All grey for carbon black

B. Krishnakumar

AFTER a brief respite, the Rs 700 crore carbon black industry appears to be heading for a rough patch.

The recent slowdown in the automobile sector and its cascading effect on tyre demand will affect demand for carbon black. With carbon black production already outstripping demand, the slowdown in consumption from the tyre sector would have a negative impact on the performance of local carbon black producers.

While the demand-side position is not very comfortable, the picture on the cost side is not encouraging either. The steady uptrend in the price of crude oil has pushed up the price of carbon black feed stock (the key raw material) and also firmed up freight cost. The recent depreciation in the value of the rupee versus the dollar also compounded the problems of the domestic producers. A closer look at the industry structure and the underlying problems would throw light on the what is in store for domestic producers.

Carbon black is a key raw material used in the manufacture of automotive tyres. More than 70 per cent of the demand for carbon black is from the tyres segment. Carbon black feed stock (CBFS) is the key raw material used to manufacture carbon black. Roughly 2.2 tonnes of CBFS is required to produce one tonne of carbon black.

Carbon black is basically used as a reinforcing agent in rubber products such as tyres, tubes, conveyer belts, cables and other mechanical rubber goods. Besides tyres, carbon black is also used in industries such as automotive parts, construction and consumer products. It also has applications in printing inks, coatings, electrical cables, plastic films, pipes and sealants, where its ability to absorb ultra-violet light is utilised. It is also used to manufacture dry-cell batteries, electrodes and carbon brushes.

Tightly controlled market

Close to 50 per cent of the global carbon black market is currently controlled by the top three companies -- Cabot Corporation, Degussa and Columbian Chemicals. Similarly, the Indian market is dominated by the top three players in the industry -- Philips Carbon Black, Hitech Carbon (unit of Indian Rayon) and Cabot India (a subsidiary of Cabot Corporation, US).

Phillips Carbon Black is the largest producer in India, controlling about 50 per cent of India's production, followed by Hitech Carbon and Cabot India.

Demand slowdown

After a robust growth in 1999, the automobile output tapered off this year. This, coupled with the overall slowdown in industrial production, negatively impacted automotive tyre production. After peaking to an all-time high in the previous year, tyre production saw a sharp slowdown this year.

In the tyre sector, the truck and bus segment occupies the top position in terms of volume and value. Therefore, the prospects of carbon black producers hinges largely on the truck and bus tyre production. After touching a record level of 7.81 lakh units in September 1999, the truck and bus tyre output charted a downward course this fiscal.

For October 2000, the truck and bus tyre production declined 13 per cent compared to the corresponding previous period. The total tyre production saw a modest growth of 3 per cent in this period. The impact of the slowdown in demand would be fully reflected in the performance for the quarter ended December 2000.

Raw-material-intensive

The industry is highly raw-material-intensive, with raw material costs accounting for about 50 per cent of sales. Carbon black feedstock is the key input and accounts for over 60 per cent of the total raw material costs. CBFS is a petro-product manufactured by refineries.

Domestic producers source almost the entire CBFS requirement through imports. With about 70 per cent of the raw material requirement and almost the entire CBFS requirement sourced through imports, the import duty structure coupled with the rupee-dollar movement would be the key factors influencing the profitability of carbon black producers. CBFS presently attracts duty of about 25 per cent, which has remained almost unchanged in the last couple of years.

Expensive too

The sharp depreciation of the rupee in recent months and an increase in the international CBFS price has led to a sharp rise in the landed cost of CBFS. This is reflected by the steady rise in raw material costs expressed as a percentage of turnover. The raw material costs of Cabot India accounted for about 46 per cent of the turnover in 1998-99, increasing to about 55 per cent for 1999-2000. While the input costs rose, the pick-up in automobile and tyre production helped the domestic carbon black producers to effect price hikes in the previous fiscal. If it had not been for the hike in prices, the carbon black producers would have found themselves in the red.

In recent months, the CBFS price has shot up to around Rs 8,800 a tonne from about Rs 5,600 per tonne six months ago. During this period, the carbon black price was hiked up to about Rs 26,500 per tonne from Rs 25,300 per tonne.

Typically, the impact of the rise in CBFS and other input costs would be fully reflected in the performance of producers with a time lag of about six months. Given this backdrop, the performance of the domestic carbon black producers is unlikely to see any significant growth in the near future. The slowdown in the tyre production would also drag down the performance of industry majors.

In the meantime, the carbon black producers have made representations to the Government to reduce the import duty on CBFS to 15 per cent. If this is effected, it would provide some relief to the domestic producers.

While the depreciation in the rupee value would raise the input cost, it effectively protects the domestic industry from cheaper imports. The South-East Asian economic crisis and the resultant developments led to a sharp increase in the flow of carbon black imports in 1997-98.

The recovery in South-East Asian economies in the recent years and the gradual recovery in domestic demand has resulted in carbon black imports drying up. The sustained decline in the rupee's value has also acted as a deterrent to imports. With the recent capacity build-up, the domestic producers are now actively tapping the export market. Imports have practically faded to insignificant levels compared to the situation in the recent past.

No scope for value-addition

Carbon black is a typical commodity business wherein there is very limited scope for value addition. On the other hand, the carbon black manufacture is highly capital-intensive. Given the nature of the industry, carbon black producers cannot undertake either forward or backward integration projects.

Carbon black feed stock (CBFS) is the key raw material used for the manufacture of carbon black. CBFS is a downstream petro-product produced by refineries. Given the huge costs associated with the setting up a refinery-cum-cracker unit, it would be practically uneconomical for carbon black producers to go in for backward integration facilities.

On the other hand, given that carbon black is predominantly used in the tyre sector, existing producers cannot undertake forward integration projects on account of the huge costs and overcapacity in the tyre sector.

Given the inability to undertake backward and forward integration projects, the carbon black producers do not have control over either input costs or demand. As a result, the scope for value addition or enhancing profitability is rather limited for the domestic producers.

Control over other elements of cost is the only way carbon black producers can increase profitability. Top companies have taken steps to control cost to remain competitive. Apart from technological upgradation, they have resorted to inhouse generation of power using the waste heat recovery system. Indian Rayon, followed by Cabot India and Philips Carbon, have set up captive power generation facilities.

Future prospects

While the domestic producers have managed to stay afloat on the back of steady demand and product price hikes, the prospects for the next year or so does not appear promising. The recent slowdown in the tyre production and the impact of the rise in input costs would affect the performance of domestic producers. The impact of the same would be reflected in the performance for the quarter ended December 2000.

Already, the slowdown in demand is reflected in the decline in carbon black production this fiscal. According to the data compiled by the CMIE, the carbon black production in the six months ended September 2000 declined by about 10 per cent compared to the corresponding previous period. If the US economy heads towards a major slowdown, the negative impact of the same would be reflected in the economic health of other countries as well. This would eventually enhance the threat of imports and also exert pressure on the profitability of domestic producers.

On the stock market, the share price of almost all carbon black producers have been pushed to lower levels since January 2000. With the prospects of a depressed earnings growth, the scope for any significant appreciation in share price appears limited. Investors could stay away from stocks in the carbon black industry for the present and wait for signs of recovery to emerge over a period of time.