Cement, Demand growth has been lower:: Kotak Sec,

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CEMENT SECTOR OVERVIEW
q Demand growth has been lower than our estimates
q Incremental supplies coupled with lower demand putting pressure on cement prices
q Lower cement prices and mounting cost pressures may keep profitability
of cement companies subdued
q We reduce our demand growth estimates for the sector and continue to
maintain cautious stance on the sector.

Cement demand growth lower than our estimates
Cement demand is not showing any signs of improvement and in the month of
November, it declined by 5.4% on YoY basis and 18.4% on MoM basis. This was
primarily due to lack of construction activity as well as labor and sand shortage. We
had witnessed an excellent growth in dispatches during October due to inventory
build up in anticipation of healthy demand going forward. But corresponding increase in demand has not been witnessed. Demand in north is impacted by winters
as well as Gujjar issue while in south it is impacted by retreating monsoons.
Thus YTD (till Nov, 10) demand growth stood at just 5.5%, much lower than our
estimates. We thus correspondingly reduce our demand growth estimates for FY11
and expect demand to grow by 7.6% in FY11 as against our earlier estimate of 10%
growth for FY11.


However we believe that with increase in the project award activity in the infrastructure segment, cement demand is expected to recover with more than 10% growth
expected from FY12 onwards.


Demand supply scenario
Cement capacity is expected to grow at a CAGR of 7.8% between FY10-FY13 while
corresponding cement demand is expected to grow at a CAGR of 9.1% between
the same period FY10-FY13. Though overall capacity is likely to increase to 320MT
by end of FY13 but effective capacity is likely to be around 305MT. Pace of increase
in supplies is not in line with the demand growth and this has resulted in putting
pressure on cement prices. Lower than expected demand growth in the current fiscal
till date has further escalated supply pressures.


Cement capacity currently stands at 267 MT and overall dispatches till Nov, 2010
stood at 134 MT due to demand slowdown. This had resulted in capacity utilizations
dropping to as low as 67%. We expect demand to witness an improvement during
Q4FY11 and hence expect overall capacity utilizations to improve going forward.

Cement pricing - Decline seen in Dec, but may be hiked in
Jan,2011
Our recent interactions with dealers indicate that cement prices have declined in
almost all regions during Dec, 2010. Cement prices in northern region have declined
by nearly Rs 5-10 per bag in December in key cities due to lack of demand revival
as well as extreme winter. Current cement prices in Delhi and Rajasthan stand at Rs
210 per bag and Rs 195-200 per bag respectively. Prices in the southern region have
declined by nearly Rs 15-20 per bag. This was also impacted by retreating monsoons
which has impacted overall demand in the southern region. Prices in Chennai have
dropped to nearly Rs 245-250 per bag as against Rs 260-270 per bag earlier while
prices in Hyderabad range nearly Rs 210-215 per bag. Eastern region prices remained fairly stable while decline of nearly Rs 5-10 per bag was witnessed in western region.
The gap between the trade and non-trade segment still continue to remain around
Rs 30-40 and dealers have indicated that maximum volumes are happening at the
non-trade level. Along with this, earlier conditions of minimum supply to a non-trade
customer have also been relaxed to ensure volumes. Players such as ACC and
Ambuja Cements have focused entirely on volumes during Dec in order to clear their
inventories before the year end. But going forward, with pick up in the construction
activity, cement prices may be hiked by nearly Rs 10 per bag from first week of
January.
However, on a longer term basis, we believe that with upcoming supplies, cement
players would also like to maintain their market share and some of them may even
go for aggressive pricing strategy in key markets. This would also force other players
to reduce the prices in absence of real demand.


Continued cost pressures
Cost pressures may continue to remain for the cement industry with hike in fuel
prices as well as higher coal prices. Imported coal prices have moved up sharply
during Q3FY10 which would impact overall power and fuel cost. Thus we believe
that freight cost and power and fuel cost are likely to remain high going forward for
the cement sector.


Recommendation
We believe that cement sector would continue to face demand supply mismatch
with overall supplies outpacing the demand, thereby resulting in lower capacity utilizations as well as cement prices. Due to lower than expected demand growth in
the current fiscal, surplus capacity would increase to nearly 43MT. We expect demand to improve from Q4FY11 onwards, however we opine that demand growth
will not be sufficient to absorb surplus capacity. Thus, cement price pressures
coupled with mounting costs will continue to hamper the profitability of companies.
We thus continue to maintain our cautious stance on the sector and would only recommend players which are available at attractive valuations.