Cementing profits

SPECIAL REPORT

The cement sector has reported a markedly improved performance in the September quarter, which should continue over the medium term.

Cement makers have managed rather impressive numbers in the September quarter, despite August despatches being marred by incessant rains in major cement consuming states of Gujarat, Maharashtra and Andhra Pradesh.

Though floods did not impact cement production much, stoppage in construction works and transportation problems in northern and western states resulted in lower despatches.

However, south-based India Cements reported good despatch numbers. West-based companies Gujarat Ambuja and UltraTech took a hit. Shree Cements, however, reported highest growth numbers thanks to capacity additions.

The pent-up demand reflected in the September despatches, taking the despatches of the top four players to 140.77 lakh tonne in Q2, up 8.5 per cent y-o-y. Higher cement prices during the monsoons came as a positive surprise. Average cement prices rose to over Rs 200 per 50 kg bag during the quarter, a rise of 29 per cent on y-o-y basis.

The stock markets too have rewarded cement companies for their strong performance. While the Sensex has gained 21 per cent since July 2006, cement companies have outperformed the markets and managed to clock returns of 27.5 per cent. While ACC gained 26 per cent, UltraTech rose by 19 per cent and Gujarat Ambuja was up 19 per cent.

The star performers were Shree Cement, India Cements and Grasim with stunning returns of 52 per cent, 41 per cent and 43 per cent respectively.

Analysts remain gung ho about the prospects of cement players and don't see any concerns over valuations, thanks to robust earnings potential in the construction landscape.

With the end of monsoons, cement production and despatch numbers will continue to register a double-digit growth.

Though there is concern over a drop in prices due to major capacity addition plans, long gestation periods coupled with continual robust cement consumption indicate high capacity utilisation levels and comfortable times for cement players till the end of FY08.

"Cement demand is estimated to grow at around 10 per cent CAGR in the coming years. The capacity utilisation rates will stand close to 95 per cent in FY07 and FY08, but are likely to be below 90 per cent in FY09 as new capacities will become operational," says Jaspreet Singh Arora, analyst, Anand Rathi Securities.

Adds Sitesh Sinha, analyst, Karvy Stock Broking, "Cement prices will see a further 15 per cent upside during the next 12 to 15 months, rewarding much better realisations to cement makers." 
 

BUILDING GROWTH
Company	Market Price	% Returns	P/E 07	P/E 08
ACC	982.85	26.01	15.20	14.6
Grasim	2711.25	42.77	15.90	14.00
Gujarat Ambuja	120.60	21.94	16.30	15.50
UltraTech	869.65	19.34	13.50	12.10
India Cements	221.65	40.64	12.10	10.10
Shree Cement	1135.40	51.59	12.20	10.10
(price change since July 2006)

While most analysts see price concerns building up after FY08, there are few who see comfortable times for cement players till FY09.

"Sustained high real estate prices is driving a boom in construction (housing, malls, office space and hotels) in India, which will ensure that cement demand stays strong in double digits. Over a span of two and a half years, capacities additions would grow at 13 to 14 per cent CAGR and cement demand would nearly catch-up with a CAGR of 11 per cent. We believe that the capacity utilisation will be nearly 92 per cent and this will not drive a significant correction in average cement prices in FY09," says a CLSA report.

For investors, it may not be possible to ignore such growth. Here is a closer look at the top cement players.

Grasim
Grasim reported consolidated sales growth of 36 per cent y-o-y to Rs 3184 crore with cement being key contributor chipping 68 per cent of turnover and 71 per cent of operating profits.

It plans to add 9.7 million metric tonne (MT) capacity by setting up new grinding units and has earmarked capex for de-bottlenecking its existing plants by 2009. Trading at 16 and 14 times its FY07 and FY08 earnings estimates, valuations look attractive.

UltraTech Cements
UltraTech Cement reported a sharply improved performance in Q2, its operating profit rose by an impressive 291 per cent y-o-y to Rs 254.5 crore, as compared with a 57.1 per cent growth in net sales to Rs 1004.54 crore.

The company also benefited from improved cement despatches and a rise in realisations helped offset rising input costs.

Ultratech is adding capacities and will streamline operations by adding the coal and lignite based captive power plants at all its integrated cement plants by FY08. Till then, the company's performance will be purely driven by cement prices.

Shree Cements
Shree Cement posted an impressive performance in Q2 FY07, with operating profits increasing at 173 per cent y-o-y to Rs 142.67 crore and margin expansion of 1156 basis points y-o-y to 45.16 per cent.

Its volumes will see a substantial growth of 40 per cent after FY07, when total capacities will increase by 4.5 million MT a year.

The company is well placed to exploit opportunities thanks to its presence in deficit northern regions. High operating margins and timely capacity additions imply quick realisations and volume growth for the next two years.

Analysts are positive on the scrip, which is trading at 12 and 10 times its FY07 and FY08 earnings estimates.

Gujarat Ambuja
Demand supply mismatches in its key Northern market, along with growing export demand, along with cost effective operations, has made Gujarat Ambuja one of the best performing cement companies.

With the merger of Ambuja Cement Eastern, the company enjoys direct exposure in the lucrative eastern markets too.

Cost effective operations like higher blending, commissioning coal-based power plants in Gujarat and setting up grinding units in Dadri have improved realisations. Trading at 16.3 and 15.5 times its FY07 and FY08 estimates, analysts feel the stock holds potential and is among the top picks of most broking houses.

India Cements
South-based India Cements has benefited from the 25 per cent demand growth in the region in FY06 and will continue to enjoy huge volumes as demand in the south is likely to rise at 11 per cent CAGR for next few years.

The company is expanding its capacity by 2 million MT by end of 2007, which will take its total capacity to 11 million MT a year. The stock trades at 12 times and 10 times its FY07 and FY08 earnings estimates.

ACC
While most peers are going in for aggressive greenfield expansion, ACC can still expand its capacities by 20 per cent over the next two years through more efficient de-bottlenecking.

In the near term the company is not planning new capacities but wants to bag better returns through cost efficient operations and higher cement to clinker ratio.

Considering its pan-India presence, ACC's higher volumes and realisations promise better earnings growth in coming quarters. But analysts think the scrip looks fairly priced at current levels.