GrafTech (NYSE:EAF) is a business and stock which keeps investors on edge. In fact, I last looked at the shares in November in an article called ''An Element of Weakness''. I concluded that the company reported fat profits, yet higher costs have weighed on very fat margins. While the prospects look compelling in relation to the earnings power, there are elevated risks in this story despite management's claim that this is mitigated through long-term contracts as I wondered if that is really the case.
The latest earnings report makes it painfully clear that these risks were more or less downplayed by management, which is not entirely justified. This makes that entire situation a lot more uncertain for investors.
The Thesis
GrafTech has been an interesting name which I have covered since it went public early 2018, as the stock has gradually lost ground from $20 to $10 per share currently. The company is a producer of graphite electrodes for EAF steel producers, with these electric arc furnaces being crucial in steel production. The input costs of these EAFs are limited in relation to the production costs, while this is a critical input in steel production, allowing for cheaper steel production and more environmental friendly production methods.
The importance of this relative low cost input material allows companies like GrafTech to charge high prices, certainly as supply is limited with factories that have high replacement costs, require a great deal of critical knowledge. Despite management's claim that markets remain tight in the years to come, GrafTech has ''secured'' many profits by having long-term supply contracts in place.
As the price of these electrodes have exploded from just $2,500 per ton in 2017 to about $10,000 in recent times, this has allowed for a profit explosion at EAF, as the company has contracted $5-6 billion in future
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