Tommy Thompson did a great article on graphiting in an old Locomotive & Railway Preservation. The process he used to do it was to soak a rag in valve oil and then dip it into the graphite, which would stick to the oil. Then just rub it onto the smokebox or firebox (after it's been prepped)I'm sure it provides rust protection because of the oil and I think graphite is a good lubricant as well. I've read that the C&S used to graphite their engines in the early days after every trip.
One reason the "new" Sumpter Valley doesn't graphite is because it is a weekend operation and as a result the smokebox is cold by Tuesday or Wednesday, and I guess graphite will then just flake off. Of course, you can get a high temp. paint like Mike mentioned and it looks nearly as good without the hassle.