Download - Cement Sector Analysis Report Karvy
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8/3/2019 Cement Sector Analysis Report Karvy
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Prasun Kumar
+91-22-22895028
16 September 2011
CEMENT SECTOR
Rajesh Kumar Ravi
+91-22-22895030
INSTITUTIONAL EQUITIES
INDIA RESEARCH
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CEMENTSECTOR 16September2011
FalteringDemand,DecliningPricingPower
OutlookNegative
ProductionDisciplinetoWaneOff;ProfitabilitytoDeclineCement large caps have outperformed The cement majors with pan
IndiapresencehaveoutperformedtheSensexby~24%YTDduetotheir
strong comparative advantages. On the other hand, the midcap and
smallcap cement companies have declined by 1035%YTD. We believe
the large caps will remain relative outperformers in the sector despite
weakeningindustryfundamentals.
Expect largecap cement stocks to correct: Despite a stable EBIDTA
outlook for the largecap cement companies, we believe they are over
valued and hencewe expect theirstock pricesto correct from 12month
perspectiveamidweakeningdemand,decliningpricingpowerandrisingcostpressureresultinginlowerprofitabilitygoingforward.
Capacity utilisation at 20year lows until FY14E Sector in a Down
cycle:Whilecapacitygrowthisexpectedtoslowdown,lowerdemandoff
takewouldwidenthegapbetweendemandandsupplytherebyreducing
cementproducerspricingpower.Onaregionalbasis,utilisationlevelsin
thenorthernandcentralregionsshouldremainabove85%duringFY11
13Eandunder65%inthesouthernregion.
Productiondisciplinetomanagecostpressureunlikelytosustain:The
cement producers led by the larger players resorted to production
discipline led price hikes to stabilize their profitability amid weakening
demand growth, and rising operating costs. However, we expectindustryspricingpowermaynotsustainwithdecliningutilisationlevels.
Further, as industrys fragmentation continues and smaller producers
continueto gain incremental market share, we believe that the threat to
production discipline would intensify. Hence, we expect the industrys
marginsandprofitabilitytocomeunderfurtherpressuregoingforward.
GrossStateDomesticProduct(GSDP)trends: WehaveanalyzedGSDPs
of states in each region and the companies present in those regions to
drawregionaldemandinference.TheGSDPgrowthratesthathavebeen
stronginnorthern,southernandwesternstateshavebeenimprovingin
theeasternstates,whilecoolingdowninthecentralstates.
Initiate coverage on fiveCompanies: We initiate coverage onthe three
panIndiaproducersACC,AmbujaCements&UltraTechCementwith
SELLrecommendations,andontheregionalplayersIndiaCements&
ShreeCementwithHOLDrecommendations.
Exhibit1:ValuationSummary
StocksMCap
(RsBn)Rating
EBITDA/MT(Rs) RoCE(%) EV/EBITDA(x) EV/MT(US$)
FY11 FY12E FY13E FY11 FY12E FY13E FY11 FY12E FY13E FY11 FY12E FY13E
ACC* 200.1 SELL 859 811 742 15.9 14.5 12.4 9.1 9.1 9.1 123 130 124ACEM* 230.2 SELL 968 906 857 17.1 13.6 12.0 10.2 10.4 10.0 176 164 159
ICEM 22.3 HOLD 385 621 583 2.6 3.4 3.1 9.4 6.9 6.7 81 95 87SRCM 59.2 HOLD 718 713 707 15.9 8.9 16.0 6.1 6.4 5.5 89 95 90
UTCEM 314.9 SELL 686 748 734 13.7 11.2 10.1 11.5 8.7 8.6 134 133 132
Source:KarvyInstitutionalResearch*FY11,FY12E,FY13EreferstotheirCY10,CY11E,CY12Efinancials
ACC(ACCIN)SELL
CMP 1,065
TargetPrice 952
Upside (%) 11
52WeekHigh/Low(Rs) 1,143/917Avg.DailyVolume(000) 242
AmbujaCements(ACEMIN)SELL
CMP 151
TargetPrice 127
Upside (%) 1652WeekHigh/Low(Rs) 166/111Avg.DailyVolume(000) 1,841
IndiaCements(ICEMIN)HOLD
CMP 73
TargetPrice 76
Upside (%) 5
52WeekHigh/Low(Rs) 127/62Avg.DailyVolume(000) 814
ShreeCements(SRCMIN)HOLD
CMP 1,700
TargetPrice 1786
Upside (%) 552WeekHigh/Low(Rs) 2,350/1,500
Avg.DailyVolume(000) 27
UltraTechCement(UTCEMIN)SELL
CMP 1,149
TargetPrice 972
Upside (%) 1552WeekHigh/Low(Rs) 1,188/890
Avg.DailyVolume(000) 136
INSTITUTIONALEQUITIES
INDIA RESEARCH
Thematic
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TableofContents Page
ExecutiveSummary..3 ValuationsExceedOurFairValueEstimatesOutlookNegative..3
CapacityUtilisationat20yearlowstillFY14EExpectaDowncycle.3 ProductionDisciplineUnlikelytoSustain..3
InitiateCoverageonFiveCompanies..4
ValuationSummaryofFiveStocks..4
CementMajorsHaveOutperformedtheMarket..5 Outperformanceattributedtocompaniesfundamentalstrengths.5 ExpectStockPricestoDeclineGoingForwardOutlookNegative...5
KeyTriggers.6
KeyUpsideRisks.6
SummaryofCompaniesCoveredintheReport.6
SensitivityAnalysisoftheFiveCompanies.9
DemandSupplyDynamics.10 LongtermCementDemandFundamentalsRemainIntact10
ProjectExecutionsSlumpintheNearterm..12
SupplyPressuretoRemainHigh....15
DemandSupplyMismatchtoContinuetillFY14E..16
CementSectorintheMidstofanotherDownCycle17
RegionwiseDemandSupplyDynamics....19
CostPricingDynamics.25 OperatingCostPressureMounting;UtilisationLevelExpectedtoDrop25
EnsuingProductionDisciplineNotALongtermSubstitutetoDemandGrowth..26
RoEAnalysisduringProductionDiscipline..27
InterRegionMovementofCementisLimited.28
RisktoPricingPowerIncreases.30
ComparativeAnalysisofMajorCementCompanies32 CaptivePowerSourcing..32
FuelLinkages....32
LogisticalInfrastructure..33
GeographicalDiversification...34
RevenueDiversification..34
AssetSweating..35
BalanceSheetStrength..35
ValuationMethodology36 WePreferEV/EBITDAoverAssetbasedValuation36
WeUseLastDowncycleValuationMultiple...36
CompaniesSection ACC.37
AmbujaCements...46
IndiaCements... 56
ShreeCement.68
UltraTechCement.78
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ExecutiveSummaryValuations Exceed Our Fair Value Estimates Outlook
Negative
ThecementstocksandespeciallythelargeproducersACC,AmbujaCements
&UltraTechhaveoutperformedthemarketsoverlastoneyear.Whilethisis
inline with their strong fundamental strengths, the recent runups in the
stocks do not seem to have factored in the increasing risk to the industrys
pricingpowerandhencesubsequentrisktotheirprofitability.Cementstocks
aretradingathighervaluationmultiplesdespiterisingrisktotheirearnings.
Lowercementrealizationandfurthercostpressureshouldsetinadeclining
trend incompaniesprofitsin the ensuing quarters. Weexpect the declining
profitability,andfurtherratehikeannouncementsbyRBIshouldtriggerasell
offinthecementstocks.
Capacity Utilisation at 20year lows till FY14E Sector in a
Downcyclephase
Whilethelongtermcementdemandgrowthmetricsareinplace,slowdownin
project executionsacross bothrealty and infrastructure sectors sinceQ2FY11
would dampen cement demand CAGR to 6% in FY1113E. Channel checks
withindustryparticipantsintheinfrastructureandrealtysectorssuggestnew
projectofftakeshavebeenonadeclineoverthelastoneyear.
Additionally,cementcapacityisexpectedtoincreaseata7%CAGRinFY11
13E, which implies demandsupply mismatch would remain until FY14E.
Lowercapacityutilisationduetowideninggapbetweensupplyanddemand
wouldinturnreducethepricingpowerofthecementproducers.
Withcapacityutilisationof~75%inFY1114E,theIndiancementindustryisin
themidstofanotherdowncyclephase.Industryscapacityutilisationduring
this phase would be at 20 year lows, in our view. On a regional basis,
utilisationlevelsinthenorthernandcentralregionsshouldremainabove85%,
whiletheSouthernregionsutilisationwouldremainunder65%inFY1113E.
ProductionDisciplineUnlikelytoSustain
Industrys operating costs have shot up by ~40% during the last four years
while its capacity utilisation has been on a decline. The cement producers
acrossIndia(ledbythelargeproducers)resortedtoproductiondisciplinesince
the start of Q2FY11 to firm up cement prices thereby stabilizing their
profitability against rising cost pressure. Weakening demand during the
precedingquarterhaddraggeddowncementpricesacrossallregions.While
theproductiondisciplinehassofarhelpedcementmanufacturerstopasson
their cost pressure fully, threat to the ensuing production discipline looms
large.
Whilecapacityutilisationisexpectedtofallto20yearlowlevelsduringFY11
14E,industrysfragmentationcontinues.Further,thelargemanufacturersmay
getwaryofcontinuouslylosingtheirmarketsharetotheirsmallerpeersover
the last one year during the ensuing production discipline. These factors
shouldreduceindustrypricingpowerandthemanufacturersabilitytofullypass on their cost pressure. Hence, we expect the industrys margins and
profitabilitytocomeunderfurtherpressuregoingforward.
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Ourestimatesofcompaniesoperatingprofitsandfairvaluecandeclineby15
25% if net realization growth in FY13E is lower by 5% that our current
estimates.
InitiateCoverageonFiveCompanies
WeinitiatecoverageonthethreelargeproducersACC,AmbujaCements&UltraTechCementwith SELLrecommendation,asthesestocksaretrading
above their last downcycle valuations. Amongst the regional players, we
initiate coverage onIndiaCements with a HOLD recommendation,as the
stockhasalreadycorrectedby~25%overthelastoneyearinlinewithitsweak
fundamentalstrengths.WeinitiatecoverageonShreeCementwith HOLD
recommendationduetoofftakeriskstoitsmerchantpowerbusinesswhilethe
cementbusinessoutlookremainsstable.
ValuationSummaryofFiveStocks
WehavevaluedACC&AmbujaCementsat8.2xtheirCY12EEBITDA,while
wehavevaluedUltraTechCementsat7.5xitsFY13EEV/EBITDA,(implying10% discount to ACC & Ambuja). We estimate this valuation differential
would exist over the next one or two years until the various logistical and
infrastructuralupgradationcapex enhances UltraTechs assetturnover inline
with ACC & Ambuja Cements. We have valued Shree Cements cement
business at 6.5x its FY13E EBITDA and its merchant power business at 5x
FY13E EBITDA. We value India Cements standalone cement business at 6x
FY13EEBITDA(~25%discounttoACC&Ambuja)andits100%ownershipof
theCSKatRs.20pershare.
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CementMajorshaveOutperformedtheMarketThe cement sector and primarily the cement majors (UltraTech, ACC and
AmbujaCements)haveoutperformedtheBSESensexby~24%YTD.Thelarge
capstockshavedelivered~11%returnoverthelastoneyear.Incontrast,the
stocksofsmallercementcompaniesaredown1540%overlastoneyear.
