Correction an investment opportunity in cement firms

UltraTech remains top pick but analysts also find value in ACC, Ambuja, Shree Cement and Ramco

After multiple price increases since March, resulting in a rally, cement stocks such as UltraTech, ACC, Ambuja Cements and Shree Cement have fallen from their highs. This is on the back of concerns related to less inventory at the stockist level, ahead of implementation of the goods and services tax.

Also, the onset of monsoon will impact offtake and is a dampener for the stocks. All corrections, however, are an opportunity to buy, given the improving realisations, better demand trajectory in the second half of the financial year and improving demand-supply equation over time, believe analysts.

On realisations, analysts expect the June quarter numbers to be better than the March ones. This bodes well for profitability, particularly given the concerns on rising input costs. Costs of coal and petcoke have risen significantly over the past year and improving realisations are key to sustaining of profit.

Deutsche Bank channel checks suggest cement prices are up 8 per cent sequentially at the national level, led by a sharp hike in western and eastern India. Thus, they see a significant (25-30 per cent) sequential improvement in operating profit per tonne in the June quarter, the first one (Q1) of 2017-18.

Analysts at Sharekhan also see cement entities in Q1 benefiting from higher realisations, year-on-year. Their channel checks suggest that pan-India average prices for April-May were up 8 per cent over a year. Barring the south and central regions (up 5-7 per cent, year-on-year), the prices for other regions are higher by eight to 11 per cent.

Thus, companies in the western and eastern parts are likely to benefit more. The improving realisations in east India are a positive, as the region had been lagging on the pricing front, given large capacity expansions in this region by ACC, JK Lakshmi Cement and Shree Cement, among others. Ambuja, still a regional player, with strong exposure to western India, should also benefit.

Though prices in June might be softening after a series of increases since March, average realisation for the June quarter will still be much better than in the March one, say analysts.

The bigger encouragement is on demand expectation. After some softness in the monsoon season, it might pick up sharply. Analysts at Deutsche Bank expect cement demand to improve 9-10 per cent yearon-year in the second half of FY18, aided by a government push on infrastructure and housing, coupled with pentup demand.

Binod Modi at Reliance Securities sees a better demand scenario in FY18, on the back of a normal monsoon, the government’s infrastructure boost and a lower base. Further, healthy recovery in realisations across regions in March-April is likely to have a positive impact on earnings in ensuing quarters, he adds.

A CRISIL report says over the next three financial years, the sector will reverse a sixyear trend, with incremental demand outpacing incremental supply. The former is seen doubling to 48 million tonnes (mt), compared to the past three years. Incremental supply is seen moderating by a fifth to 31 mt, from 39 mt, during this period. It is not surprising, then, that Deutsche Bank has forecast a robust earning per share growth of up to 24 per cent over FY17-19 for companies under their coverage.

Among the companies, UltraTech, a pan-India player and with the largest capacity, is best placed to benefit from this trend and remains the top pick of most analysts. ACC and Ambuja, which have lagged peers earlier, could see better times. Ambuja benefits more, given its strong western India demand, which is likely to lift both realisations and capacity utilisation.

Regional leaders Shree and Ramco remain the top picks of Deutsche Bank. Reliance Securities has a positive stance on JK Cement, Mangalam Cement, India Cements and Sagar Cements. Orient Cement, with increased capacities and having exposure to the western part and Andhra/Telangana, where demand is picking up, is also expected to benefit.