhas to be attained. The following table provides an overview of the technological status ofinert anodes for the aluminum industry.

Technological status: Inert anodesInert Anodes 2003-15 2015-2030 2030-50

Technology Stage R&D Demonstration Commercial

Source: IEA Technology perspectives, 2008

Although there is always the threat of technological advances in the smelting process, thetransition to new technology will be gradual.

Rain Commodities

1520 October 2011

Company description

Rain Commodities (RCOL) is one of the largest calciners in the world, with a capacity of2.5mtpa contributing to 81% (CPC, Power and Pet. Coke) of revenue courtesy LBO ofCII (USA) in 2007. It has its CPC capacity located in North America (1.89mtpa), India(0.6mtpa) and China (0.02mtpa). It has cogeneration capacity of 125 MW in energy(Power and Steam). It also has cement operations (3.5mtpa) in South India attributing tobalance 19% revenues. It has recently restructured its operations into separate CPC andCement operations with aim to list entire CPC business in US to unlock value at appropriatetime.

RCOL: CY10 revenue break-up

Source: Company/MOSL

RCOL: Growth timeline

Began calcining operations in Visakhapatnam with a capacity of 0.3 MTPA

Doubles CPC capacity

1998

2005

Acquires 20% stake in Great Lakes Carbon2006

Divest GLC stake in favour of Oxbow Corporation after losing out in a biddingwar.

Acquires CII Carbon USA with CPC capacity of 1.895 MTPA in leveraged Buy Out2007

Completed Brownfiled Cement Expansion of 1.5MTPA. Total cement capacity

increased to 3.16 MTPA2008

Entered Chinese CPC industry with acquistion of small CPC plant with capacity of

20,000 TPA2009

Startey fly ash handling and cement packing unit in Bellary, Karnataka. Improved fly

ash blend ratio to increase cement capacity to 3.5 MTPA2011

Setting up two waste heat recovery plant with 70MW capacity in USA.2012-13

Source: Company/MOSL

Cement 19%

Pet Coke3%

CPC (Including Energy)

78%

Rain Commodities

1620 October 2011

RCOL: World wide operations

Source: Company/MOSL

CPC operations

RCOL has facilities spread across USA, India and China. Three of the US CPC facilitiesare strategically located adjacent to oil refinery. At one of these locations, it also suppliessteam to the refinery. It also owns three vessel loading terminals at the Chalmette, Gramercyand Lake Charles facilities. Its Visakhapatnam facility enjoys logistical benefits, as it is aport city. RCOL's China facility is a strategic move to get a foothold in one of largestmarkets of CPC.

RCOL: CPC production facilitiesFacility Annual Capacity Commission Date Co-generation Ability Number of kilns

Moundsville, West Virginia 420,000 1957 Yes 2

Lake Charles, Louisiana 400,000 1979 No 2

Robinson, Illinois 315,000 1958 No 2

Chalmette, Louisiana 230,000 1968 Yes 1

Gramercy, Louisiana 230,000 1972 Yes 1

Norco, Louisiana 230,000 1965 Yes 1

Purvis, Mississippi 70,000 1959 No 1

Visakhapatnam, India 600,000 1998 Yes 2

ZXTTCL, China 20,000 No

Source: Company/MOSL

Rain Commodities

1720 October 2011

RCOL production facilities (Vizag Plant)

Rotary Kiln I Rotary Kiln II

Conveyor Belt Waste Heat Recovery Plant

Control Room Storage Facility

Rain Commodities

1820 October 2011

RCOL is planning to set up two more waste heat recovery plants in existing CPC plants inthe US in a phased manner at Lake Charles-Louisiana and Robinson-Illinois, with anaggregate capacity of 70MW. The projected capex for these two projects together is~USD125m. Execution work for the Lake Charles plant has already started and is likelyto be completed by December 2012.

RCOL derives more than 90% of its CPC revenues from sale of anode grade CPC toaluminum producers. Its customers are located throughout the world. In particular, theGroup derives a significant portion of revenues from North America, South America,Middle East, South Africa, India and Europe.

Cement operations

RCOL has a fly ash handling and cement packing unit at Bellary. It has a contract withKarnataka Power Corporation Limited (KPCL) for exclusive supply up to 0.4m ton perannum of fly ash to RCOL till 2021. Improved fly ash blend ratio has resulted in increasein the total production capacity from 3.1m tons to 3.5m tons of cement per annum. It sellsmainly to retail customers in Andhra Pradesh, Karnataka and Tamil Nadu under the brandname, Priya Cement.

