Every year, cement prices soften during the monsoon as lower construction activity results in lower cement offtake. This year, cement prices fell much before the onset of the monsoon. By end-April, they were down Rs10-20 per bag in almost all regions. Currently, prices are down by Rs40-60 per bag compared with that in April. Prices range from around Rs220 per bag in the southern and central regions to Rs250 per bag in the northern region and Rs270 per bag in the eastern part.

Price correction: Lower demand from realty and infrastructure segments led to single-digit growth in cement despatches from February. Harikrishna Katragadda/Mint

Unfortunately for the industry, the sluggishness in demand coincided with the commissioning of new capacity. Around 20 million tonnes (mt) of capacity were commissioned in April-May alone. This was on the back of an addition of 45 mt in capacity in fiscal 2010. Evidently, the excess supply situation has driven prices down faster than expected.

Capacity utilization in May declined nearly 7 percentage points on a y-o-y basis to 82%. This, coupled with rising costs of coal and freight, will impact operating profit too. Some analysts estimate that the operating profit during fiscal 2011 could be lower by 5-6 percentage points from the average of 24-26% in 2010. Stock prices, too, reflect this sentiment. Most cement stocks, barring Ambuja Cement Ltd, have underperformed the market since April.

The extent of price correction is the largest in the south, with 40% of capacity additions being in this region. Prices are expected to be relatively stable in the northern and eastern parts of the country, thanks to stable infrastructure-related activity. The central belt may suffer as southern producers push surplus production into the central region.

Shares of large cement companies such as ACC Ltd, UltraTech Ltd, India Cements Ltd and Madras Cements Ltd are trading below 10 times their 2012 estimated earnings. At the current market capitalization, the enterprise value of these companies is barely 50-60% of the replacement cost of $110-120 (around Rs5,100-5,560) per tonne. While the stocks may look attractive from this perspective, the fact that earnings will be under pressure in the near term means that the performance of these firms may continue to be muted.

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