Exhibit2:PriceperformanceofmajorcementcompaniesinIndia
CMP Mktcap Absolutereturn(%) 2yr 3yr RelativetoSensex(%)
CementStockPerformance(%) (Rs) (Rsbn) 3m 6m 1yr YTD CAGR CAGR 3 6m 1yr YTD
UltraTechCementLtd. 1,149 315 11 13 11 6 18 20 25 23 24 27
AmbujaCementsLtd. 151 232 15 21 10 6 21 28 23 23 23 24
ACCLimited 1,070 201 8 7 12 0 15 14 26 17 17 21
JaiprakashAssociatesLimited 70 149 (15) (13) (44) (34) (8) (7) (30) (17) (34) (11)
ShreeCementLimited 1,715 60 (1) (3) (16) (15) 6 4 (3) 2 7 46
CenturyTextiles&IndustriesLimited 288 27 (15) (7) (44) (33) (8) (0) (30) (15) (24) (12)
BirlaCorporationLimited 319 25 (12) 6 (16) (12) (5) 13 (2) 6 6 31
IndiaCementsLimited 74 23 (12) (18) (33) (32) (5) (11) (20) (15) (24) (19)
MadrasCementLimited 101 24 14 10 (11) (5) 21 17 2 13 (5) (7)
OrientPaper&IndustriesLimited 62 12 4 35 (3) 13 11 42 10 30 6 24
Source:Bloomberg,KarvyInstitutionalResearch
Outperformance attributed to companies fundamental
strengths:Thestrongoutperformanceofthecementmajorscanbeattributedtotheirstrongfundamentaldriversbothoperationalandfinancial.Asshown
inthetablebelow,wehaverankedthreecementmajors(UltraTech,ACCand
Ambuja Cements) and three regional companies (Shree Cement, India
Cements,MadrasCements)onthosefundamentaldriversonascoreofOneto
Five.Wehaveascribedahigherscoretothecompaniesforaparticulardriver
whichincreasesitsoperationalorfinancialstrength.
Exhibit3:ComparativeanalysisoffundamentalstrengthsofmajorcementcompaniesinIndia
FundamentalDrivers UltraTech ACCAmbuja
Cements
India
Cements
Shree
Cement
Madras
Cements
Captivepowersourcing 4 4 4 2 5 2
Fuellinkages 3 4 3 2 1 1
Logisticalinfrastructuresupport 4 4 4 2 1 1
Geographicaldiversification 4 4 4 2 2 2
Revenuediversification 2 2 2 2 4 2
AssetSweating 3 4 4 2 4 2
BalanceSheetstrength 4 3 4 1 3 1Overall(outof35) 24 25 25 13 20 11
Source:Companies,KarvyInstitutionalResearchScoreof5impliesstrongdriver,1impliesweakdriver
ExpectStockPrices toDecline GoingForward;Sector
OutlookNegativeWehaveaNegativestanceonthesectorasweexpectprofitabilitytodecline
during FY1113E. Lower capacity utilisation and increasing industrys
fragmentationwouldimpactproducerspricingpower.Hence,weexpectthey
should not be able tofullypass ontheir rising cost pressure. We expect the
industrysRoEtocontractfrom~12%inFY11to~9%byFY13E.However,as
suggested by their higher fundamental strengths, we expect the largemanufacturers to deliver higher operating margins of ~20% in FY13E vs.
industryaverageof17%.ThesemanufacturersshoulddeliverhigherRoEsof
~13%againstindustrys9%RoEinFY13E,inourview.
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Exhibit 4: Declining profitability to drag down stock performance going
forward
Source:CMA,KarvyInstitutionalResearch
Exhibit5:RelativeValuations&TargetMultiples
Companies Recommendation CMP Mcap EV/EBITDA(x)EV/MT
(US$)
Target
multiple
Target
Price
Implied
EV/MT
Rs Rsbn FY11 FY12E FY13E FY13E
EV/EBITDA
(x)Rs US$
ACC* SELL 1,065 200.1 9.1 9.1 9.1 124 8.2 952 112
AmbujaCements* SELL 151 230.2 10.2 10.4 10.0 159 8.2 127 130
IndiaCements HOLD 73 22.3 9.4 6.9 6.7 87 6.0 76 88
ShreeCement HOLD 1,700 59.2 6.1 6.4 5.5 90 6.5 1,786 96
UltraTechCement SELL 1,149 314.9 11.5 8.7 8.6 132 7.5 972 115
Source:Company,KarvyInstitutionalResearch*FY11,FY12E,FY13EreferstotheirCY10,CY11E,CY12Efinancials
KeyTriggersDecliningprofitabilityoverthenextthreequartersledbylowerrealizationand
highercostpressure
FurtherinterestratehikesbeingannouncedbytheRBI
KeyUpsideRisksIftheproductiondisciplinesustainsthroughinFY13E,netrealizationgrowth
could be 24% higher than our estimates and hence the producers can fully
passontheirincrementalcostpressure.Thesecouldleadtofairvalueestimates
of the companies under coverage being higher by 1020% than our current
estimates.However,evenifthisscenarioplaysout,therearelimitedupsidesin
thestocksattheircurrentmarketprices.
SummaryofCompaniesCoveredintheReport ACC:WeinitiatecoveragewithSELLrecommendationonthestockwithatargetpriceofRs.952pershare,valuingACCat8.2xitsCY12EEBITDA.
x PanIndia presence with strong fundamentals: ACC is Indias oldest
cementcompanyinIndiawith30mnMTofinstalledcementcapacityand
apanIndiapresence.Ithas~353MWofthermalCPPwhichmeets~80%of
its electricity requirements. ACC also has captive railway sidings and
railwaywagonswhichhelptocontrolitslogisticscost.ACCmeets~50%of
itscoalrequirementsthroughlowcostlinkagecoal.
x Decliningprofitability&returnratios:Whileoperatingcostsarelikelyto
growby~5.5%CAGRinCY1112E,weakpricingpowerwontallowACCtofullypassonthesecostpressuretotheendconsumers.Hence,operating
margins should contract by ~420 bps in CY1112E, which in turn would
leadtoitsEBITDAandPATtodeclineinCY1012Eat11%and15%CAGR
respectively.
60
70
80
90
100
0
8
16
24
32
40
FY02
FY03
FY04
FY05
FY06
FY07
FY08
FY09
FY10
FY11
FY12E
FY13E
CapacityUtilisation(%)RHS OPM(%) RoE(%)
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AmbujaCements:WeinitiatecoveragewithSELLrecommendationonthestockwithatargetpriceofRs.127persharevaluingAmbujaCementsat
8.2x its CY12E EBITDA. The target price implies a replacement cost of
US$130/MT.
x Third largest panIndia cement manufacturer: Ambuja Cements is the
third largest cement manufacturer in India having 27 mn MT ofcement
grinding capacity and 19.6 mn MTof clinker capacity. It is amongst the
Top4manufacturersinthewestern,easternregionsandnorthernregions.
Itdoesnothaveanypresenceinthesouthernregion.
x Operating profits to remain flat despite cost efficiencies: Ambuja
CementsisoneofmostcostefficientproducersinIndiawith~77%usageof
captive power. With the increasein fuel and freight expenses,we expect
operating costs to grow by ~5% YoY in CY1112E, while net realization
would rise by ~2% YoY. This should result in lower EBITDA/MT going
forward and hence we expect EBITDA to remain flat in CY1112E. We
expectbothRoEandRoCEtocontinuedownwardinCY1112E.However,
theCompanyshouldcontinuetodeliverindustryleadingreturnratios.
IndiaCements:Weinitiatecoveragewith HOLDrecommendationwithtargetpriceofRs.76,valuingIndiaCementsstandalonecementbusinessat6x
itsFY13EEBITDA,TrinetraCementatUS$60perMTandCSKsfranchiseright
atUS$140mn(Rs.20pershare).
x Strong realization growth in FY12E due to production discipline: The
productiondisciplinehasbeenmosteffectiveinthesouthernregion,where
India Cements has leading presence. This would help the Company to
register 12% YoY net realization growth in FY12E. However, lower
capacityutilisation(
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assetturnoverandnetmargins.WebelievethatRoCEof16%inFY13E
wouldbenefitfrom10%YoYEBITDAgrowthinFY13E.
UltraTech Cement: We initiate coverage on UltraTech with a SELLrecommendationasthestockhasrunupaheadofitsfairvalue,inourview.
WevalueUltraTechat7.5xitsFY13EEBITDA(implying10%discounttoACCandAmbuja).Weestimatethisvaluationdifferentialshouldexistoverthenext
oneortwoyearsuntilthevariouslogisticalandinfrastructuralupgradation
capex enhances UltraTechs asset turnover inline with ACC & Ambuja
Cements.
x Largest panIndia Company with strong comparative advantages
UltraTech Cement is Indias largest and Worlds ninth grey cement
manufacturer. In India, it is amongst the Top3 manufacturers in all the
regions.TheCompanyhas~540MWofthermalCPPwhichmeets~80%of
electricityrequirements.Ithasbeenamajoruserofseatransportationon
thewesterncoastofIndia.
x High exposure in southern & western regions to impact realization
growth: Over 50% ofUltraTechs capacityis located inthe southernand
western regions, where the price discipline is holding on the most.
However, the capacity utilisation in the southern region is expected to
declineto63%inFY1113Eperiod.Similarly,thecapacityutilisationinthe
adjacent western region would contract to 73% in FY1113E period. We
expect that declining utilisation levels in these regions would severely
affectthepricingpoweroftheproducerstherebyleadingtotheongoing
pricestabilityintheseregions.
x Earnings growth to moderate, return ratios on a decline: We expect
UltraTechCementssalesvolumegrowthwouldmoderateto~2%YoYinFY13Edespitefactoringin~83%utilisationforUltraTechinFY1213E.We
believe thatdeclining pricing power wouldreduce UltraTechsability to
fullypass onincremental cost pressurein FY13E. Weexpect UltraTechs
RoEtodeclineby690bpsinFY1113Eperiod.
Exhibit6:Keyperformancemetricsofthefivecompaniescoveredinthereport
CompaniesYearSalesVol
Growth(%)
Realization
Growth(%)
EBITDA/MT
(Rs)
OPM
(%)
EBITDA
growth(%)
FCF/EBITDA
(X)
RoE
(%)
RoCE
(%)
ACC CY10 (1.7) (2.5) 859 22.7 (31.5) 0.5 17.9 15.9
CY11E 12.9 3.9 811 20.7 6.6 0.5 15.8 14.5
CY12E 4.0 2.0 742 18.6 (4.8) 0.1 13.4 12.4
ACEM CY10 8.2 (1.8) 968 26.0 (0.9) 0.7 18.1 17.1CY11E 4.1 2.5 906 23.6 (1.6) (0.0) 14.4 13.6
CY12E 6.0 2.1 857 21.8 0.3 0.1 12.7 12.0
ICEM FY11 (9.1) 2.0 385 11.1 (50.5) (0.7) 1.6 2.6
FY12E (2.8) 11.6 621 16.1 56.5 0.5 2.5 3.4
FY13E 7.0 1.9 583 14.8 0.4 0.4 2.1 3.1
SRCM FY11 0.2 (7.6) 718 25.2 (41.4) 0.1 13.5 15.9
FY12E 5.8 3.4 713 22.5 1.0 0.5 9.9 8.9
FY13E 5.6 3.6 707 20.6 10.1 0.2 22.9 16.0
UTCEM FY11 4.2 4.6 686 20.1 32.1 (0.9) 19.9 13.7
FY12E 4.4 4.9 748 20.9 30.8 0.2 15.3 11.2
FY13E 1.5 4.3 734 19.7 0.2 0.0 13.1 10.1
Source:Companies,KarvyInstitutionalresearch
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SensitivityAnalysisoftheFiveCompaniesThefollowingtablesenumeratetheimpactonprofitabilityandvaluationsof
the five stocks covered in the report due to variations in key parameters in
FY13E.
