Cement industry in India - On strong foundation

By Dr. Uday Lal Pai
Exclusively for InvestorIdeas.com
posted September 11, 2006

Riding on increased activity in real estate and boom in infrastructure development, the Indian cement industry is on a roll.

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The Indian cement industry, which is ranked second in the world in terms of production, is fragmented, with the top five players accounting for nearly 50 per cent of the installed capacity of about 160 million tonnes and with small, regional players holding the balance.

The Indian cement industry is 70 years old. Some of the latest installations are the best in the world. Unlike in the past, today the best technology is available for mini cement plants too.

The recent boom in the housing and construction industry has worked wonders for cement manufacturing companies as they registered an average growth of 95 per cent in their net profits for the quarter ended March 31, 2006, according to a study conducted by Industry body, Assocham. Owing to a strong demand in northern and western regions, major cement companies witnessed a 32 per cent surge in their sales volume.

"Housing boom and an increased focus on infrastructure development like national highways and state highways have led to increased demand for cement," Assocham President Anil K Agarwal said.

The cement industry is expected to grow at 10 percent per annum according to the annual report of the Department of Industrial Policy and Promotion (DIPP). The report reveals that this growth trend is being driven mainly by the expansion of existing plants and using more fly ash in the production of cement.

With a strong GDP growth and supply-demand equation working in the industry's favor, the net profit of the top 10 cement companies more than doubled during the quarter ended June 30, 2006. Thanks to a 21 percent jump in average sales realizations and double-digit growth in volumes, the net sales of the sample companies grew 34 percent y-o-y. The industry increased its installed capacity by six million tonnes to 160 millions in 2005-06. According to industry observers, the total capacity expansion announced by manufacturers is about 32 million tonnes and most of the addition is expected to happen over the next two years.

Demand supply

From an oversupply situation not so long ago, India now witnessing a scenario where demand growth is outstripping supply. The present scenario of cement industry is excellent in terms of demand. Analysts say: "Now the demand-supply situation is more or less in equilibrium and prices could move up further as the demand growth will be much faster than the supply growth."

Domestic consumption with 11 per cent increase and exports keeping up with the last year levels, the Indian cement industry is expected to cross 150 million tonnes in dispatches, including domestic consumption. Mini cement plants everywhere are operating at 100 per cent capacity utilization. The margins are improving in line with others.

Industry observers feel that housing, which accounts for 55-60 per cent of the demand, remains the consistent driving force behind sector growth. Besides, demand from infrastructure projects and industrial/commercial ventures account for 20 per cent each. An incremental demand of two million tonnes is expected per year from infrastructure projects in the country.

Several companies are announcing expansion plans. Up to 2008, about 21.5 million tonnes capacity is expected to be added by expansions. This year's domestic demand will be 140 million tonnes. Now that the GDP is expected to grow to 8 per cent, growth in the cement consumption is also expected to remain above 12 per cent per year. This means, we need an additional 50 million tonnes for the next three years. So, it clearly shows that the proposed expansions will not impact the margins.

Supply for cement is expected to remain tight which, in turn, will push up prices of cement.

The pricing factor

The competition in the market was intense with players resorting to frequent price cuts in the past in order to gain market share, due to large number of players in the industry and very little brand differentiation. However, this scenario has been absent since the last few quarters as the demand-supply equation continues to improve.

The prices are expected to remain at current levels over the next 12 months because of the strong demand. It has to be noted that, a part of the present rise in cement prices is seasonal. The prices generally tend to remain on high from October to May when construction activity is at its peak and soften to some extent with the onset of monsoon to remain subdued till September. Better profit margins will induce manufacturers to expand capacities at a faster pace.

The better price realization being enjoyed by industry majors is not only on account of the supply-demand gap that has emerged, but also because of the modernization and cost-cutting measures adopted by the players in the industry. Over the past few years, cement majors have introduced a number of innovative cost-cutting measures, including restructuring, consolidation, technological upgradation and energy-saving devices.