RCOL has recently invested ~INR120.5m to acquire Birla Cement and Industries, whichcontrols limestone mining leases in the state of Andhra Pradesh. Birla Cement and Industrieshas now become a wholly-owned subsidiary of the company.

RCOL: Major CPC customersCustomer Percentage

Concentration of CY09

for CPC Sales

business

CVG Venalum 11

Alcan 9

Alouette 8

BHP Billiton 7

Dubal 6

Hydro 6

Nalco 5

Century 5

Dupont 4

Noranda Aluminum 3

Total 64

Source: Company/MOSL

RCOL group cement capacityFacility Annual

Capacity

(mtpa)

Nalgonda, India 1.0

Kurnool, India 2.2

Rain Commodities

1920 October 2011

Current group structure

Source: Company/MOSL

Corporate restructuring: separating carbon and cementoperations

Before the CII Carbon acquisition in 2007, the group's cement and calcining operationswere under two different companies - Rain Commodities and Rain Calcining, respectively.Both these companies were merged to leverage the combined balance sheet for the CIICarbon acquisition. Now, the company has again undergone restructuring to separatecarbon and cement operations under different subsidiaries.

The cement operations, which were part of the parent company (RCOL), have beenmoved to Rain Cements Limited (formerly Rain CII Carbon India Limited), a 100%subsidiary. The Indian CPC business has been moved to Rain CII (Vizag) Limited (RCCVL),step down 100% subsidiary of Rain Commodities USA Limited (RCUSA). There is still12.2% crossholding of Rain Cements Limited in RCCVL. Its US CPC business, Rain CIICarbon LLC, also became part of RCUSA through the step down subsidiary.

The restructuring exercise was carried out so as to have freedom to look out for strategicinvestment in both CPC and cement operations, as well as to pursue organic and inorganicgrowth, separately. Shareholders continue to hold same control over various businessesafter restructuring.

RCOL

RCUSA

61% of Pet. coke trading (RGS)

Rain Cements

3.5 MTPA Cement

CPC Holdings

RCC (Vizag)

0.6 MTPA CPC, 50MW Power

RCC LLC

1.895 MTPA CPC, 75MW Power and Steam

ZXTTC China

0.02 MTPA CPC

100% 100%

100%

12.2%

87.8%

100%

100%

Rain Commodities

2020 October 2011

Financials and valuation

Income Statement (Consolidated) (INR Million)

Y/E December 2009 2010 2011E 2012E 2013E

Net sales 36,435 37,557 54,467 53,535 51,845

Change (%) -20.1 3.1 45.0 -1.7 -3.2

Total Expenses 27,359 30,056 41,484 42,821 41,176

EBITDA 9,076 7,501 12,983 10,714 10,669

% of Net Sales 24.9 20.0 23.8 20.0 20.6

Depn. & Amortization 1,227 1,157 1,146 1,221 1,303

EBIT 7,850 6,344 11,838 9,493 9,366

Net Interest 2,260 1,896 2,139 2,078 1,916

Other income 44 179 189 244 228

PBT before EO 5,634 4,627 9,888 7,660 7,678

EO income 513 -1,249

PBT after EO 6,147 3,378 9,888 7,660 7,678

Tax 1,714 951 3,341 2,721 2,726

Rate (%) 27.9 28.2 33.8 35.5 35.5

Reported PAT 4,433 2,427 6,547 4,938 4,952

Minority interests -5.2 19.5 82 47 47

Adjusted PAT 4,068 3,305 6,465 4,891 4,905

Change (%) -9.3 -18.8 95.6 -24.3 0.3

Balance Sheet (INR Million)