Exhibit 7: Impact of 1% increase in the followingparametersonEBITDA(%)
Exhibit 8: Impact of 1% increase in the followingparametersonEPS(%)
SalesVol Realization Fuelcost Freightcost
ACC 1.2 5.1 (1.2) (0.9)
ACEM 0.9 4.3 (1.2) (1.0)
UTCEM 0.7 4.1 (1.3) (1.1)
SRCM 0.9 3.2 (1.8) (0.7)
ICEM 0.6 7.0 (2.0) (1.5)
SalesVol Realization Fuelcost Freightcost
ACC 1.5 6.5 (1.5) (1.2)
ACEM 1.1 5.3 (1.4) (1.3)
UTCEM 1.0 6.0 (1.9) (1.6)
SRCM 1.5 5.0 (2.8) (1.1)
ICEM 4.0 45.3 (12.7) (9.6)
Source:KarvyInstitutionalResearch Source:KarvyInstitutionalResearch
Exhibit 9: Impact of 1% increase in the following
parametersonRoE(bps) Exhibit 10: Impact of 1% increase in the following
parametersonTargetPrice(%)
SalesVol Realization Fuelcost Freightcost
ACC 19 81 (19) (15)
ACEM 13 63 (17) (15)
UTCEM 12 73 (23) (20)
SRCM 30 101 (57) (22)
ICEM 6 64 (18) (14)
SalesVol Realization Fuelcost FreightCost
ACC 1.1 4.8 (1.1) (0.9)
ACEM 0.8 3.8 (1.0) (0.9)
UTCEM 0.7 4.4 (1.4) (1.2)
SRCM 1.1 3.8 (2.2) (0.8)
ICEM 1.0 12.5 (3.6) (2.7)
Source:KarvyInstitutionalResearch Source:KarvyInstitutionalResearch
TwoKeyObservationsI. Whilethevariationsinsalesvolume,fuelcostandfreightexpensesaffect
earningsandvaluationby~0.51.5x,thevariationsinnetrealizationhave
almost 46x impact on these parameters. This implies that if producers
pricing power continues to reduce, their profitability and subsequent
valuationsshoulddeclinesignificantly.
II. Low debt levels in case of the ACC, Ambuja Cements, UltraTech and
Shree Cement reduces their EPS and RoE volatility. We expect India
CementsRoEtoremainunder3%duringFY1113E.Itshighdebtlevels
increasesitsfinancialleveragemultifold.
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DemandSupplyDynamics
Longterm Cement Demand Fundamentals Remain
Intact
Overthe lasttwenty years, the cement demandinIndia has grownat ~1.22xGDP growth. Housing / Realty sector has sofar accounted for ~75% oftotal
cement consumption in India, while the infrastructure sector and industrial
constructionaccountedfor25%theremainingdemand.
Exhibit 11: Cement demand grew at 1.22x GDP growth during the last 20
years
Source:CMA,RBI,KarvyInstitutionalResearch
Exhibit12:GDPandcementconsumption(percapita)arestronglycorrelated
Source:CMA,RBI,KarvyInstitutionalResearch
Exhibit13:Expandingshareofinfrastructuresectorscementconsumption
Source:CRISILResearch,KarvyInstitutionalResearch
4%
1%
6%
11%
16%
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012E
2013E
2014E
GDPgrowth(%) CementConsumptionGrowth(%)
80
100
120
140
160
180
25,000 30,000 35,000 40,000 45,000 50,000CementDemand(K
g/capita)
IndiasGDP(Rs/capita)
64%54%
17% 30%13% 11%
6% 5%
500
700
900
1100
0%
20%
40%
60%
80%
100%
FY0509 FY1014E
Housing Infrastructure CommercialConstruction Industrial Totaldemand(mnmt)RHS
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However, the infrastructure sector is expected to gain a larger share of the
cement demandpie onbackof largeinvestmentspegged toimproveIndias
infrastructure facilities. The Government of India has been doubling its
investment outlay in each of the 10th, 11th & 1 2th Five Year Plan (FYPs) to
supporttheGDPgrowthmomentum.
AsperCRISILResearchthecementconsumptionshareof infrastructureand
industrial sectors is expectedtoexpand to35% during FY1014E asagainst
23%duringFY0509
Exhibit14:CementDemandfromInfrastructureSectortodoubleto~480mn
MTinFY1317Easperplannedcapexoutlayin12thFiveYearPlan
Source:PlanningCommissionofIndia,KarvyInstitutionalResearch
Exhibit15:PowerCapacityExpansionScheduleforFY1015EperiodStrong
orderbookinpipelinetoaidlongtermcementconsumptiongrowth
Source:CEA,KarvyInstitutionalResearch
Exhibit 16: Out of50,405kms underNHAI, 70% still to becompleted over
nextfourtofiveyears
Source:NHAI,KarvyInstitutionalResearch
0
40
80
120
160
200
Power Roads Telecom Railways Irrigation Water&
Sanitation
Ports&
Airports
Others
XIthPlan XIIthPlan
10
20
30
4
8
12
16
FY10 FY11E FY12E FY13E FY14E FY15E
Central State Private TotalCapex(RHS)
000MW 000MW
4,000
8,000
12,000
16,000
4,000
8,000
12,000
16,000
P1&2 P3 P4 P5 P6 P7 GQ
Done UnderImplementation Remaining Total(RHS)
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CementSectorThematic
ProjectExecutionsSlumpintheNeartermDenting
DemandGrowthtobelow10%inFY1113E
WhileweexpectthelongtermcementdemandtofollowtheCementDemand
Factor(CDF=CementDemandGrowth/GDPGrowth)of1.22x,thereareno
measurestomeaningfullyassesstheneartermcementdemandgrowth.Hence,we have tried to analyze trends in CDF to identify the nearterm demand
trends.Overthelast20years,theCDFhasremainedaboveoneexceptforfour
instances when it was below one. In fact, in FY01, the factor was negative
owning toa decline inthe cement demandgrowth. Inall the four instances
when the CDF was below one, it rebounded to more than one in the
subsequentyear.Additionally,theCDFhasstabilizedoverthelastsixtoseven
years,asagainstthehighvolatilityitwitnessedduringtheprecedingtenyears.
Basedonthetwotrendsasdiscussedabove,weexpectthecementdemandin
FY1213Ewouldbehigherthan4.7%inFY11.
Exhibit17:CementDemandFactor(CDF)trendoverthelast17years
Source:RBI,CMA,KarvyInstitutionalResearch
ThecementconsumptioninFY11shrunkto~4.7%,asactivitiesslumpedacross
bothrealtyand infrastructuresectors.Risinginterestcostshasimpactedsales
offtakefortherealtysector.Thebureaucraticinactivityafterunearthingofa
slew of scams and scandals has slowed down both Governmentled
infrastructureactivitiesaswellasprivatesectorledprojects.
Exhibit18:RisingcostofcapitaltoimpactdemandofftaketillFY12E
Source:RBI,KarvyInstitutionalResearch
0.20
0.20
0.60
1.00
1.40
1.80
2.20
2.60
FY94 FY96 FY98 FY00 FY02 FY04 FY06 FY08 FY10
Cementdemandfactor
4.0
5.0
6.0
7.0
8.0
9.0
Oct05 Mar06 Aug06 Jan07 Jun07 Nov07 Apr08 Sep08 Feb09 Jul09 Dec09 May10 Oct10 Mar11 Aug11
RepoRateTrend
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CementSectorThematic
Exhibit19:HousingCreditGrowthRecoverymuted
inFY11asinterestratestartedtosurge
Exhibit 20: Revenue (Rs bn) trends of nine realty
companiesinIndia
Source:RBI,KarvyInstitutionalResearch Source:Bloomberg,KarvyInstitutionalResearch
Exhibit21:BanksCreditO/SYoYtoInfraSector(%)
Trendingdownwards
Exhibit 22: Revenues (Rs bn) of 28 Infrastructure &
Powersectorcompanies;Growthslowingdown
Source:RBI,KarvyInstitutionalResearch Source:Bloomberg,KarvyInstitutionalResearch
Channel checks with industry participants in the infrastructure and realty
sectors suggest that the new project offtakesin realty sector have been ona
decline over the last one year. As per realty research firm PropEquity, the
housing projects launches across top eightcities inIndiahave dropped 31%
since Q3FY11. Slow demand has been attributed to rising construction cost,
higher interest rate. Moreover, delayed deliveries have further added to
reduction in new project announcements. Infrastructure projects have also
sufferedasinvestmentsinnewprojectshavebeenonadeclinein2011vs.2010.
The execution delay has resulted in 22% increase in project costs. Land
acquisitiondelays,changeinscopeofprojects,escalatingmaterialcost,service
outlay,etc.aretheotherreasons,whichcanbeattributedtothecostoverruns.
Factoringintheexecutiondelays,weexpecttheCDFmayremainunder1xat
leastduringFY1213EeventhoughitmayincreasesubsequentlyfromitsFY11
levels. Hence, we expect cement demand CAGR of 6% during FY1113E as
against10%demandCAGRduringFY1113Eperiod.
0%
10%
20%
30%
40%
50%
60%
FY05 FY06 FY07 FY08 FY09 FY10 FY11
10%
0%
10%
20%
30%
40%
50%
30
60
90
120
150
FY06 FY07 FY08 FY09 FY10 FY11 FY12E FY13E
Realty 3yrCAGR
0%
20%
40%
60%
Apr08
Sep08
Feb09
Jul09
Dec09
May10
Oct10
Mar11
BankscreditO/StoInfraSectorYoYchange(%)
0%
10%
20%
30%
800
1,600
2,400
3,200
FY06 FY07 FY08 FY09 FY10 FY11 FY12E FY13E
Constructionandpowersectors 3yrCAGR
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16September,2011
CementSectorThematic
Exhibit23:CostOverrunsinCentralSectorMegaProjects(RsBn)
Sectors
No.of
Projects
Anticipated
Cost
Cost
Overrun
Rise
(%)
Atomicenergy 3 226 48 27.2
Civilaviation 2 32 0 0
Coal 7 159 29 21.9Fertilizer 3 41 0 0
Mines 1 44 3.1 7.6
Steel 5 621 244 64.5
Petroleum 36 1,490 102 7.4
Power 44 1,655 45 2.8
Railways 28 705 340 93.3
RoadTransport&
Highways10 156 12 8.2
Shipping&Ports 5 70 4.1 6.2
Telecom 3 42 5.52 15.2
Urban
Development2 305 154 102.4
WaterResources 1 12 6.44 118.6
GrandTotal 150 5,558 993 21.8
Source:MOSPI,ProjectMonitor,KarvyInstitutionalResearch
Exhibit24:Mostofthe150centralsectormegaprojects
arebehindschedulesasonApril2011
Exhibit25:Costoverrunratiohasstartedtosurgeagain
ledbyprojectexecutiondelays
Source:MOSPI,ProjectMonitor,KarvyInstitutionalResearch Source:MOSPI,ProjectMonitor,KarvyInstitutionalResearch
On
Schedule,55
Facedtime
overruns,69
Commission
ingdatenot
fixed,26
0%
20%
40%
60%
80%
1991 2000 Feb/08 Apr/11
Costoverrunratio
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16September,2011
CementSectorThematic
SupplyPressuretoRemainHigh
High return ratios during the last 56 years prompted capacity expansion
drive, as the incumbent ploughed their internal accruals and new players
grabbedtheopportunityprovidedby10%cementdemandCAGRprojections.
