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Shares of cement companies, which saw a major rise in the run-up to the Union Budget presentation, on expectations that a boost to the infrastructure sector would lead to higher demand, have corrected since then. Lower demand and realisations in February led to the downside.
However, the trend is expected to reverse and, importantly, sustain over the medium term. Thus, analysts are bullish on cement companies. UltraTech, ACC, Ambuja, Shree Cement, JK Lakshmi, Ramco and Dalmia Bharat are among the top picks, expected to deliver strong returns over the next one to two years. While the consensus target price of some of these companies is a little higher than current levels, investors could consider these on declines.
Cement prices
While cement prices recovered in March to January levels, analysts expect more upside in the June quarter, the strongest period for the industry. Analysts at Reliance Securities say their dealers' check indicates all-India average prices improved in March by about 1.6 per cent month-on-month, to Rs 311 a 50-kg bag. This has been led by moderate pick-up in demand in several pockets.
“Thus, barring February, the average price trend remained up in January and March. Hence, average cement prices are up by four per cent sequentially in the March quarter,” they add.
Demand pick-up
What’s more, demand is expected to pick up. A key reason for subdued demand in the earlier quarter was lower offtake from government-related projects. That’s also reflecting in the results of ACC, announced on Tuesday, which reported a 10 per cent year-on-year fall in volumes. A key reason is that the government curtailed spending to meet its fiscal deficit target for FY15. The new financial year should see a change in this trend.
Analysts at Nomura expect cement demand growth to recover on higher government spending for infrastructure projects (higher allocations for roads and railways in the Union Budget). The pace of awarding road projects has tripled to 12 km/day in the past few months. In the channel checks of Nomura analysts, stockists and dealers sounded relatively more optimistic on volume growth in the coming months, particularly in the eastern region. They estimate cement volume growth of 7.8 per cent in FY16.
Analysts are Karvy Stock Broking are also optimistic. They expect pan-India cement demand to grow at a compounded annual rate (CAGR) of 7.4 per cent over FY14-17, compared to 5.5 per cent CAGR in FY11-14. This, they believe, is on the back of expectations of a pick-up in demand from the housing and infrastructure segments, which account for around 60 per cent and 20 per cent of the total cement demand, respectively, in the country.
Better margins, earnings
As a result and due to slowing in capacity addition, utilisation is also expected to improve. Capacities that grew at 13.3 per cent CAGR during FY10-14 are expected to expand at 5.4 per cent CAGR during FY14-17. Hence, analysts at Karvy expect a gradual improvement in effective utilisation to 75 per cent by FY17 (from 71 per cent in FY14). This would further help improve realisation and margins of companies.
However, utilisation in the south could lag, as most excess capacities are there. For now, pricing discipline has been maintained by companies in the south like India Cements, Ramco Cement, etc. In this backdrop, despite the relatively weaker demand scenario in the south, analysts expect companies based there to report strong numbers for the quarter ending March, largely led by realisations.
Ahead
Analysts at a foreign brokerage believe secular upward utilisation rates is underway and see near-term weakness in stock prices as an opportunity to buy. They believe the worst is behind for the industry, on course for a gradual recovery after seven years of contraction in the capacity utilisation rate. Demand pick-up and rising entry barriers will steadily lift utilisation rates in the coming years, with resultant pricing power expanding margins and driving earnings.
Their top picks include UltraTech, Grasim and ACC; they are also positive on Ambuja, Ramco and Shree Cement.
In the near term, too, the outlook is looking better. Prices have already moved up across India in the March quarter. ACC’s results suggest prices are up seven per cent. Margins could get a further fillip from lower input costs, such as coal.
