Cement demand revives as slack season ends, govt infra spend picks up

Industry margins set to rebound on recovery in prices and drop in fuel costs; UltraTech, JK Cement and Dalmia Bharat are among top analyst stock picks.

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The Indian cement industry, which had been reeling under low demand, lower realisations and higher operating costs, is seeing early signs of demand revival in most regions.

Interactions with industry experts reveal that the demand revival is stronger in East and South India and is likely to be complemented by margin improvement as the price hikes become more sustainable. The cement industry had to roll back price hikes in the previous quarter for a want of steady demand.

Demand recovery

The September ending quarter is seasonally a weak quarter for the cement industry because of monsoons when the construction activity is slack. This time the demand also remained subdued in October due to the extended rainy season in some places and the onset of the festive season when construction activity slows down. The sector witnessed a turnaround in demand from mid-November.

An analyst at the brokerage firm Motilal Oswal Financial Services, told Moneycontrol, “The volumes grew 18-20 percent on year in November, aided by the absence of festive season and low base of last year.” Volumes during last year’s comparable period were impacted by sand mining issues in the Eastern region. “We estimate combined volume growth of 6- 7 percent YoY in October-November 2022,” the analyst said.

The non-trade segment is the likely driving force behind the current revival in demand, backed by government spending on infrastructure projects. However, the trade, or IHB (individual house builder), segment is still to take off.

Experts expect the cement demand to record a growth of 6 percent on-year in December 2022 and a YoY growth of 7 percent in Q3FY23.

“The demand is strong in East and South regions,” the Motilal Oswal analyst said. The overall demand trend is likely to remain positive going into the last quarter of the current fiscal as it is the peak period for construction activities across the country.

“We expect the cement industry to post a YoY demand growth of 10 percent in FY23 and 9 percent FY24, led by pre-election spending and strong traction in infrastructure,” said a note from Elara Capital Global Market Research.

Cement Prices looking up

With the recovery in demand, cement prices are also beginning to look up in most regions. The data shows that the average cement prices have increased by Rs 5-15 per bag on a month-on-month (MoM) basis in the North, East, and Maharashtra regions. South India, however, witnessed a decline of Rs 5 per bag MoM while the prices in Central India and Gujarat region remained flat.

The Motilal Oswal analyst said, “The highest increase in cement prices was seen in East India (up 5 percent MoM), followed by North and Maharashtra (up 1 percent MoM), while cement price in South India declined 2 percent MoM (except in Kerala, up 1 percent).”

They peg the pan-India average price growth at 3 percent quarter on quarter (QoQ) in Q3FY23 QTD, with the highest increase seen in East (9 percent), followed by South and West (4 percent each). The average price remained flat QoQ in the North, and there could be a marginal decline in Central India (down 0.6 percent QoQ).

Fuel prices remain volatile

The coal and petcoke prices continue to remain volatile but are showing a downward bias. The data shows that the pet-coke prices have declined by 6 percent in the past month, though the prices of imported coal continue to remain elevated and increased by 6 percent MoM to $214/tonne in December 2022.

“Based on our calculation, average fuel cost for the industry should decline Rs 50- 70/tonne in Q3FY23, followed by Rs 100/tonne decline in Q4FY23 (based on current coal/petcoke prices)”, said a note from Motilal Oswal.

Margins set to rebound

With the recovery in prices on the anvil and fuel prices becoming soft, the margins are set to rebound.

An analysis of the past cement cycles by the analysts at Elara Capital suggests that whenever EBITDA margin falls below 17 percent and EBITDA per tonne drops lower than Rs 1,000, the industry resorts to price hikes irrespective of utilisation.

“Given that industry margin and EBITDA/tonne were at 13 percent and Rs 737 in H1FY23, we expect the industry to hike prices in H2FY23 and FY24, particularly if fuel prices remain firm”, said the report from Elara Capital.

Top sectoral picks

Experts are positive about the cement industry dynamics for the next few years given better demand prospects, led by the infrastructure and housing sector and increased consolidation in the industry.

UltraTech Cement is the preferred pick in the large-cap space for Motilal Oswal analysts as well as Elara Capital.

“We favour UltraTech Cement given its pan-India presence (thus less exposed to regional risk) and while capacity addition pipeline, healthy balance sheet and strong brand equity should prop its outperformance versus the industry, increased focus on green power bodes well for its cost structure,” the analysts at Elara Capital said.

In the mid-cap space too, both the brokerages have common choices in JK Cement and Dalmia Bharat.

JK Cement has most of its grey cement capacity in North India, where utilisation is expected to be healthy. Further, presence in the white cement market, an oligopoly, should also enable stable cash flow to service its debt.

For Dalmia Bharat, Elara Capital has a target of Rs 2,177, implying a 17 percent upside from the current levels. “Our target price is based on 11x December 2024 EV/EBITDA,” the brokerage said.

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