Hence, many newprojects were announced and commissioned over the lastthreetofouryears.Theindustryadded~80mnMTduringFY10andFY11,and
another42mnMTcapacityislikelytogetcommissionedinFY1213Eperiod.
We believe that the supply pressure would remain high even though the
expansionrateexpectedtoslowdown to 7%CAGR inFY1113Evs. 16% in
FY0810.
Exhibit26:CapacityExpansionplansfornexttwoyearsinIndia(mnMT)
Companies District State Region FY12E FY13E
AndhraCements Dachapalli AP S 2.1
KJSCement Satna MP C 2.2
JKLakshmi Haryana N 0.5
JaypeeGroup Nalgonda AP S 3.5
BirlaCorporation Durgapur, WB E 0.6
MadrasCements Ariyalur, TamilNadu S 2.0
JaypeeGroup(SAILJV) Bokaro Jharkhand E 2.1
BirlaCorporation Chanderia Rajasthan N 1.2
JSWSteel Kurnool AP S 1.5
ABGCement Kutch, Gujarat W 3.3
JaypeeGroup Churk UP C 1.5
JaypeeGroup Bina UP C 2.0
Heidelberg Imlai,Jhansi UP C 2.9
SagarCements Gulbarga, Karnataka S 2.8
CenturyPlywood Guwahati Assam E 1.6
CenturyPlywood Kahlegaon, Bihar E 1.6
CenturyTextiles Murshidabad WB E 1.5
JaypeeGroup Roorkee Uttrakhand N 1.0
JaypeeGroup Sidhi UP C 2.0
SAIL Kulti WB E 2.0
BirlaCorporation Chanderia Raj N 1.5
JKLakshmi Durg Chhattisgarh N 2.7
Total TotalAdditions 19.0 23.1
Source:KarvyInstitutionalResearch
RegionwiseCapacityExpansion:Whilethesouthernregionleadsincapacity
expansioninFY1113E,thecentralandtheeasternregionswouldgaintraction
in FY13E. Out of the total additions of 72 mn MT in FY1113E period, the
southernregionaccountsfor23mnMT(~33%share).Webelievethiswouldkeeptheutilizationlevelssuppressedinsouthernregionsatleastforthenext
twoyears.Theeasternandthecentralregionswouldaccountfor65%ofnew
additions during FY13E. While we expect these two regions to continue to
grow at >8% during FY12E and FY13E, we expect the imports from nearby
regionstoreduceintheseregionsasthesenewcapacitiesgetcommissioned.
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CementSectorThematic
Exhibit27:CapacityAdditionsregionwiseoverthenexttwoyears
(mnMT) CapacityAdditions YearEndInstalledCapacity Shareofnewadditions
Regions FY11 FY12E FY13E FY11 FY12E FY13E FY11 FY12E FY13E
Northern 3.2 1.7 5.2 62 64 69 11% 9% 23%
Eastern 2.7 6.7 37 40 46 0% 14% 29%
Western 10.5 3.3 52 55 55 35% 17% 0%Central 4.3 2.2 8.4 35 38 46 14% 12% 36%
Southern 11.8 9.1 2.8 110 119 122 40% 48% 12%
29.8 19.0 23.1 296 315 338 100% 100% 100%
Source:KarvyInstitutionalResearch
Exhibit28:Southernregiontoaccountfor~33%oftotal
newcapacityadditions(mnMT)inFY1113E
Exhibit29:EasternandCentralregionstoaccountfor
higherincrementaladditionsinFY13E
Source:CMA,KarvyInstitutionalResearch Source:CMA,KarvyInstitutionalResearch
DemandSupplyMismatchtoContinueuntilFY14E
Based on the demand supply projections as discussed below, we expect
industrys capacity utilization to remain under 80% until FY14E. Lowercapacityutilisationshouldinturnnegativelyimpactthepricingpowerofthe
cementmanufacturers.
Exhibit30:DemandSupplymatrixfortheIndianCementIndustry
DemandSupplyMatrix(mnMT) FY07 FY08 FY09 FY10 FY11 FY12E FY13E FY14E
Installedcementcapacity(mnMT) 166 190 212 266 296 315 338 353
Additionduringtheyear 6 24 22 54 30 19 23 15
EffectiveCementCapacity(mnMT) 166 179 205 235 278 303 324 339
EffectiveCapacityGrowth(%) 5.0 8.1 14.3 14.6 18.3 9.2 6.8 4.5
CementProduction(mnMT) 155.7 168.3 181.0 200.3 209.2 221.7 239.4 263.4
EffectiveCapacityUtilization(%) 93.9 93.9 88.3 85.2 75.3 73.1 73.9 77.8
Cementconsumption(mnMT) 155 168 181 200 209 222 239 263Consumptiongrowth(%) 9.7 8.0 7.9 10.4 4.7 6.0 8.0 10.0
Source:CMA,KarvyInstitutionalResearch
5.0
10.0
15.0
20.0
25.0
Northern Eastern Western Central Southern
FY11 FY12 FY13
0%
20%
40%
60%
80%
100%
Northern Eastern Western Central Southern
FY11 FY12 FY13
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CementSectorThematic
CementSectorintheMidstofADownCycle
Longterm capacity utlisation trend during FY1120E to be lower
comparedtoprevioustwodecades
Overthelastfortyyears,theIndiancementindustryhasseenmultipledown
cycle periods when the utilization levels declined prominent among them
being19711974period(~3years),1980s(thewholedecade)andthe20012004
period (~4 years). Even though the pace of capacity addition would slow
downinthecomingyears,weestimateaveragecapacityutilisationof~82%in
FY1120Ewouldbe370bpslowercomparedtothatinFY0110periodand130
bps lower compared to that in the preceding decade (FY9100). This is
primarilyonaccountsurgeincapacityadditionrateduringthefirstfewyears
ofthecurrentdecade.
Exhibit31:CementCapacityUtilizationTrendoverthelastFortyYears
Source:CMA,KarvyInstitutionalResearch Note:TheDottedLinesrepresentTenYearAveragetrend
CementCyclesinIndiainLastTenYears
x DowncyclePeriod(FY01FY04): Duringthisperiod,thedemandgrowth
slumped, while the capacities grew ata faster pace, which resulted in a
slump in capacity utilisation. Moreover, higher dependence on external
powersourcesandlogisticssupportkepttheoperatingcostshigh.
x UpcyclePeriod (FY05FY10): During thisperiod, thecapacity utilisation
startedtofirmupandroseabove90%levels,ascementdemandgrewat
~10% CAGR. In additions, the manufacturers invested in captive power
and logistic infrastructure support, which improved the industrys cost
efficiency.Thoughtheprofitabilityandreturnratiosimprovedduringthe
period, increased returns and cashflow attracted higherinvestment into
newcapacitiesinFY1011periods.
Exhibit32:Variousfundamentalandprofitabilityparametersduringthecementcycleoverthelasttenyears
Cycle PeriodCapacity
(mnMT)
Capacity
CAGR
(%)
Utilisation
(%)
Avg
Prices
(Rs/bag)
GDP
growth
(%)
EBIDTA
(Rs/MT)
RoE
(%)
PE
(x)
EV/EBITDA
(x)
EV
(US$/MT)
Downcycle FY01FY04 132 7.6 81 142 6.4 467 13.1 16.3 7.9 70
Upcycle FY05FY10 182 9.2 89 207 8.6 905 25.2 13.0 7.0 128
Downcycle FY11FY14E 311 6.7 75 248 8.0 830 14.1 17.4 8.6 130
Source:CMA,KarvyInstitutionalResearch,Notes1)ValuationsaretheaveragesofACCandAmbujaCements2)Valuationsforcurrentdowncycleperiodistill31stAug2011
60
65
7075
8085
9095
100
FY68
FY71
FY74
FY77
FY80
FY83
FY86
FY89
FY92
FY95
FY98
FY01
FY04
FY07
FY10
FY13
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CementSectorThematic
Exhibit33:Cementindustryscapacityutilisationtoremainunder80%until
FY14E
Source:CMA,KarvyInstitutionalResearch
Exhibit34:Cementindustrysprofitability&returnratiostrendingtowards
lastdowncyclelevels
Source:CMA,KarvyInstitutionalResearch
x CurrentDowncycle PeriodFY1114:Duringthecurrentdowncycle,the
industrys capacity utilisation is expected to decline to ~75%, one of the
lowestlevelsduringthelasttwentyyears.Therehasbeenthedualimpact
of a surge in capacity growth as well asof a slowdown in the demand
growthledbythegovernmentalinactionsandrisingcostofcapital.
During the current downcycle period, the valuationswould contract from
theircurrentlevelsinlinewithdeclineinprofitabilityofthecementindustry.
60
70
80
90
100
(5)
5
15
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011E
2012E
2013E
2014E
EffectiveCap.Utilisation(RHS) Capacitygrowth Demandgrowth
Upcycle Downcycle
60
70
80
90
100
0
8
16
24
32
40
FY02
FY03
FY04
FY05
FY06
FY07
FY08
FY09
FY10
FY11
FY12E
FY13E
CapacityUtilisation(%)RHS OPM(%) RoE(%)
Downcycle
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CementSectorThematic
RegionwiseDemandSupplyDynamics
Northern Region: Low demand growth but firm capacity
utilisation
Demand drivers in the region: Inline with higher Gross State Domestic
Product(GSDP)growth,thecementdemandhasbeenrobustduringFY0710
periodandcompanieshavebeenabletogethigherrealizationonthecement
sales.TheCommonwealthGameswasamajordemanddriverinFY0910.With
projectscomingtoanendbymidFY11,cementdemandgotimpactedinFY11.
Other demanddrivers in the region have been hydel projects tothe tune of
1800MWtobecommissionedoverthenextthreeyears,independenthousing
projectsinthesemiurbanandruralareas,especiallyinPunjabandurbaninfra
projectsintheNCRandChandigarh.
Exhibit35:NorthernRegionLowerDemandCAGRof5.6%inFY1113Evs.8.6%inFY0810
DemandSupplyMatrix(mnMT) FY07 FY08 FY09 FY10 FY11 FY12E FY13E
EffectiveCementCapacity(mnMT) 33 38 48 51 60 63 66
EffectiveCapacityGrowth(%) 11 18 26 6 17 5 5
CementProduction(mnMT) 32 36 41 47 52 55 59
EffectiveCapacityUtilization(%) 99 95 85 92 86 88 89
Cementconsumption(mnMT) 30 34 35 38 40 42 45
Consumptiongrowth(%) 10.3 12.0 4.8 9.4 3.9 5.5 7.6
Source:CMA,KarvyInstitutionalResearchExhibit36:GSDPgrowthrateshavebeenstronginthenorthernstates(%)
NorthernRegion FY06 FY07 FY08 FY09 FY10 GSDPCAGR(%) MajorCementPlayersintheregion
Haryana 8.8 11.6 9.8 8.6 10.0 9.7
Shree Cement, UltraTech, Ambuja
Cement,BinaniCement,ACC
Punjab 5.4 10.2 9.3 6.6 7.8 7.8
Rajasthan 6.7 11.7 5.1 7.0 4.0 6.9
HimachalPradesh 8.4 9.1 8.6 7.4 8.1 8.3
Uttarakhand 13.5 14.6 18.2 8.0 10.7 12.9
Source:NationalPlanningCommission,KarvyInstitutionalResearchExhibit37:CementConsumption(percapita)hasbeen
thanallIndiaaveragelevels Exhibit 38: Price Trend High Capacity Utilisation
shouldkeeppricesstableoverthenexttwoyears
Source:NationalPlanningCommission,CMA,KarvyInstitutionalResearch Source:CMA,KarvyInstitutionalResearch
ThecementdemandCAGRof5.6%inthenorthernregioninFY1113Ewould
be slightly lower than the industry demand CAGR of 6.2%. Lower demand
projectionsareonaccountofaslowdowninrealtyofftakeacrossIndiaaswell
as duetoslump in infrastructure projectexecutions.However,with capacityexpansionsremainingundercheck,thecapacityutilisationintheregionwould
remain strong (~89%) in FY1213E, which in turn would keep cement prices
stableintheregion.ThecementconsumptionintensityisabovetheallIndia
averageof~180kg/capita.