Y/E December 2009 2010 2011E 2012E 2013E

Share Capital 708 708 708 708 708

Reserves 11,396 13,225 19,311 23,822 28,347

Share holders funds 12,104 13,934 20,019 24,530 29,056

Loans 30,312 31,781 30,298 29,082 23,617

Secured 17,859 29,341 27,858 26,642 21,177

Unsecured 12,453 2,440 2,440 2,440 2,440

Defferred tax liability (net) 2,260 2,173 2,173 2,173 2,173

Capital Employed 44,697 47,947 52,631 55,974 55,081

Gross Block 37,453 36,692 36,812 36,812 39,562

Less: Accum. Deprn. 3,294 4,308 5,454 6,675 7,978

Net Fixed Assets 34,159 32,384 31,358 30,137 31,584

Capital WIP 233 561 1,391 2,361 561

Investments 307 16 16 16 16

Curr. Assets 13,777 19,391 25,483 28,995 28,309

Inventories 4,771 7,452 11,341 11,147 10,795

Sundry Debtors 4,479 5,616 6,858 6,741 6,528

Cash and Bank 3,057 3,639 4,600 8,424 8,302

Loans and Advances 1,470 2,684 2,684 2,684 2,684

Curr. Liability & Prov. 3,779 4,404 5,617 5,536 5,389

Sundry Creditors 2,661 3,526 4,739 4,658 4,510

Other Liabilities & Prov. 1,118 878 878 878 878

Net Current Assets 9,998 14,987 19,866 23,460 22,920

Application of Funds 44,697 47,947 52,631 55,974 55,081

E: MOSL Estimates

Rain Commodities

2120 October 2011

Financials and valuation

Ratios (INR Million)

Y/E December 2009 2010 2011E 2012E 2013E

Basic (INR)

EPS 11.5 9.3 18.3 13.8 13.9

Cash EPS 15.0 12.6 21.5 17.3 17.5

BV/Share 34.2 39.3 56.5 69.3 82.0

DPS 0.7 0.9 1.0 1.0 1.0

Payout (%) 6.9 15.7 5.8 7.7 7.7

Valuation (x)

P/E 2.5 3.1 1.6 2.1 2.1

Cash P/E 1.9 2.3 1.3 1.7 1.7

P/BV 0.8 0.7 0.5 0.4 0.4

EV/Sales 1.0 1.0 0.7 0.6 0.5

EV/EBITDA 4.1 5.1 2.8 2.9 2.4

Dividend Yield (%) 2.6 3.2 3.4 3.4 3.4

Return Ratios (%)

EBITDA Margins 24.9 20.0 23.8 20.0 20.6

Net Profit Margins 11.2 8.8 11.9 9.1 9.5

RoE 33.6 23.7 32.3 19.9 16.9

RoCE 17.6 13.2 22.5 17.0 17.0

RoIC 19.1 14.5 25.4 21.0 20.3

Working Capital Ratios

Fixed Asset Turnover (x) 1.0 1.0 1.5 1.5 1.3

Asset Turnover (x) 0.8 0.8 1.0 1.0 0.9

Debtor (Days) 45 55 46 46 46

Inventory (Days) 48 72 76 76 76

Creditors (Days) 27 34 32 32 32

Leverage Ratio (x)

Current Ratio 3.6 4.4 4.5 5.2 5.3

Interest Cover Ratio 3.5 3.3 5.5 4.6 4.9

Debt/Equity 2.3 2.0 1.3 0.8 0.5

Cash Flows Statement (INR Million)

Y/E December 2009 2010 2011E 2012E 2013E

Pre-tax profit 6,147 3,378 9,888 7,660 7,678

Depreciation 1,129 1,014 1,146 1,221 1,303

(Inc)/Dec in Wkg. Cap. 2,724 -4,407 -3,918 230 418

Tax paid -1,693 -753 -3,341 -2,721 -2,726

Other operating activities -376 -438

CF from Op. Activity 7,931 -1,207 3,775 6,390 6,673

(Inc)/Dec in FA + CWIP 849 434 -951 -970 -950

(Pur)/Sale of Investments -39 291

CF from Inv. Activity 811 725 -951 -970 -950

Debt raised/(repaid) -7,511 1,469 -1,483 -1,216 -5,465

Dividend (incl. tax) -307 -380 -380 -380 -380

CF from Fin. Activity -7,817 1,089 -1,863 -1,596 -5,845

(Inc)/Dec in Cash 924 608 962 3,824 -122

Add: opening Balance 2,359 3,057 3,639 4,600 8,424

Closing Balance 3,057 3,639 4,600 8,424 8,302

E: MOSL Estimates

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Disclosure of Interest Statement Rain Commodities

1. Analyst ownership of the stock No2. Group/Directors ownership of the stock No3. Broking relationship with company covered No4. Investment Banking relationship with company covered No

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