The cement industry’s problem of plenty2 min read . Updated: 24 Dec 2018, 12:01 PM IST
Analysts say the massive capacity additions indicate the cement industry is gearing up for the next demand up-cycle
In the last one year, cement makers have been on a capacity addition spree. Recent announcements on this front have come from ACC Ltd, Ambuja Cements Ltd and The Ramco Cements Ltd.
Some analysts say the massive capacity additions indicate the industry is gearing up for the next demand up-cycle. But companies have been anticipating a revival in demand for many quarters; not much has changed materially on the ground. Perhaps then, it is not the expectation of demand recovery, but other factors that are driving capacity additions.
Analysts say the increase in free cash flow and lack of other avenues to deploy is one of the reasons behind the increase in capex. Besides, there has been a reduction in the cost of setting up of a new plant, they said.
Yes Securities Ltd estimates fresh capacities of 64 million tonnes per annum (mtpa) over FY18-FY21, thereby increasing the total capacity by 14% to 535 mtpa. Of the fresh capacity in the pipeline, around 24.5 mtpa will be added in the eastern region alone, the brokerage said.
This is a lot of incremental capacity considering that demand from real estate, especially housing, which contributes around 60% to overall cement demand, remains dismal.
For now, government spending on infrastructure and allied projects is aiding growth in demand for cement. But that has not been sufficient to support prices. The trend in domestic cement prices is unimpressive.
“We believe that the industry would continue to lack on pricing power as the demand is mainly emanating from low margin and intensely competitive non-trade segment," Prabhubas Lilladher Ltd said in a report on 11 December.
Non-trade cement is with reference to goods sold by the manufacturer directly to the consumer. Trade cement is sold by the manufacturer to the dealers, who in turn sell to the consumers.
“Given the weak outlook on trade demand and continuous capacity addition, we expect competition to remain high over next couple of years resulting in pronounced pressure on margins," it added.
The repercussions of excess supply will be felt not only on cement prices but also on utilisation.
Analysts expect the sector’s capacity utilisation levels to remain below 70% for the next two years due to large capacity additions.
Further, they say that the average return on capital employed, which has slipped to historic lows of around 11%, won’t bounce back sharply until the industry regains its pricing power.
To conclude, unless accompanied by adequate demand improvement, capacity additions will be a key challenge for the cement industry going ahead.