Electricity and coal account for as much as 60-70% of the manufacturing cost of the domestic cement sector, with electricity alone accounting for 40% of the cost. Although the country has coal reserves of 80 billion tonnes, certain bottlenecks in production management have restricted supply. The cement industry had entered into a fuel supply agreement, which expired in November 2004, with coal producers like Coal India and Singareni. Coal companies catered to 80% of demand by the cement firms.

The industry chamber urged that, the government should make attempts to allocate coal blocks to cement companies. 70 % of coal is utilized by thermal power, with steel and cement using only 16 and 5% respectively.

While power costs are likely to come down from the previous quarters, coal prices are stabilizing which is good news for cement companies. Also lower interest rates and tax incentives are helping. Analysts anticipate some cost pressures due to rising power cost. But they add that the big players would be able to tackle the same with focus on captive power, which remains a better option to grid power as long as coal prices are reasonable. Even as energy costs remain a cause of concern, the changing demand-supply dynamics will drive cement prices higher benefiting the industry across the board.

Cement, being a bulk commodity, is a freight intensive industry and transporting cement over long distances can prove to be uneconomical. This has resulted in cement being largely a regional play with the industry divided into five main regions viz. north, south, west, east and the central region. While the southern region is excess is capacity owing to the availability of limestone, the western and northern region are the most lucrative markets on account of higher income levels.

The export

The cement industry has also been witnessing a spurt in exports. India exported about 8.13 million tonnes of cement and clinker between April-January 2004-05.The export figures for cement were 3.31 million tonnes and 4.82 million tonnes for clinker in the same period.

Rising cement prices are now a global trend. Market participants argue that cement prices have been on the rise in West Asia and South-East Asia, making it increasingly difficult for companies to source cheap cement. Industry experts say that there are many enquiries for cement with reasonable prices. About 36 states in the US are facing shortage of cement and their construction activity has slowed down. To overcome the problem, the US has relaxed the import duty on cement recently.

Concrete growth ahead

According to industry sources several big and small cement companies are actively considering expansion plans in anticipation of further growth in demand for cement. A phase of acquisitions and mergers among the existing players is also not being ruled out in the immediate future. But consolidation is expected in the sector at a slow pace, but not big ticket acquisitions. Some plants that are shut down or are in bad hands may find takers in big players, something that is being talked about for quite some time. But most attractive capacities have been already bought, according to analysts. Moreover, valuations are high at present and M&A activity may slow down due to sellers quoting very high prices.

According to analysts, cement industry in India is poised for strong growth going forward, driven by continued investments in the housing and infrastructure sectors. So, going forward, the outlook for the industry continues to look positive, though the upside may reduce due to increasing base. Analysts expect that the 9% growth rate will be maintained y-o-y for FY2006-07 also. Market analysts feel that the sector will maintain a growth of around 10% compounded annual growth rate (CAGR) for the next five years. Analysts say "The booming housing and infrastructure sectors have driven the growth in cement sector. Improved volumes, coupled with the rising prices, have resulted in improved margins. On the back of continued investment in the housing and infrastructure the industry is expected to grow by 11% for the next one or two years."

The only sources of worry for the industry are rising expenses - particularly fuel and power - and freight costs. You can expect the sector stocks to surge ahead on the bourses. The companies to watch out for will be Ultratech Cement, Grasim, Shree Cement and India Cement.

Major cement companies in India

1. ACC
2. Gujarat Ambuja Cements
3. Ultratech Cement
4. India Cements
5. Grasim Industries

Disclaimer
Dr. Uday Lal Pai is an independent columnist for this web site. Dr. Uday Lal Pai  may hold long or short positions in any of the stocks mentioned in this article and those positions can change at any moment. InvestorIdeas.com Disclaimer: www.InvestorIdeas.com/About/Disclaimer.asp, InvestorIdeas is not affiliated or compensated by the companies mentioned in this article. Dr. Uday Lal Pai  is a freelance writer. Nothing in the articles should be construed as an offer or solicitation or recommendation to buy or sell any specific products or securities. Past performance does not guarantee future results.

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