0
100
200
300
400
0.0
5.0
10.0
15.0
Haryana Punjab Rajasthan Himachal
Pradesh
Uttarakhand
PerCapCementConsumption Kg(RHS) GSDPCAGR(%)
150
200
250
300
Jan09
Apr09
Jul09
Oct09
Jan10
Apr10
Jul10
Oct10
Jan11
Apr11
Jul11
North IndiaAvg
Rs/bag
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CementSectorThematic
EasternRegion:Industryleadingdemandgrowth;utilisationto
getimpactedinFY13Easnewcapacitiesgetcommissioned
Demanddriversintheregion:Thoughtheconsumptionintensityhasbeenthe
lowest in the region, with stable and growthfocused governments in most
statesofthisregions,cementdemandintheregionhasbeenupwardsof10%sincestartofFY09therebyboostingthedemandCAGRto11.4%inFY0410.
The region is a net importer of cement, as the capacity addition has lagged
demand growth. The demand drivers have been various industrial projects
implementedbystatessuchasOrissa,Jharkhand&Chhattisgarh(alltheseare
rich in mineral resources), alongwith IT/ITeSrelated demand from West
Bengal&Bihar.
Exhibit39:EasternRegion:DemandCAGRof9%inFY1113Evs.11.5%intheprecedingthreeyears
DemandSupplyMatrix(mnMT) FY07 FY08 FY09 FY10 FY11 FY12E FY13E
EffectiveCementCapacity(mnMT) 25 28 30 34 37 39 43EffectiveCapacityGrowth(%) 7 10 8 15 9 5 11
CementProduction(mnMT) 22.1 23.9 26.0 28.9 30.0 32.1 33.5
EffectiveCapacityUtilization(%) 88 86 87 84 80 82 77
Cementconsumption(mnMT) 24.0 25.3 28.2 33.4 36.5 39.3 43.2
Consumptiongrowth(%) 5.9 5.7 11.3 18.4 9.3 7.7 9.9
Source:CMA,KarvyInstitutionalResearch
Exhibit40:GSDPgrowthrateshaveimprovedintheeasternstatesoverthelastfewyears(%)
EasternRegion FY06 FY07 FY08 FY09 FY10 GSDPCAGR(%) MajorCementPlayersintheregion
Bihar 0.9 18.1 8.5 13.1 8.6 9.7
ACC, UltraTech, Lafarge India, OCL
India,AmbujaCement
Orissa 5.5 13.0 10.9 7.2 10.6 9.4
WestBengal 6.3 7.4 8.0 5.2 9.0 7.2
Chhattisgarh 3.2 18.6 8.6 6.8 11.9 9.7
Jharkhand (3.2) 2.4 20.5 4.7 6.6 5.9
Source:NationalPlanningCommission,KarvyInstitutionalResearchExhibit 41: Low cement consumption intensity
providesgrowthopportunity
Exhibit 42: Cement prices in the region may come
underpressureinFY13asutilisationlevelsdeclineto
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CementSectorThematic
CentralRegion:Whilethedemandgrowthisexpectedtoslow
down,theutilisationisalsolikelytobeaffectedinFY13E,as
newcapacitiesgettingcommissioned.
Demand drivers in the region: Though Madhya Pradesh (MP) and Uttar
Pradesh (UP) are two ofthe most populated states inthe region, the cementconsumptionintensityhasbeenanotherlowintheregion.Thecementdemand
witnessed CAGR of8.4%in FY0410. Housing projectsbothrural and urban
andhydelprojectsimplementedinUPhavebeenkeydemanddriverssofar.
The housing demand in the central region would be led by various
government schemes. Other demand triggers should be key central projects
like Pradhan Mantri Gram Sadak Yojna, Bharat Nirman and Indira Awas
Yojna. Cement prices have remained volatile in this region despite its stable
capacity utilisation as there has been continuous influx of cement from
adjoining northern region. We expect the price volatility to remain in the
regiongoingforwardledbylowerdemandgrowth.
Exhibit43:CentralRegion:DemandCAGRtocooldownto7%inFY1113Evs.11%inFY0810period
DemandSupplyMatrix(mnMT) FY07 FY08 FY09 FY10 FY11 FY12E FY13E
EffectiveCementCapacity(mnMT) 26 27 29 29 34 38 38
EffectiveCapacityGrowth(%) 2 4 8 (0) 18 13
CementProduction(mnMT) 24.0 25.0 26.1 29.8 30.6 32.4 33.8
EffectiveCapacityUtilization(%) 94 94 91 105 91 86 89
Cementconsumption(mnMT) 22.4 23.8 26.2 30.7 33.5 35.7 37.8
Consumptiongrowth(%) 8.9 6.1 10.4 17.2 9.0 6.6 5.9
Source:CMA,KarvyInstitutionalResearchExhibit44:GSDPgrowthratetrendsoftwostatesintheregion(%)
CentralRegion FY06 FY07 FY08 FY09 FY10 GSDPCAGR(%) MajorCementPlayersintheregion
MadhyaPradesh 5.3 9.2 4.7 7.8 8.5 7.1 J P Associates, ACC, UltraTech, Century Textiles, Birla
CorporationUttarPradesh 6.3 8.2 7.5 6.1 7.2 7.0
Source:NationalPlanningCommission,KarvyInstitutionalResearchExhibit45:Lowcementconsumptionintensityinboth
thestates
Exhibit46:Weexpectthepricevolatilitytocontinueas
demandgrowthexpectedtoslowdown
Source:NationalPlanningCommission,CMA,KarvyInstitutionalResearch Source:CMA,KarvyInstitutionalResearch
Thecementdemandintheregionislikelytoslowdownduetorecentdelaysin
policyimplementationbytheGovernment.Hence,weexpectdemandCAGR
toslowdownto7%inFY1113Eperiod.
0
50
100
150
7.0
7.0
7.1
7.1
7.1
MadhyaPradesh UttarPradesh
PerCapCementConsumption Kg(RHS) GSDPCAGR(%)
150
200
250
300
Jan/09
Apr/09
Jul/09
Oct/09
Jan/10
Apr/10
Jul/10
Oct/10
Jan/11
Apr/11
Jul/11
Central IndiaAvg
Rs/bag
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CementSectorThematic
Western Region: Despite higher growth rate, the capacity
utilisation is expected to remain low, while the adjacent
southernstatesposefurtherrisktopricingpower.
Demanddriversintheregion: Thewesternregionhasoneofhighestcement
consumptionintensitiesinIndia.ThecementdemandhasgrownataCAGRof8.9%inFY0410drivenbyrealestateboominthemajorcitiesMumbai,Pune,
AhmedabadandSuratandstrongdemandfrominfrastructureandcommercial
segmentsinthesecities.However,thecementdemandinFY1213Eperiodis
expectedtodeclineledbyaslumpintherealtysectoraswellasduetonon
availabilityoflabourersinthetwostates.Thewesternregionconsumesmore
cementthanthatisproducedintheregion.Thedeficitismostlymetbythe
neighboringsouthernstates.
Thecementpricesintheregionhasbenefittedfromtheproductiondiscipline
invogueacrossIndia.However,continuedlowercapacityutilisationin FY12
13E period wouldaffect the abilities ofthecement manufacturers topasson
theincrementalcostpressuregoingforward.
Exhibit47:WesternRegionDemandCAGRof8.6%inFY1113Evs.9.8%inFY0810
DemandSupplyMatrix(mnMT) FY07 FY08 FY09 FY10 FY11 FY12E FY13E
EffectiveCementCapacity(mnMT) 29 29 33 35 43 47 49
EffectiveCapacityGrowth(%) 1 14 4 24 9 4
CementProduction(mnMT) 27.3 28.8 28.4 30.2 31.4 34.4 36.6
EffectiveCapacityUtilization(%) 94 98 85 87 73 73 75
Cementconsumption(mnMT) 28.3 32.2 34.0 37.5 41.5 44.7 48.1
Consumptiongrowth(%) 9.1 14.0 5.4 10.4 10.7 7.7 7.6
Source:CMA,KarvyInstitutionalResearchExhibit48:BoththestateshavepostedstrongGSDPgrowthrate(%)
WesternRegion FY06 FY07 FY08 FY09 FY10 GSDPCAGR(%) MajorCementPlayersintheregion
Gujarat 15.0 8.4 11.0 7.0 10.2 10.3 UltraTech, Ambuja Cement, Mehta Group, J P
Associates,SanghiIndustriesMaharashtra 14.5 14.1 10.8 7.8 8.7 11.1
Source:NationalPlanningCommission,KarvyInstitutionalResearch
Exhibit 49: Cement consumption intensity has been
higherthanallIndiaaverage
Exhibit 50: Cement prices to remain volatile due to
lower utilisation levels in the western and southern
regions
Source:NationalPlanningCommission,CMA,KarvyInstitutionalResearch Source:CMA,KarvyInstitutionalResearch
Thechancesofincreaseinsupplyinfluxfromthesouthernstatesasdemand
firmsupinthewesternregionishightherebyexertingdownwardpressureon
cementprices.
180
190
200
210
220
230
9.5
10.0
10.5
11.0
11.5
Gujarat Maharashtra
PerCapCementConsumption Kg(RHS) GSDPCAGR(%)
150
200
250
300
Jan/09
Apr/09
Jul/09
Oct/09
Jan/10
Apr/10
Jul/10
Oct/10
Jan/11
Apr/11
Jul/11
West IndiaAvg
Rs/bag
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SouthernRegion:Whiletheutilisationlevelsintheregionare
oncontinuousdecline,threattoensuingpricedisciplinelooms
large.
Demand drivers in the region: The southern region has been the leading
cementproducerandconsumerregioninIndia.Cementconsumptionintensityin the southern regionis the highest inIndia. The IT/ITeS sector has been a
majorcontributortodemandCAGRof10%inFY0510period.Whiletheboom
in the IT/ITeS sector led to strong demand for commercial and residential
constructions, infrastructure investments in roads, irrigation, airports and
variousgovernmentprojectshaveprovidedfurtherboosttocementdemandin
theregion.
However, the region witnessed a contraction in cement consumption as
AndhraPradesh(AP)& Karnatakafacedpoliticalinstability.Thesetwostates
constitute ~1718% of total cement consumption in India. Hence, lack of
decision making led to a contraction in cement consumption. The situation
doesnotseemtoimproveinthenearterm.However,thecementconsumption
growthinTamilNadu&KeralaisexpectedtoremainbettercomparedtoAP&
Karnatakaledbystableandgrowthfocusedgovernmentsinthosestates.
