Shares of major cement makers ACC Ltd, Ambuja Cements Ltd and UltraTech Cement Ltd have gained 17-32% in the last six months. Does this suggest that all is hunky dory in the sector? Not really.
The muted trend in cement prices has become a worrying concern. Prices fell even in a seasonally strong March quarter (Q4) and remained weak for the fifth month in a row. As such, FY24 exit prices could be subdued as the year-end chase to meet volume targets intensifies. This would weigh on the near-term performance outlook.
It also means that the benefits of easing input costs and the recent cut in diesel prices would help the sector’s earnings performance only to a certain extent.
“Given the sharp drop in prices and continued weak demand, we expect Ebitda/mt for cement industry to contract by at least ~Rs100 per tonne, in Q4FY24, despite a correction in operating costs,” said Mangesh Bhadang, vice president of Centrum Broking. Ebitda is earnings before interest, tax, depreciation and amortization.
Despite a significant drop in prices in recent months, the cement index (a market capitalization weighted index of 10 listed cement stocks) has risen 17% over the last six months. This suggests a growing disparity between stock prices and ground reality, warns Bhadang.
Additionally, feedback from various channel controls of traders suggests that a significant improvement in demand and prices is possible only after monsoon in the second half of FY25. Why do share prices rise then? The story in cement stocks appears to be driven by the pace of capacity additions amid elevated competitive intensity.
Robust cash flows have pushed cement companies to add capacity in the last decade, according to Tushar Chaudhari, an analyst at Prabhudas Lilladher. Now, further capex plans have been announced to maintain market share following the entry of the Adani group into the sector.
“Based on YTDFY24, 26 mtpa capacity has been added and another nearly 130mtpa is expected to be added by FY27 if all goes smoothly, taking the total capacity of the sector to around 740 mtpa (million tonnes per annum),” he said. regionally , maximum capacities are added in the eastern and southern markets.
With the government’s continued focus on infrastructure and allied activities, India’s long-term growth story is expected to remain intact. Given the cement sector’s high correlation with gross domestic product growth, government capital on rail and road projects (high-speed rail, dedicated freight corridor, PM Gati Shakti) should provide a boost to cement volumes.
Moreover, the housing sector – the biggest demand driver for cement – is on a solid footing, at least in the urban areas going by the strong launch pipeline of listed properties in key cities.
But what should be noted here is that the benefits of capacity additions would accrue gradually. Also, to reap that benefit, demand growth must be large enough to absorb the series of incoming supply. For example, in rural housing, the traction in home building activities could be slower due to high inflation and stressed income levels.
Overcapacity, if not accompanied by robust demand, would suppress industry prices and capacity utilization. Currently, demand is likely to be weak as we enter FY25. The first half will see general elections followed by monsoon, curbing significant volume growth.
Meanwhile, the sector’s growing investments in alternative fuels and green energy, mainly waste-heat recovery systems, should help contain fuel costs going forward. But that is unlikely to help earnings outlook in the medium term. Given this, the risk of earnings downgrades to FY25 estimates looms, especially if prices continue to disappoint.