| Indian Cement Sector Price hikes not as large as believed by markets; Post results, stock prices should reverse given stretched valuations | ||
· Cement stocks have been very strong on a combination of: a) production disruptions in Rajasthan which has buoyed cement prices; b) merger discussions around Holcim-Lafarge, which would lead to further consolidation in India; and c) expectations of a sharp pick up in cement demand post elections.
· Valuations for the large cap cement equities like Ambuja (15.7x CY14E, 11.9x CY15E EV/EBITDA) and Ultratech (12.8x FY15E, 10.6x FY16E EV/EBITDA) are at life-time highs and on EBITDA estimates 2 year forward, which are ~45-50% higher than FY14/CY13 earnings. Hence the 2-year forward earnings have already built in: a) demand recovery, and b) cement margin increase and on that elevated earnings estimates, the stocks are trading at peak multiples.
· On the ground pricing momentum not as strong as inferred by markets: Our channel checks with cement dealers indicate that pricing has been steady over the last 2-3 weeks in most parts of Northern and Western India, and discounts were given out in end March given year end. Cement prices have seen sharp increase in Feb and early March in parts of Northern and Western India given the shutdown of 6MT Binani Cement plant and this has also allowed large volume increases for incumbents, but post March, prices have been steady. Demand has been lackluster given elections.
· Medium term fundamentals could improve, but near term could have some headwinds: The March quarter earnings are likely to be among the strongest in recent times, particularly for Western and Northern India companies, but from here we see potential downside given expectation of operations resuming at the Binani plant over the next few months and hence the price increases should reverse. Valuations are stretched for the large caps even on 2 year forward estimates and even after building in large earnings growth. At current valuations we see little value in the large cap cement names (ACC, Ambuja, Ultratech) and expect some of the recent stock price momentum to reverse from here.
Figure 1: Indian Cement Stocks: YTD Performance
Source: Bloomberg.
Figure 2: Indian Cement: Historical EV/EBITDA chart
Source: Company reports, Bloomberg and J.P. Morgan estimates.
Figure 3: Indian Cement: Historical EV/Tonne chart
Source: Company reports, Bloomberg and J.P. Morgan estimates.
Figure 4: ACEM EV/EBITDA Chart
Source: Company reports, Bloomberg and J.P. Morgan estimates.
Figure 5: UTCEM EV/EBITDA Chart
Source: Company reports, Bloomberg and J.P. Morgan estimates.
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