Exhibit51:SouthernRegion;DemandCAGRof2.7%inFY1113Evs.8.4%inFY0810
DemandSupplyMatrix(mnMT) FY07 FY08 FY09 FY10 FY11 FY12E FY13E
EffectiveCementCapacity(mnMT) 54 57 67 86 101 111 120
EffectiveCapacityGrowth(%) 6 7 17 28 18 9 8
CementProduction(mnMT) 50.2 54.2 59.8 64.2 65.3 67.4 76.9
EffectiveCapacityUtilization(%) 93 94 89 75 64 61 64
Cementconsumption(mnMT) 44.8 49.2 54.3 57.2 55.6 57.4 62.0Consumptiongrowth(%) 13.8 9.7 10.4 5.3 (2.7) 3.2 8.0
Source:CMA,KarvyInstitutionalResearchExhibit52:GSDPgrowthratetrendsofthemajorstatesintheregion(%)
SouthernRegion FY06 FY07 FY08 FY09 FY10 GSDPCAGR(%) MajorCementPlayersintheregion
AndhraPradesh 9.6 11.2 12.0 5.0 5.8 8.7
IndiaCements,UltraTech,MadrasCements,ACC,
DalmiaCement
Karnataka 11.0 9.9 12.6 3.8 5.0 8.4
Kerala 10.1 7.9 8.8 7.2 9.7 8.7
TamilNadu 13.3 14.9 5.9 5.8 9.0 9.7
Goa 7.8 9.7 5.6 9.5 13.0 9.1
Source:NationalPlanningCommission,KarvyInstitutionalResearchWhilethedemandgrowthhassloweddown,thesouthernregionremainsan
oversurpluszone,asthecapacityexpansionrateisexpectedtoremainhighin
FY1113E period. Thishas resulted in capacity utilisation declining to below
65%inFY1113E.Thecementmanufacturershavebeenabletoincreasecement
prices in Oct10Jan11 period and to hold on to those price levels over the
subsequent eight months led by production cut to match the incremental
demand. This discipline has held on despite the southern region being the
mostfragmentedregionsofall.
Thisdisciplinewouldnothelpthemanufacturersintheregiontopassontheir
incremental cost pressure until demand growth firms up beyond 10% tostabilizeutilizationlevelsatover75%.Assuchhighdemandgrowthmaynot
beachievedinFY1213E,weexpectthecementpricestocorrectintheregion.
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CementSectorThematic
Exhibit53:Cementconsumptionintensityishighestin
India
Exhibit 54: Prices surged led by production cuts, we
expectthisstabilitytocomeunderthreat
Source:NationalPlanningCommission,CMA,KarvyInstitutionalResearch Source:CMA,KarvyInstitutionalResearch
190
200
210220
230
240
7.5
8.0
8.59.0
9.5
10.0
Andhra
Pradesh
Karnataka Kerala TamilNadu Goa
PerCapCementConsumption Kg(RHS) GSDPCAGR(%)
150
200
250
300
Jan/09
Apr/09
Jul/09
Oct/09
Jan/10
Apr/10
Jul/10
Oct/10
Jan/11
Apr/11
Jul/11
South IndiaAvg
Rs/bag
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CementSectorThematic
CostPricingDynamics
Operating Cost PressureMountingwhile Utilisation
LevelExpectedtoDecline
Exhibit55:OperatingCostStructureofaCementManufacturerVariableCost(6575%) FixedCosts(2530%)
Rawmaterials(limestone,gypsum,andotherblendingadditivesflyash,slag,etc)1520% Employeecost510%
Fuelcost(coal,petcokeusedforclinkerisation,andifCPPthenpowergeneration)1520%SG&A (Maintenance, packaging,
advertising)2025%
Powercost(forgrinding,assistingotherprocesses)1015%
Transportcost(Clinkertransferbetweenplants,finishedcementtomarkets)20%25%
Source:Company,KarvyInstitutionalResearch
Exhibit 56: Operating Costs (Rs/MT) has shot up by
~40%overthelastfouryearswhileindustryscapacity
utilisation(%,RHS)hastrendeddownwards
Exhibit 57: Raw materials /MT (including fuel
expenses)haveshotupby~40%duringthesametime;
Freight/MT>20%
Source:KarvyInstitutionalResearch Source:KarvyInstitutionalResearch
Alargechunkoftheoperatingcost~7075%isvariable.Asshownintheabove
graphs,variablecostelementshave increasedovertheyearstherebypushing
theoperatingcostsupwardsby~40%overthelastfouryears.Fuelpricesboth
domestic and international have increased and are expected to remain firm
goingforward.Additionally,highercrudepriceshaveresultedinincreasein
domestic fuel price thereby increasing freight cost for the manufacturers.
Variouscriticalrawmaterialsgypsum(5%ofcement)andflyash(~2530%of
cement)havebeenontheriseandcementmanufacturershavetoabsorbthese
costpressure.
Exhibit58:DomesticCoalSupplyDeficittocontinueto
NonPowerSectorExhibit 59: Surge inInternational Prices has further
raisedManufacturingCost
Source:Industry,KarvyInstitutionalResearch Source:Bloomberg,KarvyInstitutionalResearch
20
40
60
80
100
120
1,800
2,000
2,200
2,400
2,600
2,800
Jun07
Sep07
Dec07
Mar08
Jun08
Sep08
Dec08
Mar09
Jun09
Sep09
Dec09
Mar10
Jun10
Sep10
Dec10
Mar11
80
90
100
110
120
130
140
150
Jun07
Dec07
Jun08
Dec08
Jun09
Dec09
Jun10
Dec10
Rawmaterials
Freight
50
80
110
140
170
200
FY10
FY11E
FY12E
FY13E
FY14E
FY15E
CoalDemand Cement&others Domesticcoalsupply
50
150
Jan08
M
ar08
Jun08
Sep08
Dec08
M
ar09
Jun09
Sep09
Dec09
M
ar10
Jun10
Sep10
Dec10
M
ar11
Jun11
Newcastlecoalspot/AustrIndex
RichardsBay6000kcfobsteam/S.africa
AsiaCoalspotMarkerIndex
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EnsuingProductionDiscipline
Production Discipline not a longterm substitute to demand
growthasameasuretopassoncostpressure
Inascenariowherelowerdemandalongwithincreasedcapacityadditionled
to a sharp decline in utilisation levels, the surge in operating cost pressure
resulted in the cement manufacturers resorting to production discipline. We
haveanalyzedthemeritsonaproductiondisciplineasatooltoarrestdecline
in profitability when cost pressure surges while demand growth remains
muted. As shown above, a large chunk of the operating costs of cement
manufacturerarevariableinnature.Wehaveworkedoutthecoststructureof
a new 2.5 mn MT cement plant (at operating level and including capital
charges) at various capacity utilisation levels. We have detailed below the
variableandfixedcostsincurredbythemanufacturerwhenoperatingat100%
capacityutilisation.
Exhibit60:CostStructureof2.5mnMTNewCementPlantFixedCosts(FCs) Rs.mn VariableCosts(VCs) Rs/MT
OperatingCost 1500 CostofProduction 1,500
Depreciation 450 Freight&Handling 700
InterestCost 101 Excise,SalesTax&Commissions 1,200
TotalFixedCosts(Rs.perMT) 1,051 TotalVariableCost 3,400
Source:KarvyInstitutionalResearch
Exhibit61:TrendinCost(RsperMT)atVariousUtilizationLevel
Capacity
Utilisation
(%)
Operating
Variable
Costs(A)
Operating
Fixed
Costs(B)
Total
Operating
Cost(A+B)
%Risein
operating
cost
Capital
Charges
Total
Cost
%Rise
intotal
cost
Excise,sales
tax&
Commissions
Breakeven
realization
/bag
%Sales
pricerise
required
100 2,200 600 2,800 220 3,020 1,200 211
90 2,200 667 2,867 2.4 245 3,112 3.0 1,200 216 2.2
80 2,200 750 2,950 2.9 276 3,226 3.7 1,200 221 2.6
70 2,200 857 3,057 3.6 315 3,372 4.5 1,200 229 3.3
60 2,200 1,000 3,200 4.7 367 3,567 5.8 1,200 238 4.3
50 2,200 1,200 3,400 6.3 441 3,841 7.7 1,200 252 5.7
Source:KarvyInstitutionalResearch
As shown in the above exhibit, a 10% reduction in plant utilization level
(throughsupplycut)wouldincreasetheplantsoperatingcostperMTby250
600 bps and increase the breakeven realization growth by 220570 bps. Thecementmanufacturershavemanagedtoincreaserealizationsatahigherrate
than the cost increase by controlling production during the weak demand
growth period as witnessed over the last one year. Average cement price
surgedto~Rs.280perbaginMar11.
Iftheproductiondisciplineholdson,therebyresultingincementpricesatRs.
280perbag,theplantwouldmakeaPBTofRs.28perbag(PriceofRs.280
minusbreakevenrealizationofRs.252)andanetmarginof8%evenbycutting
down its utilisation leveldown to50%.While the cement prices insouthern
regionareholdingonto~Rs.275levels,theaveragecapacityutilisationlevelis
likely to remain under 65% in FY1113E period, which implies the smaller
players would be operating at 3050% utilisation levels, while further costpressurewoulddragtheirprofits.
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CementSectorThematic
RoE Analysis during Production Discipline Low
UtilisationLevelstoDragProfitability
Asshownin the exhibitsbelow,a newcement plantcanmanagetomakean
RoEof15%at70%capacityutilisationifthecementpricescanremainstableat
~Rs.262perbagthroughtheproductiondiscipline.
Exhibit62:AnalysisofrequiredEBITDA/MTandretailcementpricesfora15%RoEofthesameplant(2.5mnMT)
Capacity
Utilisation
(%)
Cement
Sales
(mnMT)
Required
PAT
(Rsmn)
Required
PAT
(Rs/MT)
Required
PBT
(Rs/MT)
Interest+
Depreciation
(Rs/MT)
Required
EBITDA
(Rs/MT)
Required
Realisation
(Rs/MT)
Required
Cement
price
(Rs/bag)
90% 2.25 810 360 514 245 759 3,626 241
80% 2.00 810 405 579 276 854 3,804 250
70% 1.75 810 463 661 315 976 4,033 262
60% 1.50 810 540 771 367 1,138 4,338 277
Source:KarvyInstitutionalResearch (ProjectcostassumedatUS$120/MT,60%Debt)
Exhibit63:RequiredEBITDA/MTandretailcementpricesfora20%RoEofthesameplant(2.5mnMT)
Capacity
Utilisation
(%)
Cement
Sales
(mnMT)
Required
PAT
(Rsmn)
Required
PAT
(Rs/MT)
Required
PBT
(Rs/MT)
Interest+
Depreciation
(Rs/MT)
Required
EBITDA
(Rs/MT)
Required
Realisation
(Rs/MT)
Required
Cement
price
(Rs/bag)
90% 2.25 1,080 480 686 245 931 3,797 250
80% 2.00 1,080 540 771 276 1,047 3,997 260
70% 1.75 1,080 617 882 315 1,196 4,254 273
60% 1.50 1,080 720 1,029 367 1,396 4,596 290
Source:KarvyInstitutionalResearch(ProjectcostassumedatUS$120/mt,60%Debt)
Theplantcanachieve20%RoEwhileoperatingat70%capacityutilisationif
cementpricesholdontoRs273/baglevel.However,demandgrowthrecovery
to~10%levelsisnecessarytoimproveRoEonasustainablebasis.Wedonot
expectdemandgrowthtofirmupto10%ormoreuntilFY14E.Asillustratedin
the tables above, if capacity utilisation improves to 8090% levels led by
demandrecovery,a20%RoEcanbeachievedatretailcementpricesofRs250
260/bag.
