Double whammy for cement companies2 min read . Updated: 03 Mar 2011, 11:05 PM IST
Double whammy for cement companies
Just when things were getting better for cement firms, with a slight increase in despatches and prices, their fortunes seem to be hit again, this time on two counts simultaneously. No sooner had Coal India Ltd (CIL), the single largest domestic supplier of coal to cement units, hiked prices by nearly 30%, than did the Budget 2011 single out the already beleaguered cement sector with a 2% hike in excise duty. The double whammy would, undoubtedly, eat into the profitability of cement firms.
Also See | Cost Pressures (PDF)
The sector has fared badly in the last four quarters, with falling realizations and profits. Cement shares were, therefore, laggards. But a gradual pick-up in demand, mainly from the realty sector since December, led to price expansion of an average of Rs30-40 per bag across the country. February despatch data was refreshing, with firms such as ACC Ltd, Ambuja Cements Ltd and UltraTech Cement Ltd registering year-on-year growth. Most analysts believed that the sector had bottomed out. Earnings were expected to improve at least for the next two quarters.
But the steep hike in the price of coal is an impediment because the cement industry gets nearly half of its coal requirements from domestic coal mines. The rest comes from international and spot markets. The international coal price had surged to $115 (Rs5,175 on Thursday) per tonne from $90 at the beginning of fiscal 2011.
A senior official at India Cements Ltd confirming an approximate Rs650 per tonne hike on the earlier price of Rs2,300 per tonne (about 28.3%) adds that it would lead to cost pressures.
Against a backdrop of relatively low capacity utilization at 65-70%, cement firms do not even have the operating leverage to offset these cost pressures. An Emkay Global Financial Services Ltd report says, “We estimate power and fuel cost for the industry to go up to be 6.5% higher than the Q3FY11 (quarter ended December) levels."
Of course, the magnitude of the impact on individual firm’s profitability would also depend on the percentage of coal it procures from CIL. Analysts’ consensus points towards ACC, Ambuja and UltraTech being the worst hit by the rise (see chart).
As if this wasn’t enough, finance minister Pranab Mukherjee has imposed a 10% ad valorem duty plus Rs160 per tonne on cement bags above Rs190 per bag (ex-works). Industry says they will payRs4-8 per bag more than before on account of excise.
These twin pressures warrant an increase in the selling price of at least Rs8-10 per bag to be able to maintain profitability at current levels. That might have been a possibility if the sector was booming like the auto industry. Given surplus capacity and recent price hikes, it may be hard for firms to pass on all costs to consumers. This implies additional pressure on margins—cement firms’ costs jumped nearly 12-15% in the December quarter on the back of higher fuel, freight and material costs.
The only ray of hope would be demand growth. That too was at a low 6-7% for the first nine months of fiscal 2011.
To sum up, while cement prices are expected to hold at current levels, at least until the monsoon sets in, a sustained recovery in profit margin is still distant.
Graphics By Sandeep Bhatnagar/Mint
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