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The weak foundations of cement firms

The weak foundations of cement firms
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First Published: Tue, Apr 26 2011. 11 41 PM IST
Updated: Tue, Apr 26 2011. 11 41 PM IST
The March quarter results of three companies, which account for two-fifths of the country’s cement production, beat Street estimates.
That doesn’t really count for much, as profits have dipped for ACC Ltd and Ambuja Cements Ltd. Even for UltraTech Cement Ltd, adjusted profits—including Samruddhi Cement Ltd in the year-ago period—show only a modest growth.
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Sure, the companies have managed to beat forecasts, but the gains were partly due to price hikes in the early part of this calendar year.
ACC, Ambuja Cements and UltraTech, along with other cement makers, increased prices by an average 12% in the March quarter compared with the preceding three months. Their hands were forced by rising prices of raw materials such as slag, fly ash and gypsum. Cement prices in the March quarter were near all-time highs and considerably higher than the year-ago levels.
Since they couldn’t pass on all the costs, operating margins for the three firms declined. Things are only going to get worse, say brokerages. Margins will sink further as such price hikes aren’t sustainable.
Overcapacity kills pricing power, especially at a time when demand is not strong. Cement makers added 28 million tonnes (mt) of capacity in fiscal 2011 (FY11), taking the total to 295 mt a year. They are planning to add a further 18 mt this year.
Even as supply galloped, FY11 demand growth at 5.3% slowed to the lowest in a decade, said a statement from UltraTech.
Brokerage India Infoline Ltd reckons that cement dispatches grew 4.6% in the March quarter from a year ago. This is despite the fact that this quarter is considered the peak season for the industry.
Lower spend by construction and infrastructure firms due to problems ranging from land acquisition delays to regulatory hurdles, a slowdown in the realty sector and even non-availability of rail wagons beat down demand. These factors haven’t changed much.
With the monsoon just a month or so away, the lean period starts, and there is a chance that cement prices may plummet, unless the companies restrain production.
The share prices of these three firms have pretty much outperformed the Sensex (or in the case of UltraTech was just less than the benchmark) over the past year due to price hikes. That may no longer be the case.
ACC had the best increase in cement dispatches among the three firms that declared results on Monday. The company’s volumes rose 10.7% in the March quarter over a year go, while realizations increased 3.06%.
However, costs also soared. Raw material costs increased by 49%, while power expenses increased by 22% and freight costs by 25%. Operating margins plunged by 13.7 percentage points from a year ago. They even fell from a quarter ago.
Consequently, operating profit dipped 11.8% from the year-ago quarter. Higher depreciation and interest costs meant that net profit dropped 13.4% to Rs 350 crore. ACC’s share price rose 1.1% on the bourses on Tuesday. It has hugely outperformed the Sensex in the last one year. However, with the peak season over, there are limited upsides for the shares in the near term.
Among the three, Ambuja Cements had the least drop in operating margins. That’s because it produced more clinker—an input used in cement-making—instead of sourcing it from other firms. That helped cut raw material costs by 45% from a year ago. Sure, higher grid power tariffs and freight costs did affect profitability.
But savings on input costs meant that operating margins fell only 1.5 percentage points from a year-ago levels to 28.2%. The company’s operating profit also dipped a mere 4% from a year ago, better than peers.
However, a 38% increase in depreciation on account of expanded capacity led to a 12.8% drop in net profit over the year-ago period to Rs 407.5 crore.
UltraTech may appear to have the best results of the three companies that declared their earnings on Tuesday. However, the company’s gains have come from price hikes rather than volume growth. Including the numbers for Samruddhi Cement, which merged with UltraTech effective June, volumes remained flat for the three months ended March compared with the year-ago quarter.
Yet, net sales increased 6.76% from a year ago. Earnings before interest and tax (Ebit) gained 5.36%. However, Ebit margins declined 27 basis points. One basis point is one-hundredth of a percentage point.
For profits, UltraTech’s numbers aren’t comparable with the previous March quarter. However, sequentially, price hikes have again helped boost revenue and profit growth. A reversal of tax provisions worth Rs 115.1 crore also helped.
Graphic by Sandeep Bhatnagar/Mint
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First Published: Tue, Apr 26 2011. 11 41 PM IST