Exhibit64:Decliningcapacityutilisationtosuppressprofitabilityfurther
Source:CMA,KarvyInstitutionalResearch
Weexpectcementindustrysutilisationtoremainunder75%duringFY1213E.
Utilisationinsouthernregionisexpectedtoremainunder65%whileweexpectthesametoremainunder75%inthewesternregionduringFY1213E.Hence,
industrysabilitytopassontheincrementalcostpressurewoulddecreaseand
we expect operating margins and RoE to remain under pressure going
forward.
60
70
80
90
100
0
8
16
2432
40
FY02
FY03
FY04
FY05
FY06
FY07
FY08
FY09
FY10
FY11
FY12E
FY13E
CapacityUtilisation(%)RHS OPM(%) RoE(%)
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CementSectorThematic
InterRegionMovementofCementisLimited
While prices vary across regions, interregion movement of cement is
restricted as large distance transportation is unviable: Cement is generally
consumedwithin300500kmsfromtheplantlocationasdistanceslargerthan
that makes it uncompetitive. Hence, price differences would exist amongstvariousregionswithoutprovidinganarbitrageopportunityfortheproducers.
Exhibit65:Cementprices(Rs/bag)varywidelyacrossregions
Source:CMA,KarvyInstitutionalResearch
Exhibit66:Regionalmovementofcementisgenerallyrestrictedtoadjoiningregionswithin300500kms
Supplyfrom
|DemandinFromN FromE FromS FromW FromC
Total
demandin
Demand
Share
NetImports/
(Exports)*
Captive
demand#
InNorth 25.8 0.0 0.0 0.1 1.6 27.6 17% 36% 94%
InEast 0.3 22.3 1.3 0.3 4.3 28.6 17% 21% 78%
InSouth 0.0 49.4 0.5 0.0 49.9 30% 18% 99%
InWest 3.8 0.0 7.8 19.3 0.4 31.3 19% 34% 62%
InCentral 7.7 0.3 0.2 0.4 19.1 27.6 17% 8% 69%
TotalSupply
from>37.5 22.7 58.7 20.7 25.4 165.1 100%
SupplyShare 23% 14% 36% 13% 15% 100%
Source: CMA,KarvyInstitutionalResearch
NotesThedatadoesnotincludeACCandAmbujaCementsnumbersastheydonotreportsalesbreakuptoCMA *Import/(Exports) refer to interregion
netmovementofcementJunMay2011#CaptiveDemand=Regionalproductionconsumedwithintheregionasapercentageoftotaldemandinthatregion.
Intheexhibitabove,wenotethatcementisprimarilyconsumedintheregionit
isproducedorisexportedtothetowns/citiesintheadjoiningregion.Foreg,
out of 58.7 mn mt of cement produced in the southern region, 13% was
exported to the adjoining western region. There were only marginal exports
(~3%)tofar off easternand centralregions.Anotherpointto note isthatthe
northern and the southern regions (60% of total production) are net surplus
producers while the other three regions witness net inflow of cement from
adjoiningregions.
Cement price dynamics since the start of the production
discipline
In Q3FY11 when the cement demand slumped across India, the southern
manufacturerscutdownproductionsby~1520%QoQtoreducethedemand
supplymismatch.Thishelpedthemanufacturerstohikethecementpricesby
>20% QoQ from the low levels witnessed inthe southern region inQ2FY11.
ThecementpricesinAndhraPradeshandothersouthernregionsinQ2FY11
had dipped to Rs. 130140 per bag, as the manufacturers pushed volumes
despitesluggishdemandgrowth.TheproductiondisciplineinQ3FY11helped
thesouthernplayerstorecovertheirprofitabilityinH2FY11.
180
200
220
240
260
280
300
Apr2010 Jun2010 Aug2010 Oct2010 Dec2010 Feb2011 Apr2011 Jun2011 Aug2011
North East Central West South
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Exhibit 67: Southern Players could firm up their
Prices & Profitability by Cutting Volumes in
H2FY11
Exhibit68:WeakDemand&Pricingcontinuedtodrag
ProfitabilityinQ3FY11ofPlayersinNorthernIndia
Source:CMA,KarvyInstitutionalResearch Source:CMA,KarvyInstitutionalResearch
Subsequently, the manufacturers in the northern half of India increased thecement prices since Jan2011. As the cement demand is highest in JanJune
period,themanufacturerswereabletoincreasecementpriceswellabovethe
incremental operating cost pressures. While the EBITDA of the southern
players expanded by Rs. 400600 per MT in Q3FY11, the northern players
EBITDA declined byRs.100300 per MTQoQ. During Q4FY11 and Q1FY12,
the profitability of all cement manufacturers improved QoQ largely led by
production discipline, which helped them to increasing the cement prices
abovetheirincrementalcosts.
The larger manufacturers have been able to generate higher profitability
throughoutcomparedtotheirsmallerpeers,ascanbeseenfromthequarterly
performancetrendsoverthesixquarters.Wehaveplottedtherealisationand
EBITDA/mt trends of a large capacity producer (ACC, 30mn MT), mid
capacity,(JKLakshmi,6mnMT),andasmallcapacity(Mangalam,2mnMT)
producersoverthelastsixquarters.
Exhibit69:NetrealizationtrendsThelargecapacity
producerhasoutperformeditssmallerpeers
Exhibit70:EBITDAtrendsThelargecapproducer
hasoutperformeditssmallerpeers
Source:KarvyInstitutionalResearch Source:KarvyInstitutionalResearch
Cement Prices have declined over the last five months albeit at a
slowerpace
The cement prices have been declining from the peak levels witnessed in
Mar11. Inour view, the decline can beattributed toseasonal adjustment aswellastheinterruptionsinproductiondiscipline.Thepricesdeclinedby~17%
inthenorthernandcentralregionsfromtheirpeaklevelsinMar11,whilethe
prices declined by ~12% and 7%, respectively in the western and eastern
regions,andinthesouthernregionthepricescorrectedby2%.Despitethese
(15)
(10)
(5)
5
10
1520
25
2,400
2,800
3,200
3,600
Mar09
Jun09
Sep09
Dec09
Mar10
Jun10
Sep10
Dec10
Mar11
Realisation (Rs/mt)LHS DemandYoY
DemandQoQ(%)
(15)
(10)
(5)
5
1015
20
2,600
3,000
3,400
3,800
Mar09
Jun09
Sep09
Dec09
Mar10
Jun10
Sep10
Dec10
Mar11
Realisation (Rs/mt)LHS DemandYoY
(%)DemandQoQ
(%)
2,500
3,000
3,500
4,000
4,500
Mar10 Jun10 Sep10 Dec10 Mar11 Jun11
MangalamCement ACC JKLakshmi
0
500
1,000
1,500
Mar10 Jun10 Sep10 Dec10 Mar11 Jun11
MangalamCement ACC JKLakshmi
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CementSectorThematic
corrections, the average cement prices so far in FY12 are higher than the
corresponding levels in FY11. The cement demand and prices decline
sequentiallyinJunDecperiodastheconstructionactivityslowsdownduring
these monsoon months across India and due to cold weather conditions in
northernIndia.
Exhibit 71: Industrys realization trend we expect
realizationhaspeakedoutinJuneQuarter
Exhibit 72: Subsequently, industrys EBITDA (Rs/mt)
shouldtrenddownwardsfromJuneQuarterlevels
Source:KarvyInstitutionalResearch Source:KarvyInstitutionalResearch
We expect net realization & EBITDA trends (Rs/MT) to decline from June
quarterlevelsgoingforward,asthecementpriceshavedeclinedsequentially,
whilethecostpressurehasbeenontherise.
RisktoPricingPowerIncreases
Increasingshareof smallermanufacturerssalesat theexpense
oftheerodingshareoflargemanufacturers
Theindustrysrealizationgrowth(despitelowersalesgrowth)sofarhasbeen
ledbythelargeplayerswhohavecompromisedtheirmarketsharetostabilize
the industrys profitability. This has benefitted a large number of smaller
manufacturers,whichsawtheirmarketsharesurgeastheygrewaheadofthe
marketandthelargemanufacturers.Hence,thedisruptionsintheproduction
disciplineareboundtohappenasthelargerplayerstrytocheckcontinuous
declineintheirmarketshares.AllIndiapriceshavedeclinedfromthepeakof
Rs.280perbaginMar11toRs.245perbaginAug11.
Exhibit 73: Smaller players (10 mn MT
capacity)
Source:CMA,KarvyInstitutionalResearch
20%
10%
0%
10%
20%
2,000
2,500
3,000
3,500
4,000
Jun08
Sep08
Dec08
Mar09
Jun09
Sep09
Dec09
Mar10
Jun10
Sep10
Dec10
Mar11
Jun11
NetRealisation GrYoY(%)RHS
100%
50%
0%
50%
0
300
600
900
1,200
1,500
Jun08
Sep08
Dec08
Mar09
Jun09
Sep09
Dec09
Mar10
Jun10
Sep10
Dec10
Mar11
Jun11
EBITDA GrYoY(%)RHS
60%
70%
80%
90%
100%
110%
Jan10
Feb10
Mar10
Apr10
May10
Jun10
Jul10
Aug10
Sep10
Oct10
Nov10
Dec10
Jan11
Feb11
Mar11
Apr11
May11
>10mnmt 510mnmt
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Industrysfragmentationcontinuesledby theincreasingshare
ofsmallermanufacturers
Increasingly,newcementcapacitiesexpectedtocomeupinFY1213Eperiod
arefromthesmallerplayers,whichwouldleadtofurtherreductioninmarket
shareofthelargeplayers.During FY1113E, the Top5 manufacturers (UltraTech, ACC, Ambuja, and
Jaiprakash Associates & India Cements) are expected to add 18.6mn MT
capacity, which constitutes ~26% of incremental new capacities. Even on a
regional basis, the dominance of the Top5 manufacturers is expected to
declineacrossallthefiveregionsgoingforward.
Exhibit 74: Top5 producers in each region (and pan
India)areaddinglessercapacitiesinFY1113E
Exhibit 75: Market share of Top5 producers should
declinefurtherto~48%byFY13E
Source:KarvyInstitutionalResearch Source:CMA,KarvyInstitutionalResearch
Exhibit76:MarketshareofTop5producerstodeclineinallfiveregions
Source:CMA,KarvyInstitutionalResearch
Thesefactorsshouldseverelyimpactthecementmanufacturerspricingpower
led by the ensuing production discipline. This implies that cement
manufacturerswouldnotbeabletofullypassontheincrementalcostpressurethereby leading to a decline in operating margins as well profitability in
FY13E.
Asshownintheexhibitbelow,variationincementrealizationgrowthposes
higher risks to earnings & fair value estimates of cement companies under
coveragecomparedtovariationinsalesvolumegrowth.Thisimpliesthatrisk
rewardratiobecomesunfavourablewhenthreattopricingpowerincreases.
