Static prices and cost push may halve the industry’s margin to 10% in 2012-13.
The pressures on the cement industry — be it rising raw material costs or sluggish demand — have been discussed ad nauseam. Given that raw material pressures are not likely to abate soon, the only ray of hope is an uptick in volumes, which, the industry expects to happen by the second half of this financial year. This, they hope, will drive capacity utilisation (which has expanded substantially over the last couple of years). A pick-up in demand would have an impact on pricing as well as realisations. However, a section of analysts believes meaningful recovery in volumes and pricing growth are at least 12-18 months away.
According to Crisil Research, a huge demand-supply imbalance, fuelled by a supply glut, will pull cement profitability downwards. The supply glut will slacken the operating rates of cement manufacturers, restricting their ability to pass on a sharp rise in power and fuel costs to consumers.
Over the next two years, while cement capacities will rise by 60 million tonnes per annum (mtpa), demand will increase by a mere 30 mtpa. Operating rates of cement manufacturers will, therefore, plunge to around 72 per cent in 2012-13 from an already subdued 78 per cent in 2010-11.
“The magnitude of the demand-supply imbalance and cost escalation will halve the industry’s earnings before interest, taxes, depreciation, and amortisation (Ebitda) margins from the current 20 per cent to 10 per cent in 2012-13, the lowest level in the past 10 years,” explains Prasad Koparkar, head (industry and customised research), Crisil Research.
According to Ambit Capital, growth in cement volumes is more correlated to gross fixed capital formation (GFCF) growth than to that in GDP. “Rising risks to near-term low GFCF growth (estimated to be 5.5 per cent for FY12 against 8.6 per cent for FY11) will lower cement volume growth to 3.5 per cent in FY12, after a decade low of 5 per cent in FY11.
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Higher rolling three-year capacity additions vis-à-vis demand will keep capacity utilisations, realisations and operating margins under pressure,” says Nitin Bhasin of Ambit. Valuations — 20-40 per cent ahead of historical five-year averages — are expected to continue falling with declining returns on invested capital.
So, with most stocks available for a song, is it time to enter the sector? Clearly not, as attractive entry points will emerge over the coming months, analysts believe. Thanks to weak demand, cement prices have declined by Rs 35-40 a bag over the last couple of months. A sharp improvement in demand is unlikely in the near-term due to slow progress in government projects. Elara Capital expects stocks to languish in the near term.