Strong pricing drives earnings outperformance; upgrade cycle continues:: Motilal oswal,

Strong pricing drives earnings outperformance; upgrade cycle continues
3 favorable trends, 3 positive expectations; Upgrading EPS 4-6%; potential for further 10-20% upgrade
Trend #1 Strong realizations across companies, beating estimates by wide margins
Trend #2 In-line costs, with no major surprises; cost push showing signs of moderation
Trend #3 Meaningful upgrades across companies; street yet to catch up
Expectation #1 Stabilizing cost factors should assuage cost inflation
Expectation #2 Strong realizations even in monsoon season to drive further upgrades
Expectation #3 Meaningful upgrades in consensus estimates to drive stock prices
Prefer Ambuja and UltraTech/Grasim among large-caps, and Shree Cement among mid-caps.

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1QFY13 numbers decipher more positives, no negatives
The cement majors have reported strong numbers for 1QFY13 (EBITDA 9-18% ahead
of estimates), amidst a mixed bag of expectations – improvement in operations
coupled with regulatory concerns post the adverse verdict by the Competition
Commission of India (CCI). The robust performance is attributable to (1) strong QoQ
improvement in realizations (6-8%), and (2) in-line volumes and cost push (which
has been showing signs of stabilization). Given our positive outlook, we have
upgraded our earnings estimates (4-11% for ACC, Ambuja and UltraTech), backed by
10-12% upward revision in realization assumptions.


Favorable trends portend further upgrades
We expect stabilization in costs, driven by (1) declining prices of imported coal, (2)
stabilization in freights, and (3) improving operating leverage, backed by higher
utilization. Realizations are likely to remain healthy, even over seasonally weak
periods, with only a moderate dip. Though we have significantly upgraded our
realization estimates (10-12%), we see further upsides, as (1) implied realizations
for FY13/FY14 are within 2-3% range of 1QFY13 levels, and (2) for new capacities to be
viable (based on 15% CRoIC), realizations need to be ~12% higher than the current
cement prices. Based on our current estimates, the large-cap cement companies are
trading at historical average valuations (EV of ~8x FY14E EBITDA). While consensus
estimates are upto 17% lower than our estimates, we expect meaningful upgrades in
the same with positive outlook on price resilience, which should drive valuations.


Worst behind; expect gradual improvement
We believe that the worst is behind for the cement industry. We expect gradual and
consistent improvement in capacity utilization and operating performance. Longterm
demand drivers remain in place. After the recent outperformance, cement stocks
are trading at historical average valuations, leaving limited room for further re-rating.
We expect strong earnings growth to drive stock performance, hereon. We prefer
Ambuja Cement and UltraTech/Grasim among large-caps, and Shree Cement among
mid-caps.
Government intervention – key risk
Any intervention by the government to curb cement prices is a key risk for the industry.
In the past, the government has intervened (driven by the then Finance Minister, Mr
P Chidambaram) in free pricing of cement to curb inflation. This had severely impacted
operating performance of the cement companies and their stock prices.