Exhibit77:Sensitivityanalysisofsalesvolume&netrealizationonkeyparameters(FY13E):
Companies Impactof1%changeinsalesvolumeontheir Impactof1%changeinnetrealizationontheir
EBITDA RoE TargetPrice EBITDA RoE TargetPrice
(%) (bps) (%) (%) (bps) (%)ACC 1.2 19 2.3 5.1 81 4.8
ACEM 0.9 13 1.9 4.3 63 3.8
UTCEM 0.7 12 0.9 4.1 73 4.4
SRCM 0.9 30 1.1 3.2 101 3.8
ICEM 0.6 6 1.0 7.0 64 12.5
Source:KarvyInstitutionalResearch
26%
14%
0%
42%
54%
0%0%
20%
40%
60%
AllIndia N orth East Central West South
ShareofTop5players
30 33
5650 48
0
20
40
60
FY82 FY88 FY03 FY10 FY13E
MarketshareofTop5Players(%)
69%
77%82% 78%
55%61%61% 69%
72%
45%
0%
50%
100%
North East Central West South
FY10 FY13E
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CementSectorThematic
Comparative Analysis of Major Cement
Companies
Inthecontextoftheindustrysscenariothatwediscussedabove,weanalyze
below the key cement manufacturers in India based on their competitive
positioning onvarious fundamental parameters. We have ranked them ona
scaleofonetofivewhereoneimpliesaweakfundamentaldriver,whilefive
implies a strong fundamental driver. We believe that higher score on these
parameterswouldhelpthecompaniestoeithersustainand/orincreasetheir
market share along with their profit margins going forward. These in turn
would help the companies in attracting higher relative valuation multiples
comparedtotheirpeergroup.
Exhibit78:ComparativeAnalysisofFundamentalStrengthsofMajorCementCompaniesinIndia
FundamentalDrivers UltraTech ACC AmbujaCements IndiaCements ShreeCement MadrasCements
Captivepowersourcing 4 4 4 2 5 2
Fuellinkages 3 4 3 2 1 1Logisticalinfrastructuresupport 4 4 4 2 1 1
Geographicaldiversification 4 4 4 2 2 2
Revenuediversification 2 2 2 2 4 2
AssetSweating 3 4 4 2 4 2
BalanceSheetstrength 4 3 4 1 3 1
Overall(outof35) 24 25 25 13 20 11
Source:Companies,KarvyInstitutionalResearchScoreof5impliesstrongdriver,1impliesweakdriver
I.CaptivePowerSourcing:ShreeCementisBestplaced
Theproductionofcementrequirescontinuoussourcingofpowersupplyfor
grinding clinker into cements and various auxiliary operations. The Indiancementindustryhasgenerallyreliedonstatepowersupplyfortheirelectricity
requirements. However, any disruption in power supply can affect the
productionandprofitability.Hence,thecementmanufacturersprimarilythe
largeonesinvestedintoCaptivePowerPlants(CPPs)overthelastsixyears
inordertoreducetheirdependenceonexternalgridpower.Thishasnotonly
helped them in streamlining the cement production, but also helped the
manufacturersinreducingtheirelectricitybills.
Exhibit79:CPPCapabilityofMajorCementManufacturersShreeCement
leads,whileIndiaCementsscorestheleast
Source:Companies,KarvyInstitutionalResearch
II.FuelLinkages:ACCbenefitsfromHigherProportionofLow
CostDomesticCoalCoal is required for both clinkerisation process and power generation
(grinding operation). Thus access to cheap and steady supply becomes a
competitive advantage for the cement manufacturers. Though most of the
350 400540
265
5894
0
100
200
300
400
500600
0%
20%
40%
60%
80%
100%
ACCLtd Ambuja
Cements
UltraTech Shree
Cement
India
Cements
Madras
Cements
Captivepowersourcing(%) CPPInstalledCapacity(MW)RHS
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cement manufacturers have been assigned linkage coal, none of them have
beenabletoprocure100%oftheirrequirementsthroughtheselinkages.ACC
has been getting ~50% of its requirements from the linkages, while Ambuja
Cements&UltraTechgetaboutonethirds.ShreeCementshasbeenapetcoke
user for its cement operation, while India Cements is largely dependent on
importedcoal.
Exhibit80:Accesstolowcostdomesticlinkagecoalforthevarious
companies
Source:Companies,KarvyInstitutionalresearch
III.LogisticalInfrastructureSupport:Top3Manufacturershave
StrengthenedtheirInfrastructureContinuouslyTransportationisoneofmajorcostelementsforcementfirms.Havingaccessto
cheaper means of transportation such as rail and sea modes helps contain
freight cost.Thelargerplayers have overthe lastsix toseven yearsinvested
into railway sidings, railway wagons, port terminals and ships. These
infrastructuresupportalsoincreasetheoverallefficiencyofthesupplychain
theirbyboostingtheassetsweatingforthecompany.Exhibit81:ShareofCostefficientRailTransporthasrecoveredbutwagons
supplytothecementsectorhasremainedasorepoint
Source:CMA,KarvyInstitutionalResearch
Exhibit82:AccesstoEfficientMeansofTransportation(Rail&Sea)Top3
ProducersEnjoyBetterPositioning
Source:Companies,KarvyInstitutionalResearch
0%
20%
40%
60%
80%
100%
ACCLtd Ambuja
Cements
UltraTech Shree
Cement
India
Cements
Madras
Cements
DomesticLinkage DomesticEauction Imports Petcoke
0%
50%
100%
FY93
FY94
FY95
FY96
FY97
FY98
FY99
FY00
FY01
FY02
FY03
FY04
FY05
FY06
FY07
FY08
FY09
FY10
FY11
Road Rail Sea
0%
20%
40%
60%
80%
100%
ACCLtd AmbujaCements UltraTech ShreeCement IndiaCements MadrasCements
Road Rail Sea
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IV.GeographicalDiversification:Weprefer AmbujaCements
foritsabsenceinthesouthernregion
Cementbeingaregionalcommodity,manufacturersprofitabilityis impacted
by regional concentration of sales. Companies with presence in the weak
southernmarket shouldwitness increasedmargin pressure.Higher capacityutilisationof>85%inthenorthernandcentralregionsduringFY1113Eshould
resultinbetterpricingpowerforproducersinthoseregions.
Exhibit83:GeographicalDiversification
Source:KarvyInstitutionalResearch
We prefer players with lesser exposure to the southern markets where the
demandsupply situation is expected to remain fragile duringover the next
twoyears.WepreferAmbujaCementstoACC&UltraTechamongstthepan
Indiaplayersduetoitsminimalexposuretothesouthernregion.Amongstthe
regional players, we like Shree Cement to India Cements as the capacity
utilisationinthenorthernregionisexpectedtoremainhigh.
V.RevenueDiversification: ShreeCement &UltraTech Score
High
Cementbeingacommodityisexposedtovagariesofbusinesscyclicality,and
thuswepreferthecemententitieswithdiversifiedrevenuestreamasagainst
pure play cement firms. ShreeCement has expanded into captive/merchant
power sales, which would constitute ~17% of total revenues in FY1213E.
UltraTech generates ~14% of its topline from other business comprising
mainly ofRMC andwhitecement.WhiteCement/ Puttyare nicheproducts
andhencelessvolatile.RMCprovidesdiversificationbenefitasitusescement
asarawmaterial.
Exhibit84:RevenueDiversification
Source:Companies,KarvyInstitutionalResearch
0%
20%
40%
60%
80%
100%
ACCLtd AmbujaCements
UltraTech ShreeCement
IndiaCements
MadrasCements
North East Central West South
0%
20%
40%
60%
80%
100%
ACCLtd Ambuja
Cements
UltraTech Shree
Cement
India
Cements
Madras
Cements
GreyCement&Clinker Others
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VI.AssetSweating:ACCLeadsthePack
TheIndiancementindustryhasincreaseditsassetsweatingbyimprovingits
operational parameters. It improved from 0.6x in FY04 to 1.0x in FY11. The
improvement has primarily been led by the large manufacturers benefitting
fromtheeconomiesofscaleon theirinvestmentininfrastructuresupportand
panIndiadistributionreach.
Exhibit85:IndustrysAssetTOTrend
Source:KarvyInstitutionalResearch
Exhibit86:AssetSweating
Source:Companies,KarvyInstitutionalResearch
VII. Balance Sheet Strength: Large Players have been able to
FinancetheirExpansionsthroughInternalAccruals
Strongcashflowduringthelastupcyclehelpedthecementmanufacturersto
generatestrongcashflows,whichinturnledtoareductioninnetdebtforthe
industryaswellastofundtheircapex.Thelargemanufacturershavebeenable
to become net cash flow companies as against their smaller counterparts.
Among the regional players, Shree Cement has been able togenerate strong
cash flow as the Company could capitalize on its timely cement capacityexpansionsandalsofromsalesofitssurpluscaptivepower.
Exhibit87:LargePlayershavegeneratedhighercashflowstherebyfunding
theircapexaswellasreducingtheirdebtlevels
Source:Companies,KarvyInstitutionalResearch
0.3
0.6
0.9
1.2
FY02
FY03
FY04
FY05
FY06
FY07
FY08
FY09
FY10
FY11
Sales/GrossBlock(x) Industry
0.5
1.0
1.5
ACCLtd Ambuja
Cements
UltraTech Shree
Cement
India
Cements
Madras
Cements
AssetSweating Industry5yrAverage
(0.5)
0.5
1.0
1.5
2.0
ACCLtd Ambuja
Cements
UltraTech Shree
Cement
India
Cements
Madras
Cements
CFO/Capex(x) Netdebt/equity
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ValuationMethodologyUsed
WePreferEV/EBITDAoverAssetbasedValuation
We have used the EV/EBITDA metric to value the cement stocks under
coverage. As a commodity, the cement prices and the profitability of thecement manufacturers are expected to remain volatile. We believe this is a
comprehensive approach as this multiple captures the impact of a declining
profitability(EBITDA/MT,RoEandRoCE)ontheassetbasedvaluationmetric
EV/MT.
WeUseLastDowncycleValuationMultiple
Our analysis of the valuation trends for the last ten years suggests that the
largecementcompaniesi.e.ACC&AmbujaCementshavetradedat~8.2xfwd
EV/EBITDA during the last down cycle period (FY01FY04). Since FY05, the
cementsectorwitnessedanupcycleperiodforthenextsixyearsuntilFY10.Thiswaswhenmanufacturersgeneratedstrongcashflowsledbytherobust
demandgrowth,increasingcostefficiencyandhighcapacityutilisation.
WehaveusedthelastdowncycleaverageEV/EBITDAmultipleasourbaseto
value the cement stocks under our coverageas profitability and return ratio
trendsduringthecurrentdowncycle(FY1114E)aresimilartothatduringthe
lastdowncycle.
ACC & Ambuja Cements have traded at >8x (1 year forward EV/EBITDA)
duringlastDowncyclePeriod.Historically,AmbujaCementshastradedata
premiumtoACConReplacementCostBasis(EV/MT).
Exhibit88:ACCsEV/EBITDATrend(1yrfwd) Exhibit89:AmbujaCementsEV/MTTrend(1yrfwd)
Source:Company,KarvyInstitutionalResearch Source:Company,KarvyInstitutionalResearch
Exhibit90:ACCsEV/MTTrend(1yrfwd)
Exhibit91:AmbujaCementsEV/MTTrend(1yrfwd)
Source:Company,KarvyInstitutionalResearch Source:Company,KarvyInstitutionalResearch
5.0
7.0
9.0
11.0
13.0
Apr00
Jul00
Oct00
Jan01
Apr01